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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED: DECEMBER 31, 1998
Commission File No. 1-13852
CET ENVIRONMENTAL SERVICES, INC.
(Exact Name of Registrant as Specified in its Charter)
CALIFORNIA 33-0285964
(State or Other Jurisdiction of (I.R.S. Employer Identification Number)
Incorporation or Organization)
7670 SOUTH VAUGHN COURT, STE. 130, ENGLEWOOD, COLORADO 80112
(Address of Principal Executive Offices, Including Zip Code)
Issuer's telephone number, including area code: (303) 708-1360
Securities registered pursuant to Section 12(b) of the Act: COMMON STOCK
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes X No _
As of March 19, 1999, 6.3 million shares of the Registrant's Common Stock
were outstanding. The aggregate market value of voting stock held by
nonaffiliates of the Registrant was approximately $5.0 million.
Check if there is no disclosure of delinquent filers in response to Item 405
of Regulation S-K contained in this form, and no disclosure will 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. []
DOCUMENTS INCORPORATED BY REFERENCE:
The information required by Part III is incorporated by reference from the
Registrant's definitive proxy statement to be filed with the Commission
pursuant to Regulation 14A not later than 120 days after the end of the
fiscal year covered by this report.
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PART I
ITEM 1. BUSINESS.
THE COMPANY
The Company was incorporated in February 1988 under the name "Thorne
Environmental, Inc." to conduct business in environmental consulting,
engineering, remediation, and construction. The Company's initial growth
resulted from its successful performance of emergency response cleanup
services in certain western states and the Trust Territory of the Pacific
Islands for the U.S. Government. The Company has since developed a broad
range of expertise in non-proprietary technology-based environmental
remediation and water treatment techniques for both the public and private
sectors throughout North America and the Trust Territory of the Pacific
Islands. The Company was purchased by its existing majority shareholders in
November 1991, and for the last seven years has engaged in a program of
expansion through internal client development and add-on contracts, the
acquisition of personnel and assets in desirable geographic locations, and
the acquisition of smaller companies involved with target growth
technologies. The Company has built a backlog in excess of $360 million of
government work through the award of several multi-year contracts with the
Environmental Protection Agency, the Department of Defense, and the
Department of Transportation. The Company has achieved and maintains a
balance between its commercial and government sector business through an
aggressive industrial marketing strategy. To date, the Company has performed
remediation services for both public and private sector customers at more
than 2,000 sites.
The Company's strategy has been to distinguish itself in the market by
providing full-service environmental contracting, industrial water and
wastewater treatment, and emergency response services. Through several major
government contracts and a diversified commercial client base, the Company
provides turnkey waste management for a complete range of water, soil, and
air pollution issues. The Company's personnel have developed expertise in a
broad range of remediation techniques such as bioremediation, bioventing,
vapor extraction, gas/air sparging, thermal desorption, soil washing, and
groundwater remediation systems. The Company also offers a variety of
services in support of municipal and industrial water and wastewater
treatment, military base closures, and other operations with significant
environmental components. The Company believes it has gained a solid
reputation for promptly providing cost-effective and innovative remediation
and treatment solutions.
In November 1996, the Company relocated its corporate headquarters to
Englewood, Colorado from Tustin, California to be more centrally located for
its expanding business. The Company also maintains offices in Tustin,
California; Richmond, California; Sacramento, California; Edmonds,
Washington; Denver, Colorado; Pasadena, Texas; San Antonio, Texas; New
Orleans, Louisiana; Jackson, Mississippi; and Mobile, Alabama.
In July 1995, the Company completed an initial public offering of 1.2
million shares of its Common Stock, and in August 1995, sold an additional
0.2 million shares pursuant to an overallotment option. The net proceeds to
the Company from the public offering were approximately $5.8 million.
Concurrent with the IPO, the Company became listed on the American Stock
Exchange under the symbol "ENV."
In December 1996, the Company commenced a Private Placement Offering of
Common Stock. This offering was completed in January 1997, and resulted in
the issuance of 0.7 million shares with net proceeds to the Company totaling
$2.0 million. The Common Stock sold via this offering was registered for
resale in a Form S-3 Registration Statement which became effective January 7,
1998. In conjunction
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with the offering, warrants for an additional 72,925 shares of Common Stock
were issued as partial compensation for underwriting services. These warrants
are exercisable at a price of $3.60 per share for five years from the date of
the offering.
In August 1997, the Company acquired all of the outstanding stock of
Water Quality Management Corporation, a Colorado corporation ("WQM"), in a
cash transaction. WQM is engaged in the operation and maintenance of
municipal and industrial water and wastewater treatment facilities. WQM was
operated as a wholly owned subsidiary of the Company.
In January 1998, the Company acquired all of the outstanding stock of
H2O Construction and Maintenance, Inc. a Colorado corporation ("H2O"), for
cash and notes. H2O is engaged in the construction, operation and
maintenance of water and wastewater treatment, collection and distribution
facilities. H2O provides services to both public and private sector clients.
As a result of the purchase, H20 was merged with WQM, a wholly owned
subsidiary of the Company.
In July 1998, the Company engaged Sanders Morris Mundy of Houston, Texas
to assist in maximizing shareholder value by exploring acquisition and
divestiture strategies.
In August 1998, the Company completed a private financing, raising $1.9
million of net proceeds in a placement of convertible preferred stock and
warrants. The preferred shares could be converted into shares of the
Company's Common Stock at a 15 percent discount to the price of the Common
Stock at the time of conversion with a maximum conversion price of $3.35.
Three-year warrants to purchase an aggregate of 35,000 shares of the
Company's Common Stock at a price of $3.00 per share were also issued.
Through January 1999, a total of 430 shares of the preferred securities were
converted into 472,803 shares of Common Stock by the holders. The Common
Stock issued upon conversion was registered for resale in a Form S-3
Registration Statement which became effective August 13, 1998. In January
1999, the Company negotiated to redeem the remaining 1,570 preferred shares
for $1.9 million in cash.
In December 1998, the Company sold all of the outstanding stock of WQM
and H2O for $12.5 million in cash to AquaSource Services and Technologies,
Inc. In addition to the $12.5 million in cash, additional consideration may
be paid in 1999 based on the final audit of working capital levels. The
Company received $11.3 million of the consideration at the date of purchase
with the remaining consideration due ninety days after closing. At December
31, 1998, $2.6 million is included in accounts receivable as the remaining
consideration.
THE ENVIRONMENTAL INDUSTRY
Various analysts have recently estimated that the total United States
environmental services industry generates revenues of $180-200 billion per
year. ENVIRONMENTAL BUSINESS JOURNAL has indicated that the remediation
industry accounted for approximately $6.1 billion of revenue in 1998. Driven
largely by legislation passed during the late 1970's and early 1980's in
response to widespread public concern regarding clean air and water, the
environmental services business has expanded rapidly during the past decade.
The Company is involved primarily in the remediation segment of the industry,
which is focused on cleanup of existing environmental problems.
