UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, 20549
FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the Fiscal Year Ended December 31, 1998
[ ] Transition Report to Section 13 or 15(d) of the Securities Exchange Act of
1934
For the transition period from__________to__________.
Commission File No.: 0-23038
CORRECTIONAL SERVICES CORPORATION
---------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 11-3182580
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(State of other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1819 Main Street, Sarasota, Florida 34236
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code: (941) 953-9199.
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to Section 12(g) of the Act:
Title of each class Name of each exchange on which registered
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Common Stock, par value $.01 per share Nasdaq National Market
Warrants to Purchase Common Stock
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 past 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [X]
The aggregate market value of the voting stock (Common Stock) held by
non-affiliates of the Registrant as of the close of business on March 30, 1999
was approximately $61,471,690 based on the closing sale price of the common
stock on the Nasdaq National Market consolidated tape on that date.
Number of shares outstanding of each of the Registrant's classes of Common
Stock, as of the close of business on March 30, 1999:
Common Stock, $.01 par value 8,061,861 Shares
<PAGE>
TABLE OF CONTENTS
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Page
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PART I
Item 1. Business 3
Item 2. Properties 11
Item 3. Legal Proceedings 13
Item 4. Submission of Matters to a Vote of Security Holders 13
PART II
Item 5. Market for Registrant's Common Equity
and Related Stockholder Matters 13
Item 6. Selected Financial Data 14
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 15
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 20
Item 8. Financial Statements and Supplementary Data 21
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 21
PART III
Item 10. Directors and Executive Officers of the Registrant 21
Item 11. Executive Compensation 23
Item 12. Security Ownership of Certain Beneficial Owners and Management 25
Item 13. Certain Relationships and Related Transactions 26
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K 28
<PAGE> 2
PART I
Item 1. Business.
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SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION
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REFORM ACT OF 1995
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This document contains forward looking statements involving risks and
uncertainties. Actual results could differ materially from those projected
due to factors which may include population fluctuations, acquisition risks,
market conditions, government funding and availability of financing. These
and other risk factors are outlined in the reports filed by the Company with
the Securities and Exchange Commission.
General
Correctional Services Corporation ("CSC") was incorporated in Delaware on
October 28, 1993 to acquire all of the outstanding capital stock of a number of
affiliated corporations engaged in the operation of correctional and detention
facilities.
CSC is a leading developer and operator of adult correctional facilities
and services for federal, state, and local governments. CSC believes it is one
of the largest operators of private secure juvenile correctional facilities in
the U.S. CSC has recently experienced rapid growth in both its juvenile and
adult divisions, all of which have been internally generated. As of March 30,
1999 CSC had agreements to operate 37 correctional and detention facilities in
12 states and Puerto Rico for an aggregate of approximately 9,900 beds. This
represents a 106% increase in the number of agreements and 294% increase in the
number of beds from December 31, 1997. Of these agreements, 18 agreements
representing approximately 2,700 beds in 7 states and Puerto Rico were for the
operation of juvenile correctional facilities. The foregoing data includes the
contract for the 120-bed Bayamon Detention Center, which we have agreed
not to renew effective May 1, 1999. CSC reported revenues of $97.9 million and
a net loss of $6.0 million after the effect of adopting the American Institute
of Certified Public Accountants Statement of Position 98-5, Accounting for
Start-up Costs, for the year ended December 31, 1998.
CSC operates a wide range of correctional facilities targeted toward solving
the specialized needs of governmental agencies. CSC's adult division specializes
in facilities which house, among other populations:
- substance abuse offenders;
- parole violators;
- pre-trial detainees;
- females; and
- sex offenders.
CSC's juvenile division focuses on secure facilities which provide:
- rehabilitative services for large populations (over 200);
- intensive treatment programs including educational and vocational
services;
- treatment for habitual offenders;
- specialized female services;
- detention services; and
- sex offender treatment programs.
In addition to providing fundamental residential services for adult and
juvenile offenders, CSC has developed a broad range of programs intended to
reduce recidivism, including basic and special education, substance abuse
treatment and counseling, vocational training, life skills training, and
behavioral modification counseling. In all of its facilities, CSC strives to
provide the highest quality services designed to reduce recidivism. CSC
continually evaluates its programs and believes the reputation
of its programs will lead to continued business opportunities.
<PAGE> 3
CSC also is a leading provider of design and construction services for
correctional facilities, including project consulting; the design, development
and construction of new correctional and detention facilities and the redesign
and renovation of existing facilities. These services usually are provided in
conjunction with an agreement for CSC to operate the facility upon completion
of the construction or renovation. CSC believes its proven ability to manage
the full spectrum of correctional facilities and its wide variety of programs
and services will continue to increase its marketing opportunities.
<PAGE> 3
Business Strategy
CSC's goal is to maintain its recent growth in contracts, revenues and
earnings. CSC believes it can achieve this goal through the implementation of
the following elements of its business strategy:
Continued Enhancement of Juvenile Services. CSC has been highly successful
in obtaining juvenile contracts due to its recognized expertise in operating
a variety of juvenile programs. CSC continues to enhance its juvenile programs
to further reduce projected levels of recidivism. By demonstrating its programs
are effective and incorporate proven techniques, CSC believes it will continue
to win a significant percentage of the juvenile projects it pursues.
Focused Development on Specialized Adult Facilities. CSC has established
itself as a leading provider of specialized adult facilities. CSC currently
operates facilities for substance abuse offenders, parole violators, females,
pretrial detainees and sex offenders. By specializing in these specific
segments of the adult market, CSC has established itself as a provider of
services for niche populations. This has significantly increased CSC's
competitiveness in obtaining new contracts.
Development of New Markets in the United States and Internationally. By
diversifying its product offering in both the juvenile and adult markets, CSC
has significantly broadened the contract opportunities it can pursue and has
reduced its dependence on the growth of one particular market. CSC currently
operates in 12 states and in the Commonwealth of Puerto Rico. CSC has
identified several new states for which it can provide services and has
initiated marketing efforts in these states. CSC believes its
position as a leader in the juvenile and specialized adult markets provides it
with an excellent opportunity to capture business in new states. In addition,
CSC has been "qualified" to bid on both juvenile and adult contracts in the
United Kingdom and Australia. This bidding status has been limited to a few
select companies.
Emphasis on Quality Operations. CSC believes its past success in obtaining
contracts has been based on its reputation as a high quality operator. In
addition to winning competitive bids for new facilities, CSC has also been
selected to assume the management of facilities which needed improvement in
their operations. CSC believes it maintains one of the most extensive ethical
and compliance programs in the industry, which dictates the conduct of all
employees. These programs require adherence to strict codes of conduct and
combined with the operation of facilities in accordance with the standards of
the American Correctional Association provides CSC with a competitive
advantage over operators which do not employ such programs.
Commitment of Capital. From time to time CSC will finance and own the
facilities it operates. Ownership of facilities can provide CSC with numerous
benefits including:
- control over the use of the facility;
- improved long term returns;
- ability to expand capacity; and
- the ability to accelerate the contract process. CSC believes its ability
to commit capital to facility ownership reduces its competition and can
provide a valuable strategic asset. CSC anticipates using its capital to
build and purchase facilities which address specific client needs and
believes this will provide CSC with increased business opportunities.
Partnering With Government. CSC views its contracting agencies as partners
and works closely with them to modify programs, share financial benefits, and
solve issues. CSC believes its focus on customer service has led to CSC's
receipt of multiple contracts from the same jurisdiction. In addition, CSC
consistently receives outstanding references from its contracting agencies
which provide business opportunities in new markets. CSC will continue to
encourage potential new clients to contact its existing client base and
believes its reputation for servicing its clients will lead to continued
opportunities.
Operational Divisions
CSC has organized its operations into three divisions: Adult, Juvenile and
Community Corrections.
Adult. The Adult Division operates 15 facilities, seven in Texas, two in
Arizona and one in each of Colorado, Mississippi, New Mexico, Oklahoma and
Washington, with a total of 6,621 beds. In addition to providing housing for
adult inmates, CSC provides a variety of rehabilitative and educational
services. CSC also provides health care, transportation, food services and work
and recreational programs for adult inmates.
<PAGE> 4
Juvenile. The Juvenile Division operates 18 facilities, 10 located in
Texas. In addition, CSC has contracts to begin operating a 100 bed facility in
Salinas, Puerto Rico and a 96 bed facility in Clark County, Nevada. The
juvenile facilities house convicted youths aged 12 to 20 and represent a total
of approximately 2,850 beds under contract. CSC manages secure and non-secure
juvenile offender facilities for low, medium, and high risk youths in highly
structured programs, including military-style boot camps, wilderness programs,
secure education and training centers, and detention facilities. CSC believes
these programs, by instilling the qualities of self-respect, respect for others
and their property, personal responsibility and family values, can
help reduce the recidivism rate of its program participants.
Community Corrections. The Community Corrections Division operates four
facilities, two in each of Texas and New York with a total of 459 beds. These
are non-secure residential facilities for adult male and female offenders
transitioning from institutional to independent living. Offenders are eligible
for these programs based upon the type of offense committed and behavior while
incarcerated in prison. If qualified, offenders may generally spend the last
six months of their sentence in a community corrections program, whose mission
is to reduce the likelihood of an inmate committing an offense after release by
assisting in the reunification process with family and the community. Normally,
in order to remain in the program, offenders must be employed, participate in
substance abuse programs, submit to frequent random drug testing, and pay a
predetermined percentage of their earnings to the government to offset the
cost of the program. CSC supervises these activities and also provides life
skills training, case management, home confinement supervision and family
reunification programs from these facilities. CSC believes that community
correctional facilities help reduce recidivism, result in prison beds being
available for more violent offenders and, in appropriate cases, represent
cost-effective alternatives to prisons.
Marketing and Business Development
CSC engages in extensive marketing and business development on a national
basis and markets selected projects in the international arena. Marketing
efforts are spearheaded by CSC's business development team in conjunction with
CSC's executive officers and outside consultants.
CSC's business development department is responsible for marketing the full
range of services to clients. CSC's business development department has
specialists in both the juvenile and adult markets. Marketing responsibilities
include identifying new clients, preparing and delivering formal presentations
and identifying strategic partners.
CSC receives frequent inquiries from or on behalf of governmental agencies.
Upon receiving such an inquiry, CSC determines whether there is an existing or
future need for CSC's services, whether the legal and political climate is
conducive to privatized correctional operations and whether or not the project
is commercially viable.
Contract Award Process
Most governmental procurement and purchasing activities are controlled by
procurement regulations take the form of a Request for a Proposal, and to date
most of CSC's new business has resulted from responding to these requests.
Interested parties submit proposals in response to an RFP within a time period
of 15 to 120 days from the time the RFP is issued. A typical RFP requires a
bidder to provide detailed information, including the services to be provided
by the bidder, the bidder's experience and qualifications and the price at
which the bidder is willing to provide the services. From time to time, CSC
engages independent consultants to assist in responding to the RFPs.
Approximately six to eighteen months is generally required from
the issuance of the RFP to the contract award.
Before responding to an RFP, CSC researches and evaluates, among other
factors:
- the current size and growth projections of the available correctional and
detention population;
- whether or not a minimum capacity level is guaranteed;
<PAGE> 5
- the willingness of the contracting authority to allow CSC to house
populations of similar classification within the proposed facility for
other governmental agencies; and
- the willingness of the contracting authority to allow CSC to make
adjustments in operating activities, such as work force reductions in the
event the actual population is less than the contracted capacity.
<PAGE> 5
Under the RFP, the bidder may be required to design and construct a new
facility or to redesign and renovate an existing facility at its own cost. In
such event, CSC's ability to obtain the contract award is dependent upon its
ability to obtain the necessary financing or fund such costs internally.
In addition to issuing formal RFPs, governmental agencies may use a
procedure known as Purchase of Services or Requests for Qualification. In the
case of an RFQ, the requesting agency selects a firm it believes is most
qualified to provide the necessary services and then negotiates the terms of
the contract, including the price at which the services are to be provided.
Market
Throughout the United States, there is a growing trend toward privatization
of correctional and detention functions as federal, state and local governments
have faced continuing pressure to control costs and improve the quality of
services. Further, incarceration costs generally grow faster than many other
parts of budget items. In an attempt to address these pressures, governmental
agencies responsible for correctional and detention facilities are increasingly
privatizing facilities.
Numerous studies have proven there is a general shortage of beds available
in detention and treatment facilities. That fact, coupled with the high rate of
recidivism and the public demand for longer sentences, has resulted in
over-crowding in these facilities. In addition, numerous courts
and other governmental entities in the United States have mandated that
services offered to inmates be expanded and living conditions be improved. Many
governments do not have the readily available resources to make the changes
necessary to meet such mandates.
According to the United State Department of Justice Office and Juvenile
Justice Delinquency Prevention, "Juvenile Offenders and Victims: 1996 Update of
Violence" and "Juvenile Arrests 1995", in 1996 there were 2.7 million arrests
of persons under 18, up 67% from 1986. One-fourth of juvenile arrests in 1995
were of females-a steady increase since 1991. By the year 2010, juvenile
arrests for violent crime are expected to more than double.
In the international sector, the demand for privately managed facilities is
increasing due to fiscal pressures, overcrowding, increasing recidivism and an
overall desire to deliver augmented services while minimizing their cost impact.
Competition
CSC competes on the basis of cost, quality and range of services offered,
its experience in managing facilities, the reputation of its personnel and its
ability to design, finance and construct new facilities. Some of CSC's
competitors have greater resources than CSC. CSC also competes in some markets
with local companies that may have a better understanding of local conditions
and a better ability to gain political and public acceptance. In addition,
CSC's Community Corrections and Juvenile Divisions compete with governmental
and not-for-profit entities. CSC's main competitors include Wackenhut
Corrections Corporation, Cornell Corrections and Prison Realty Trust.
Facilities
CSC operates both pre-disposition and post-disposition secure and
non-secure correctional and detention facilities and non-secure community
correctional facilities for federal, state and local correctional agencies.
Pre-disposition secure detention facilities provide secure residential
detention for individuals awaiting trial and/or the outcome of judicial
proceedings, and for aliens awaiting deportation or the disposition of
deportation hearings. Post-disposition secure facilities provide secure
incarceration for individuals who have been found guilty of a crime by a
court of law. CSC operates four types of post-disposition facilities: secure
prisons, intermediate sanction facilities, military-style boot camps, and
secure treatment and training facilities. Secure prisons and intermediate
sanction facilities provide secure correctional services for individuals who
have been found guilty of one or more offenses. Offenders placed in
intermediate sanction facilities are typically persons
who have committed a technical violation of their parole conditions, but
whose offense history or current offense does not warrant incarceration in a
prison. Both types of facilities offer vocational training, substance abuse
treatment and offense specific treatment. Boot camps provide intensely
<PAGE> 6
structured and regimented residential correctional services which emphasize
disciplined activities modeled after the training principles of military boot
camps and stress physical challenges, fitness, discipline and personal
appearance. Secure treatment and training facilities provide numerous
services designed to reduce recidivism including: educational and vocational
training, life skills, anger control management, and substance abuse counseling
and treatment.
CSC also operates non-secure residential and non-residential community
corrections programs. Non-secure residential facilities, known as half-way
houses, provide residential correctional services for offenders in need of less
<PAGE 6
supervision and monitoring than are provided in a secure environment. Offenders
in community corrections facilities are typically allowed to leave the facility
to work in the immediate community and/or participate in community-based
educational and vocational training programs during daytime hours. Generally,
persons in community correctional facilities are serving the last nine months
of their sentence. Non-residential programs permit the offender to reside at
home or in some other approved setting under supervision and monitoring by CSC.
Supervision may take the form of either requiring the offender to report to a
correctional facility a specified number of times each week and/or having CSC
employees monitor the offender on a case management basis at his/her
work site and home.
The following information is provided with respect to the facilities for
which CSC had management contracts as of March 30, 1999:
Adult Division
<TABLE>
<CAPTION>
Contracting Owned,
Facility Name, Location and Contracted Governmental Leased, or
Year Operations Commenced Beds(1) Type of Facility Agency Managed(2)
- --------------------------- ---------- ---------------- ------------ ----------
<S> <C> <C> <C> <C>
Seattle INS Detention Center 150 Secure Detention INS Managed
Seattle, Washington (1989) Facility
South Texas Intermediate 400 Secure Intermediate State Managed
Sanction Facility Sanction Facility
Houston, Texas (1993)
Tarrant County Community 230 Secure Intermediate County Managed
Correctional Facility(3) Sanction Facility
Mansfield, Texas (1992)
Travis County Substance Abuse 74 Secure Intermediate County Managed
Treatment Facility Sanction Facility
Del Valle, Texas (1994)
Arizona State Prison, Phoenix West 400 Prison State Owned
Phoenix, Arizona (1996)
Arizona State Prison, Florence 600 Prison State Owned
Florence, Arizona (1997)
McKinley County Jail 200 Jail/Long-Term County/Multi-State Managed
Gallup, New Mexico (1997) Detention
Frio County Jail 300 Jail/Long-Term County/State/Federal Part-Leased/
Pearsall, Texas (1997) Detention Part-Owned
Grenada County Jail 160 Jail County Managed
Grenada, Mississippi (1998)
Jefferson County Downtown Jail 500 Jail/Long-Term County/State Managed
Beaumont, Texas (1998) Detention
Newton County Correctional Facility 872 Prison State/Federal Managed
Newton, Texas (1998)
<PAGE> 8
Central Oklahoma Correctional 850 Prison Multi-State Managed
Facility
McLoud, Oklahoma (1998)
South Fulton Municipal Regional Jail 196 Jail/Long-Term County/Federal Managed
Union City, Georgia (1999) Detention
<PAGE> 7
Dickens County Correctional Center 489 Long Term Detention State Managed
Spur, Texas (1998)
Crowley County Correctional Facility 1200 Prison Multi-State Managed
Crowley, Colorado (1998)
Juvenile Division
Contracting Owned,
Facility Name, Location and Contracted Governmental Leased, or
Year Operations Commenced Beds(1) Type of Facility Agency Managed(2)
- --------------------------- ---------- ---------------- ------------ ----------
Tarrant County Community 120 Secure Boot Camp County Managed
Correctional Center(3) Facility
Mansfield, Texas (1992)
Hemphill County Juvenile 100 Secure Boot Camp County Leased
Detention Center Facility
Canadian, Texas (1994)
Bartow Youth Training Center 74 Secure & Residential State Managed
Bartow, Florida (1995) Treatment Facility
Pahokee Youth Training Center 350 Secure Treatment State Managed
Pahokee, Florida (1997) Facility
Polk City Youth Training Center 350 Secure Treatment State Managed
Polk City, Florida (1997) Facility
Bell County Youth Training Center 96 Secure Detention County Managed
Killeen, Texas (1997) Facility
Okaloosa County Juvenile 65 Secure Treatment County Managed
Residential Facility Facility
Okaloosa, Florida (1998)
Bayamon Detention Center(4) 120 Secure Detention Commonwealth of Managed
Bayamon, Puerto Rico (1998) Facility Puerto Rico
Bayamon Treatment Center 141 Secure Treatment Commonwealth of Managed
Bayamon, Puerto Rico (1998) Facility Puerto Rico
Salinas Treatment Center 100 Secure Detention Commonwealth of Owned
Salinas, Puerto Rico Facility Puerto Rico
(1999-Not Yet Operational)
Colorado County Boot Camp 100 Secure Detention County Managed
Eagle Lake, Colorado (1998) Facility
Judge Roger Hashem Juvenile 64 Secure Detention County Managed
Justice Center Facility
Rockdale, Texas (1997)
<PAGE> 8
Martin Hall Juvenile Facility 52 Secure Treatment County Managed
Medical Lake, Washington (1997) Facility
Dallas County Secure Post 96 Secure Treatment County Managed
Adjudication Facility Facility
Dallas, Texas (1998)
Dallas Youth Academy 96 Secure Tteatment County Managed
Dallas, Texas (1998) Facility
Paulding Regional Youth 126 Secure Detention State Managed
Detention Center Facility
Paulding, Georgia (1999)
Tallulah Correctional Center 700 Secure Treatment State Managed
for Youth Facility
Tallulah, Louisiana (1998)
North Las Vegas, Nevada Facility 96 Secure Treatment State Managed
(2000-Not Yet Operational) Facility
Community Corrections Division
Contracting Owned
Facility Name, Location and Contracted Governmental Leased, or
Year Operations Commenced Beds(1) Type of Facility Agency Managed(2)
- --------------------------- ---------- ---------------- ------------ ----------
Brooklyn Community 99 Residential Federal Bureau Leased
Correctional Center Correctional Facility of Prisons
Brooklyn, New York (1989)
Manhattan Community 60 Residential Federal Bureau Leased
Corrections Center Correctional Facility of Prisons
New York, New York (1990)
Bronx Community 40 Residential Federal Bureau Leased
Corrections Center Correctional Facility of Prisons
Bronx, New York (1996)
New York State Community 135 Residential State Leased
Corrections Center Correctional Facility
Manhattan, NY (1998)
Fort Worth Community 125 Residential State Leased
Corrections Center Correctional Facility
Fort Worth, Texas (1994)
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(1) The number of beds under contract generally is an estimate in the
contract by the contracting government agency of the number of offenders
expected to be assigned to the facility and not a guarantee of a minimum or
maximum number of offenders to be so assigned. Certain facilities have bed
capacity in excess of the number of beds under contract and therefore may be
occupied by a greater number of offenders than is estimated pursuant to the
contract.
(2) A managed facility is a facility for which CSC provides management services
pursuant to a management contract with the applicable governmental agency
but, unlike a leased or owned facility, CSC has no property interest in the
facility.
(3) This facility is listed both as part of CSC's Adult Division and its
Juvenile Division as the facility houses both adult and juvenile offenders.
(4) Operations will discontinue effective May 1, 1999. (See "Management's
Discussion and Analysis of Financial Condition and Results of Operation.")
</TABLE>
<PAGE> 9
Facility Management Contracts
CSC is primarily compensated on the basis of the population in each of its
facilities on a fixed rate per inmate per day; however, some contracts have a
minimum revenue guarantee. Invoices are generally sent on a monthly basis
detailing the population for the prior month. Occupancy rates for facilities
tend to be low when first opened or when expansions are first available.
However, after a facility passes the start-up period, typically three months,
the occupancy rate tends to stabilize.
CSC is required by its contracts to maintain certain levels of insurance
coverage for general liability, workers' compensation, vehicle liability and
property loss or damage. CSC is also required to indemnify the contracting
agencies for claims and costs arising out of CSC's operations and in certain
cases, to maintain performance bonds.
<PAGE> 9
As is standard in the industry, CSC's contracts are short term in nature,
generally ranging from one to three years and contain multiple renewal
options. Most facility contracts also generally contain clauses which allow
the governmental agency to terminate a contract with or without cause, and are
subject to legislative appropriation of funds. To date, none of CSC's
contracts have been terminated though any of these methods.
Operating Procedures
CSC is responsible for the overall operation of each facility under its
management, including staff recruitment, general administration of the
facility, security of inmates and employees, supervision of the offenders and
facility maintenance. CSC, either directly or through subcontractors, also
provides health care, including medical, dental and psychiatric services and
food service. Certain facilities also offer special rehabilitative and
educational programs, such as academic or vocational education, job and life
skills training, counseling, substance abuse programs, and work and
recreational programs.
CSC's contracts generally require CSC to operate each facility in
accordance with all applicable local, state and federal laws, rules and
regulations and the standards and guidelines of the American Correctional
Association. The ACA standards, designed to safeguard the life, health and
safety of offenders and personnel, describe specific objectives with respect
to administration, personnel and staff training, security, medical and health
care, food service, inmate supervision and physical plant requirements. CSC
believes the benefits of operating its facilities in accordance with ACA
standards include improved management, better defense against lawsuits by
offenders alleging violations of civil rights, a more humane environment for
personnel and offenders and measurable criteria for upgrading programs,
personnel and the physical plant on a continuous basis. Several of our
facilities are fully accredited by the ACA and certain other facilities
currently are being reviewed for accreditation. CSC's goal is to obtain and
maintain ACA accreditation for all of its facilities. Richard P. Staley, CSC's
Senior Vice President and director, is a member of the ACA and a certified ACA
standards auditor for jail and detention facilities. James Irving, CSC's Vice
President for Juvenile Justice, is a past Chairman of the ACA Standards
Committee and a certified ACA standard auditor for jail and detention
facilities.
Facility Design and Construction
In addition to its facility management services, CSC also consults with
various governmental entities to design and construct new correctional and
detention facilities and renovate older facilities to provide enhanced
services to the population. CSC manages all of the facilities it has designed
and constructed or redesigned and renovated.
Pursuant to CSC's design, construction and management contracts, it is
responsible for overall project development and completion. Typically, CSC
develops the conceptual design for a project, then hires architects, engineers
and construction companies to complete the development. When designing a
particular facility, CSC utilizes, with appropriate modifications, prototype
designs CSC has used in developing other projects. Management of CSC believes
that the use of such prototype designs allows it to reduce cost overruns and
construction delays.
Facilities Under Construction
Renovations are underway in the 141 bed juvenile treatment facility in
Bayamon, Puerto Rico. The facility currently houses 96 residents. It is
expected that the renovation will be complete in June 1999.
Construction has begun on a 100 bed juvenile detention center in Salinas,
Puerto Rico. The facility will house minimum to medium risk residents, aged 12
to 17, and is expected to be completed in October 1999.
<PAGE> 10
Employees
At March 30, 1999, CSC had approximately 3,794 full-time employees,
consisting of clerical and administrative personnel, security personnel, food
service personnel and facility administrators. CSC believes its relationship
with its employees is good.
Each of CSC's facilities is led by an experienced facility administrator.
Other facility personnel include administrative, security, medical, food
service, counseling, classification and educational and vocational training
personnel. CSC conducts background screening checks and drug testing on
potential facility employees. Some of the services rendered at certain
facilities, such as medical services and education or training, are provided
by third-party contractors.
Employee Training
All jurisdictions require corrections officers to complete a specified
amount of training prior to employment. In most cases, CSC employees must
undergo at least 160 hours of training before being allowed to work in a
position that will bring them in contact with offenders or detainees. This
training consists of approximately 40 hours relating to CSC policies,
operational procedures and management philosophy, and 120 hours relating to
legal issues, rights of offenders and detainees, techniques of communication
and supervision, improvement of interpersonal skills and job training relating
to the specific tasks to be held. Each CSC employee having contact with
offenders receives a minimum of 40 hours of additional training each year, and
each management employee receives a minimum of 24 hours of training each year.
Insurance
Each management contract with a governmental agency requires CSC to
maintain certain levels of insurance coverage for general liability, workers'
compensation, vehicle liability and property loss or damage and to indemnify
the contracting agency for claims and costs arising out of CSC's operations.
CSC maintains general liability insurance in the amount of $5,000,000 and
two umbrella policies in the amount of $5,000,000 and $25,000,000,
respectively, covering itself and each of its subsidiaries. There can be no
assurance that the aggregate amount and kinds of CSC's insurance are adequate
to cover all risks it may incur or that insurance will be available in the
future.
In addition, CSC is unable to secure insurance for some unique business
risks including, but not limited to, riot and civil commotion or the acts of
an escaped offender.
Regulation
The industry in which CSC operates is subject to federal, state and local
regulations which are administered by a variety of regulatory authorities.
Generally, providers of correctional services must comply with a variety of
applicable federal, state and local regulations, including educational, health
care and safety regulations. Management contracts frequently include extensive
reporting requirements. In addition, many federal, state and local governments
are required to follow competitive bidding procedures before awarding a
contract. Certain jurisdictions may also require the successful bidder to
award subcontracts on a competitive bid basis and to subcontract to varying
degrees with businesses owned by women or minorities.
Item 2. Properties.
----------
Brooklyn, New York Lease
The Company leases this building, located at 988 Myrtle Avenue, Brooklyn,
New York, from Myrtle Avenue Family Center, Inc. ("MAFC") pursuant to a lease
which commenced January 1, 1999 and expires December 31, 2003. The lease
establishes a monthly rental of $40,000 and contains two five-year renewal
options. The monthly rental for the first option period, which runs from
January 1, 2004 through December 31, 2008, is $45,000, and the monthly rental
for the second option period, which runs from January 1, 2009 through
December 31, 2013, is $50,000. In addition, the Company pays taxes,
insurance, repairs and maintenance on the building. MAFC is a corporation
owned by Esther Horn (27.5%), James F. Slattery (8%) and Aaron Speisman
(27.5%), significant stockholders of the Company. The terms of the lease were
not negotiated at arms length due to their relationship with both the Company
and MAFC.
<PAGE> 11
Bronx, New York Lease
The Company leases a building located at 2534 Creston Avenue, Bronx, New
York from Creston Realty Associates, L.P. ("CRA"), which is owned 10% by
Esther Horn, a significant stockholder of the Company. The lease term is two
years commencing October 1, 1996 and expiring October 1, 1998 with three one
year renewal options. The Company is currently in its first additional one
year option period and has two additional one year option periods. The Company
currently pays a base rent of $189,000 per year which will escalate five
percent per year for each of the remaining two year options if they are
exercised. The Company pays taxes, insurance, repairs
and maintenance on this building which will be used to house a
community correctional center. The terms of this lease were not negotiated at
arms length due to the relationship between the Company, Ms. Horn and CRA.
However, pursuant to the terms of a Board of Directors resolution adopted in
connection with the Company's initial public offering, all transactions
between the Company and any of its officers, directors or affiliates (except
for wholly-owned subsidiaries) must be approved by a majority of the
unaffiliated members of the Board of Directors and be on terms no less
favorable to the Company than could be obtained from unaffiliated third
parties and be in connection with bona fide business purposes of the Company.
Manhattan, New York Lease
The Company subleases the building located at 12-16 East 31st Street, New
York, New York as well as an annex located at 11 East 30th Street, New York,
New York from LeMarquis Operating Corp. ("LMOC"). The Company currently
utilizes approximately fifty percent of the building for the LeMarquis
Correctional Center and for the New York Community Correctional Program.
LMOC is a corporation owned 25% by Ms. Horn and 8% by Mr. Slattery. LMOC
leases this building from an unaffiliated party at a current base monthly
rental of approximately $16,074 (the "Base Rent"), plus taxes and other
charges in the approximate current amount of $17,500 for a total monthly
rental of approximately $33,500. The Company has the right to use as much of
the building as it requires for its business subject to the rights of certain
residential subtenants to remain in the building. These rights include the
right to housing, at a predetermined rental, for an indefinite period of time
pursuant to New York State rent stabilization laws.
The Company pays rent of $18,000 per month above the rent paid by LMOC to
the building's owner for a total monthly rent of approximately $51,500. The
Company has, to date, invested $739,000 in leasehold improvements. The
Company will not receive any credit, in terms of a reduction in rent or
otherwise, for these improvements. The initial term of the Company's sublease
expired April 30, 1995 and is in its first renewal period which expires
April 30, 2000. The sublease contains two additional five-year renewal options
beginning May 1, 2000. The monthly rent above the rent paid by LMOC to the
building's owner will increase to $22,000 per month during the second renewal
term beginning May 1, 2000 and to $26,000 per month during the third renewal
term beginning May 1, 2005.
Fort Worth, Texas Lease
The Company leases the facility located at 600 North Henderson Street,
Fort Worth, Texas from an unaffiliated party at a monthly rental of $10,200
for the period May 16, 1994 through May 15, 1996; $10,400 for the period May
16, 1996 through May 15, 1997; $10,815.20 for the period May 16, 1997 through
May 15, 1998; and $11,252.97 for the period May 16, 1998 through April 15,
1999. The lease for these premises commenced May 16, 1994 and expires
April 15, 1999. The lease contains three renewal options. The term of the first
renewal option is for three years and the second and third renewal options are
for two years. The Company's rent is to increase four percent per annum
during each year of the renewal term.
Frio County, Texas Lease
The Company leases the facility at 410 S. Cedar in Pearsall, Texas from
the County for the period ending December 1, 2009. The Company has prepaid
twelve years of rent equaling $4,750,760. The lease may be extended for one
additional five year period at a price to be negotiated by the parties.
Executive Office Leases
The Company leases approximately 6,400 square feet of executive office
space located at 1819 Main Street, Sarasota, Florida from an unaffiliated
party at a base monthly rental of $8,278 for the period October 1, 1995
through September 30, 1996; $8,812 for the period October 1, 1996 through
September 30, 1997; $9,346 for the period October 1, 1997 through
September 30, 1998; $9,880 for the period October 1, 1998 through September
30, 1999; $10,415 for the period October 1, 1999 through September 30, 2000.
<PAGE> 12
The lease does not contain any renewal options. On March 1, 1997 the Company
entered into a lease amendment for approximately 1,399 square feet in its
existing executive offices. The lease amendment calls for an additional base
rental of $1,924 with annual increases of approximately $100 per month on each
October 1st until the expiration of the lease amendment on September 30, 2000.
In June 1998, the Company leased an additional 5,574 square feet of office
space located at 1819Main Street, Sarasota, Florida from an unaffiliated
party. The lease commenced June 4, 1998 and expires December 31, 2004 and
calls for a monthly rental of $6,415.
The Company also leases an office at 1 Fordham Plaza, Bronx, New York
from an unaffiliated party at a monthly rental of $6,987. The lease for these
premises commenced January 1999 and expires January 2004.
Item 3. Legal Proceedings.
-----------------
The nature of CSC's business results in numerous claims or litigation
against CSC for damages arising from the conduct of its employees or others.
Under the rules of the SEC, CSC is obligated to disclose lawsuits which
involve a claim for damages in excess of 10% of its current assets
notwithstanding CSC's belief as to the merit of the lawsuit and the existence
of adequate insurance coverage.
In March 1996, former inmates at one of CSC's facilities filed suit in the
Supreme Court of the State of New York, County of Bronx on behalf of
themselves and others similarly situated, alleging personal injuries and
property damage purportedly caused by negligence and intentional acts of CSC
and claiming $500,000,000 for each compensatory and punitive damages, which
suit was transferred to the United States District Court, Southern District of
New York, in April 1996. In July 1996, seven detainees at one of CSC's
facilities, and certain of their spouses, filed suit in the Superior Court of
New Jersey, County of Union, seeking $10,000,000 each in damages arising from
alleged mistreatment of the detainees, which suit was transferred to the
United States District Court, District of New Jersey, in August 1996. In July
1997 former detainees of CSC's Elizabeth, New Jersey Facility filed suit in
the United States District Court for the District of New Jersey. The suit
claims violations of civil rights, personal injury and property damage
allegedly caused by the negligent and intentional acts of CSC. No monetary
damages have been stated.
CSC believes the claims made in each of the foregoing actions to be without
merit and will vigorously defend such actions. CSC further believes the
outcome of these actions and all other current legal proceedings to which it
is a party will not have a material adverse effect upon its results of
operations, financial condition or liquidity. However, there is an inherent
risk in any litigation and a decision adverse to CSC could be rendered.
Item 4. Submission of Matters to a Vote of Security Holders.
---------------------------------------------------
Not applicable.
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
---------------------------------------------------------------------
The common stock of CSC is traded on the Nasdaq National Market. The
following table sets forth, for the calendar quarters indicated, the high and
low sale prices per share on the Nasdaq National Market, based on published
financial sources.
CSC Common
Stock
-----
Sale Price
----------
High Low
---- ---
1997
First Quarter $15 $ 9 3/4
Second Quarter 13 5/8 9 1/4
Third Quarter 15 1/4 10 3/4
Fourth Quarter 15 1/2 9 1/8
<PAGE> 13
1998
First Quarter 15 3/4 10 3/16
Second Quarter 16 7/8 12 1/2
Third Quarter 15 1/2 8 7/8
Fourth Quarter 14 1/4 6 3/4
On the record date there were 87 holders of record and approximately 2,955
beneficial shareholders registered in nominee and street name.
<PAGE> 13
Item 6. Selected Financial Data.
The information below has been derived from the audited consolidated
financial statements of Correctional Services Corporation audited by Grant
Thornton LLP as of and for its fiscal years ended December 31, 1994 through
1998. This information is only a summary and should be read in conjunction
with Correctional Services Corporation's historical financial statements, and
related notes, as of and for the years ended December 31, 1996 through 1998
and contained in the Management's Discussion and Analysis report included
elsewhere herein.
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------------
1998(1) 1997 1996 1995 1994
------ ------ ------ ------ ------
(in thousands except per share data)
<S> <C> <C> <C> <C> <C>
Statement of operations data:
Revenues $97,928 $59,936 $31,502 $31,490 $24,273
Operating expenses 71,255 43,472 21,928 19,732 14,899
General and administrative expenses 16,264 11,859 8,656 9,938 6,696
Facility closure costs - - 3,329 3,910 -
Deferred development and
start-up costs 11,630
Operating income (loss) (1,221) 4,605 (2,411) (2,090) 2,678
Interest income (expense), net (694) 444 (482) (699) (133)
Earnings (loss) before income
taxes and cumulative effect
of change in accounting principle (1,914) 5,049 (2,893) (2,789) 2,545
Income tax expense (benefit) (756) 2,023 (1,025) (1,050) 1,002
Earnings (loss) before
cumulative effect of
change in accounting principle (1,158) 3,026 (1,868) (1,739) 1,543
Cumulative effect of change
in accounting principle,
net of tax of $3,180 (4,863) - - - -
Net earnings (loss) (6,022) 3,026 (1,868) (1,739) 1,543
Net earnings (loss) per share:
Basic $ (0.78) $ 0.39 $ (0.32) $ (0.38) $ 0.35
Diluted (0.78) 0.37 (0.32) (0.38) 0.34
Balance sheet data:
Working capital $11,159 $ 6,692 $23,560 $ 4,540 $ 1,356
Total assets 66,637 55,866 50,304 23,341 14,518
Long-term debt, net of current
portion 11,820 321 - 5,221 4,785
Shareholders' equity 37,922 43,188 39,925 9,222 7,093
____________
(1) The 1998 amounts include the effect of the adoption of the AICPA Statement
of Position 98-5, Accounting for Startup Costs. (See "Management's
Discussion and Analysis of Financial Condition and Results of Operations.")
</TABLE>
<PAGE> 14
Item 7. Management's Discussion and Analysis of Financial Condition
-----------------------------------------------------------
and Results of Operations.
-------------------------
General
The Company's primary source of revenue is generated from the management of
correctional and detention facilities under federal, state and local
governmental agency contracts. In addition, the Company receives revenue for
educational and aftercare services. The majority of the Company's contracts
are based on a daily rate per offender, some of which have guaranteed minimum
payments; others provide for fixed monthly payments irrespective of the number
of offenders housed.
The Company typically pays all facility operating expenses, except rent in
the case of certain government-provided facilities. The Company's primary
expenses are categorized as either operating or general and administrative.
Operating expenses consist of corporate and facility employee salaries, wages,
fringe benefits, payroll taxes and resident expenses which include
food, medical services, supplies and clothing. General and administrative
expenses consist among other items of rent, utilities, insurance, professional
fees, travel and lodging and depreciation and amortization.
The Company usually incurs development costs, which may range from $50,000
to $200,000, in responding to a governmental agency RFP. Such costs include
planning and developing the project, preparing the bid proposal, travel,
legal expenses and consulting fees. In addition certain contracts require
payments to be made to certain governmental agencies. For the year ended
December 31, 1997 and prior, if management believed the recovery of such costs
was probable, the costs were deferred until the anticipated contract was
awarded, at which time the deferred costs were amortized on a straight-line
basis over the term of the contract, including option periods not to exceed
five years. Development costs of unsuccessful or abandoned bids were expensed.
The time period from incurring initial development costs on a project to the
commencement of operations generally ranging from six to eighteen months. In
the fourth quarter of 1998, the Company elected to early adopt the American
Institute of Certified Public Accountants Statement of Position 98-5
(SOP 98-5), Accounting for Start-up Costs effective January 1, 1998. As a
result, the Company was required to record a cumulative effect of change in
accounting principle of $4,863,380 (net of tax benefit of $3,180,000)
retroactively to January 1, 1998, and a current year effect of expensing
start-up and deferred development costs as incurred throughout the remainder
of the year. The required adoption of SOP 98-5 effects many industries,
including the one in which the Company operates.
After a contract has been awarded, the Company incurs start-up costs from
the date of the award until commencement of operations. For the year ended
December 31, 1997 and prior start-up costs which included recruitment,
training costs, wages, travel of personnel and certain legal costs, were
capitalized until operations commence, at which time such costs were amortized
on a straight-line basis over the term of the contract, including option
periods not to exceed five years. As stated above, in the fourth quarter of
1998, the Company elected to early adopt SOP 98-5 and, as a result,
these start-up costs were expensed during the year ended December 31, 1998.
Recent Developments
On September 24, 1998, the Company announced that it had entered into a
definitive merger agreement with Youth Services International, Inc. (YSI),
under which each outstanding share of YSI common stock will be converted into
.375 shares of CSC common stock. On March 2, 1999, the Company announced that
the parties had agreed to amend the merger agreement to reduce the exchange
ratio to .275 shares of CSC common stock for each outstanding share of YSI
common stock. Under the merger agreement, YSI will become a wholly-owned
subsidiary of CSC. The merger is currently scheduled to be closed at the end
of March 1999. Transaction costs consisting of financial advisory fees, legal
and accounting services and travel costs of $727,000 as of December 31, 1998
were capitalized. These non-recurring costs will be charged to operations
during the fiscal quarter in which the merger is consummated. If circumstances
arise that would prevent or cause the merger to terminate these costs as well
as other merger-related expenses incurred since December 31, 1998 would be
expensed at that time.
On February 8, 1999 the Company announced it had finalized a contract to
operate a 96-bed secure treatment facility in Clark County, Nevada. The
Company believes that this facility is the first of its kind to be privatized
in that state.
On February 23, 1999, the Company announced that it had mutually agreed
with the Administration of Juvenile Institutions not to renew the contract for
the 120-bed Bayamon Detention Center in Bayamon, Puerto Rico effective May 1,
1999.