Arising in response to the 1980 CERCLA ("Superfund") legislation, the
remediation services business grew quickly. A study by the Waste Management
and Education Research and Educational Institute at the University of
Tennessee, Knoxville, has estimated the total cost of cleaning up America's
worst hazardous toxic waste sites as high as $750 billion in 1990 dollars.
This revenue is divided among six major regulation-driven sectors, including
Superfund (federally funded) programs, state-funded programs, federal
facilities programs (primarily Department of Energy and Department of
Defense), UST removals, private remediation programs, and hazardous waste
management facility corrective actions. Federal facilities cleanup programs
have become an increasingly important sector of the
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business as a result of active military base and other facility closures.
Since 1994, increased pressure to create uses for contaminated and idle
properties has driven a rise in industrial redevelopment or "Brownfield" site
remediation programs. The term "Brownfield" comes from an EPA sponsored
program to study the redevelopment of "abandoned, idled, or underused
industrial facilities where expansion or redevelopment is complicated by real
or perceived environmental contamination" (U.S. EPA). The exact number of
Brownfield sites is unclear; however, their existence and a governmental
effort to facilitate their cleanup have created an opportunity for full
service remediation as well as financial participation in the redevelopments.
The remediation business consists of three phases: site assessment,
remediation program design, and the actual site remediation. The first phase
is largely investigative and can involve substantial chemical analysis to
understand the nature and extent of the problem. The design phase involves
detailed engineering to develop the optimal solution for cleaning the site.
The third phase is the true implementation of the site remediation plan and
involves various onsite treatment procedures for contaminated materials or
the excavation and containment or offsite transportation of toxic materials.
The Company provides an extensive full-service offering in all phases of
contaminated site remediation.
Innovative onsite remediation technologies are in high demand to provide
an alternative to offsite disposal of hazardous waste. These technologies
have been provided to various Company clients in order to minimize and/or
eliminate our clients' cradle-to-grave liability. Onsite technologies such as
bioremediation, bioventing, vapor extraction, gas/air sparging,
low-temperature thermal desorption, chemical fixation, and soil washing are
gaining wide-spread regulatory acceptance. The Company strives to use these
remediation techniques more efficiently than its competitors.
Responding to emergency spills or leaks of contaminants by petroleum and
chemical companies, by state or federal agencies, or commercial treaters and
haulers of hazardous materials is another important segment of the
environmental remediation services industry. Emergency situations can
involve the use of various containment and treatment techniques. Providers
of these services must be able to handle these sorts of problems on a
stand-by basis, due to public concerns and publicity regarding hazardous
material spills. The federal government routinely contracts with private
parties to maintain fast response capabilities to deal with these sorts of
problems. The Company has also marketed to transporters, primarily rail
carriers, in this market.
Regulatory pressures are driving industrial firms to construct or
upgrade wastewater treatment and pre-treatments facilities. In addition, the
need for ultrapure water in the power, mining, semiconductor, pharmaceutical,
food processing, and other industries is expected to double over the next 6
years. Because design, construction, operation, and compliance reporting for
water and wastewater treatment systems are complex and not part of their core
business, more industrial firms are outsourcing for these services.
ORGANIZATION OF THE COMPANY
The Company is organized into three primary business lines: industrial
services, which includes facility cleaning, operation, maintenance,
construction, closures, and emergency response; environmental remediation;
and government programs. This is overlaid with a geographic structure in
which each office is able to provide manpower and equipment to support
projects in each of the business lines.
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The Company uses the following resources to provide turnkey services to
its customers:
- Registered engineers, geologists, and environmental scientists for
performing investigations and remediation feasibility studies.
- In-house laboratory facilities for evaluating water treatment
techniques, numerous remedial technologies, monitoring ongoing
projects, and accelerating remediation.
- Engineers, scientists, and construction managers to design remediation
and water/wastewater treatment systems from the conceptual stage
through final design.
- Manpower and equipment for performing site preparation such as
excavation, grading, berming and hauling soil; removal of obstacles,
(i.e., drums, transformers, USTs, and piping; and dismantling ASTs).
- Manpower and specialized equipment for erecting or installing
remediation equipment, support buildings, and enclosures for
remediation of contaminated soil, water, sludge or sediment.
SERVICES AND PRODUCTS PROVIDED BY THE COMPANY
The Company provides full turnkey environmental services for remediation
of non-hazardous, hazardous, and toxic waste on a planned and emergency
basis, industrial services, water and wastewater treatment. This can include
assessment and characterization studies, conceptual design, detail design,
construction and installation, decontamination and demolition, and operation
and maintenance. By offering turnkey services, the Company believes it
enjoys a competitive advantage in soliciting new customers, as well as in
obtaining follow-on contracts that may be tangential or unrelated to the
original scope of work.
INDUSTRIAL SERVICES. The Company provides plant services to industrial
clients as an outside contractor, or by offering full- or part-time onsite
personnel on a contract basis. These services include:
- Tank and sump services
- Specialty construction
- Plant operation and maintenance
- Waste management and removals
- Regulatory agency coordination and permitting, regulatory management
outsourcing, and compliance audits
- Waste area construction/closures
- Facility closures
- Emergency response
ENVIRONMENTAL REMEDIATION SERVICES. The Company provides full-scale
turnkey environmental remediation services that range from Phase I
environmental assessments and remedial investigation/feasibility studies
(RI/FSs) to the design, construction, and operation of remediation systems.
The Company does not promote a single technology, but recommends the
remediation methods that provide the most cost-effective and timely
mitigation.
GOVERNMENT PROGRAMS. The Company works with government agencies at all
levels: federal, state, county, municipal, and special districts. These
contracts are performed with the Company as the
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prime contractor, a teaming partner, or a subcontractor. The services
provided to the government are similar to those provided to the private
sector and include emergency response and remediation services.
CUSTOMERS
The Company's customers include federal, state and local government
agencies and commercial enterprises including Fortune 500 companies. The
following is a representative list of the Company's past and present
customers:
<TABLE>
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PETROLEUM INDUSTRY
Coastal Corporation Monsanto/Solutia
Colonial Pipeline Nalco Chemical
ERGON, Inc. Paramount Petroleum
LASMO Oil & Gas, Inc. Total Petroleum
Marathon Refining Unocal Corporation
FINANCIAL/REAL ESTATE
Canal Insurance Principal Financial Group
Lincoln Property Company Remediation Financial, Inc.
MANUFACTURING AND PROCESSING
Anheuser Busch Home Base
Big 4 Rents Raytheon Missile Systems
CAE Electronics Read-Rite Corporation
Chiquita Melon Safety-Kleen
Coors Schlage Lock
Fleming Foods Samsonite
Georgia Pacific
TRANSPORTATION
Burlington Northern Santa Fe Railroad Illinois Central Railroad
Central Freightlines Navajo Express
CSX Transportation Union Pacific Railroad
Highway Transports Yellow Freight
ENGINEERING/CONSTRUCTION FIRMS
Bechtel Montgomery Watson
DeSilva Construction Parsons Engineering
Fluor Corporation Stone and Webster
Foster Wheeler Tetra Tech
UTILITIES
Florida Gas Transmission Pacific Gas & Electric
Mississippi Power Southern Natural Gas
GOVERNMENT (FEDERAL AND STATE)
U.S. EPA Colorado Department of Mines
U.S. Air Force Contra Costa Water District
U.S. Army Corps of Engineers Los Angeles County Metropolitan Transportation
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U.S. Coast Guard Agency
U. S. Department of Transportation Port of Oakland
U.S. Navy San Francisco Department of Public Works
Alameda County Water District San Francisco Public Utilities Commission
City and County of Denver Texas Natural Resource Conservation Commission
City of Coachella Texas Railroad Commission
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In October 1996 the Company was awarded the McClellan Environmental
Technologies Remediation Implementation Contract (METRIC). The contract has
a 5-year ordering period and a potential program value of $19 million. The
METRIC program, sponsored by the United States Air Force, has been developed
to repair environmental damage at various installations and to prevent
further environmental degradation at these installations. Under this
contract, the Company will perform work primarily at McClellan Air Force
Base, near Sacramento, California, and its satellite facilities. To date,
the Company has been issued 5 delivery orders valued at approximately $2
million.
In December 1996, the Company was notified by EPA of its selection as
the successful bidder for the Emergency Response and Remedial Response
Services (ERRS) West contract. This contract includes performing emergency
response and remediation for oil, petroleum, and hazardous substance releases
in accordance with the provisions of the federal Clean Water Act ("CWA"),
RCRA and Superfund legislation. It covers 15 states and certain U.S.
territories in EPA Regions VI, VIII and IX, runs for 5 years, and is
estimated at $292 million. The Company has received in excess of 145
delivery orders with an approximate contract amount of $64 million to date
under this contract.
In September 1997 the Company was selected as the successful bidder for
the ERRS contract in Region X which covers four states in the northwest.
This contract also runs for 5 years and is estimated at $42 million. To
date, the Company has received 13 delivery orders with an approximate
contract amount of $7 million under this contract.
In June 1997 the Company was awarded a 5-year, $25 million Pre-placed
Remedial Action Contract (PRAC) with the U.S. Army Corps of Engineers, Omaha
District. Under this contract, the Company is providing remedial actions at
hazardous waste sites within the District's Midwest region. To date, the
Company has been issued 7 delivery orders valued at approximately $13
million.
In May 1998 CET was awarded a Worldwide Full-Service Environmental
Remedial Actions (WFSERA) contract by the Air Force Center for Environmental
Excellence (AFCEE). The total contract value between 7 contractors is $475
million. This contract has a 5-year ordering period with 3 additional years
for performance. To date, CET has been awarded 6 delivery orders valued at
approximately $2 million.
The ERRS contracts, like most of the Company's other government
contracts, are "basic ordering documents," not binding agreements requiring
the performance of work by the Company and payment by the government. This
occurs only when the government issues delivery orders under the contract.
Management believes, based on its prior experience with government contracts,
that the Company will receive delivery orders for a substantial portion if
not the full amount of the contract during the life of the contract, or
extensions thereof. However, the possibility always exists that the
government will terminate work under the contract at any time.
The Company has Master Service Agreements with approximately 100
clients. These include ABF Freight, Arco Chemical, Burlington Northern, Santa
Fe Railroad, CITGO Petroleum, ERGON, Conoco, Georgia Pacific, Monsanto, Nalco
Chemical, National Response Corporation, Ryder Truck,
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Safety-Kleen, Southern Natural Gas, U.S. Coast Guard, and Union Pacific
Railroad. Master Service Agreements set forth the terms and conditions
pursuant to which the Company would provide services in the future when
needed or requested pursuant to a purchase order or request for services.
BUSINESS STRATEGY
The Company plans to capitalize on the following trends:
- Onsite remediation is increasing, especially at large sites. Public
opposition and regulatory resistance to incineration and landfilling
will enhance the prospects for bioremediation, vapor extraction,
thermal desorption, and other innovative onsite technologies.
- Remediation at active industrial sites under the RCRA corrective
action program represents an important private sector segment in an
early stage of development.
- Most government contracts require a defined percentage of the work be
subcontracted to small business enterprise companies ("SBEs"),
typically between 20 and 60 percent. The Company qualifies as an SBE
under Standard Industrial Classification Code 8744, Environmental
Remediation Services, by having less than 500 employees.
- To meet special requirements and budget constraints, industrial
facilities are increasingly outsourcing environmental and general
maintenance and construction services. The Company is targeting these
facilities to perform this work on a contract basis or offering full-
or part-time personnel on site.
- The U.S. EPA's Brownfields Economic Redevelopment Initiative, various
state voluntary cleanup programs, and a maturing of the environmental
marketplace have reduced the risk and uncertainty of selling, buying,
and financing underutilized or Brownfield sites, creating an
opportunity to redevelop prime land that was previously "untouchable"
due to contamination.
- A shift in emphasis from investigation to remediation, combined with
the increasing numbers of military installations being listed for Base
Realignment and Closure (BRAC), presents an opportunity for
remediation contractors to capitalize on this allocation of federal
monies.
The Company's strategy to capitalize on these trends emphasizes the
following key elements:
DIVERSIFICATION THROUGH CONTROLLED EXPANSION. The Company seeks
controlled growth and diversification by providing its services to additional
industries and by broadening the mix of related services performed for each
client. Management has identified several areas of interest for expansion
including additional work in the areas of base closure services to the U.S.
Government, in-plant services for industrial clients, mining facility
decommissioning and reclamation, and redevelopment of Brownfield properties.
MIXTURE OF PUBLIC AND PRIVATE SECTOR WORK. The Company seeks to
maintain a mix of government projects and private sector projects. Government
projects can offer the advantage of multi-year scope of work, but generally
have lower gross margins. Private sector projects tend to have shorter time
frames, but offer opportunities for greater gross margins. Management plans
to continue developing business opportunities in both sectors and would like
to keep a reasonable balance between EPA and non-EPA work. (See "Management's
Discussion and Analysis.")
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EMPHASIS ON RECURRING REVENUE. The Company seeks to expand its base of
recurring revenue sources to mitigate the cyclical nature of the
environmental remediation services industry. The Company is on appropriate
approved-contractor lists with its major governmental customers and large
corporate customers whereby the Company is invited to bid on future
environmental engineering/remediation projects. Inclusion on such lists is a
result of the Company's having completed prior contracts to the satisfaction
of these customers. The Company also intends to increase the number of
operations and maintenance contracts, both for industrial services and
water/wastewater facilities. These contracts are generally longer term,
providing a more sustainable revenue base.
COMMITMENT TO QUALITY. Management believes that the long-term success
of the Company depends upon its reputation with customers and government
regulators for performing top quality, turnkey services. The Company must
continue to distinguish itself with private and government sector customers
by maintaining competence in various state-of-the-art technology based
remediation and treatment alternatives, and by efficient and effective
jobsite performance.
PROFESSIONAL MARKETING AND MANAGEMENT. The Company is committed to
maintaining a professional marketing and project management staff that
understands the needs and requirements of its various customers, that can
accurately evaluate requests for proposals and invitations to bid and that
responds in a timely manner with high-quality comprehensive formal proposals.