<PAGE> 15
Results of Operations
The following table sets forth certain operating data as a percentage of
total revenues:
Percentage of Total Revenues
----------------------------
Years Ended
December 31,
-----------
1998 1997 1996
---- ---- ----
Revenues 100.0% 100.0% 100.0%
----- ----- -----
Expenses:
Operating 72.8 72.5 69.6
General and Administrative 16.6 19.8 27.5
Ft. Worth & NYCC facilities
loss reserves - - 10.6
Startup and deferred development 11.9 - -
----- ----- -----
Total expenses 101.3 92.3 107.7
----- ----- -----
Operating income (loss) (1.3) 7.7 (7.7)
Interest income (expense), net (0.7) 0.7 (1.5)
----- ----- -----
Income (loss) before income taxes
and cumulative effect of
change in accounting principle (2.0) 8.4 (9.2)
Income tax benefit (expense) 0.8 (3.4) 3.3
----- ----- -----
Net income (loss) before
cumulative effect of
change in accounting principle (1.2) 5.0 (5.9)
Cumulative effect of change
in accounting principle 5.0 - -
----- ----- -----
Net income (loss) (6.2)% 5.0% (5.9)%
----- ----- -----
----- ----- -----
Year ended December 31, 1998 Compared to Year ended December 31, 1997
Revenue increased by $38 million or 63.4% for the year ended December 31,
1998 to $97,928,498 compared to the same period in 1997. The increase in revenue
was directly related to an increase in the number of residents housed by the
Company in 1998. These increases were primarily due to:
- A $18.4 million increase generated primarily from the following new
facilities: Eagle Lake, Texas; Newton, Texas; Bayamon Detention and
Treatment, Puerto Rico; Jefferson County, Texas; Dickens County, Texas;
Dallas County I and Dallas County II, Texas; McCloud, Oklahoma; Okaloosa,
Florida; Tallulah, Louisiana.
- A $16.9 million increase generated primarily from a full year of revenue
from the following facilities which opened in 1997: Florence, Arizona;
Pahokee, Florida; Frio County, Texas; Milam County, Texas; Gallup, New
Mexico; Grenada, Mississippi; Martin Hall, Washington.
- A $2.7 million net increase generated from per diem rate and occupancy
level increases in other facilities.
Operating expenses increased $27.8 million or 64.0% for the year ended
December 31, 1998 to $71,255,339 compared to the same period in 1997 primarily
due to:
- Increases in payroll and related payroll taxes and benefits that were
related to employees working at the new facilities and facilities opened
for the full year mentioned above.
- Increases in payroll and related payroll taxes and benefits that were
related to employees working at the corporate office to support the
above new facilities.
As a percentage of revenues, operating expenses of 73% remained consistent
in 1998 compared to the same period in 1997.
General and administrative expenses increased $4.4 million or 37.1% for the
year ended December 31, 1998 to $16,264,107 compared to the same period in 1997.
The increase in general and administrative expenses was primarily attributable
to the opening and full year of operations from the above mentioned facilities.
<PAGE> 16
As a percentage of revenues, general and administrative expenses decreased
to 18.7% before the effect of adopting SOP 98-5 in 1998 from 19.8% in 1997.
The decrease in general and administrative expenses as a percentage of revenue
is a result of leveraging these additional costs over a larger revenue base.
General and administrative expense as a percentage of revenue was 16.6% in
1998 after the effect of adopting SOP 98-5. The reduction from 18.7% is
directly attributable to reversing amortization expense related to start-up
and deferred development in 1998 of $2,084,142 required by SOP 98-5.
Due to the early adoption of SOP 98-5, for the year ended December 31, 1998
the Company expensed startup and deferred development costs totaling
$11,629,841. In addition, the Company was required to record a cumulative
effect of change in accounting principle of $4,863,380 (net of tax of
$3,180,000) retroactively to January 1, 1998 (See Note A of the notes to the
consolidated financial statements).
Interest expense, net of interest income, was $693,739 for the year ended
December 31, 1998 compared to interest income, net of interest expense of
$444,077 for the year ended December 31, 1997, a net increase in interest
expense of $1,137,816. This increase resulted from:
- A $584,000 decrease in interest income related to the utilization of the
proceeds from the September 1996 public offering to finance the
Company's growth and expansion during 1998. A substantial portion of the
proceeds had been invested in cash equivalents during 1997.
- A $254,000 net increase in interest expense from the utilization of the
Company's credit facility to finance the Company's growth and expansion
during 1998.
- A reduction of capitalized interest in 1998 by $300,000 compared to
1997. In 1997, $371,500 was capitalized related to construction of the
Company's Florence, Arizona facility. In 1998, $72,000 was capitalized
related to construction and capital improvements to the Company's
Gallup, New Mexico, Frio, Texas and Canadian, Texas facilities.
For the year ended December 31, 1998 the Company recognized an income tax
benefit of $755,700 on income before the cumulative effect of change in
accounting principle and an income tax benefit of $3,180,000 related to the
cumulative effect of change in accounting principle. For the year ended
December 31, 1997 the Company recognized a provision for income taxes of
$2,022,853. The effective tax rate was 39.5% in 1998 and 40.1% in 1997.
As a result of the foregoing factors, the Company had a net loss of
($1,158,827) and ($6,022,207) or ($0.15) and ($0.78) per share before and after
the cumulative effect of change in accounting principle, respectively, for the
year ended December 31, 1998. During the year ended December 31, 1997 net income
was $3,025,524 or $0.39 per share.
Year ended December 31, 1997 Compared to Year ended December 31, 1996
Revenue increased 90.3% from $31,501,658 for the year ended December 31,
1996 to $59,936,101 for the year ended December 31, 1997. The increase in
revenue from 1996 to 1997 was primarily attributable to the opening of seven new
facilities during 1997 (Bronx, New York, Polk, Florida and Pahokee, Florida in
January 1997; Frio County, Texas in March 1997; Milam County, Texas in June
1997; Gallup, New Mexico in July 1997; and Florence, Arizona in October 1997).
In addition, the Company experienced increased occupancy levels in certain
facilities and generated a full year of revenue in the Bell County, Texas and
Phoenix, Arizona facilities that were opened only a partial year in 1996.
Compensated mandays was 1,115,000 in 1997 and 641,000 in 1996.
Operating expenses increased 98.2% from $21,928,329 for the year ended
December 31, 1996 to $43,472,402 for the year ended December 31, 1997
primarily due to increases in payroll and related payroll taxes and benefits
related to the opening of the new facilities. As a percentage of revenues,
operating expenses increased from 69.6% in 1996 to 72.5% in 1997. The
increase in operating expenses as a percentage of revenues can be attributed
to lower operating margins on the Company's community corrections programs,
the opening of new facilities and an increase in corporate staff to support
the Company's expanded operations.
General and administrative expenses increased 37.0% from $8,655,628 for the
year ended December 31, 1996 to $11,859,399 for the year ended December 31,
1997. The increase in general and administrative expenses was primarily
attributable to the opening of new facilities. As a percentage of revenues,
general and administrative expenses decreased to 19.8% in 1997 from 27.5% in
1996. The decrease in general and administrative expenses as a percentage of
revenue is a result of the increase in revenues and the Company's efforts in
controlling fixed costs.
<PAGE> 17
At December 31, 1996 the Company wrote-off $3,329,000 for its Fort Worth,
Texas and New York State Community Corrections programs. The Company wrote-off
fixed assets, development and start-up costs and other costs associated with the
closure of each program.
The operating loss for the year ended December 31, 1996 of $2,411,299 was
attributable principally to the above mentioned facilities closure costs.
Interest income, net of interest expense, was $444,077 for the year ended
December 31, 1997 compared to interest expense, net of interest income, of
$481,728 for the year ended December 31, 1996, a net change of $925,805. This
increase resulted from utilizing a portion of the net proceeds received from the
September 1996 public offering of common stock to repay bank indebtedness which
reduced interest expense, and from investing the balance of the net proceeds in
cash equivalents which increased interest income. Also, interest expense was
reduced by interest capitalized on facilities under construction. During 1996,
interest of $103,576 was capitalized on the Phoenix facility construction and
during 1997, $371,500 was capitalized on the construction of the Florence,
Arizona facility.
For the year ended December 31, 1997 the Company recognized a provision for
income taxes of $2,022,853. For the year ended December 31, 1996 the Company
recognized an income tax benefit of $1,025,000 principally from the utilization
of operating losses. The effective tax rate was 35.4% in 1996 and 40.1% in
1997.
As a result of the foregoing factors, the Company had a net loss of
$1,868,027 or $0.32 per share for the year ended December 31, 1996 compared to
net income of $3,025,524 or $0.39 per share for the year ended December 31,
1997.
Liquidity and Capital Resources
The Company has historically financed its operations through private
placements and public sales of its securities, cash generated from operations
and borrowings from banks.
The Company had working capital at December 31, 1998 of $11,159,481 compared
to $6,691,704 at December 31, 1997. The Company's current ratio increased from
1.58 to 1 at December 31, 1997 to 1.66 to 1 at December 31, 1998. The increase
is principally attributable to an increase in accounts receivable related to the
addition of new facilities throughout the year.
Net cash of $6,094,505 was used in operating activities for the year ended
December 31, 1998 as compared to $3,352,506 provided by operations for the year
ended December 31, 1997. The change was attributed primarily to:
- A decrease in net income of $10,638,528 caused by the adoption of
SOP 98-5.
- An increase in accounts receivable, prepaid expenses and offset by an
increase in accounts payable all related to the opening of new facilities,
as well as an offset by the cumulative effect of change in accounting
principle and the related deferred tax asset.
Net cash of $7,650,672 was used in investing activities during the year
ended December 31, 1998 as compared to $16,119,177 being used in the year ended
December 31, 1997. In the 1998 period such cash was used principally for:
- Capital expenditures related to the opening of new facilities and the
expansion and renovation of the Company's Frio, Texas, Gallup, New Mexico
and Canadian, Texas facilities.
- The purchase of land and land improvements for future development.
In the comparable period for 1997, the principal investing activities of the
Company were the construction of the Florence, Arizona facility, and fixed asset
and start-up costs relating to the opening of new facilities.
Net cash of $10,264,710 was provided by financing activities in the year
ended December 31, 1998 as compared to $2,949,532 used in financing activities
in the year ended December 31, 1997. During 1998 the Company's primary sources
of funding were:
- Net proceeds of $11,500,000 from the Company's revolving credit agreement.
- Proceeds of $1,265,000 (net of imputed interest) from the sale of
equipment and leasehold improvements.
- Proceeds from the exercise of stock warrants and options.
<PAGE> 18
During 1998 the Company's primary uses of funds were:
- Approximately $2,900,000 to retire subordinated notes, which became due
in July of 1998.
- Debt issuance costs and other assets.
In the comparable period for 1997 $4,336,000 was used to prepay a 12 year
lease for the Frio, Texas facility and was offset by $1,248,800 (net of imputed
interest) installment payments received from the sale of equipment and leasehold
improvements and $325,000 mortgage from the acquisition of land for the
Florence, Arizona facility.
The Company received approximately $756,000 and $185,000 from the exercise
of stock options and warrants during the years ended December 31, 1998 and
1997, respectively.
In April 1998 the Company finalized a new five-year credit facility with a
syndicate of banks led by NationsBank N.A. The syndicated facility provides
for up to $30 million in borrowings for working capital, construction and
acquisition of correctional facilities, and general corporate purposes all
collateralized by the Company's accounts receivables. The line is comprised
of two components, a $10 million revolving credit and $20 million operating
lease facility for the construction, ownership and acquisition of correctional
facilities. Borrowings under the line are subject to compliance with financial
covenants and borrowing base criteria.
In August of 1998 the Company initiated an amendment to its current credit
agreement with a syndicate of banks led by NationsBank N.A. Under the
amendment, which was finalized on October 16, 1998, the Company received an
additional $17,500,000 temporary increase in its credit facility. The
amendment represents interim financing which terminates on June 15, 1999.
Upon receipt of junior capital the increase in the credit facility will become
permanent. If the Company is unable to:
- extend the temporary increase
- amend the credit facility to provide an increased borrowing base; or
- obtain alternative financing
then it may have to curtail its growth relating to the construction and
operation of potential new facilities. As of December 31, 1998 the total
amount outstanding on the revolver was $11,500,000 and the total amount
outstanding on the operating lease facility was $16,652,000.
In addition, the Company would be required to repay any balance
outstanding at the time of termination of the increased credit facility.
Failure to do so would enable NationsBank to exercise their rights and
remedies under the loan agreement. Any such action could have a material
adverse effect on the financial condition and results of operations of the
Company. There can be no assurance that the Company will be able to issue the
necessary junior capital and receive the subsequent increase in its credit
facility.
Once the merger with YSI is consummated the Company will need to obtain
additional debt or equity financing to fund the redemption of up to $32.2
million of YSI's 7% Convertible Subordinated Debentures due 2006 within one
year after the merger. The holders of approximately $1.7 million of the
debentures are entitled to redemption of their debentures within 90 days after
the merger and the holders of the debentures representing approximately $30.5
million balance have agreed to extend the redemption date for their
redemption's until one year after the merger. We cannot assure that we will be
able to obtain financing to fund the redemption obligations or, if able, that
we will do so on favorable terms. If we cannot fund this redemption obligation
through new financing, our financial viability may be impaired.
The Company continues to make cash investments in the acquisition and
construction of new facilities and the expansion of existing facilities. In
addition, the Company expects to continue to have cash needs as it relates to
financing start-up costs in connection with new contracts. In addition the
Company is continuing to evaluate opportunities, which could require
significant outlays of cash. If such opportunities are pursued the Company
would require additional financing resources. Management believes these
additional resources may be available through alternative financing methods.
In light of the prospective merger with YSI the above financing arrangement
may be modified.
<PAGE> 19
Year 2000
The Year 2000 problem is the result of two potential malfunctions that could
have an impact on the Company's operations. First, many computer systems and
software currently in use have been programmed to use two digits rather than
four to identify the year. Consequently, the year 2000 could be incorrectly
interpreted as the year 1900. The second potential problem is the use of
embedded chips in various equipment may also have been designed using the two
digits rather than four to define the applicable year. These chips are
sometimes used in the security and communication equipment used at certain of
the Company's facilities.
The Company has established a Corporate-level Year 2000 Program Management
Plan (PMP), chartered to assure that all of its strategic business units are
Year 2000 compliant by the target date of the third quarter 1999. The
Company's corporate MIS department has conducted an in-depth assessment of its
Year 2000 health. The assessment process has been completed and has resulted
in an inventory of business critical software, hardware, and network elements
that may be affected by the Year 2000 problem.
Analysis of the assessment findings revealed that the Company is positioned
to deal with these Year 2000 issues. Approximately 85% of all computer systems
and software will be in compliance without modification. The Company's
Corporate MIS staff is currently in the process of modifying or replacing the
remaining 15% of its computer systems and software. The corporate accounting
system has been tested and upgraded to be compliant. The Company has
undertaken a program to inventory, assess and correct or replace equipment
that contains embedded chips that will have a direct impact on inmate security
or employee safety.
Under the guidelines of the PMP, the Company will be drawing upon the
expertise, both internally and externally, of technical experts who specialize
in Year 2000 issues. The Company is relying on information that is being
provided by vendors and manufacturers regarding the Y2K compliance status of
their products. There can be no assurances that in all instances accurate
information is being provided and the Company cannot guarantee that the
repair, replacement or upgrade of all items of equipment on a timely basis.
Contingency planning will be established and implemented in an effort to
minimize any impact from Y2K related failures of such equipment. Because some
of the Company's physical sites are connected to other entities whose Y2K
readiness efforts it does not control, there will be issues that arise which
are dependent on these entities' efforts. By vigorously pursuing vendor
certifications and warranties, and through comprehensive testing, the Company
will ensure that its network, systems and services continue to be reliable
through the millennium date change and beyond.
The Company estimates to invest approximately $150,000 in connection with
it's PMP and expects to fund such expenses through cash flows from operations.
However there can be no assurances that these estimated will be achieved and
actual results could differ materially from those anticipated.
This entire section "Year 2000 Issue" is hereby designated a "Year 2000
Readiness Disclosure" under and subject to the United States Year 2000
Information and Readiness Disclosure Act (1998).
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
----------------------------------------------------------
The Company's current financing is subject to variable rates of interest
and is therefore exposed to fluctuations in interest rates. The Company's
subordinated debt and mortgage on property accrues interest at fixed rates of
interest.
The table below presents the principal amounts, weighted average interest
rates, fair value and other terms, by year of expected maturity, required to
evaluate the expected cash flows and sensitivity to interest rate changes.
Actual maturities may differ because of prepayment rights.
<TABLE>
<CAPTION>
Expected Maturity Dates
-----------------------------------------------------------------------------------------
1999 2000 2001 2002 2003 Thereafter Total Fair Value
---------- ------ ----------- ------ ------ ---------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Fixed rate debt $1,103,455 $2,290 $ 2,524 $2,783 $3,069 $308,665 $ 1,422,786 $ 1,422,786
---------- ------ ----------- ------ ------ -------- ----------- -----------
---------- ------ ----------- ------ ------ -------- ----------- -----------
Weighted average interest
rate at December 31, 1998 10.00%
-----
-----
Variable rate LIBOR debt - - $11,500,000 - - - $11,500,000 $11,500,000
---------- ------ ----------- ------ ----- -------- ----------- -----------
---------- ------ ----------- ------ ----- -------- ----------- -----------
Weighted average interest
rate at December 31, 1998 8.32%
-----
-----
</TABLE>
<PAGE> 20
Item 8. Financial Statements and Supplementary Data.
-------------------------------------------
The information required by this item is contained on Pages F-1 through
F-28 hereof.
Item 9. Changes in and Disagreements with Accountants on Accounting and
---------------------------------------------------------------
Financial Disclosure.
--------------------
None
PART III
Item 10. Directors and Executive Officers of the Registrant.
--------------------------------------------------
The following table sets forth the directors and executive officers of the
Company, together with their respective ages and positions:
Name Age Position with CSC
- ---- --- ------------------------------------------------
James F. Slattery 49 President, Chief Executive Officer and
Chairman of the Board
Michael C. Garretson 51 Executive Vice President, Chief Operating Officer
Ira M. Cotler 35 Executive Vice President, Chief Financial Officer
Aaron Speisman 50 Executive Vice President and Director
Richard P. Staley 66 Senior Vice President and Director
Stuart M. Gerson(1) 54 Director
Shimmie Horn 26 Director
Melvin T. Stith(1) 51 Director
- ------------
(1) Member of Audit, Compensation and Stock Option Committees.
James F. Slattery co-founded CSC in October 1987 and has been its
President, Chief Executive Officer and a director since CSC's inception and
Chairman since August 1994. Prior to co-founding CSC, Mr. Slattery had been a
managing partner of Merco Properties, Inc., a hotel operation company, Vice
President of Coastal Investment Group, a real estate development company, and
had held several management positions with the Sheraton Hotel Corporation.
Michael C. Garretson joined the Company in August 1994 as its Vice
President of Business Development. In October 1995, he became the Director of
Planning and Economic Development for the City of Jacksonville, Florida and
served in such position until rejoining the Company in January 1996, during
which period he also acted as a consultant to the company. Mr. Garretson was
elected Executive Vice President and Chief Operating Officer in March 1996.
From September 1993 to August 1994, Mr. Garretson was Senior Vice President of
Wackenhut and from August 1990 to August 1993 was Director of Area Development
for Euro Disney S.C.A., the operator of a European theme park.
Ira M. Cotler was elected Chief Financial Officer in January 1998. He had
served as the Company's Executive Vice President-Finance since joining CSC in
March 1996. Prior to joining the Company, from June 1989 to February 1996, Mr.
Cotler was employed by Janney Montgomery Scott Inc., an investment banking
firm, serving in several capacities, most recently as Vice President of
Corporate Finance.
Aaron Speisman co-founded CSC in October 1987 and has been its Executive
Vice President and a director since CSC's inception. From October 1987 to
March 1994, Mr. Speisman also served as Chief Financial Officer of CSC. Since
June 1, 1996, Mr. Speisman has been employed by CSC on a part-time basis.
Richard P. Staley has served as CSC's Senior Vice President of Operations
since November 1988 and as a director since May 1994. From 1984 to 1987, Mr.
Staley was the Evaluation and Compliance Director for Corrections Corporation
of America and from 1953 to 1983, held various positions with the United
States Department of Justice, Immigration and Naturalization Service. Mr.
Staley is a certified American Correctional Association standards auditor for
jail and detention facilities.
Stuart M. Gerson was elected a director of CSC in June 1994. Since March
1993, Mr. Gerson has been a member of the law firm of Epstein Becker & Green,
P.C. From January 1993 to March 1993, he was acting Attorney General of the
United States. From January 1989 to January 1993, Mr. Gerson was the Assistant
U.S. Attorney General for the Civil Division of the Department of Justice.
<PAGE> 21
Shimmie Horn was elected a director of CSC in June 1996. Mr. Horn is
President of Iroquois Properties, Inc. a real estate holding company. Mr.
Horn, received a B.A. degree in Economics from Yeshiva College in 1993, and
graduated from the Benjamin Cardozo School of Law in 1996. He is the son of
the late Morris Horn, the former Chairman and a founder of CSC, and Esther
Horn, a principal stockholder of CSC.
Melvin T. Stith was elected a director of CSC in November 1994. Since July
1991, Mr. Stith has been Dean of the Florida State University College of
Business. From December 1989 to July 1991, Mr. Stith was Chairman of the
Marketing Department of the Florida State University College of Business where
he was also a Professor. Mr. Stith is also a director of Sprint and United
Telephone of Florida.
All directors hold office until the next annual meeting of stockholders and
until their successors have been duly elected and qualified. There are no
family relationships between any of the directors, executive officers or
persons nominated or chosen by CSC to become directors or executive officers.
CSC's officers are elected annually by the Board of Directors and serve at the
discretion of the Board.