This includes understanding the intricacies of the detailed and
time-consuming process associated with bidding and managing projects for the
federal government. The Company uses non-proprietary specialized software for
job cost accounting and government contracts to assist with both bidding and
managing projects.
STABLE WORK FORCE. The Company strives to maintain a stable, dedicated
work force of experienced professionals, managers, administrative personnel,
and trained operators and laborers. The Company seeks to attract and retain
such employees by providing fair compensation, incentives, and a dynamic work
environment. The Company maintains a comprehensive program for providing
health and safety training related to hazardous material exposure, in full
compliance with the highest standards set forth by federal and other
applicable regulatory agencies. Management believes that the Company's
experienced work force will continue to contribute to the Company's excellent
safety record, reducing insurance costs and increasing customer satisfaction.
OWNERSHIP OF EQUIPMENT. The Company attempts to purchase specialized
emergency response and remediation equipment, thereby providing the Company
with key business advantages, including reduced operating costs, greater
flexibility in scheduling the use of resources (equipment, personnel, etc.)
and greater reliability in meeting contractually defined performance
timetables and deadlines. The Company typically rents non-specialized
equipment such as backhoes and excavators.
MARKETING
The Company has a dedicated marketing and sales staff of approximately
10 people, including sales professionals, proposal writers, technical
editors, and project estimators. A significant portion of new business is
derived from current customers seeking services for additional sites and new
needs. The Company has developed ongoing relations with a broad range of
customers in various industries and geographical sites.
The Company has segregated its marketing efforts for the public and
private sectors. The public sector proposal effort is managed on a
centralized basis. The Company pursues federal contracts that range from $5.0
million to $70.0 million annually. On larger opportunities, the Company may
establish teaming agreements with large engineering/construction firms to
enhance the chances for award.
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Individual contracts with customers typically have an award value of
$25,000 to $100,000 for the performance of specific tasks, and from $125,000
to $7,000,000 for comprehensive turnkey services. Geographically, the Company
provides services to customers throughout the western and southeastern United
States and the Trust Territory of the Pacific Islands.
The marketing organization for the commercial business is primarily
decentralized. Sales leads and customer relationships are developed on a
regional basis by the Regional Manager, Project Managers, or the Business
Development Manager.
The Company's contracts are primarily obtained through competitive
bidding and through negotiations with long-standing customers. The Company is
typically invited to bid on projects undertaken by recurring customers who
maintain pre-qualified contractor bid lists. Bidding activity, backlog, and
revenue resulting from the award of contracts to the Company vary
significantly from period to period.
COMPETITION
The environmental industry in the United States has developed rapidly
since the passage of RCRA in 1976 and is highly competitive. The industry
today is highly fragmented, with numerous small- and medium-sized companies
serving niche markets according to geography, industry, media (air, water,
soil, etc.), and technological specialization (bioremediation, etc.).
Because the Company operates in many sectors of the environmental
industry, the Company can adapt to changes in the marketplace by allocating
its resources to the industry sector in which the business opportunities
exist. Management believes that the keys to success in the industry today
are service and capabilities. The Company will continue to focus on the
application of new technology as well as innovative applications of existing
technologies to solve complex problems. The Company also plans to continue
providing high quality services to its customers.
Management believes that the primary factors of competition are price,
technological capabilities, reputation for quality and safety, relevant
experience, availability of machinery and equipment, financial strength,
knowledge of local markets and conditions, and estimating abilities.
Management believes that the Company has competed and will continue to
compete favorably on the basis of the foregoing factors. However, many of
the Company's competitors have financial resources and facilities greater
than that of the Company. Additionally, at any time and from time to time the
Company may face competition from new entrants into the industry. The Company
may also face competition from technologies that may be introduced in the
future, and there can be no assurance that the Company will be successful in
meeting the challenges that will be posed by its competition in the future.
GOVERNMENT REGULATION
The Company is presently regulated by a myriad of federal, state, and
local environmental and transportation regulatory agencies, including but not
limited to the EPA, which regulates the generation and disposal of hazardous
waste; the U.S. Department of Labor, which sets safety and training standards
for workers; the U.S. Department of Transportation, which regulates
transportation of hazardous materials and hazardous waste; and similar state
and local agencies.
The need for governments and business to comply with the complex scheme
of federal and state
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regulations governing their operations is the market in which the Company
operates, although the Company itself must operate under and in conformance
with applicable federal and state laws and regulations. The Company attempts
to pass the cost of compliance on to the customer through the prices paid by
customers for the Company's services.
ENVIRONMENTAL LAWS
Most environmental laws and regulations are promulgated by the U.S.
Congress and federal departments and agencies. For example, the National
Environmental Policy Act compels federal governmental agencies at all levels
to make decisions with environmental consequences in mind. The EPA and the
U.S. Occupational Safety and Health Administration ("OSHA") are responsible
for protecting and monitoring certain natural resources (such as air, water,
and soil) and working conditions. These laws and regulations establish a
comprehensive regulatory framework consisting of permitting processes,
systems construction, monitoring and reporting procedures, and
administrative, civil, and criminal enforcement mechanisms.
Many of the federal laws and regulations contemplate enforcement by
state agencies and adoption by the states of similar environmental laws and
regulations that must meet minimum federal requirements. In areas of
environmental law where federal regulation is silent, the states may adopt
their own environmental laws.
Local governments such as counties and municipalities may also enact and
enforce environmental laws that address local concerns that may be more
stringent than applicable state laws.
The Company's ability to assist customers to comply with these
environmental laws and regulations forms the basis for the current and future
environmental consulting, engineering, remediation, laboratory, and other
services provided by the Company. Enforcement of such laws and regulations,
such as EPA mandated registration and upgrade of USTs, also leads to
business for the Company.
The federal laws and regulations described below constitute the major
actions that have caused growth in the environmental and water/wastewater
service industries.
COMPREHENSIVE ENVIRONMENTAL RESPONSE, COMPENSATION AND LIABILITY ACT OF
1980 ("CERCLA"). This legislation, as amended by the Superfund Amendments
and Reauthorization Act of 1986, established the Superfund program to
identify and clean up existing contaminated hazardous waste sites and other
releases of hazardous substances into the environment. While federal funds
of approximately $8.5 billion exist to pay for the cleanup, CERCLA gives the
EPA authorization to compel private parties to undertake the cleanup and
enforcement incentives including the imposition of penalties and punitive
damages.
RESOURCE CONSERVATION AND RECOVERY ACT OF 1976 ("RCRA"). This
legislation, as amended by the Hazardous and Solid Waste Amendments of 1984
("HSWA"), provides for the regulation of hazardous waste from the time of
generation to its ultimate disposal as well as the regulation of persons
engaged in generation, handling, transportation, treatment, storage, and
disposal of hazardous waste. Hydrocarbon-based hazardous waste as defined by
RCRA can include leaked/spilled crude oil, refined oil, gasoline, kerosene,
and industrial solvents (used, for example, in the transportation and
manufacturing industries). Hazardous waste also includes the by-products of
virtually any business, including the production of plastics, pesticides,
fertilizers, soaps, medicines, explosives, etc. These wastes can contain
heavy metals, organic chemicals, dioxin, PCBs, cyanide, and other toxic
substances.