Committees of the Board of Directors
The Board of Directors has an audit committee, a compensation committee and
a stock option committee. The Board of Directors does not have a nominating
committee or a committee performing the functions of a nominating committee.
The members of the Audit Committee are Melvin T. Stith and Stuart M.
Gerson. The Audit Committee held one meeting during the year ended December
31, 1998 and acted only by unanimous consent. The functions of the Audit
Committee are to recommend annually to the Board of Directors the appointment
of CSC's independent public accountants, discuss and review the scope and the
fees of the prospective annual audit and review the results thereof with the
independent public accountants, review and approve non-audit services of the
independent public accountants, review compliance with existing major
accounting and financial policies of CSC, review the adequacy of the financial
organization of CSC and review management's procedures and policies relative
to the adequacy of CSC's internal accounting controls.
Messrs. Stith and Gerson also serve on the Stock Option and Compensation
Committees. The Compensation Committee held one meeting during the year ended
December 31, 1998 and the Stock Option Committee acted four times by unanimous
written consent during the year ended December 31, 1998. The function of the
Compensation Committee is to determine the compensation of CSC's executives.
The Stock Option Committee administers CSC's stock option plans and awards
stock options.
Indemnification
CSC's By-Laws provide that CSC shall indemnify each director and such
officers, employees and agents as the Board of Directors shall determine from
time to time to the fullest extent provided by the laws of the State of
Delaware.
CSC carries insurance providing indemnification, under certain
circumstances, to all of CSC's directors and officers for claims against them
by reason of, among other things, any act or failure to act in their
capacities as directors or officers. The current annual premium for this
insurance is approximately $73,000, all of which is paid by CSC. To date, no
sums have been paid to any past or present director or officer of CSC under
this or any prior indemnification insurance policy.
CSC has also entered into Indemnity Agreements with all of its directors
and executive officers. The Indemnity Agreements provide that CSC will pay any
costs which an indemnitee actually and reasonably incurs because of the claims
made against him by reason of the fact that he is or was a director or officer
of CSC, except that CSC is not obligated to make any payment which CSC is
prohibited by law from paying as indemnity, or where:
- final determination is rendered on a claim based upon the indemnitee's
obtaining a personal profit or advantage to which he was not legally
entitled;
- a final determination is rendered on a claim for an accounting of
profits made in connection with a violation of Section 16(b) of the
Securities Exchange Act of 1934, or similar state or common law
provisions;
- a claim where the indemnitee was adjudged to be deliberately dishonest; or
- a final determination is rendered that indemnification is not lawful.
<PAGE> 22
Item 11. Executive Compensation.
----------------------
The following table sets forth the compensation paid or accrued by CSC
during the three fiscal years ended December 31, 1998, 1997 and 1996 to CSC's
Chief Executive Officer and to CSC's executive officers whose total cash
compensation at the end of 1998 exceeded $100,000 for that year (the "Named
Executives"):
<TABLE>
<CAPTION>
SUMMARY COMPENSATION TABLE
Long-Term
Annual Compensation Compensation
------------------- ------------
Number of
Other Annual Securities All Other
Salary Bonus Compensation Underlying Compensation
Name and Principal Position Year ($) ($) ($)(1) Options (2)
---- ------- ------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
James F. Slattery 1998 260,519 200,000 11,815 150,000 18,365
Chairman, Chief 1997 208,373 200,000 17,988 0 27,270
Executive Officer 1996 208,685 0 19,984 0 20,139
and President
Michael Garretson(3) 1998 128,814 75,000 12,000(3) 0 292
Executive Vice President 1997 118,834 75,000 12,000(3) 0 288
1996 112,406 507 12,000(3) 100,000 0
Ira Cotler 1998 141,431 5,000 6,000 0 67
Executive Vice President, 1997 135,115 75,000 6,000 0 54
Chief Financial Officer 1996 107,261 507 50,396(4) 100,000 0
- ------------
(1) Consists of car lease payments.
(2) Consists of life insurance premiums.
(3) Also includes housing allowance.
(4) Also includes relocation and related costs.
---------------
</TABLE>
The following table sets forth information relating to options granted to
Mr. Slattery, the only executive officer named in the Summary Compensation
Table who was granted options during CSC's fiscal year ended December 31,
1998:
<TABLE>
<CAPTION>
OPTION GRANTS IN LAST FISCAL YEAR
Individual Grants Potential Realizable
- -------------------------------------------------------------- Value At Assumed
Percentage of Annual Rates
Total of Stock Price
Number of Options Exercise Appreciation For
Securites Granted to of Option Term
Underlying Employees Base -------------------
Options In Fiscal Price Expiration
Name Granted Year ($/Sb) Date 5% ($) 10% ($)
- ----------------- --------- ---------- ------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
James F. Slattery 150,000 63.1% $13.00 2/17/03 $538,749 $1,190,494
One half of these options become exercisable six months from the date of grant and the
second one-half become exercisable eighteen months from the date of grant.
------------
</TABLE>
The following table sets forth the value of unexercised stock options held
by the Named Executives. No options were exercised by the Named Executives in
1998:
<PAGE> 23
OPTION VALUES AT DECEMBER 31, 1998
Number of Shares Underlying Value of In-The-Money
Options at Year End Options at Year End
Name Exercisable/Unexercisable Exercisable/Unexercisable
- ----------------- -------------------------- -------------------------
James F. Slattery 93,125/75,000 $ 60,624/$0
Michael Garretson 96,250/0 $323,144/$0
Ira Cotler 100,000/0 $349,500/$0
Employment Agreements
CSC has entered into an employment agreement with Mr. Slattery which
expires February 17, 2001 and provides for minimum annual compensation of
$270,000, cost of living increases, use of an automobile, reimbursement of
business expenses, health insurance, related benefits and a bonus equal to 5%
of pre-tax profits in excess of $1,000,000, such bonus not to exceed $200,000.
Since June 1, 1996, Mr. Speisman has been employed under an agreement which
provides for Mr. Speisman's employment on a part-time basis at an annual
salary of $35,000.
The Company entered into an employment agreement with Mr. Garretson
which expired on January 20, 1999 and provided for minimum annual
compensation of $115,000, annual salary increases, automobile allowances,
reimbursement of business expenses, health or disability insurance, related
benefits, a bonus equal to 3% of pre-tax profits in excess of $1,000,000, such
bonus not to exceed $75,000, and a grant of options to purchase 100,000 shares
of the Company's common stock. On December 5, 1998 CSC entered into a three
year employment agreement with Mr. Garretson, which provides for minimum
annual compensation of $200,000, annual salary increases, automobile allowances,
reimbursement of business expenses, health or disability insurance, and related
benefits. The agreement also entitles Mr. Garretson to an annual bonus of
$100,000 in the first year and $110,000, and $120,000 in the second and third
years respectively, provided that the Company's total bed count at each year-end
exceeds certain amounts.
CSC's current employment agreement with Mr. Cotler was extended in July
1997 and has a term of three years with automatic annual renewal provisions.
Mr. Cotler receives minimum annual compensation of $135,000, annual salary
increases, automobile allowances and a bonus equal to 3% of pre-tax profits in
excess of $1,000,000, such bonus not to exceed $75,000. The agreement provides
for the negotiation of Mr. Cotler's annual compensation for the period after
February 24, 1999 at an amount not less than $149,000. In January 1999, as
part of the renegotiation of compensation for the period commencing February
26, 1999, the Company increased Mr. Cotler's base compensation to $200,000
with an annual bonus not to exceed $100,000. In addition, Mr. Cotler was
granted five year options to purchase 25,000 shares of CSC common stock at
$11.125 per share. These options become exercisable at the annual rate of
8,333 shares, commencing on the date of grant.
In determining the bonuses payable to Messrs. Slattery, Garretson and
Cotler, the calculation of pre-tax profits for 1998 does not give effect to
the early adoption of SOP 98-5.
In October 1989, a subsidiary of CSC entered into an employment agreement
with William Banks. Under this agreement, Mr. Banks was responsible for
developing and implementing community relations projects on behalf of CSC and
for acting as a liaison between CSC and local community and civic groups who
may have concerns about CSC's facilities being established in their
communities, and with government officials throughout the State of New York.
As compensation, Mr. Banks received 3% of the gross revenue from all Federal
Bureau of Prisons, state and local correctional agency contracts within the
State of New York with a guaranteed minimum monthly income of $4,500. In
December 1993, Mr. Banks agreed to become a consultant to CSC upon the same
terms and conditions in order to accurately reflect the level and nature of
the services he provided. In 1997 and 1998, Mr. Banks earned approximately
$239,000 and $300,000, respectively.
Directors Compensation
Employee-directors of CSC receive no compensation for serving on the Board
of Directors other than reimbursement of expenses incurred in attending
meetings. Non-employee directors elected or appointed to the CSC Board of
Directors are paid an annual directors' fee of $5,000 plus $500 for each Board
meeting attended and $250 for each committee meeting attended. In addition,
all non-employee directors participate in CSC's 1994 Non-Employee Director
Stock Option Plan and are reimbursed for expenses incurred in attending
meetings.
<PAGE> 24
Item 12. Security Ownership of Certain Beneficial Owners and Management.
--------------------------------------------------------------
The following table sets forth certain information as of March 30, 1999,
based on information obtained from the persons named below, with respect to
the beneficial ownership of shares of CSC common stock by:
- each person known by CSC to beneficially own more than 5% of the
outstanding shares of CSC common stock;
- each executive officer named in the summary compensation table included
under "Management" and each director of CSC; and
- all executive officers and directors of CSC as a group.
Beneficial ownership is determined in accordance with the rules of the SEC and
generally includes shares over which the person or entity has voting or
investment power, and shares issuable to such person or entity pursuant to
options exercisable within 60 days of the Record Date.
Number of
shares
issuable upon
exercise or
conversion of
Total convertible
Number of securities
Name and Address of Beneficial Owner Shares within 60 days** Percentage
- ------------------------------------ --------- -------------- -----------
Esther Horn(1) 637,175 - 8.1%
James F. Slattery(1) 815,967(2) 93,125 11.5
Aaron Speisman(1) 420,795 18,135*** 5.5
Jennifer Anna Speisman 1992 Trust 83,438 - 1.1
Joshua Israel Speisman 1992 Trust 83,438 - 1.1
Ira M. Cotler 13,518 117,183*** 1.5
Richard P. Staley 39,375 23,374 *
Michael C. Garretson - 96,250 1.2
Stuart Gerson - 41,975*** *
Melvin T. Stith - 22,500 *
Shimmie Horn - 6,667 *
Gilder, Gagnon, Howe & Co.(3)(4) 2,144,740 - 27.1
Greenville Capital Management
Inc. (4)(6) 480,466 - 6.1
All officers and directors as a group
(eight persons) 1,456,531 417,566 23.7
- ------------
* Less than 1%
** Consists of shares issuable upon exercise of options unless otherwise voted
*** Includes shares issuable upon exercise of warrants for: Mr. Spiesman-6,700
shares; Mr. Cotler-8,850 shares; and Mr. Gerson-3,850 shares.
(1) Address is c/o Correctional Services Corporation, 1819 Main Street,
Suite 1000, Sarasota, Florida 34236.
(2) Includes 2,612 shares of CSC common stock owned by his wife as to which he
disclaims beneficial ownership.
(3) Address is 1775 Broadway, 6th Floor, New York, New York 10019. Based on a
Schedule 13G filed with the SEC by Gilder, Gagnon, Howe & Co. ("Gilder,
Gagnon") on August 11, 1998, Gilder, Gagnon has shared power to dispose or
to direct the disposition of 2,144,740 shares and has shared power to vote
or to direct the vote of 6,700 shares. The shares reported include
1,982,930 shares held in customer accounts over which partners and/or
employees of Gilder, Gagnon have discretionary authority to dispose of or
direct the disposition of the shares. 155,110 shares held in accounts owned
by the partners of Gilder, Gagnon and their families, and 6,700 shares held
in the account of the profit-sharing plan of Gilder, Gagnon.
(4) The information regarding the beneficial ownership of common stock by such
person or entity is included herein in reliance on its report filed with
the SEC, except that the percentage of common stock beneficially owned is
based upon CSC's calculations made in reliance upon the number of shares of
common stock reported to be beneficially owned by such person in such
report and the number of shares of common stock issued and outstanding as
of March 30, 1999.
<PAGE> 25
(5) Includes 604,769 shares of CSC common stock into which Gilder, Gagnon's
2,199,160 shares of YSI common stock as of the record date of the special
meeting are convertible in the merger. This share information is based on a
Schedule 13G filed with the SEC by Gilder, Gagnon on February 16, 1999.
(6) Address is P.O. Box 220, Rockland, Delaware 19732. Based on a Schedule 13G
filed with the SEC by Greenville Capital Management Inc. on February 10,
1999. Greenville Capital Management Inc., an investment adviser, has sole
dispositive power over these shares.
Item 13. Certain Relationships and Related Transactions.
----------------------------------------------
CSC subleases a building located at 12-16 East 31st Street, New York, New
York from LeMarquis Operating Corp. ("LMOC"), a corporation owned 25% by
Esther Horn and 8% by James F. Slattery. CSC currently utilizes approximately
fifty percent of the building for the Manhattan Community Corrections and the
New York Community Corrections programs. LMOC leases this building from an
unaffiliated party at a current base monthly rental of approximately $16,074,
plus taxes, currently approximately $14,000, and water and sewer charges,
currently approximately $3,500, for a total monthly rental of approximately
$33,000. CSC has the right to use as much of the building as it requires for
its business subject to the rights of certain residential subtenants to remain
in the building. These rights include the right to housing at a predetermined
rental for an indefinite period of time pursuant to New York State rent
stabilization laws.
As a result of lease negotiations, under a sublease dated as of January 1,
1994, since May 1, 1995, CSC has paid rent of $18,000 per month above the rent
paid by LMOC to the building's owner for a total monthly rent of approximately
$51,420. CSC has, to date, invested $739,000 in leasehold improvements and
will not receive any credit, in terms of a reduction in rent or otherwise, for
these improvements. The terms of this sublease were not negotiated at arm's
length due to the relationship of Mrs. Horn and Mr. Slattery with both CSC and
LMOC. The negotiation of the sublease, including the renewal terms, was
requested by the Representative of the Underwriters of CSC's February 2, 1994
initial public offering to substantially track the renewal terms of CSC's
management contract. The negotiations were not subject to the board
resolution, adopted subsequent to the negotiations, relating to affiliated
transactions, as described below, although the terms were approved by all of
the directors. The initial term of CSC's sublease expired April 30, 1995, and
is currently in its first renewal term expiring April 30, 2000. The sublease
contains two additional successive five-year renewal options beginning May 1,
2000. The monthly rent above the rent paid by LMOC to the building's owner
will increase to $22,000 per month during the second renewal term beginning
May 1, 2000 and to $26,000 per month during the third renewal term beginning
May 1, 2005. CSC paid $40,000 to LMOC for the renewal options. These renewal
options were separately negotiated between the Board of Directors of CSC and
LMOC. Mr. Slattery participated in such negotiations. Mrs. Horn and Mr.
Slattery will receive their proportionate shares of rents received by LMOC
under the terms of this sublease.
Previously, residential and commercial tenants of this building paid rent
to LeMarquis Enterprises Corp. ("Enterprises"), a company owned 30% by Mrs.
Horn, 28% by Mr. Slattery and 25% by Mr. Speisman, and Enterprises paid all
expenses of operating the residential and commercial portions of the building
as well as a portion of the overall expenses of the building. As of February
1994, however, all of the building's revenues, including rent from the
residential and commercial tenants are now received and expenses paid by CSC.
The revenue from this portion of the building was approximately $184,000 in
1997 and $199,000 in 1998. CSC anticipates that operating the portion of the
building occupied by residential and commercial tenants will result in a net
expense to CSC of approximately $6,500 per month. Due to New York rent
stabilization laws, CSC is unable to increase the rent paid by the residential
tenants in this building in response to increased rent or expenses incurred by
CSC.
CSC leases the entire building located at 988 Myrtle Avenue, Brooklyn, New
York from Myrtle Avenue Family Center, Inc. ("MAFC") pursuant to a lease
which commenced January 1, 1999 and expires December 31, 2003. The lease
establishes a monthly rental of $40,000 and contains two five-year renewal
options. The monthly rental for the first option period, which runs from
January 1, 2004 through December 31, 2008, is $45,000, and the monthly rental
for the third option period, which runs from January 1, 2009 through December
31, 2013, is $50,000. In addition, CSC pays taxes, insurance, repairs and
maintenance on this building. MAFC is a corporation owned by Mrs. Horn (27.5%)
and Messrs. Slattery (8%) and Speisman (27.5%). The terms of the lease were
not negotiated at arm's length due to their relationship with MAFC and CSC.
Messrs. Slattery and Speisman participated in such negotiations.
CSC leases a building located at 2534 Creston Avenue, Bronx, New York from
Creston Realty Associates, L.P. ("CRA"), a corporation owned 10% by Esther
Horn. The lease term is two years commencing October 1, 1996 and has three
additional one year option periods. CSC also pays a base rent of $180,000 per
year which will escalate five percent per year for each of the three year
options if they are exercised. CSC pays taxes, insurance, repairs and
maintenance on this building which will be used to house a community
correctional center. The terms of this lease were not negotiated at arm's
length due to the relationship between CSC, Ms. Horn and CRA.
<PAGE> 26
Stuart M. Gerson, a director of CSC, is a member of Epstein Becker & Green,
P.C., CSC's legal counsel. Epstein Becker & Green P.C. will render an opinion
with respect to the validity of the CSC common stock and to the federal income
tax consequences of the merger and has received fees for legal services
rendered to CSC during the last fiscal year.
Pursuant to the terms of a CSC Board resolution adopted in connection with
CSC's initial public offering, all transactions between CSC and any of its
officers, directors or affiliates (except for wholly-owned subsidiaries) must
be approved by a majority of the unaffiliated members of the Board of
Directors and be on terms no less favorable to CSC than could be obtained from
unaffiliated third parties and be in connection with bona fide business
purposes of CSC. In the event CSC makes a loan to an individual affiliate
(other than a short-term advance for travel, business expense, relocation or
similar ordinary operating expenditure), such loan must be approved by a
majority of the unaffiliated directors.