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EPA UST REGULATIONS. The EPA has mandated that USTs that are used to
store gasoline, diesel fuel, fuel oil, waste oil and hazardous materials be
registered with the appropriate state regulatory agency, designed or upgraded
to meet construction and operational standards, and monitored to insure
against groundwater and soil contamination from leaking. Owners and operators
are further required to report leaks and undertake appropriate corrective
action, including testing and monitoring to identify the extent of the
contamination, removal and disposal of contaminated soil, or on-site
treatment of contaminated soil or groundwater. The EPA has delegated the
administration of UST regulations to state agencies. To assist the
remediation process when leaking USTs are identified, many state legislatures
have created reimbursement programs funded by gasoline taxes or other taxes
and fees.
RCRA mandated that by December 31, 1998, every single-walled UST in the
United States be removed and replaced with a double-walled tank. Any
environmental danger to the soil or water caused by leakage of a UST must
also be remediated. The Company's UST-related business opportunities were
substantial in 1998. A significant number of UST owners did not meet the
deadline, providing further opportunities for several years. Management
believes that the Company is well positioned in the niche market of removing
and replacing USTs and performing remediation and construction services
required in conjunction with UST replacement.
CLEAN WATER ACT ("CWA"). The CWA established a system of standards,
permits and enforcement procedures for the discharge of pollutants into
navigable waters from industrial, municipal and other wastewater sources.
The CWA requires, under certain circumstances, pretreatment of industrial
wastewater before discharge into municipal treatment facilities. The EPA and
delegated state agencies are also placing some non-complying municipalities
under enforcement schedules. These regulations are creating the need for the
upgrade or construction of new treatment facilities by both industrial and
municipal entities.
SAFE DRINKING WATER ACT ("SDWA"). Under the SDWA and its subsequent
reauthorization, the EPA is empowered to set drinking water standards for
public water systems in the United States. The SDWA requires that the EPA set
maximum permissible contamination levels for over 80 substances and also
requires the EPA to establish a list every 3 years of contaminants that may
cause adverse health effects and may require regulation. Enforcement
responsibility is placed on the states and includes water supply systems
monitoring. The SDWA also requires that the EPA set criteria for the use of
treatment techniques including when filtration should be used for surface
water supplies and when to require utilities to disinfect their water. The
EPA regulations under the SDWA are expected to result in significant
expenditures by public water systems for evaluation and, ultimately, for
upgrading of many facilities.
Bolstering federal laws are stringent state laws, such as California's
Safe Drinking Water and Toxic Enforcement Act of 1986 ("Prop 65"), which took
full legal effect in 1992. To cite just one facet of Prop 65, California's
drinking water must not have concentrations of more than one part per billion
of benzene. However, one tablespoon of gasoline contains enough benzene to
render 50,000 gallons of water undrinkable by California's standards.
OSHA AND OSHA REFORM ACT. OSHA has promulgated various regulations
setting forth standards for disclosure of health hazards in the work place
and for response thereto. The Hazard Communication Standard, for example,
requires manufacturers and importers of chemicals to assess the hazards of
their products and disclose the same through material data safety sheets and
label warnings. In 1990, in an effort in part to create a self-funding
administration, Congress increased the ceiling for certain OSHA-imposed
penalties.
11
<PAGE>
POTENTIAL LIABILITY AND INSURANCE
The Company maintains quality assurance, quality control, and health and
safety programs to reduce the risk of damage to persons and property.
However, in providing environmental remediation services to the Company's
customers, the Company faces substantial potential liability for
environmental damage, personal injury, property damage, economic losses, and
fines and costs imposed by regulatory agencies. Furthermore, it is possible
that one or more of the Company's customers may assert a claim against the
Company for negligent performance of services. The Company's potential
environmental liability arises, in part, because some of its services involve
the cleanup of petroleum products and other hazardous substances for its
customers.
The scope of liability under existing law for environmental damage is
potentially very broad and could apply to the Company in a number of ways.
For example, the Company may be exposed to liability under CERCLA when it
conducts a cleanup operation that results in a release of hazardous
substances, or when it arranges for disposal of such substances. Other
liabilities may arise if the Company creates or exacerbates a contamination
problem through errors or omissions in its cleanup work, potentially giving
rise to, among other things, tort actions for resulting damages and Superfund
liability for any resulting cleanup. Finally, it is possible that one or more
of the Company's customers will assert a claim against the Company for an
allegedly incomplete or inadequate cleanup.
Many state and federal environmental laws apply to the Company's
activities, and the potential for liability exists depending on the
circumstances and substances involved in each cleanup operation. Moreover,
the law in this area is developing rapidly and is thus subject to
considerable uncertainty.
The Company maintains comprehensive general liability insurance and
worker's compensation insurance that provide $10 million of coverage each.
In addition, the Company maintains pollution liability and errors and
omissions insurance that provides $2 million of coverage each. Because there
are various exclusions and retentions under the insurance policies described
above, not all liabilities that may be incurred by the Company will
necessarily be covered by insurance. In addition, certain of the policies are
"claims made" policies that only cover claims made during the term of the
policy. If a policy terminates and retroactive coverage is not obtained, a
claim subsequently made, even a claim based on events or acts that occurred
during the term of the policy, might not be covered by the policy. In the
event the Company expands its services into a new market, no assurance can be
given that the Company will be able to obtain insurance coverage for such
activities or, if insurance is obtained, that the dollar amount of any
liabilities incurred in connection with the performance of such services will
not exceed policy limits.
The market for liability insurance has been severely constrained at
times, due in part to high losses experienced by the insurance industry from
environmental impairment liability claims, including claims associated with
hazardous materials and toxic wastes. Consequently, the available insurance
coverage for enterprises such as the Company may be reduced, eliminated
entirely or priced beyond the reach of many companies. To date, the Company
has been able to obtain any insurance required by a customer. However, there
can be no assurance that the Company will be able to maintain adequate
liability insurance in the future.
BONDING REQUIREMENTS
Commercial remediation projects, as well as federal, state, and
municipal projects, often require
12
<PAGE>
contractors to post both performance and payment bonds at the execution of a
contract. Performance bonds guarantee that the project will be completed and
payment bonds guarantee that vendors will be paid for equipment and other
purchases. Contractors without adequate bonding may be ineligible to bid or
negotiate on many projects. The Company has frequently been required to
obtain such bonds and it should be assumed that the Company will continue to
be required to obtain such bonds in the future. The Company obtains required
bonds on a case-by-case basis as needed and has not experienced any problems
in obtaining necessary bonds. The Company could experience such difficulties
in the future if its total amount of bonds outstanding exceeds the limits
imposed by bonding companies based on the financial condition of the Company
at any given time. Bonds typically cost between 1% and 3% of the cost of a
project. To date, no payments have been made by any bonding company for bonds
issued for the Company.