<PAGE> 27
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
----------------------------------------------------------------
2.1 Agreement and Plan of Merger, dated as of September 23, 1998, among
YSI, CSC and Palm Merger Corp.(28)
2.2 First Amendment, dated as of January 12, 1999, to the Agreement and
Plan of Merger, dated as of September 23, 1998, among YSI, CSC and
Palm Merger Corp.(29)
2.3 Second Amendment, dated as of March 2, 1999, to the Agreement and
Plan of Merger, dated as of September 23, 1998, among YSI, CSC and
Palm Merger Corp.(35)
3.1 Certificate of Incorporation of CSC dated October 28, 1993.(1)
3.1.1 Copy of Certificate of Amendment of Certificate of Incorporation
of CSC dated July 29, 1996.(4)
3.2 CSC's By-Laws.(33)
4.3 Form of CSC Series A Warrant.(1)
4.4 Form of CSC 10% Subordinated Promissory Note.(1)
4.5 Form of Placement Agent's Warrant between CSC and Janney
Montgomery Scott Inc.(1)
*10.1 CSC's 1993 Stock Option Plan, as amended.(33)
*10.5.1 Employment Agreement between CSC and James F. Slattery dated
February 17, 1998.(9)
*10.6 Employment Agreement between CSC and Aaron Speisman.(1)
*10.6.1 Modification to the Employment Agreement between CSC and Aaron
Speisman, dated June 13, 1996.(4)
10.8.3 Exercise of third option of the contract for operation of a
facility in New York, New York for women through June 30, 1995.(2)
10.9 Contract between CSC and the U.S. Department of Justice, Federal
Bureau of Prisons for operation of a facility in Brooklyn, New York,
dated November 13, 1990.(1)
10.9.1 Letter dated September 23, 1993 from the U.S. Department of Justice,
Federal Bureau expressing its intent to exercise the third option
year of the contract.(1)
10.9.2 Exercise of third option year of the contract for operation of a
facility in Brooklyn, New York.(1)
10.9.3 Extension of contract for operation of a facility in Brooklyn, New
York through March 31, 1995.(2)
10.10.1 Contract Amendment between CSC and the U.S. Immigration and
Naturalization Service for operation of the Seattle Processing
Center, dated October 1, 1996.(4)
10.11.3 Operations Agreement for the Tarrant County Community Correctional
Facility, Mansfield, Texas, dated September 1, 1998.(10)
10.12 Contract between CSC and the New York State Department of
Corrections, dated July 17, 1992.(1)
10.12.1 Extension of Contract between CSC and the New York State Department
of Corrections.(3)
10.13 Contract between CSC and the Texas Department of Criminal Justice,
Pardons and Paroles Division.(1)
10.13.1 Extension to the contract between CSC and the Texas Department of
Criminal Justice, Pardons and Paroles Division for operation of the
South Texas Intermediate Sanction Facility.(2)
10.13.2 Contract between CSC and the Texas Department of Criminal Justice
for operation of the South Texas Intermediate Sanction Facility.(3)
10.15 Agreement between CSC and William Banks, dated October 31, 1989.(1)
10.15.1 Letter dated December 9, 1993 from William Banks to CSC.(1)
10.16 Form of Sub-Lease between CSC and LeMarquis Operating
Corporation.(1)
10.17 Form of Lease between CSC and Myrtle Avenue Family Center, Inc.(1)
10.19 Contract by and between Esmor Canadian, Inc. and the Board of
Trustees for the Hemphill County Juvenile Detention Center for
operation of the Hemphill County Juvenile Detention Center.(2)
10.22 Contract between CSC and the U.S. Department of Justice, Immigration
and Naturalization Service for operation of the Seattle Processing
Center, effective August 1, 1994.(2)
10.23 Lease between Esmor Fort Worth, Inc. and Region Enterprises, Inc.(2)
10.24.1 Renewal of the Revolving Line of Credit Note dated
January 15, 1998.(7)
*10.25 1994 Non-Employee Director Stock Option Plan.(3)
10.26 Loan and Security Agreement with NationsBank, N.A. (South) dated as
of December 31, 1995.(3)
10.26.2 Deed of Trust Modification Agreement dated January 14, 1998.(7)
10.26.3 Third Amendment to Loan Agreement dated January 5, 1998.(7)
10.26.4 Fourth Amendment to Loan Agreement dated January 14, 1998.(7)
10.29 Contract between CSC and the State of Florida, Correctional
Privatization Commission dated October 6, 1995 for operation of the
Pahokee Youth Facility.(3)
10.30 Contract between CSC and the State of Florida, Correctional
Privatization Commission dated October 6, 1995 for operation of the
Polk City Youth Facility.(3)
10.31 Contract between CSC and the State of Arizona, Department of
Corrections for operation of the Arizona DWI Facility in Phoenix,
Arizona dated July 1995.(3)
10.31.1 Amendment Number One to the contract between CSC and the State of
Arizona, Department of Corrections for the operation of the Arizona
DWI Facility in Phoenix, Arizona dated April 1997.(7)
10.31.2 Amendment Number Two to the contract between CSC and the State of
Arizona, Department of Corrections for the operation of the Arizona
DWI Facility in Phoenix, Arizona dated December 1997.(7)
10.34 Asset Purchase Agreement dated as of December 15, 1995 between CSC
and Corrections Corporation of America.(3)
10.38 Contract between CSC and the U.S. Department of Justice, Federal
Bureau of Prisons for operation of a facility in Brooklyn,
New York.(3)
10.41 Contract between CSC and the State of Arizona for operation of the
DWI Secure Prison in Phoenix, Arizona dated January 1997.(4)
10.42 Contract between CSC and McKinley County New Mexico for operation
of the McKinley County, New Mexico Adult Detention Facility, dated
October 3, 1996.(4)
10.43 Contract between CSC and Colorado County, Texas for the operation
of the Colorado County, Texas Juvenile Residential Facility.(4)
10.44 Lease Agreement between CSC and Creston Realty Associates, L.P.,
dated October 1, 1996.(4)
10.45 Lease between CSC and Elberon Development Company.(1)
10.45.1 Assignment of Lease between CSC and Elberon Development Company.(4)
10.46 Contract between CSC and Bell County Texas for operation of the
Bell County Juvenile Residential Facility.(4)
10.46.1 Addendum A, dated November 4, 1997, to Management Agreement for the
Operation of the Bell County Juvenile Residential Facility.(8)
10.46.2 Amendment, dated April 1, 1998, to Management Agreement for the
Operation of the Bell County Juvenile Residential Facility.(8)
*10.47.1 Amended Employment Agreement between CSC and Ira M. Cotler dated
July 9, 1997.(5)
*10.48 Employment Agreement between CSC and Michael C. Garretson, dated
January 21, 1996.(4)
*10.48.1 Employment Agreement between CSC and Michael C. Garretson, dated
December 5, 1998.
10.49 Contract between CSC and Okaloosa County, Florida for the Design,
Build and Operation of a Moderate Risk Residential Program and a
High Risk Residential Program dated June 13, 1997.(5)
10.49.1 Amendment to Contract between CSC and Okaloosa County, Florida for
the Design, Build and Operation of a Moderate Risk Residential
Program and a High Risk Residential Program dated June 16, 1997.(5)
10.50 Contract between CSC and Grenada County, Mississippi for the
Operation and Management of a 200 bed jail dated
September 1, 1997.(6)
10.50.1 Lease Agreement between CSC and Grenada County dated
September 1, 1997.(6)
10.51.1 First Amendment to Asset Purchase Agreement between CSC and Dove
Development Corporation, Consolidated Financial Resources/Crystal
City, Inc., dated August 27, 1997.(6)
10.52 Contract between CSC and McKinley County, New Mexico for the
Operation and Management of the McKinley County Adult Detention
Facility in Gallup, New Mexico, executed August 21, 1997.(6)
10.54 Lease Agreement between CSC and Frio County dated
November 26, 1997.(7)
10.55 Contract between CSC Management de Puerto Rico and the Juvenile
Institutions Administration of the Commonwealth of Puerto Rico dated
December 22, 1997 for the operation and management of a secure
residential treatment program for youths at the Salinas facility in
Puerto Rico.(7)
10.56 Contract between CSC and the Juvenile Institutions Administration
dated February 6, 1998 for operation of the Metropolitan Juvenile
Detention Center in Puerto Rico.(7)
10.57 Contract between CSC and the Juvenile Institutions Administration
dated February 6, 1998 for operation of the Metropolitan Juvenile
Treatment Center in Puerto Rico.(7)
10.58 Contract between CSC and the New York State Department of Corrections
for Community Reintegration Services dated March 1, 1998.(7)
10.58.1 Contract between CSC and New York State Department of Corrections
for Community Reintegration Services, dated September 1, 1998.(10)
10.60 Credit facility with NationsBank and a syndicate of banks for up to
$30 million dated April, 1998.(8)
10.60.1 Amendment No. 1 to credit facility with NationsBank and a syndicate
of banks, dated October 16, 1998.(10)
10.61 Sublease for Sarasota, Florida office space dated April 9, 1998
between Lucent Technologies, Inc. and CSC and Landlord Consent to
Sublease.(8)
10.62 Contract between CSC, Dallas County, Texas and the Dallas County
Juvenile Board for the Implementation and Operation of the Dallas
County Secure Post-Adjudication Residential Facility dated
April 14, 1998.(8)
10.62.1 License Agreement dated June, 1998 between CSC, Dallas County, Texas
and the Dallas County Juvenile Board for the Operation and Management
of the Dallas County Secure Post-Adjudication Residential
Facility.(34)
10.63 Management Services Agreement May 26, 1998 between CSC and Jefferson
County, Texas for the Operation and Management of the Jefferson
County Detention Facility in Beaumont, Texas.(9)
10.64 Management Agreement between CSC and Dominion Management, Inc. dated
June 5, 1998 for the Operation of the Central Oklahoma Correctional
Facility.(9)
10.65 Operations and Management Agreement between CSC and South Fulton
Municipal Regional Jail Authority dated June 23, 1998 for Operation
and Management of the South Fulton Municipal Regional Jail
Facility.(9)
<PAGE> 29
10.66 Operations and Management Agreement between CSC and Newton County,
Texas dated June 12, 1998 for the Operation and Management of the
Newton County Correctional Center.(9)
10.67 Asset Purchase Agreement between CSC and the County of Dickens, Texas
dated July 14, 1998 for the purchase of the Dickens County
Correctional Facility.(9)
10.68 Service Agreement for the Paulding, Georgia, Regional Youth Detention
Center, dated July 21, 1998.(10)
10.69 Contract for Operation and Programming of a 96 Bed Secure Juvenile
Facility in Dallas, TX, dated August 26, 1998.(10)
10.70 Temporary Management Subcontract, dated October 16, 1998, for
Operation of the Crowley County Correctional Facility.(10)
10.70.1 Subcontract, Facility Use Agreement, and Asset Purchase by and among
CSC, Trans-American Development Associates, Inc. and FBA, L.L.C.
dated December 14, 1998.(36)
10.114 Construction/Installment Purchase and Management Services Contract
by and among CSC, the State of Nevada, Department of Human Resources,
Nevada Real Property Corporation and Clark & Sullivan
Constructors-Rite of Passage, Inc. dated February 2, 1999.(36)
11. Computation of Per Share Earnings.
23.1 Consent of Grant Thornton L.L.P., CSC's independent public
accountants.
27. Financial Data Schedule
- ------------
(1) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form SB-2 (Registration No. 33-71314-NY).
(2) Incorporated by reference to exhibit of same number filed with CSC's
Annual Report on Form-10-KSB for the year ended December 31, 1994.
(3) Incorporated by reference to exhibit of same number filed with the initial
filing of CSC's Annual Report on Form 10-KSB for the year ended
December 31, 1995.
(4) Incorporated by reference to exhibit of same number filed with CSC's
Annual Report on Form-10-KSB for the year ended December 31, 1996.
(5) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the six months ended June 30, 1997.
(6) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the nine months ended September 30, 1997.
(7) Incorporated by reference to exhibit of same number filed with CSC's
Annual Report on Form-10-K for the year ended December 31, 1997.
(8) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the three months ended March 31, 1998.
(9) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the six months ended June 30, 1998.
(10) Incorporated by reference to exhibit of same number filed with CSC's Form
10-Q for the nine months ended September 30, 1998.
(28) Incorporated by reference to CSC's Current Report on Form 8-K, filed with
the SEC on September 25, 1998.
(29) Incorporated by reference to CSC's Current Report on Form 8-K, filed with
the SEC on January 21, 1999
(33) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form S-1 (Registration Number 333-6457).
(34) Incorporated by reference to Exhibit 10.62 filed with CSC's Form 10-Q for
the six months ended June 30, 1998.
(35) Incorporated by reference to exhibit of same number filed with CSC's,
Current Report on Form 8-K, filed with the SEC on March 3, 1999.
(36) Incorporated by reference to exhibit of same number filed with CSC's
Registration Statement on Form S-4 (Registration Number 333-72003).
* Management Contract or Compensatory Plan or arrangement.
<PAGE> 30
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
CORRECTIONAL SERVICES CORPORATION
Registrant
By: /s/ James F. Slattery
------------------------------
James F. Slattery, President
Dated: March 30, 1999
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the Registrant and in the capacities and
on the dates indicated.
Signature Title Date
/s/ James F. Slattery
- ----------------------- President, Chief Executive Officer
James F. Slattery and Chairman of the Board March 30, 1999
/s/ Ira M. Cotler
- ----------------------- Executive Vice President,
Ira M. Cotler Chief Financial Officer March 30, 1999
/s/ Aaron Speisman
- ----------------------- Executive Vice President and Director March 30, 1999
Aaron Speisman
/s/ Stuart Gerson
- ----------------------- Director March 30, 1999
Stuart Gerson
/s/ Shimmie Horn
- ----------------------- Director March 30, 1999
Shimmie Horn
/s/ Melvin T. Stith
- ----------------------- Director March 30, 1999
Melvin T. Stith
<PAGE> 31
C O N T E N T S
Page
----
Report of Independent Certified Public Accountants F-1
Consolidated Balance Sheets as of December 31, 1998 and 1997 F-2
Consolidated Statements of Operations for the years ended
December 31, 1998, 1997 and 1996 F-3
Consolidated Statement of Stockholders' Equity for the years
ended December 31, 1998, 1997 and 1996 F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1998, 1997 and 1996 F-5-6
Notes to Consolidated Financial Statements F-7-28
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Correctional Services Corporation
We have audited the accompanying consolidated balance sheets of Correctional
Services Corporation and Subsidiaries as of December 31, 1998 and 1997, and
the related consolidated statements of operations, stockholders' equity and
cash flows for each of the three years in the period ended December 31, 1998.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Correctional
Services Corporation and Subsidiaries as of December 31, 1998 and 1997, and
the consolidated results of their operations and their consolidated cash flows
for each of the three years in the period ended December 31, 1998, in
conformity with generally accepted accounting principles.
As explained in Note A to the Consolidated Financial Statements, effective
January 1, 1998, the Company changed its method of accounting for deferred
development and start-up costs.
GRANT THORNTON LLP
Tampa, Florida
March 5, 1999
<PAGE> F-1
<TABLE>
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<CAPTION>
December 31,
--------------------------
ASSETS 1998 1997
----------- -----------
<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents $ 1,735,639 $ 5,216,106
Restricted cash 88,226 60,626
Accounts receivable, net 22,045,101 10,672,018
Receivable from sale of equipment and
leasehold improvements 994,082 1,380,000
Prepaid expenses and other 2,967,218 964,576
----------- -----------
Total current assets 27,830,266 18,293,326
BUILDING, EQUIPMENT AND LEASEHOLD IMPROVEMENTS -
AT COST, NET 29,500,664 23,717,172
LONG-TERM RECEIVABLE FROM SALE OF EQUIPMENT AND
LEASEHOLD IMPROVEMENTS - 879,082
OTHER ASSETS
Deferred development and start-up costs, net - 8,043,380
Deferred income taxes 4,113,462 -
Other 5,192,169 4,933,327
----------- -----------
$66,636,561 $55,866,287
----------- -----------
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $15,567,407 $ 7,539,062
Subordinated promissory notes 1,101,378 3,935,760
Deferred income taxes - 125,000
Current portion of long-term debt 2,000 1,800
----------- -----------
Total current liabilities 16,670,785 11,601,622
LONG-TERM DEBT 11,500,000 -
LONG-TERM MORTGAGE PAYABLE 319,408 321,491
LONG-TERM PORTION OF FACILITY LOSS RESERVES 224,000 755,000
COMMITMENTS AND CONTINGENCIES - -
STOCKHOLDERS' EQUITY
Preferred stock, $.01 par value, 1,000,000
shares authorized, none issued and outstanding - -
Common stock, $.01 par value, 30,000,000
shares authorized, 7,792,154 and 7,693,854
shares issued and outstanding
as of 1998 and 1997, respectively 77,923 76,938
Additional paid-in capital 43,015,663 42,260,247
Accumulated earnings (deficit) (5,171,218) 850,989
----------- -----------
37,922,368 43,188,174
----------- -----------
$66,636,561 $55,866,287
----------- -----------
----------- -----------
The accompanying notes are an integral part of these statements.
</TABLE>
<PAGE> F-2
<TABLE>
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<CAPTION>
Years Ended December 31,
-----------------------
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Revenues $97,928,498 $59,936,101 $31,501,658
----------- ----------- -----------
Expenses
Operating 71,255,338 43,472,402 21,928,329
General and administrative 16,264,107 11,859,399 8,655,628
Deferred development and start-up costs 11,629,841 - -
Fort Worth and New York Community
Corrections closure costs - - 3,329,000
----------- ----------- -----------
99,149,286 55,331,801 33,912,957
----------- ----------- -----------
Operating income (loss) (1,220,788) 4,604,300 (2,411,299)
Interest income (expense) (693,739) 444,077 (481,728)
----------- ----------- -----------
Income (loss) before income taxes and cumulative
effect of change in accounting principle (1,914,527) 5,048,377 (2,893,027)
Income tax expense (benefit) (755,700) 2,022,853 (1,025,000)
----------- ----------- -----------
Income (loss) before cumulative effect of
change in accounting principle (1,158,827) 3,025,524 (1,868,027)
Cumulative effect of change in accounting
principle, net of tax of $3,180,000 (4,863,380) - -
----------- ----------- -----------
Net income (loss) $(6,022,207) $ 3,025,524 $(1,868,027)
----------- ----------- -----------
----------- ----------- -----------
Basic earnings (loss) per common share:
Income (loss) before cumulative effect of
change in accounting principle $ (0.15) $ 0.39 $ (0.32)
Cumulative effect of change in accounting
principle, net of tax (0.63) 0.00 0.00
----------- ----------- -----------
Net income (loss) $ (0.78) $ 0.39 $ (0.32)
----------- ----------- -----------
----------- ----------- -----------
Diluted earnings (loss) per common share:
Income (loss) before cumulative effect of
change in accounting principle $ (0.15) $ 0.37 $ (0.32)
Cumulative effect of change in accounting
principle, net of tax (0.63) 0.00 0.00
----------- ----------- -----------
Net income (loss) $ (0.78) $ 0.37 $ (0.32)
----------- ----------- -----------
----------- ----------- -----------
Number of shares used in per common share
computation:
Basic 7,761,224 7,675,220 5,781,853
Diluted 7,761,224 8,117,922 5,781,853
The accompanying notes are an integral part of these statements.
</TABLE>
<PAGE> F-3
<TABLE>
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Years ended December 31, 1998, 1997 and 1996
<CAPTION>
Additional Accumulated
Common Paid-in Earnings
Stock Capital (Deficit) Total
--------- ----------- ---------- ----------
<S> <C> <C> <C> <C>
Balance at January 1, 1996 $ 49,117 $ 9,479,436 $ (306,508) $ 9,222,045
Common stock issuance through
Public offering 24,375 30,483,681 - 30,508,056
Exercise of stock options 649 411,338 - 411,987
Exercise of warrants 2,467 1,648,138 - 1,650,605
Net loss - - (1,868,027) (1,868,027)
--------- ----------- ---------- -----------
Balance at December 31, 1996 76,608 42,022,593 (2,174,535) 39,924,666
Reduction in stock
Issuance cost - 46,902 - 46,902
Exercise of stock options 26 12,443 - 12,469
Exercise of warrants 304 178,309 - 178,613
Net income - - 3,025,524 3,025,524
--------- ----------- ---------- -----------
Balance at December 31, 1997 76,938 42,260,247 850,989 43,188,174
Exercise of stock options 162 125,928 - 126,090
Exercise of warrants 823 629,488 - 630,311
Net loss - - (6,022,207) (6,022,207)
---------- ----------- ---------- -----------
Balance at December 31, 1998 $ 77,923 $43,015,663 $(5,171,218) $37,922,368
---------- ----------- ----------- -----------
---------- ----------- ----------- -----------
The accompanying notes are an integral part of this statement.
</TABLE>
<PAGE> F-4
<TABLE>
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<CAPTION>
Years Ended December 31,
------------------------
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) $(6,022,207) $3,025,524 $(1,868,027)
Adjustments to reconcile net income (loss) to
Adjustments to reconcile net income (loss)
to net cash provided by (used in)
operating activities:
Depreciation and amortization 1,847,584 2,164,110 778,462
Amortization of subordinated note discount 51,276 88,515 173,247
Amortization of deferred loan costs 102,303 250,836 243,258
Deferred income tax expense (benefit) (1,058,462) 1,620,000 (375,000)
Cumulative effect of change in accounting
principle, net of tax 4,863,380 - -
Ft. Worth deferred development cost writedown - - 98,446
Ft. Worth and NYCC facilities asset impairment - - 564,050
Changes in operating assets and liabilities:
Accounts receivable (11,373,083) (6,648,398) (649,391)
Refundable income taxes - 562,499 (650,000)
Prepaid expenses and other current assets (2,002,462) 474,900 63,333
Accounts payable and accrued liabilities 8,416,007 2,643,283 377,877
Reserve for Ft. Worth and NYCC
facilities loss reserves (918,841) (828,763) 2,566,504
Reserve for New Jersey facility closure costs - - (300,000)
------------ ------------ ------------
Net cash provided by (used in)
operating activities (6,094,505) 3,352,506 1,022,759
------------ ------------ ------------
Cash flows from investing activities:
Capital expenditures (7,623,072) (12,648,961) (6,018,195)
Development and start-up costs - (3,409,590) (4,317,276)
(Increase) decrease in restricted cash - unexpended
construction and maintenance funds (27,600) (60,626) 750,000
------------ ------------ ------------
Net cash used in investing activities (7,650,672) (16,119,177) (9,585,471)
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from issuance of common stock - - 30,508,056
Proceeds from short term and long-term
borrowings, net 11,500,000 325,000 -
Payments on long-term borrowings (1,883) (1,709) (4,000,000)
Proceeds (payments) on short-term debt, net - - (1,221,022)
Payment of subordinated notes (2,885,658) - -
Proceeds from sale of equipment and leasehold
improvements 1,265,000 1,248,800 -
Debt issuance costs (431,093) (100,000) -
Net proceeds from exercise of stock options
and warrants 756,401 185,388 426,890
Long-term portion of prepaid lease 375,082 (4,335,482) -
Other assets (313,139) (271,529) 24,349
------------ ------------ ------------
Net cash provided by (used in)
financing activities 10,264,710 (2,949,532) 25,738,273
------------ ------------ ------------
The accompanying notes are an integral part of these statements.
<PAGE> F-5
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
Years Ended December 31,
------------------------
1998 1997 1996
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents $ (3,480,467) $(15,716,203) $ 17,175,561
Cash and cash equivalents at beginning of period 5,216,106 20,932,309 3,756,748
------------ ------------ ------------
Cash and cash equivalents at end of period $ 1,735,639 $ 5,216,106 $ 20,932,309
------------ ------------ ------------
------------ ------------ ------------
Supplemental disclosures of cash flows information:
Cash paid (refunded) during the period for:
Interest $ 371,360 $ 436,178 883,900
------------ ------------ ------------
------------ ------------ ------------
Income taxes, net $ 329,095 $ (211,609) $ (2,200)
------------ ------------ ------------
The accompanying notes are an integral part of these statements.
</TABLE>
<PAGE> F-6
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Correctional Services Corporation and Subsidiaries operate and manage
detention and correctional facilities for federal, state and local government
agencies. On August 1, 1996, the Company's Certificate of Incorporation was
amended which changed the name of the Company to Correctional Services
Corporation and increased the number of authorized shares of Common Stock from
10,000,000 to 30,000,000 shares.