EMPLOYEES
As of March 1999, the Company employed approximately 198 employees' full
time and 237 part time at its 10 offices, including five Company officers.
The Company's employees are not represented by a labor union or covered by a
collective bargaining agreement, and the Company believes it has good
relations with its employees.
While all of the Company's projects are performed under the supervision
and direction of the Company's supervisors and foremen, and the Company
attempts to utilize as many of the Company's regular laborers as possible to
staff projects, the location and other factors affecting projects performed
away from the immediate vicinity of the Company's permanent offices result in
the Company occasionally hiring temporary workers on site. The Company
carefully reviews the training and qualifications of all temporary workers
hired to assure that all such personnel are qualified to perform the work in
question. However, due to the temporary nature of such employment, there is
no assurance that all such temporary workers will perform at levels
acceptable to the Company and its customers.
The operations of the Company are substantially dependent upon its
executive officers. The Company has no employment contracts with these
persons and the loss of their services could have a material adverse effect
on the Company. The Company's further success will also depend significantly
on its ability to attract and retain additional skilled personnel, including
highly trained technical personnel, project managers and supervisors. The
Company believes it currently has adequate qualified supervisory personnel,
but there is no assurance that experienced and qualified management level
personnel will be available to the Company in the future to fill positions as
needed.
ITEM 2. PROPERTIES.
The Company's headquarters and administrative facilities are located at
7670 S. Vaughn Court, Ste. 130, Englewood, Colorado, in approximately 4,600
square feet of leased office space. The lease expires in May 1999. The Company's
corporate and administrative functions are conducted from these facilities. The
Company plans to consolidate its Denver, Colorado locations. Both the Company's
headquarters and the Denver Field Office will relocate to 7032 S. Revere
Parkway, Englewood, Colorado on May 31, 1999.
13
<PAGE>
The Company's services are conducted from the following spaces:
<TABLE>
<CAPTION>
CURRENT
LEASE MONTHLY
SQ. FT EXPIRATION RENT
----------------------------------------------------- ---------- ------------------------ ---------------
<S> <C> <C> <C>
14761 BENTLEY CIRCLE
TUSTIN, CALIFORNIA 18,490 April 14, 1999 $ 10,169.50
----------------------------------------------------- ---------- ------------------------ ---------------
170 WEST DAYTON, STE. 106A
EDMONDS, WASHINGTON
(OFFICE) 6,920 March 31, 2001* 9,008.13
----------------------------------------------------- ---------- ------------------------ ---------------
170 WEST DAYTON, STE. 106 B-D
EDMONDS, WASHINGTON
(WAREHOUSE) 5,568 March 31, 2001* 3,763.45
----------------------------------------------------- ---------- ------------------------ ---------------
3033 RICHMOND PARKWAY, STE. 300
RICHMOND, CALIFORNIA 7,664 April 30, 2001 7,353.61
----------------------------------------------------- ---------- ------------------------ ---------------
12570 E. 39TH AVENUE
DENVER, COLORADO 5,021 May 31, 1999 5,330.00
----------------------------------------------------- ---------- ------------------------ ---------------
7670 S. VAUGHN COURT, STE. 130
ENGLEWOOD, COLORADO 4,600 May 31, 1999 5,084.20
----------------------------------------------------- ---------- ------------------------ ---------------
7032 S. REVERE PARKWAY
ENGLEWOOD, COLORADO 12,027 May 31, 2004** 11,024.75
----------------------------------------------------- ---------- ------------------------ ---------------
150 NOEL STREET
MOBILE, ALABAMA 20,000 April 30, 2000 3,275.00
----------------------------------------------------- ---------- ------------------------ ---------------
13120 CARRIERE COURT
NEW ORLEANS, LOUISIANA 13,520 April 14, 2001* 3,771.21
----------------------------------------------------- ---------- ------------------------ ---------------
3222 PASADENA FREEWAY
PASADENA, TEXAS 2,755 May 31, 2001 4,375.00
----------------------------------------------------- ---------- ------------------------ ---------------
3437 MYRTLEAVENUE, STE. 375
NORTH HIGHLANDS, CALIFORNIA 1,150 Month to Month 736.00
----------------------------------------------------- ---------- ------------------------ ---------------
100 N. E. LOOP 410, STE. 1200
SAN ANTONIO, TEXAS 150 Month to Month 414.00
----------------------------------------------------- ---------- ------------------------ ---------------
275-A INDUSTRIAL DRIVE
JACKSON, MISSISSIPPI 11,325 August 31, 2003 3,958.44
---------------------------------------------------------------------------------------------------------
</TABLE>
*CONTAINS AN OPTION TO RENEW OR EXTEND THE LEASE.
**NEW LEASE COMMENCES JUNE 1, 1999.
ITEM 3. LEGAL PROCEEDINGS.
Except as set forth below, the Company is not a party to any material
legal proceedings which are pending before any court, administrative agency
or other tribunal. Further, the Company is not aware of any material
litigation which is threatened against it in any court, administrative agency
or other tribunal. Management believes that no pending litigation in which
the Company is named as a defendant is likely to have a material adverse
effect on the Company's financial position or results of operations.
14
<PAGE>
On February 13, 1998, the Company filed suit in the United States
District Court for the District of Oregon against Road Runner Oil, Inc. and
Bernard J. Roscoe, alleging breach of contract for non-payment of services
performed by the Company at an oil field in Utah. The amount of unpaid
invoices, including interest and collection costs, is approximately $2.1
million. In August 1998 the Oregon court determined that the venue for the
United States District Court action should be in Utah, and venue for the
action was changed accordingly. Road Runner also filed a claim in this action
against the Company for breach of contract seeking unspecified damages. The
Company has also filed mechanic's liens on certain equipment at the site and
against Road Runner's rights in the oil field. Separate actions have also
been filed by the Company in Utah state court and Tribal Court to foreclose
these liens. Road Runner has failed to respond timely to these two actions,
and the Company is presently seeking a default remedy. The Company has
written off this account receivable.
The Company performed an emergency response in 1997 for Aqua-Pak, Inc.
The Company has initiated a lawsuit in the U.S. District Court for the
Southern District of Texas - Houston Division against PTS Properties, Inc.,
the building owner, Allchem Industries, Inc. and Fertilizers and Chemicals,
Ltd., the chemical owners, and Aqua-Pak, Inc. for collection of the
outstanding receivable of $400,000. The Company has written off this account
receivable.
Environmental Chemical Corporation (ECC) has filed for arbitration
against the Company for various claims related to a Subcontractor Agreement
for Environmental Protection Agency-related work. The Company has booked, in
its opinion, sufficient reserves for ECC's claims.
The Company is currently under investigation by the Office of the
Inspector General (OIG) of the Environmental Protection Agency due to a past
suspended audit. To date no claims have been made against the Company
arising from this investigation, and subsequent independent audits by the
Defense Contract Audit Agency (DCAA) have not been adverse and have not
resulted in claims against the Company. The Company is cooperating with the
OIG to complete its investigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's security holders
during the quarter ended December 31, 1998.