1. Principles of Consolidation
The consolidated financial statements as of December 31, 1996 include
the accounts of Correctional Services Corporation and its wholly-owned
subsidiaries, Esmor, Inc., Correctional Services Management, Inc., Esmor
Brooklyn, Inc., Esmor Seattle, Inc., Esmor Manhattan, Inc., Esmor
Mansfield, Inc., Esmor Houston, Inc., Esmor New Jersey, Inc., Esmor Ft.
Worth, Inc., Esmor Canadian, Inc. and Esmor Travis, Inc. (collectively
the "Company" or the "companies"). As of December 31, 1996 all of
the aforementioned subsidiaries (except Esmor, Inc. and Esmor New
Jersey, Inc.) were merged into the parent company. An additional
corporation, CSC Management de Puerto Rico, Inc., was added to the
Company's consolidated group as of July 1, 1997. All significant
intercompany balances and transactions have been eliminated.
2. Use of Estimates in Consolidated Financial Statements
In preparing consolidated financial statements in conformity with
generally accepted accounting principles, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosures of contingent assets and liabilities at the date of the
consolidated financial statements, as well as the reported amounts of
revenues and expenses during the reporting period. Actual results could
differ from those estimates. For discussion of the realization of
Receivable from Sale of Equipment and Leasehold Improvements and costs
pertaining to New York and Fort Worth closures, see Note L.
3. Revenue Recognition
Revenue is recognized at the time the service is provided. Revenues are
principally derived from contracts with federal, state and local
government agencies.
4. Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with
original maturities of three months or less to be cash equivalents.
Included in the restricted cash of $88,226 and $60,626 at December 31,
1998 and 1997 is a major maintenance and repair reserve fund established
by the Company as required by contracts in Polk and Pahokee, Florida.
In addition, at December 31, 1998, included is $25,238 of money in
escrow for a land purchase.
5. Building, Equipment and Leasehold Improvements
Building, equipment and leasehold improvements are carried at cost.
Depreciation of buildings is computed using the straight-line method
over twenty and thirty year periods. Depreciation of equipment is
computed using the straight-line method over a five-year period.
Leasehold improvements are being amortized over the shorter of the life
of the asset or the applicable lease term (ranging from five to twenty
years). For tax purposes accelerated methods of depreciation are
utilized.
<PAGE> F-7
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
6. Capitalized Interest
The Company capitalizes interest on facilities during construction. During
1998 the Company capitalized interest of $72,000 related to
construction at the Gallup, New Mexico, Frio, Texas and Canadian,
Texas facilities. During 1997 interest of $371,500 was
capitalized relating to the construction of the Florence, Arizona
facility.
7. Deferred Development and Start-up Costs
For the years ended December 31, 1997 and 1996 deferred development
costs consisted of costs that could be directly associated with a
specific anticipated contract and, if the recoverability from that
contract was probable, they were deferred until the anticipated contract
was awarded. At the commencement of operations of the facility, the
deferred development costs were amortized over the life of the contract
(including option periods) as development expense but not to exceed five
years. Costs of unsuccessful or abandoned contracts were charged to
expense when their recovery was not considered probable. Facility
start-up costs, which included costs of initial employee training,
travel and other direct expenses were incurred (after a contract is
awarded) in connection with the opening of new facilities. These costs
were capitalized and amortized on a straight-line basis over the term
(including option periods) of the contracts not to exceed five years.
In the fourth quarter of 1998 the Company elected to early adopt the
AICPA's Statement of Position 98-5 (SOP 98-5), Accounting for Start-up
Costs. The new accounting change requires the Company to expense start-
up and deferred development costs as incurred, rather than capitalizing
and subsequently amortizing such costs. SOP 98-5 required the Company
to record a cumulative effect of change in accounting of $4,863,380 (net
of tax benefit of $3,180,000) retroactively to January 1, 1998 and a
current year effect of expensing startup and deferred development costs
as incurred throughout the remainder of the year totaling $11,629,841.
Amortization of startup and deferred development of $2,084,142
previously recognized during 1998 was offset against general and
administrative expenses. The proforma effect of the change in
accounting principle for startup and deferred development costs would
have been to decrease net income by $1,333,000 ($0.16 per share) and
$2,294,000 ($0.40 per share) for the years ended December 31, 1997 and
1996, respectively.
8. Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of
On January 1, 1996, the Company adopted Statement of Financial
Accounting Standards No. 121, Accounting for the Impairment of Long-
Lived Assets and for Long- Lived Assets to be Disposed Of ("SFAS No.
121"). The standards for SFAS No. 121 require that the Company
recognize and measure impairment losses of long-lived assets and certain
identifiable intangibles and to value long-lived assets to be disposed
of. The primary objectives under SFAS No. 121 are to (a) recognize an
impairment loss of an asset whenever events or changes in circumstances
indicate that its carrying amount may not be recoverable or (b) if
planning to dispose of long-lived assets or certain identifiable
intangibles, such assets have been reflected in the Company's
consolidated financial statements at the net asset value less cost to
sell. The effect, adoption and application of SFAS No. 121 was not
considered material to the consolidated financial statements in 1998 and
1997.
9. Income Taxes
The Company utilizes an asset and liability approach for financial
accounting and reporting for income taxes. The primary objectives of
accounting for income taxes are to (a) recognize the amount of tax
payable for the current year and (b) recognize the amount of deferred
tax liability or asset based on management's assessment of the tax
consequences of events that have been reflected in the Company's
consolidated financial statements.
<PAGE> F-8
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (Continued)
10. Earnings Per Share
Basic earnings per share is computed by dividing net income by the
weighted-average number of common shares outstanding. In the computation
of diluted earnings per share, the weighted-average number of common
shares outstanding is adjusted for the effect of all potential common
stock and the average share price for the period is used in all cases
when applying the treasury stock method to potentially dilutive
outstanding options.
11. Stock Based Compensation
In October 1995, the Financial Accounting Standards Board issued SFAS
No. 123, Accounting for Stock-Based Compensation ("SFAS No. 123"). With
respect to stock options granted to employees, SFAS No. 123 permits
companies to continue using the accounting method promulgated by the
Accounting Principles Board Opinion No. 25 ("APB No. 25"), Accounting
for Stock Issued to Employees, to measure compensation or to adopt the
fair value based method prescribed by SFAS No. 123. Management has not
adopted SFAS No. 123's accounting recognition provisions related to
stock options granted to employees and accordingly, will continue
following APB No. 25's accounting provisions.
12. Comprehensive Income
The Company adopted SFAS No. 130 Reporting Comprehensive Income
effective January 1, 1998. This statement establishes standards for
reporting and display of comprehensive income and its components in a
full set of general purpose financial statements. The requirements of
this statement include: (a) classifying items of other comprehensive
income by their nature in a financial statement and (b) displaying the
accumulated balance of other comprehensive income separately from
retained earnings and additional paid-in capital in the equity section
of the balance sheet. The Company's comprehensive income (loss) is
substantially equivalent to net income (loss) for the years ended
December 31, 1998, 1997 and 1996.
13. Segment Reporting
In 1998, the Company adopted SFAS No. 131 Disclosures about Segments of
an Enterprise and Related Information effective for fiscal years
beginning after December 15, 1997. This statement supercedes SFAS No.
14 Financing Reporting for Segments of a Business Enterprise and amends
SFAS No. 94 Consolidation of All Majority-Owned Subsidiaries. This
statement requires annual financial statements to disclose information
about products and services, geographic areas and major customers based
on a management approach, along with interim reports. The management
approach requires disclosing financial and descriptive information about
an enterprise's reportable operating segments based on reporting
information the way management organizes the segments for making
decisions and assessing performance. It also eliminates the requirement
to disclose additional information about subsidiaries that were not
consolidated. For the year ending December 31, 1998 the adoption had no
material impact to the Company's disclosure information and its results
of operations.
14. Reclassifications
Certain reclassifications have been made to the 1997 and 1996 balances
to conform to the 1998 presentation.
<PAGE> F-9
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE B - CONTRACTUAL AGREEMENTS WITH GOVERNMENT AGENCIES
The Company currently operates thirty-two secure and non-secure corrections or
detention programs in the states of Arizona, Colorado, Florida, Georgia,
Louisiana, Mississippi, New Mexico, New York, Oklahoma, Texas, Washington and
Puerto Rico for Federal, state and local government agencies. The Company's
secure facilities include a detention and processing center for illegal
aliens, intermediate sanction facilities for parole violators and a shock
incarceration facility, which is a military style "boot camp" for youthful
offenders. Non-secure facilities include residential programs such as
community correction facilities for federal and state offenders serving the
last six months of their sentences and non-residential programs such as home
confinement supervision.
The Company is compensated on the basis of the number of offenders held in
each of its facilities. The Company's contracts may provide for fixed per
diem rates or monthly fixed rates. Some contracts also provide for minimum
guarantees.
The terms of each contract vary and can be from one to five years. Contracts
for more than one year have renewal options which either are exercisable on
mutual agreement between the Company and the government agency or are
exercisable by the government agency alone.
NOTE C - FAIR VALUE OF FINANCIAL INSTRUMENTS
For the Company, financial instruments consist principally of cash and cash
equivalents, subordinated promissory notes and long-term debt.
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate
that value:
1. Cash and Cash Equivalents
The carrying amount reasonably approximates fair value because of the
short maturity of those instruments.
2. Accounts Receivable, Accounts Payable and Accrued Expenses
The carrying amount reasonably approximates fair value because of the
short-term maturities of these items.
3. Subordinated Promissory Notes and Long-Term Debt
The fair value of the Company's subordinated promissory notes and long-
term debt is estimated based upon the quoted market prices for the same
or similar issues or on the current rates offered to the Company for
debt of the same remaining maturities. As of December 31, 1998 and 1997
the estimated fair values of the subordinated promissory notes and long-
term debt approximated their carrying values.
4. Receivable from Sale of Equipment and Leasehold Improvements
The carrying value of the receivable from sale of equipment and leasehold
improvements at December 31, 1998 and 1997 is $994,082 and
$2,259,082, respectively. CSC believes the fair value of the
receivable from sale of equipment and leasehold improvements
approximated the carrying amount based on the interest rates for
similar receivables. (See Note L-1(b)).
<PAGE> F-10
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE D - PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets consist of the following:
December 31,
1998 1997
----------- -----------
Prepaid insurance $ 189,069 $ 153,875
Prepaid real estate taxes 184,803 133,110
Prepaid and refundable income taxes 116,103 87,501
Prepaid rent - current portion 399,234 383,333
Prepaid expenses 1,347,366 200,844
Other 730,643 5,913
----------- -----------
$ 2,967,218 $ 964,576
----------- -----------
----------- -----------
NOTE E - BUILDING, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Building, equipment and leasehold improvements, at cost, consist of the
following:
December 31,
1998 1997
----------- -----------
Buildings and land $23,336,938 $21,125,911
Equipment 7,045,904 3,464,003
Leasehold improvements 2,828,646 998,502
----------- -----------
33,211,488 25,588,416
Less accumulated depreciation (3,710,824) (1,871,244)
----------- -----------
$29,500,664 $23,717,172
----------- -----------
----------- -----------
Depreciation expense for the years ended December 31, 1998, 1997 and 1996 was
approximately $1,840,000, $972,000, and $640,000, respectively.
<PAGE> F-11
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE F - OTHER ASSETS
Deferred development and start-up costs are comprised of the following:
December 31,
1998 1997
----------- -----------
Development costs $ - $ 4,343,247
Start-up costs - 5,301,229
----------- -----------
9,644,476
Less accumulated amortization - (1,601,096)
----------- -----------
$ - $8,043,380
----------- -----------
----------- -----------
The December 31, 1997 balance of $8,043,380 includes development costs of
approximately $1,005,500 related to unawarded contracts. Deferred development
at December 31, 1997 includes $637,500 paid to Colorado County, Texas for the
Company's contractual commitment to finance 25% of the facility's construction
cost. Colorado County, Texas is obligated to fund the balance. The amounts
were written off upon adoption of SOP 98-5 effective January 1, 1998 (See
Note A).
Other assets consist of the following:
December 31,
1998 1997
----------- -----------
Deferred refinancing costs, net $ 522,119 $ 193,330
Deposits 503,642 355,160
Deferred lease option costs 10,652 18,656
Prepaid rent - net of current portion 3,960,400 4,335,482
Other 195,356 30,699
----------- -----------
$ 5,192,169 $ 4,933,327
----------- -----------
----------- -----------
During 1997, the Company entered into a prepaid lease agreement with a
facility located in Frio, Texas. The term of the lease is for twelve years
and began in December 1997. The current portion of the lease payments are
included in prepaid expenses (Note D) and the long-term portion is included
above in other assets.
<PAGE> F-12
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE G - ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities consist of the following:
December 31,
1998 1997
----------- -----------
Accounts payable $ 3,972,632 $ 1,906,454
Accrued expenses 6,245,960 2,610,299
Payroll and related taxes 2,374,394 1,523,475
Construction costs (including retainage) 2,371,189 499,250
Other 8,332 16,843
Accrued loss reserves for Fort Worth
and New York Community Corrections 594,900 982,741
----------- -----------
$15,567,407 $ 7,539,062
----------- -----------
----------- -----------
NOTE H - DEBT
Long-term debt consists of the following:
December 31,
1998 1997
-------- --------
Mortgage payable due in semi-annual
installments of $17,083 which includes
principal plus interest at 10%
per annum due in full October 2006
collateralized by land with a book
value of $434,000. $321,408 $323,291
Less current portion (2,000) (1,800)
-------- --------
$319,408 $321,491
-------- --------
-------- --------
In April 1998 the Company finalized a new five-year credit facility with a
syndicate of banks led by NationsBank N.A. The syndicated facility provides
for up to $30 million in borrowings for working capital, construction and
acquisition of correctional facilities, and general corporate purposes all
collateralized by the Company's accounts receivable. The line is comprised of
two components, a $10 million revolving credit and $20 million operating lease
facility for the construction, ownership and acquisition of correctional
facilities. The $10 million revolving credit bears interest generally at
LIBOR plus 2.5%. The Company incurs rent expense under the $20 million
operating lease facility at an adjusted LIBOR base lease rate as defined in
the agreement. Borrowings under the line are subject to compliance with
financial covenants and borrowing base criteria. The total amount outstanding
on the revolver is payable in full on March 30, 2001.
<PAGE> F-13
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE H - DEBT - (Continued)
In August of 1998 the Company initiated an amendment to its current credit
agreement with a syndicates of banks led by NationsBank N.A. Under the
amendment, which was finalized on October 16, 1998, the Company received an
additional $17,500,000 temporary increase in its credit facility. The
amendment represents interim financing until the earlier of the date that the
Company receives proceeds from junior capital or June 15, 1999. Upon receipt
of the additional junior capital, the increase in the credit facility will
become permanent. As of December 31, 1998 the total amount outstanding on the
revolver was $11,500,000 and the total amount outstanding on the operating
lease facility was $16,652,000.
Through a series of transactions that closed in July, August and September
1995, the Company issued 5,676.6 units at $1,000 per unit, in a private
placement of its securities ("1995 Private Placement"). Each unit consists
of (i) a 10% subordinated promissory note due July 1, 1998 in the principal
amount of $1,000, interest payable quarterly and (ii) a four year warrant to
purchase 154 shares of Common Stock at $7.75 per share. The Company received
proceeds of $5,676,600 in connection with the 1995 Private Placement and
recorded the market value of the warrants, $365,000, as promissory note
discount amortized over three years. The net proceeds from such issuance were
used to purchase and renovate the Phoenix, Arizona facility. On July 1, 1998
the Company's subordinated promissory notes of $3,936,000 became payable.
Management granted note holders the option to extend their notes through June
30, 1999. A total of $1,101,000 was extended and the balance was repaid.
At December 31, 1998, aggregate maturities of long-term debt were as follows:
Year ending December 31,
------------------------
1999 2,000
2000 2,300
2001 2,500
2002 2,800
2003 3,000
Thereafter 308,808
--------
TOTAL $321,408
--------
--------
<PAGE> F-14
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE I - RENTAL AGREEMENTS
The Company has operating leases for certain of its facilities and certain
machinery and equipment which expire at various dates through 2002.
Substantially all the facility leases provide for payment by the Company of
all property taxes and insurance.
Future minimum rental commitments under non-cancelable leases as of
December 31, 1998 are as follows:
Related
Year ending December 31, Total Companies
----------------------- ---------- ----------
1999 $3,173,000 $1,263,000
2000 2,505,000 702,000
2001 1,346,000 480,000
2002 777,000 480,000
2003 566,000 480,000
Thereafter -
---------- ----------
$8,367,000 $3,405,000
---------- ----------
---------- ----------
The Company leases one facility from a related party under a sublease
arrangement, which expires April 30, 2000. The Company has two five-year
options to renew this sublease arrangement. Residential and commercial
tenants occupy a portion of this building and annex.
The Company leases a second facility from a related party. The lease
commenced January 1, 1999 and expires December 31, 2003. Thereafter, the
Company has two successive five-year options to renew. In addition to the
base rent, the Company pays taxes, insurance, repairs and maintenance on this
facility.
The Company leases a third facility from a related party. The lease commenced
October 1, 1996 and has three successive one-year options to renew. In
addition to the base rent, the Company pays taxes, insurance, repairs and
maintenance on this facility.
Rental expense for the years ended December 31, 1998, 1997 and 1996 aggregated
$2,653,000, $1,439,000 and $1,549,000, respectively, and is included in
general and administrative expenses. Rent expenses for the year ended
December 31, 1998 and 1997 is net of $694,000 and $539,000, respectively
related to rental costs incurred at the Company's Fort Worth and New York
facilities that was written off against accrued closure costs. (See Note L)
Rent to related companies aggregated $1,260,000, $1,260,000, and $1,090,000
for the years ended December 31, 1998, 1997 and 1996, respectively.
<PAGE> F-15
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE J - INCOME TAXES
The income tax expense (benefit) consists of the following:
Years Ended December 31,
-----------------------
1998 1997 1996
----------- ---------- -----------
Current:
Federal $ 85,000 $ 242,853 $ (695,000)
State and local - 160,000 45,000
Deferred:
Federal, state and local (4,020,700) 1,620,000 (375,000)
----------- ---------- -----------
$(3,935,700) $2,022,853 $(1,025,000)
----------- ---------- -----------
----------- ---------- -----------
The following is a reconciliation of the federal income tax rate and the
effective tax rate as a percentage of pre-tax income:
Years Ended December 31,
-----------------------
1998 1997 1996
------ ------ ------
Statutory federal rate (34.0)% 34.0% (34.0)%
State taxes, net of federal tax benefit (5.1) 5.0 1.4
Non-deductible items 0.8 0.9 1.5
Other (1.2) 0.2 (4.3)
----- ----- -----
(39.5)% 40.1% (35.4)%
----- ----- -----
----- ----- -----
Deferred income taxes reflect the tax effected impact of temporary differences
between the amounts of assets and liabilities for financial reporting purposes
and such amounts as measured by tax laws and regulations. The components of
the Company's deferred tax assets (liabilities) are summarized as follows:
December 31,
1998 1997
---------- -----------
Facility closure costs $ 319,506 $ 678,000
Vacation accrual 180,431 129,000
Startup and development costs 3,235,423 (1,021,000)
Accrued expenses 461,966 392,000
Depreciation (653,801) ( 373,000)
Net operating loss carryforward 194,898 -
Alternative minimum tax credit carryforward 375,039 70,000
---------- -----------
4,113,462 ( 125,000)
Valuation allowance - -
---------- -----------
$4,113,462 $( 125,000)
---------- -----------
---------- -----------
The Company, after considering its pattern of profitability and its
anticipated future taxable income, believes it is more likely than not that
the deferred tax assets will be realized.
<PAGE> F-16
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE K - STOCKHOLDERS' EQUITY
During September 1995, the Company completed the private placement of 496,807
shares of Common Stock at $7.75 per share. The Company received gross
proceeds of $3,850,254 and incurred issuance costs of $380,556. The net
proceeds were used for its Phoenix, Arizona facility.
In connection with the 1995 Private Placement, warrants issued with units
totaled 874,198, which are exercisable at $7.75 per share. During the years
ended December 31, 1998 and 1997, 35 and 6,950 of such warrants were exercised
simultaneously with the tendering of subordinated notes. At December 31, 1998
and 1997, warrants outstanding totaled 650,510 and 650,545, respectively.
(See Note H).
In connection with the 1995 Private Placement, the Company sold to the agent
for the private placement, for a nominal sum, warrants to purchase from the
Company 59,681 shares of common stock. The warrants are exercisable for a
period of five years commencing September 15, 1995 at an exercise price of
$10.00. During the year ended December 31, 1998, 33,341 of such warrants were
exercised.
On February 2, 1994, the Company completed a public offering of 833,333 shares
of Common Stock. The net proceeds received by the Company after deducting
applicable issuance costs and expenses aggregated $4,105,020. In connection
with the public offering, the Company sold to the representative of the
underwriters, for a nominal sum, warrants to purchase from the Company 109,375
shares of Common Stock. The warrants are exercisable for a period of four
years commencing February 2, 1995 at an exercise price of 107% of the initial
public offering price ($4.76), increasing to 114% of the initial public
offering price on February 2, 1996, 121% of the initial public offering price
on February 2, 1997 and 128% of the initial public offering price on February
2, 1998. During the year ended December 31, 1998, 48,666 of such warrants were
exercised at an exercise price of $6.10 per share. During the year ended
December 31, 1997, 7,000 and 16,500 of such warrants were exercised at an
exercise price of $5.43 and $5.77 per share, respectively.