15
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(a) PRINCIPAL MARKET OR MARKETS. Since July 18, 1995, the Company's
Common Stock has been listed on the American Stock Exchange ("AMEX") under
the symbol "ENV". The following table sets forth the high and low sale
prices for the Company's Common Stock as reported on the AMEX for the periods
indicated:
<TABLE>
<CAPTION>
QUARTER ENDED HIGH LOW
-------------------------------- ----------- ----------
<S> <C> <C>
March 31, 1997 $7.875 $ 5.00
-------------------------------- ----------- ----------
June 30, 1997 5.625 4.25
-------------------------------- ----------- ----------
September 30, 1997 6.9375 5.125
-------------------------------- ----------- ----------
December 31, 1997 7.8125 6.00
-------------------------------- ----------- ----------
March 31, 1998 7.25 5.4375
-------------------------------- ----------- ----------
June 30, 1998 $6.375 2.50
-------------------------------- ----------- ----------
September 30, 1998 2.8125 1.50
-------------------------------- ----------- ----------
December 31, 1998 2.0625 .50
</TABLE>
(b) APPROXIMATE NUMBER OF HOLDERS OF COMMON STOCK. The number of
record holders of the Company's common stock at March 19, 1999 was 69. This
does not include approximately 800 shareholders who hold their shares in
street name.
(c) DIVIDENDS. The Board of Directors does not anticipate paying cash
dividends on the Company's Common Stock in the foreseeable future as it
intends to retain future earnings to finance the growth of the business. The
payment of future cash dividends will depend on such factors as earnings
levels, anticipated capital requirements, the operating and financial
conditions of the Company and other factors deemed relevant by the Board of
Directors. The California Corporations Code provides that a corporation may
not pay dividends if the corporation is, or as a result of the distribution
would likely be, unable to meet its liabilities as they mature.
(d) SALES OF UNREGISTERED SECURITIES. None
16
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA.
The following selected financial information for the years ended
December 31, 1998, 1997, 1996, 1995, and 1994 is derived from financial
statements of the Company audited by Grant Thornton LLP, independent
certified public accountants.
Balance Sheet Data (in thousands):
<TABLE>
<CAPTION>
---------------------------------------- -----------------------------------------------------------------------
AT DECEMBER 31,
---------------------------------------- -----------------------------------------------------------------------
1998 1997 1996 1995 1994
---------------------------------------- ------------- -------------- -------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
CURRENT ASSETS $ 26,670 $ 25,089 $ 18,424 $ 21,245 $ 6,479
---------------------------------------- ------------- -------------- -------------- ------------- -------------
TOTAL ASSETS 30,202 29,883 23,795 25,708 7,592
---------------------------------------- ------------- -------------- -------------- ------------- -------------
CURRENT LIABILITIES 18,835 12,970 15,121 12,921 3,462
---------------------------------------- ------------- -------------- -------------- ------------- -------------
WORKING CAPITAL 7,835 12,119 3,303 8,324 3,017
---------------------------------------- ------------- -------------- -------------- ------------- -------------
LONG TERM DEBT 251 8,204 1,700 2,077 381
---------------------------------------- ------------- -------------- -------------- ------------- -------------
TOTAL LIABILITIES 19,086 21,174 16,821 14,998 4,180
---------------------------------------- ------------- -------------- -------------- ------------- -------------
SHAREHOLDERS' EQUITY 11,116 8,709 6,974 10,710 3,412
---------------------------------------- ------------- -------------- -------------- ------------- -------------
</TABLE>
Statement of Operations Data (in thousands, except earnings per share data):
<TABLE>
<CAPTION>
----------------------------------------- ------------------------------------------------------------------------
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------------- ------------------------------------------------------------------------
1998 1997 1996 1995 1994
----------------------------------------- --------------- ------------- ------------- ------------- --------------
<S> <C> <C> <C> <C> <C>
REVENUES $ 66,497 $ 54,170 $ 54,919 $ 47,872 $ 23,506
----------------------------------------- --------------- ------------- ------------- ------------- --------------
OPERATING EXPENSES 74,727 54,047 58,096 44,858 21,717
----------------------------------------- --------------- ------------- ------------- ------------- --------------
NET INCOME (LOSS)
FROM CONTINUING
OPERATIONS 538 (347) (3,756) 2,035 1,624
----------------------------------------- --------------- ------------- ------------- ------------- --------------
NET INCOME (LOSS) FROM
CONTINUING OPERATIONS PER
COMMON SHARE $ 0.09 $ (0.06) $ (0.74) $ 0.49 $ 0.44
----------------------------------------- --------------- ------------- ------------- ------------- --------------
WEIGHTED AVERAGE SHARES 5,828,537 5,785,264 5,066,537 4,113,725 3,676,830
----------------------------------------- --------------- ------------- ------------- ------------- --------------
CASH DIVIDENDS PER
COMMON SHARE -0- -0- -0- -0- -0-
----------------------------------------- --------------- ------------- ------------- ------------- --------------
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
This Annual Report on Form 10-K contains forward-looking statements (as
such term is defined in the private Securities Litigation Reform Act of
1995), and information relating to the Company that is based on beliefs of
management of the Company, as well as assumptions made by and information
currently available to management of the Company. When used in this Report,
the words "estimate," "project," "believe," "anticipate," "intend," "expect,"
and similar expressions are intended to identify forward-looking statements.
Such statements reflect the current views of the Company with respect to
future events based on currently available information and are subject to
risks and uncertainties that could cause actual results to differ materially
from those contemplated in such forward-looking statements. Readers are
cautioned not to place undue reliance on these forward-looking statements,
which speak only as of the date hereof. The Company does not undertake any
obligation to release publicly any revisions to these forward-looking
statements to reflect events or circumstances after the date hereof or to
reflect the occurrence of unanticipated events.
17
<PAGE>
GENERAL
The Company provides comprehensive environmental remediation services of
hazardous and toxic waste on a planned and emergency basis to both government
and private sector customers. It also provides water and wastewater treatment
facilities and services to municipal and industrial clients. The Company
provides these services from its offices in: Denver, Colorado; Houston,
Texas; San Antonio, Texas; Jackson, Mississippi; Mobile, Alabama; New
Orleans, Louisiana; Sacramento, California; Richmond, California; Seattle,
Washington; and Tustin, California. In late 1996, the corporate offices of
the Company were moved to Englewood, Colorado from Tustin, California.
BUSINESS STRATEGY
The Company is focused on basic strategies that should lead to improved
profitability, specifically to focus on the completion of more profitable
contracts, overall direct and indirect cost reductions, and administrative
efficiencies. The Company continues to focus on business relationships where
it can assure high quality and operate profitably. Cost reduction efforts
will continue to focus on improved program management, field consolidation,
reduction of corporate expenses, and assessment of field location
efficiencies. Delivery of quality service has been and will continue to be
closely monitored. While management believes that implementation of this
strategy will improve operating performance no assurances can be given as to
its ultimate success.