On September 12, 1996, the Company completed a public offering of 2,070,000
shares of Common Stock at $13.625 per share. The net proceeds of the public
offering after deducting applicable issuance costs and expenses aggregated
approximately $25,790,000. In October, 1996, pursuant to the underwriters'
over-allotment option, the Company sold an additional 367,500 shares of Common
Stock at $13.625 per share. The net proceeds received from the exercise of
the over-allotment option aggregated approximately $4,716,000. The net
proceeds of the public offering and the over-allotment option were used to
repay bank loans of $7,198,468 (See Note H) and are being used for
construction, start-up and related costs of the Florence, Arizona and Eagle
Lake, Texas facilities and for start-up costs of the Polk and Pahokee, Florida
facilities and for general corporate purposes.
<PAGE> F-17
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - COMMITMENTS AND CONTINGENCIES
1(a). Fort Worth and New York Closures
During the fourth quarter of 1996, the Company decided to discontinue
the operations of two programs, one in Fort Worth, Texas and the other
in New York, New York. The decision to discontinue these operations was
based on management's expectation of the outcome from negotiations
occurring during the fourth quarter of 1996 with the respective
contracting agencies. The New York State contract expiring in 1997 was
not expected to be renewed. In addition, the Fort Worth community was
against the continued housing of residents at the Company's halfway
house. These factors resulted in substantially reduced occupancy levels
and operating losses being sustained at both programs. As a result, the
Company accrued certain expenses at December 31, 1996, and has written
down certain assets related to each program.
In December 1996, the Company notified the contracting agency, Texas
Department of Criminal Justice, that the entire Fort Worth facility will
be closed by April 1, 1997. The Company estimated the costs to be
incurred to exit the facility and charged these costs to operations at
December 31, 1996. Such expenses include the write-off of fixed assets,
deferred development and start-up costs, and a provision for rent
expense, real estate taxes and insurance through the lease expiration
date of May 1999. The Company began winding down the operations of the
program in the first quarter of 1997 and closed a portion of the
facility. Subsequently, the Company was asked by the TDCJ to leave the
remaining portion of the facility open until an alternative site could
be located.
In August of 1997, the Company signed an amendment to its contract with
the TDCJ which significantly lowered the expected population of the
facility in addition to increasing the per diem rate to $33.00 from
$29.95. The Company has continued to run the program at the reduced
levels. Management evaluated the terms of the amended contract with the
TDCJ and determined that it would result in a loss. This loss
approximated the remaining unamortized closure reserve associated with
its original decision to close the Ft. Worth facility. The Company
believes that the remaining balance of the contract loss reserves
reserved at December 31, 1998 totaling $70,000 is adequate to offset the
estimated losses to be incurred under the amended contract. The
Company's decision to continue to operate the facility in accordance
with the terms of the amended contract is based on its desire to offset
a portion the fixed obligations of the Company pertaining to the
building. These obligations will continue regardless of whether or not
the Company actually operates the program.
The Company has written-off a portion of fixed assets and expenses
during the year ended December 31, 1996 related to the program it
manages for the New York State Department of Corrections at the
Company's Brooklyn and Manhattan, New York locations. Such expenses
include rents and related costs, real estate taxes and insurance from
April 1, 1997 through the expiration of the locations' operating leases
on December 31, 1998 and April 30, 2000, respectively. The Company
continued to operate its programs for the Federal Bureau of Prisons at
these locations. However, management estimated it would incur a loss
under its contract to operate the BOP program at its Manhattan facility
and accordingly at December 31, 1996 established a reserve for the
estimated loss totaling approximately $646,000.
In the second quarter of 1997, the Company closed its Manhattan location
and placed all of its remaining residents in its Brooklyn location.
Throughout the year, the Company continued its efforts to ascertain the
likelihood of increased population and a long-term contract. In the
third quarter of 1997, the Company understood the State would be issuing
a formal Request for Proposal relating to its Community Corrections
Programs. In addition, the State indicated to the Company that the
population rates would improve. At that time the Company decided to
re-open its Manhattan location and to prepare to bid on the pending RFP.
In February of 1998, the Company was awarded contracts to operate two
Community Corrections Programs in its Manhattan location for a total
capacity of 130. Although the Company signed contracts to operate these
two programs, the State did not give a minimum occupancy guarantee and
did not increase the per diem rate. It is the Company's belief that the
populations in the Manhattan, DOC and BOP programs and the Brooklyn DOC
program will continue to fluctuate and such operations will result in
losses under the contractual obligations. During the second half of 1998
the Company experienced a reduction in the Manhattan DOC population. In
response, the Company submitted a formal budget request for additional
funding. In February 1999 the budget was approved by the State and the
<PAGE> F-18
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - COMMITMENTS AND CONTINGENCIES - (Continued)
1(a). Fort Worth and New York Closures
Company was awarded an additional $600,000 to cover operating losses going
forward through the expiration of the Company's operating leases on
April 30, 2000. This additional funding will increase the Company's
remaining balance of facility loss reserves as of January 1, 1999. The
Company believes that the unamortized balance of the closure and
contractual loss reserves originally recorded in connection with its
decision to discontinue these operations totaling $1,496,000 is adequate
to offset the estimated losses to be incurred by the Company under these
contracts at December 31, 1998. The Company's decision to operate these
programs is based on its desire to offset a portion fixed obligations of
the Company pertaining to the lease of the buildings. These lease
obligations will continue regardless of whether or not the Company
actually operates a program.
The December 31, 1996 write-down of $3,329,000 represents actual charges
to operations incurred for each program at December 31, 1996 and the
present value of those expenses subsequent to April 1, 1997,
attributable to the closure of each program which total $3,600,000
discounted using an interest rate of 9% per annum.
The composition of the writedown at December 31, 1996 is as follows:
Fixed assets, net $ 564,050
Deferred development and start-up costs, net 98,446
Facility loss reserves 2,566,504
Closure related costs incurred in 1996 100,000
----------
$3,329,000
----------
----------
Fixed assets writedowns consist primarily of leasehold improvements and
certain equipment used specifically at the Ft. Worth and New York
facilities. Facility loss reserves are management's estimate of the
losses incurred by the Company under fixed contractual obligations to
deliver its program services at the Ft. Worth and New York facilities.
These costs include rent and related facility costs and the Company's
direct costs to deliver the program services net of any revenues
generated under the contracts.
Facility loss reserves are as follows:
December 31,
1998 1997
---------- ----------
Facility loss reserves $ 818,900 $1,737,741
Less current portion 594,900 982,741
---------- ----------
Long-term portion of facility loss reserves $ 224,000 $ 755,000
---------- ----------
---------- ----------
For each of the aforementioned programs, the operating losses incurred
until the facilities are closed will be reflected in the financial
statements applicable to those periods.
Revenues and operating income (loss) for the Ft. Worth and New York
programs for the years ended December 31, 1998, 1997 and 1996 are as
follows (in thousands):
December 31,
--------------------------
1998 1997 1996
------ ------ ------
Revenues $6,132 $4,911 $7,666
Operating income (loss) $ (940) $ (892) $ (326)
Operating income (loss) for the year ended December 31, 1998 and 1997 is
net of amortization of contract loss reserves costs totaling $918,841
and $828,764, respectively.
<PAGE> F-19
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - COMMITMENTS AND CONTINGENCIES - (Continued)
1(b). New Jersey Facility Closure
Due to a disturbance at the Company's Elizabeth, New Jersey facility on
June 18, 1995, the facility was closed and the INS moved all detainees
located therein to other facilities. On December 15, 1995, the Company
and a publicly-traded company (the "Buyer"), which also operates and
manages detention and correctional facilities, entered into an asset
purchase agreement pursuant to which the Buyer purchased the
equipment, inventory and supplies, contract rights and records,
leasehold and land improvements of the Company's New Jersey facility for
$6,223,000. The purchase price is payable in non-interest bearing
monthly installments of $123,000 (through August 1999) effective January
1997, the month the Buyer commenced operations of the facility. If the
INS re-awards the contract to the Buyer, the unpaid balance is payable
in monthly non-interest bearing installments of $123,000 beginning in
the first month of the re-award term and the Company will record as
income the unpaid balance. On June 13, 1996 the Company, the Buyer and
the INS executed a novation agreement whereby the Buyer became the
successor-in-interest to the contract with the INS. In addition, the
Company's lease for the New Jersey facility was assigned to the Buyer.
The Company has no continuing obligation with respect to the Elizabeth,
New Jersey facility.
The receivable from sale of the equipment and leasehold improvements
reflected in the balance sheet at December 31, 1998 and December 31,
1997, represents the present value of the consideration to be received
through August 1999 of $994,082 and $2,259,082, respectively,
($4,428,000 discounted using an interest rate of 11.5% per annum)
reduced by the estimated closing costs (legal and consulting) and the
facility's estimated carrying costs through December 31, 1996. During
the year ended December 31, 1996 the entire reserve established at
December 31, 1995 for carrying and closing costs was reduced by
approximately $300,000 of payments for rent and other carrying and
closing costs.
2. Legal Matters
In May 1993, a former employee of the Company filed suit in the United
States District Court, Southern District of New York, claiming he was
intentionally assaulted by employees of the Company and claiming
$5,000,000 in damages on each of six causes of action. A motion to
dismiss is pending. In January 1996, a lawsuit was filed with the
Supreme Court of New York, County of Kings, by a former employee
alleging sexual harassment and discrimination, physical assault, rape
and negligent screening of employees and claiming damages of $4,000,000
plus attorney fees. This case was dismissed in July 1998.
In March 1996, former inmates at one of the Company's facilities filed
suit in the Supreme Court of the State of New York, County of Bronx on
behalf of themselves and others similarly situated, alleging personal
injuries and property damage purportedly caused by negligence and
intentional acts of the Company and claiming $500,000,000 each for
compensatory and punitive damages, which suit was transferred to the
United States District Court, Southern District of New York, in April
1996. In July 1996, seven detainees at one of the Company's facilities
(and certain of their spouses) filed suit in the Superior Court of New
Jersey, County of Union, seeking $10,000,000 each in damages arising
from alleged mistreatment of the detainees, which suit was transferred
to the United States District Court, District of New Jersey, in August
1996. In July 1997, former detainees of the Company's Elizabeth, New
Jersey facility filed suit in the United States District Court for the
District of New Jersey. The suit claims violation of civil rights,
personal injury and property damage allegedly caused by the negligent
and intentional acts of the Company. No monetary damages have been
stated. Through stipulation, all these actions will now be heard in the
United States District Court for the District of New Jersey. This will
streamline the discovery process, minimize costs and avoid inconsistent
rulings.
The Company believes the claims made in each of the foregoing actions to
be without merit and will vigorously defend such actions. The Company
further believes the outcome of these actions and all other current legal
proceedings to which it is a party will not have a material adverse effect
upon its results of operations, financial condition or liquidity.
However, there is an inherent risk in any litigation and a decision
adverse to the Company could be rendered.
<PAGE> F-20
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - COMMITMENTS AND CONTINGENCIES - (Continued)
3. Contracts
Renewal of government contracts (Note B) is subject to, among other
things, appropriations of funds by the various levels of government
involved (Federal, state or local). Also, several contracts contain
provisions whereby the Company may be subject to audit by the government
agencies involved. These contracts also generally contain "termination
for the convenience of the government" and "stop work order" clauses
which generally allow the government to terminate a contract without
cause. In the event one of the Company's larger contracts is
terminated, it may have a material adverse effect on the Company's
operations.
4. Officers' Compensation
The Company has entered into an employment agreement with its President
which expires February 17, 2001 and provides for minimum annual
compensation of $270,000, cost of living increases, use of an
automobile, reimbursement of business expenses, health insurance,
related benefits and a bonus equal to 5% of pre-tax profits in excess of
$1,000,000, such bonus not to exceed $200,000.
The Company entered into an employment agreement with its Chief
Operating Officer (COO) which expired on January 20, 1999 and provided
for minimum annual compensation of $115,000, annual salary increases,
automobile allowances, reimbursement of business expenses, health or
disability insurance, related benefits, a bonus equal to 3% of pre-tax
profits in excess of $1,000,000, such bonus not to exceed $75,000, and a
grant of options to purchase 100,000 shares of the Company's common
stock. On December 5, 1998 CSC entered into a three year employment
agreement with Mr. Garretson, which provides for minimum annual
compensation of $200,000, annual salary increases, automobile allowances,
reimbursement of business expenses, health or disability insurance, and
related benefits. The agreement also entitles Mr. Garretson to an annual
bonus of $100,000 in the first year and $110,000, and $120,000 in the
second and third years respectively, provided that the Company's total bed
count at each year-end exceeds certain amounts.
The Company's current employment agreement with its Chief Financial
Officer (CFO) was extended in July 1997 and has a term of three years
with automatic annual renewal provisions. The CFO receives minimum
annual compensation of $135,000, annual salary increases, automobile
allowances and a bonus equal to 3% of pre-tax profits in excess of
$1,000,000, such bonus not to exceed $75,000. The agreement provides
for the negotiation of the CFO's annual compensation for the period
after February 24, 1999 at an amount not less than $149,000. In January
1999, as part of the renegotiations of compensation for the period
commencing February 26, 1999, the Company increased the CFO's base
compensation to $200,000 with an annual bonus not to exceed $100,000.
In addition, the CFO was granted five-year options to purchase 25,000
shares of the Company's common stock at $11.125 per share. The options
become exercisable at the annual rate of 8,333 shares, commencing on the
date of grant.
5. Concentrations of Credit Risk
Approximately 98.4%, 97.8% and 98.0% of the Company's revenues for the
years ended December 31, 1998, 1997 and 1996, respectively, relate to
amounts earned from Federal, state and local contracts. The Company's
contracts in 1998, 1997 and 1996 with government agencies where revenues
exceeded 10% of the Company's total consolidated revenues were as
follows:
Years Ended December 31,
-----------------------
1998 1997 1996
---- ---- ----
Florida Department of Juvenile Justice 21% 30% -
Immigration and Naturalization Services - - 12%
Arizona Department of Corrections 13% 11% 11%
Texas Department of Criminal Justice 13% 10% 17%
Various Agencies in the State of Texas 17% 20% 21%
U.S. Bureau of Prisons - 10% 20%
New York Department of Corrections - - 11%
<PAGE> F-21
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - COMMITMENTS AND CONTINGENCIES - Continued
6. Fiduciary Funds
The Company has acted as a fiduciary disbursing agent on behalf of a
governmental entity whereby certain governmental entity funds are
maintained in a separate bank account. These funds have been paid to
the general contractor, which constructed the government owned
facilities. The Company is responsible for managing the construction
process. The Company has no legal rights to the funds nor the
constructed facility, and accordingly, such funds do not appear in the
accompanying financial statements.
7. Construction Commitments
The Company has various construction contracts related to ongoing
projects totaling approximately $8,371,930 and $1,439,000 as of
December 31, 1998 and 1997.
8. Letter of Credit
In connection with the Company's workmen's compensation insurance
coverage requirements, the Company has obtained a $258,000 Letter of
Credit from its bank in favor of the insurance carrier.
NOTE M - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share in accordance with SFAS No. 128:
Years ended December 31,
-----------------------
1998 1997 1996
----------- ---------- -----------
Numerator:
Net income (loss) $(6,022,207) $3,025,524 $(1,868,027)
----------- ---------- -----------
----------- ---------- -----------
Denominator:
Basic earnings per share:
Weighted average shares outstanding 7,761,224 7,675,220 5,781,853
Effect of dilutive securities - stock
options and warrants - 442,702 -
Denominator for diluted earnings
per share 7,761,224 8,117,922 5,781,853
----------- ---------- ----------
----------- ---------- ----------
Net income (loss) per common
share - basic $ (0.78) $ 0.39 $ (0.32)
----------- ---------- ----------
----------- ---------- ----------
Net income (loss) per common
share - diluted $ (0.78) $ 0.37 $ (0.32)
----------- ---------- ----------
----------- ---------- ----------
The effect of dilutive securities of 490,909, 40,967 and 513,194 for the years
ended December 31, 1998, 1997 and 1996 were not included in the calculation of
diluted net loss per common share as the effect would have been anti-dilutive.
<PAGE> F-22
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE N - STOCK OPTIONS
In October 1993, the Company adopted a stock option plan (the "Stock Option
Plan"). This plan provides for the granting of both: (i) incentive stock
options to employees and/or officers of the Company and (ii) non-qualified
options to consultants, directors, employees or officers of the Company. The
total number of shares that may be sold pursuant to options granted under the
stock option plan is 500,000. The Company, in June 1994, adopted a Non-
employee Directors Stock Option Plan, which provides for the grant of non-
qualified options to purchase up to 196,875 shares of the Company's Common
Stock.
Options granted under both plans may not be granted at a price less than the
fair market value of the Common Stock on the date of grant (or 110% of fair
market value in the case of persons holding 10% or more of the voting stock of
the Company). Options granted under the Stock Option Plan will expire not
more than five years from the date of grant.
In 1996, the Company granted 215,000 options to two key employees and a
director of the Company. The exercise price of the options is equal to the
fair market value of the Common Stock at the date of the grant. These options
vest over a two-year period and expire five years from the date of grant.
The Company has adopted only the disclosure provisions of SFAS No. 123. It
applies APB No. 25 and related interpretations in accounting for its plans and
does not recognize compensation expense for its stock based compensation plans
other than for restricted stock. If the Company had elected to recognize
compensation expense based upon the fair value at the grant date for awards
under these plans consistent with the methodology prescribed by SFAS No. 123,
the Company's net income (loss) per share would be adjusted to the pro forma
amounts indicated below:
Years Ended December 31,
------------------------
1998 1997 1996
----------- ---------- -----------
Net income (loss)
As reported $(6,022,207) $3,025,524 $(1,868,027)
Pro forma (unaudited) (7,608,908) 2,215,352 $(2,716,910)
Income (loss) per common
share - basic
As reported $ (0.78) $ 0.39 $ (0.32)
Pro forma (0.98) 0.29 (0.47)
Income (loss) per common
share - diluted
As reported $ (0.78) $ 0.37 $ (0.32)
Pro forma (unaudited) (0.98) 0.27 (0.47)
These pro forma amounts may not be representative of future disclosures
because they do not take into effect pro forma compensation expense related to
grants made before 1995. The fair value of these options was estimated at the
date of grant using Black-Scholes option-pricing model with the following
weighted-average assumptions for the years ended December 31, 1998, 1997 and
1996.
Years Ended December 31,
------------------------
1998 1997 1996
------- ------- ----------
Volatility 68% 70% 72%
Risk free rate 5.25% 6.00% 5.64%
Expected life 3 years 3 years 3.32 years
The weighted average fair value of options granted during 1998, 1997 and 1996
for which the exercise price equals the market price on the grant date was
$6.27, $5.65 and $5.71, respectively, and the weighted average exercise
prices were $12.82, $11.32, and $10.56, respectively. The weighted
average fair value and weighted average exercise price of options granted in
1995 for which the exercise price exceeded the market price on the grant date
were $10.50 and 20.63, respectively.
<PAGE> F-23
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE N - STOCK OPTIONS - (Continued)
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially effect the fair value
estimate, in management's opinion the existing models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options.
Stock option activity during 1998, 1997 and 1996 is summarized below:
Weighted-Average
Options Exercise Price
------- ----------------
Balance, January 1, 1996 365,188 $ 8.35
Granted 293,700 10.56
Exercised (64,888) 6.37
Canceled (43,750) 12.67
------- -----
Balance, December 31, 1996 550,250 9.40
Granted 170,750 11.32
Exercised (2,625) 4.76
Canceled (21,950) 16.01
------- -----
Balance, December 31, 1997 696,425 9.75
Granted 212,750 12.80
Exercised (16,258) 7.76
Canceled (45,125) 12.37
------- -------
Balance, December 31, 1998 847,792 $ 10.44
------- -------
------- -------
<PAGE> F-24
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE N - STOCK OPTIONS - (Continued)
The following table summarizes information concerning currently outstanding
and exercisable stock options at December 31, 1998:
Weighted-Average
Remaining
Range of Number Contractual Life Weighted-Average
Exercise Prices Outstanding (Years) Exercise Price
--------------- ----------- ---------------- ---------------
$ 4 - 8 176,000 0.31 $ 5.92
8 - 12 325,542 2.47 $ 9.37
12 - 18 316,250 2.08 $13.36
18 - 21 30,000 1.46 $19.38
-------
847,792
-------
-------
Range of Number Weighted-Average
Exercise Prices Exercisable Exercise Price
--------------- ----------- ----------------
$ 4 - 8 176,000 $ 5.92
8 - 12 310,292 $ 9.31
12 - 18 279,750 $13.42
18 - 21 30,000 $19.38
NOTE O - EMPLOYEE BENEFIT PLANS
On July 1, 1996, the Company adopted a contributory retirement plan under
Section 401(k) of the Internal Revenue Code, for the benefit of all employees
meeting certain minimum service requirements. Eligible employees can
contribute up to 15% of their salary but not in excess of $10,000 in 1998 and
$9,500 in 1997 and 1996. The Company's contribution under the plan amounts to
20% of the employees' contribution. In 1998 and 1997, the Company contributed
$127,000 and $62,000, respectively, to the plan.
NOTE P - SELF INSURANCE
During 1996, the Company decided to self-insure for workers' compensation
insurance. The Company has obtained an aggregate excess policy, which limits
the Company's exposure to a maximum of $750,000 and $600,000 as of December
31, 1998 and 1997, respectively. The estimated insurance liability totaling
$744,000 and $451,000 on December 31, 1998 and 1997, respectively is based
upon review by the Company and an independent insurance broker of claims filed
and claims incurred but not reported.
On October 1, 1997 the Company entered into a group health plan subject to a
self-insured retention and subject to a loss limit of $100,000 per individual.
At December 31, 1998 the plan had 1,275 participants and medical insurance
liability of $207,000. This liability represents the maximum claim exposure
under the plan less actual payments made during 1998. In addition, the
Company is subject to a maximum terminal liability of $353,000. Since
termination is not anticipated, no terminal accruals were made at December 31,
1998.
<PAGE> F-25
CORRECTIONAL SERVICES CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE Q - MERGER
On September 24, 1998, the Company announced that it had entered into a
definitive merger agreement with Youth Services International, Inc. (YSI)
under which each outstanding share of YSI common stock will be converted into
.375 shares of CSC common stock. On March 2, 1999 the Company announced that
the parties had agreed to amend the merger agreement to reduce the exchange to
.275 shares of CSC's stock for each outstanding share of YSI common stock.
Under the merger agreement, YSI will become a wholly owned subsidiary of CSC.
Management expects the merger to be completed in the first quarter of 1999.
Transaction cost consisting of financial advisory fees, legal and accounting
services and travel costs of $727,000 as of December 31, 1998 were
capitalized. These non-recurring costs will be charged to operations during
the fiscal quarter in which the merger is consummated. If circumstances arise
that would prevent or cause the merger to terminate these costs would be
expensed at that time.
NOTE R - SUBSEQUENT EVENTS
On February 8, 1999 the Company announced it had finalized a contract to
operate a 96 bed secure treatment facility in Clark County, Nevada. The
Company believes that this facility is the first of its kind to be privatized
in that state.
On February 23, 1999, the Company announced that it had mutually agreed with
the Administration of Juvenile Institutions not to renew the contract for the
120-bed Bayamon Detention Center in Bayamon, Puerto Rico effective May 1,
1999.
<PAGE> F-26
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Correctional Services Corporation
And Subsidiaries
In connection with our audit of the financial statements of Correctional
Services Corporation and Subsidiaries referred to in our report dated March 5,
1999, which is included on page F-1 of this Form 10-K for the year ended
December 31, 1998, we have also audited Schedule II for each of the three
years in the period ended December 31, 1998. In our opinion, the schedule
presents fairly, in all material respects, the information required to be set
forth therein.
GRANT THORNTON LLP
Tampa, Florida
March 5, 1999
<PAGE> F-27
<TABLE>
<CAPTION>
SCHEDULE II
CORRECTIONAL SERVICES CORPORATION
AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
Column A Column B Column C Column D Column E
- -------- ---------- -------- -------- --------
Additions
---------
Charged to
Balance at Charged Other Deductions Balance at
Beginning To Costs Accounts Describe End of
Description of Period and Expenses Describe (1) Period
- ---------- ---------- ------------ --------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Year Ended December 31, 1996
Deducted from asset accounts:
Allowance for doubtful accounts $ - $ 18,000 $ - $ - $ 18,000
Year Ended December 31, 1997
Deducted from asset accounts:
Allowance for doubtful accounts $ 18,000 $ 272,000 $ - $ - $ 290,000
Year Ended December 31, 1998
Deducted from asset accounts:
Allowance for doubtful accounts $ 290,000 $ - $ - $ 233,559 $ 56,441
(1)
(1) $203,740 of the total represents reversal of the amount subsequently
collected. The remaining reduction was due to write-offs.
</TABLE>
<PAGE> F-28
EMPLOYMENT AGREEMENT
EMPLOYMENT AGREEMENT dated as of December 5th, 1998, by and
between CORRECTIONAL SERVICES CORPORATION, A Delaware corporation with
offices located at 1819 Main Street, Suite 1000, Sarasota, Florida 34236
(the "Company") and Michael C. Garretson, residing at 5537 Sago palm
Drive, Orlando, Florida 32819 (the "Executive").
W I T N E S S E T H:
WHEREAS, the Company wishes to assure itself of the services of
the Executive during the term of this Agreement; and
WHEREAS, the Executive is willing to serve in the employ of the
Company upon the terms and conditions herein provided.
NOW, THEREFORE, the Company and the Executive, intending to be
legally bound, hereby agree as follows:
1. Employment. The Company hereby employs the Executive who accepts
employment with the Company as its Executive Vice President to
perform duties as the Company's President may from time to time
determine and assign to him. The Executive shall devote all of
his business time, attention and energy to his duties and to the
business and affairs of the Company and shall not engage, directly
or indirectly, in any other business, employment or occupation,
whether or not such other business, employment or occupation is
competitive with the business of the Company.
2. Term. The term of this Agreement shall commence as of January 21,
1999 (the "Commencement Date") and shall terminate on the date
immediately preceding the third anniversary date of the
Commencement Date (the "Term").
<PAGE>
3. Compensation
3.1 As full compensation for all services to be rendered by the
Executive to the Company pursuant to the terms of this Agreement the
Company shall pay to the Executive a base salary of (a) $200,000 for the
first year (b) $208,000 for the second year (c) $218,000 for the 3rd
year. The base salary shall be payable at such regular times and
intervals as the Company customarily pays its employees from time to
time.
For the calendar year ending December 31, 1999, Executive will be
entitled to a bonus of $100,000 providing CSC's total count of beds
under contract exceeds the year-end total on December 31, 1998 by 3,000
beds.
For Calendar year ending December 31, 2000 Executive will be entitled
to a bonus of $110,000 providing CSC's total count of beds under contact
exceeds the December 31, 1998 total by 6,250 beds.
For Calendar year ending December 31, 2001 Executive will be entitled
to a bonus of $120,000 providing CSC's total count of beds under contact
exceeds the December 31, 1998 total by 9,750 beds.
All beds added to CSC's inventory, to include future acquisitions,
will count towards these incentive goals except for the Youth Services
International acquisition and any facility expansion.
All bonuses are payable on March 1st.
<PAGE>
3.2 The Company shall deduct from the Executive's Base Salary,
bonus or incentive compensation any federal, state or city withholding
taxes, social security contributions and any other amounts which may be
required to be deducted or withheld by the Company pursuant to any
federal, state or city laws, rules or regulations.
3.3 The Company shall reimburse the Executive, or cause him to
be reimbursed, for all reasonable out-of-pocket expenses incurred by him
in the performance of his duties hereunder or in furtherance of the
business and/or interests of the Company; provided, however, that the
Executive shall have previously furnished to the Company an itemized
account, satisfactory to the Company, in substantiation of such
expenses.
3.4 In lieu of the Executive's participation in the Company's
health, accident and hospitalization insurance programs the Company will
provide the Executive with disability insurance which, in the event of
Executive's disability, will provide Executive with annualized
disability payments equal to not less than fifty (50%) percent of the
Executive's Base Salary.
3.5 During the Term hereof, the Executive shall be entitled to
an automobile allowance of seven hundred and fifty ($750.00) dollars per
month to be applied to fuel, repairs, insurance, lease or loan payments
and the like. Any expenses in excess thereof shall be the
responsibility of the Executive.
4. Grant of Stock Options. the Company has previously granted to
Executive a stock option as evidenced by a Stock Option Agreement
between the parties dated January 21st, 1996.
<PAGE>
5. Termination
5.1 If the Executive dies or becomes disabled during the Term,
his Base Compensation and all other rights under this Agreement shall
terminate at the end of the month during which death occurs or the
Executive is deemed disabled. For purposes of this Agreement, the
Executive shall be deemed to be "disabled" if he has been unable to
perform his duties for three (3) consecutive moths or an aggregate of
five (5) months in any consecutive twelve (12) month period.
5.2 The Company shall, in the manner described in Section 5.3
hereof, have the right to terminate the employment of Executive under
this Agreement and Executive shall forfeit the right to receive any and
all further payments hereunder, other than the right to receive any
compensation then due and payable to Executive pursuant to Section 3
hereof to the date of termination, if Executive shall have committed any
of the following acts of defaults:
(A) Executive shall have committed any material breach of any of
the provisions or covenants of this Agreement;
(B) Executive shall have committed any act of gross negligence
in the performance of his duties or obligations hereunder,
or, without proper cause, shall have willingly refused or
habitually neglected to perform his employment duties or
obligations under this Agreement;
(C) Executive shall have committed any material act of willful
misconduct, dishonesty or breach of trust which directly or
indirectly causes the company or any of its subsidiaries to
suffer any loss, fine, civil penalty, judgment, claim,
damage or expense;
<PAGE>
(D) Executive shall have been indicted or convicted of, or shall
have plead guilty or nolo contendere to, a felony or
indictable offense (unless committed in the reasonable, good
faith belief that the Executive's actions were in the best
interests of the Company and its stockholders and would not
violate criminal law);
(E) A court or other tribunal of competent jurisdiction shall
have issued an order prohibiting the Company from employing
Executive; or
(F) Executive shall have violated the Company's discipline rules
as set forth in the Company's Employee handbook, as may be
modified from time to time at the sole discretion of the
Company.
5.3 If the Company elects to terminate this Agreement as set
forth above, it shall deliver notice thereof to the Executive,
describing with reasonable detail, the action or omission of the
Executive constituting the act of default (the "Termination Notice"),
and thereupon no further payments of any type shall be made or shall be
due or payable to Executive hereunder, except as provided in the first
sentence of Section 5.2 hereof; provided, however, with respect to any
act of default set forth in clauses (a), (b) and (f) of Section 5.2,
prior to any termination by the Company of Executive's employment,
Executive shall first have an opportunity to cure or remedy such act of
default within thirty (30) days following the Termination Notice.
5.4 In the event the Company merges into, consolidates with or
otherwise reorganizes or combines (the "Merger") with another company,
wherein immediately following such Merger, the shareholders of the
Company prior to the Merger own either (a) less than 50% of the
outstanding voting stock of the Company (if the Company is the survivor
of the Merger), or (b) less than fifty (50%) percent of the outstanding
voting stock of the surviving entity, the Executive shall have the
right, at his option, to terminate his employment hereunder upon 90 days
<PAGE>
advance notice ("Notice") to the Company. Notice of Executive's
intention to terminate his employment hereunder shall be given to the
Company within thirty (30) day period shall result in the automatic
lapse of such right of termination. If Notice of termination is duly
given by the Executive or is given at any time thereafter by the
Company, then the Company shall pay the Executive within fifteen (15)
days following termination an amount equal to the greater of (y) the
Base Salary described in Paragraph 3.1 hereof through the balance of the
term of this Agreement, or (z) the Base Salary paid to Executive during
the year immediately preceding termination of employment, plus, within
thirty (30) days after such information can be determined in the normal
course, the bonus described in Paragraph 3.2 hereof shall be computed
paid through the date of termination of Executive's employment.
6. Restrictive Covenants
6.1 Confidential Information: Covenant not to Disclose. The
Executive covenants and undertakes that he will not at any time during
or after the termination of his employment hereunder reveal, divulge, or
make known to any person, firm, corporation, or other business
organization (other than the Company or its affiliates, if any), or use
for his own account any trade secrets, or secret or confidential
information of any kind used by the Company during his employment by the
Company, and made known (whether or not with the knowledge and
permission of the Company, whether or not developed, devised, or
otherwise created in whole or in part by the efforts of the Executive,
and whether or not a maker of public knowledge unless as a result of
authorized disclosure) to the Executive by reason of his employment by
the Company. The Executive further covenants and agrees that he shall
retain such knowledge and information which he has acquired or shall
acquire and develop during his employment respecting such trade secrets,
and secret or confidential information in trust for the sole benefit of
the Company, its successors and assigns.
<PAGE>
6.2 Covenant Not to Compete: Non-Interference.
6.2.1 The Executive covenants and undertakes that, during
the period of his employment hereunder and for a period of two (2)
years thereafter, he will not, without the prior written consent
of the Company, directly or indirectly, and whether as principal,
agent, officer, director, Executive, consultant, or otherwise,
alone or in association with any other person, firm, corporation,
or other business organization, carry on, or be engaged,
concerned, or take part in, or render services to, or own, share
in the earnings of, or invest in the stock, bonds, or other
securities of any person, firm, corporation, or other business
organization (other than the Company or its affiliates, if any)
engaged in a business in the Continental United States which is
similar to or in competition with any of the businesses carried on
by the Company (a "Similar Business"); provided, however, that the
Executive may invest in stock, bonds, or other securities of any
Similar Business (but without otherwise participating in the
activities of such Similar Business) if (i) such stock, bonds, or
other securities are listed on any national or regional securities
exchange or have been registered under Section 12(g) of the
Securities Exchange Act of 1934; and (ii) his investment does not
exceed, in the case of any class of the capital stock of any one
issuer, 2 % of the issued and outstanding shares, or in the case
of bonds or other securities, 2 % of the aggregate principal
amount thereof issued and outstanding.
6.2.2 The Executive covenants and undertakes that during
the period of his employment hereunder and for a period of two (2)
years thereafter he will not, whether for his own account or for
the account of any other person, firm, corporation or other
business organization, interfere with the Company's relationship
with, or endeavor to entice away from the Company, any person,
firm, corporation or other business organization who or which at
<PAGE>
any time during the term of the Executive's employment with the
Company was an employee, consultant, agent, supplier, or a
customer of, or in the habit of dealing with, the Company.
6.2.3 If any provision of this Article 6.2 is held by any
court of competent jurisdiction to be unenforceable because of the
scope, duration or area of applicability, such provision shall be
deemed modified to the extent the court modifies the scope,
duration or area of applicability of such provision to make it
enforceable.
6.3 Covenant to Report.
6.3.1 The Executive shall promptly communicate and disclose
to the Company all intellectual property, including, without
limitation, inventions, discoveries, improvements and new
writings, in any form whatsoever ("Intellectual Property"),
including, without limitation, all software, programs, routines,
techniques, procedures, training aides and instructional manuals
conceived, developed or made by him during his employment by the
Company, whether solely or jointly with others, and whether or not
patentable or copyrightable, (i) which relate to any matters or
business of the type carried on or being developed by the Company,
or (ii) which result from or are suggested by any work done by him
in the course of his employment by the Company. The Executive
shall also promptly communicate and disclose to the Company all
other data obtained by him concerning the business or affairs of
the Company in the course of his employment by the Company.
6.3.2 All written materials, records and documents made by
the Executive or coming into his possession during the Term
concerning the business or affairs of the Company shall be the
sole property of the Company; and, upon the termination of the
Term or upon the request of the Company during the Term, the
<PAGE>
Executive shall promptly deliver the same to the Company. The
Executive agrees to render to the Company such reports of the
activities undertaken by the Executive or conducted under the
Executive's direction pursuant hereto during the Term as the
Company may request.
6.3.3 The Executive will assign to the Company all rights in
and to the Intellectual Property and will assist the Company or
its designee during or subsequent to his employment, at the
Company's sole expense, in filing patent and/or copyright
applications on, and obtaining for the Company's benefit, patents
and/or copyrights for, such Intellectual Property in any and all
countries, and will assign to the Company all such patent and/or
copyright applications, all patents and/or copyrights which may
issue thereon, said Intellectual Property to be and remain the
sole and exclusive property of the Company or its designee whether
or not patented and/or copyrighted.
7. Injunction. It is acknowledged and agreed by the Executive that a
breach or violation by the Executive of any of the covenants or
agreements contained herein may cause irreparable harm and damage to the
Company, the monetary amount of which may be virtually impossible to
ascertain. As a result, the Executive acknowledges and agrees that the
Company shall be entitled to an injunction, without posting bond or
security in connection therewith, from any court of competent
jurisdiction enjoining and restraining any breach or violation of any of
the restrictive covenants contained in Article 6 of this Agreement by
the Executive, either directly or indirectly, and that such right to an
injunction shall be cumulative and in addition to such other rights or
remedies the Company may possess. Nothing contained in this Article 7
shall be construed to prevent the Company from seeking and recovering
from the Executive damages sustained as a result of any breach or
violation by the Executive of any of the covenants or agreements
contained herein, and in the event of any such breach or violation, the
Company may avail itself of all remedies available both in law and at
equity.
8. Compliance with Other Agreements. The Executive represents and
warrants to the Company that the execution of this Agreement by him and
the performance of his obligations hereunder will not, with or without
the giving of notice, the passage of time or both, conflict with, result
in the breach of any provision of or the termination of, or constitute a
default under, any agreement to which the Executive is a party or by
which the Executive is or may be bound.
9. Miscellaneous.
9.1 Notices. All notices and other communications hereunder
shall be in writing and shall be deemed given if delivered personally or
mailed, postage prepaid, by certified or registered mail (return receipt
requested) to the parties at the following address or at such other
address for a party as shall be specified by such party by like notice:
If to the Company:
Correctional Services Corporation
1819 Main Street, Suite 1000
Sarasota FL 34236
Attention: President
If to the Executive:
Michael C. Garretson
5537 Sago Palm Drive
Orlando, FL 32819
<PAGE>
9.2 Benefit. This Agreement shall be binding upon and inure to
the benefit of the respective parties hereto and their legal
representatives, successors and assigns. Insofar as the Executive is
concerned, this Agreement being personal, cannot be assigned.
9.3 Validity. The invalidity or unenforceability of any
provisions hereof shall in no way affect the validity or enforceability
of any other provision.
9.4 Entire Agreement. The Agreement constitutes the entire
Agreement between the parties with respect to the subject matter hereof
and supersedes all prior agreements between them. It may only be changed
or terminated by an instrument in writing signed by both parties. The
covenants of the Executive contained in Article 8 of this Agreement
shall survive the termination of Executive's employment.
9.5 Florida Law to Govern. This Agreement shall be governed by,
construed and interpreted in accordance with the laws of the State of
Florida.
9.6 Corporate Action. The execution and delivery of this
Agreement by the Company has been authorized and approved by all
requisite corporate action. /
9.7 Waiver of Breach. The failure of either party to insist on
strict adherence to any provision of this Agreement on any occasion
shall not be considered a waiver or deprive that party of the right
thereafter to insist upon strict adherence to that provision or any
other provision of this Agreement. The waiver of any provision of this
Agreement must be in a writing signed by the party waiving such
compliance.
9.8 Counterparts. This Agreement may be executed in one or more
counterparts, each of which shall be deemed an original, and all of
which, when taken together, shall constitute one and the same
instrument.
<PAGE>
9.9 Paragraph Headings. Paragraph headings are inserted herein for
convenience only and are not intended to modify, limit or alter the
meaning of any provision of this Agreement.
IN WITNESS WHEREOF, the parties hereto have set their hands and executed
this Agreement as of the day and year first above written.
CORRECTIONAL SERVICES CORPORATION
By: /s/ James F. Slattery
-----------------------
James F. Slattery
President
By: /s/ Michael C. Garretson
--------------------------
Michael C. Garretson
Executive Vice President
Computation Of Per Share Earnings
The following table sets forth the computation of basic and diluted earnings
per share in accordance with SFAS No. 128:
Years ended December 31,
1998 1997 1996
Numerator:
Net income (loss) $(6,022,207) $3,025,524 $(1,868,027)
Denominator:
Basic earnings per share:
Weighted average shares outstanding 7,761,224 7,675,220 5,781,853
Effect of dilutive securities - stock
options and warrants - 442,702 -
Denominator for diluted earnings per
share 7,761,224 8,117,922 5,781,853
Net income (loss) per common
share - basic $ (0.78) $ 0.39 $ (0.32)
Net income (loss) per common
share - diluted $ (0.78) $ 0.37 $ (0.32)
The effect of dilutive securities of 490,909, 40,967 and 513,194 for the years
ended December 31, 1998, 1997 and 1996 were not included in the calculation of
diluted net loss per common share as the effect would have been anti-dilutive.
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We have issued our reports dated March 5, 1999 accompanying the
consolidated financial statements and schedule of Correctional Services
Corporation and Subsidiaries that are included in the Company's Form
10-K for the year ended December 31, 1998. We hereby consent to the
incorporation by reference of said reports in the Registration Statement
of Correctional Services Corporation and Subsidiaries on Form S-4
(Registration No. 333-72003, effective March 4, 1999).
GRANT THORNTON LLP
Tampa, Florida
March 5, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000914670
<NAME> Correctional Services Corporation
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 1,735,639
<SECURITIES> 0
<RECEIVABLES> 22,045,101
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 27,830,266
<PP&E> 29,500,664
<DEPRECIATION> 1,847,584
<TOTAL-ASSETS> 66,636,561
<CURRENT-LIABILITIES> 16,670,785
<BONDS> 0
0
0
<COMMON> 77,923
<OTHER-SE> 37,922,368
<TOTAL-LIABILITY-AND-EQUITY> 66,636,561
<SALES> 97,928,498
<TOTAL-REVENUES> 97,928,498
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 99,149,286
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 693,739
<INCOME-PRETAX> (1,914,527)
<INCOME-TAX> (755,700)
<INCOME-CONTINUING> (1,158,827)
<DISCONTINUED> 0
<EXTRAORDINARY> (4,863,380)
<CHANGES> 0
<NET-INCOME> (6,022,207)
<EPS-PRIMARY> ($0.78)
<EPS-DILUTED> ($0.78)
</TABLE>