Completion of the sale of WQM and H20 in December of 1998 permits
management of the Company to focus on operations and strategic alternatives
for the Company and to enable the Company to realize its potential in the
market for environmental remediation services. In addition, other events
that impacted the Company in 1998 or which may impact the Company in the
future include a $8.4 million reduction of debt in 1998 thereby reducing
future interest expense. Future strategic alternatives currently being
considered by the Company include, among others, (i) the pursuit of
opportunities in its core environmental remediation business, including
acquisition of other companies in its core business or in businesses
complimentary to the Company's core business; (ii) expansion of services
provided by the Company; and (iii) continued focus on the improvement of
contract profitability.
18
<PAGE>
RESULTS OF OPERATIONS
The following table presents, for the periods indicated, the percentage
relationship which certain items of the Company's statements of income bear
to project revenue and the percentage increase or (decrease) in the dollar
amount of such items:
<TABLE>
<CAPTION>
PERCENTAGE RELATIONSHIP TO
PROJECT REVENUE PERIOD TO PERIOD
YEAR ENDED CHANGE
---------------------------------------- ----------------------------
1998 1997
VS. VS.
1998 1997 1996 1997 1996
------------ ---------- ----------- ------------- -----------
<S> <C> <C> <C> <C> <C>
Project Revenue 100.0% 100.0% 100.0% 22.8% (1.4)%
Project Costs:
Direct 87.7 79.9 79.5 34.7 (0.9)
Indirect 10.4 10.4 14.9 22.3 (30.9)
--------------------------------------------------------------------------------------------------------------------
Gross profit 1.9 9.7 5.6 (75.3) 69.9
Other operating expense (income):
Selling 3.0 3.8 5.6 (3.9) (33.2)
General and administrative expense 11.3 5.6 5.8 147.6 (3.6)
--------------------------------------------------------------------------------------------------------------------
Operating income (loss) (12.4) 0.3 (5.8) (6,790.2) 103.9
Other income (expense) 13.5 (1.1) (1.7) 1,632.7 36.5
--------------------------------------------------------------------------------------------------------------------
Income (loss) before income taxes 1.1 (0.8) (7.5) 256.6 88.8
Income tax (benefit) 0.3 (0.2) (0.7) (260.5) (66.7)
--------------------------------------------------------------------------------------------------------------------
Net income (loss) 0.8% (0.6)% (6.8)% 255.3% 90.8%
--------------------------------------------------------------------------------------------------------------------
</TABLE>
1998 COMPARED TO 1997
PROJECT REVENUE. Project revenues increased 22.8% from $54.2 million in
1997 to $66.5 million in 1998. The increase is due primarily to (i) an
increase of $11.9 million in revenue provided by EPA contracts (see table
below); (ii) an increase of $2.0 million in revenue provided by WQM; and
(iii) an increase resulting from the acquisition of H20 in January 1998
providing for revenues of approximately $1.5 million in 1998. See also, Item
1. Business -"THE COMPANY" and Note C to Company's Consolidated Financial
Statements. The Company's goal is to maintain a relatively equal
distribution of revenues from government contracts and commercial contracts
to produce continuity of revenues, while optimizing margins.
19
<PAGE>
The following table sets forth the percentages of the Company's revenues
attributable to the EPA vs. non-EPA public and private sector customers:
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------------------------------------------------------------
1998 1997 1996
---------------------------- ---------------------------- ---------------------------
<S> <C> <C> <C> <C> <C> <C>
Non-EPA 33,569,412 50.5% $33,125,032 61.2% $44,065,990 80.2%
EPA 32,927,870 49.5% $21,044,721 38.8% $10,852,530 19.8%
---------------------------- ---------------------------- ---------------------------
Total 66,497,282 100.0% $54,169,753 100.0% $54,918,520 100.0%
---------------------------- ---------------------------- ---------------------------
---------------------------- ---------------------------- ---------------------------
</TABLE>
DIRECT COSTS. Direct costs increased from 79.9% of revenue in 1997 to
87.7% of revenue in 1998. The increase is due primarily to cost overruns
incurred on the following projects: (i) State of Washington resulting in a
negative margin of $0.9 million or 1.3% of revenue in 1998 compared to a
negative margin of $0.1 million or 0.1% of revenue in 1997; (ii) Monfort of
Colorado, Inc. resulting in a negative margin of $1.3 million or 2.0% of
revenue in 1998 compared to a margin of $0.7 million or 1.3% of revenue in
1997; (iii) various revenue adjustments related to closure of certain branch
offices resulting in a negative margin of $0.8 million or 1.3% of revenue in
1998 compared to no adjustment in 1997; and (iv) other low margin projects
finalized in 1998.
INDIRECT COSTS. Indirect costs increased $1.3 million from $5.6 million
in 1997 to $6.9 million in 1998. Indirect costs as a percentage of revenue
remained constant at 10.4% in 1997 and 1998. Therefore the increase in
indirect costs is directly attributable to the increase in revenue described
above.
GROSS PROFIT. Gross profit decreased $3.9 million from $5.2 million or
a gross margin of 9.7% in 1997 to $1.3 million or a gross margin percentage
of 1.9% in 1998. The decrease in gross margin results primarily from the
increase in direct costs attributable to a decline in contract profitability.
SELLING EXPENSE. Selling expense remained relatively constant from
1997 to 1998, while revenue increased 22.8%. Selling expense decreased to
3.0% of revenue 1998 from 3.8% of revenue in 1997.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expense
increased $4.5 million from $3.0 million in 1997 to $7.5 million in 1998. The
increase is due primarily to a non-recurring adjustment of $2.4 million to
write off amounts due under contracts. See also Item 3. Legal Proceedings.
Additionally, non-recurring adjustments of $1.3 million were recorded in 1998
to provide allowances for accounts receivable, contracts in process, and
disallowance of cost incurred on government contracts.
OPERATING INCOME (LOSS). Operating income decreased $8.3 million from
an operating income of $0.1 million in 1997 to an operating loss of $8.2
million in 1998. The decrease in operating income can be attributed
primarily to the decrease of $3.9 million gross profit and the increase of
$4.5 million in general and administrative expense discussed above.
OTHER INCOME (EXPENSE). Other income increased $9.5 million from $0.6
million other expense in 1997 to $8.9 million other income in 1998. The
increase is due primarily to a non-recurring gain of $10.2 million on the
sale of WQM in December 1998. See also Item 1. Business - "THE COMPANY" and
Note C to Company's Consolidated Financial Statements.
20
<PAGE>
INCOME TAX EXPENSE (BENEFIT). During 1998 the Company recorded income
tax expense of $0.2 million compared to an income tax benefit of $0.1 million
in 1997. The 1998 income tax expense is related to the gain on sale of WQM.
The 1997 benefit was based on an estimate of 1995 carryback benefits
available.
NET INCOME (LOSS). Net income for the year ended December 31, 1998 was
$0.5 million compared to a net loss of $0.3 million in the year ended
December 31, 1997. As discussed above, the improvement in net income is due
primarily to the non-recurring gain on sale of business of $10.2 million
offset by a decrease in gross profit of $3.9 million and increase in general
and administrative expense of $4.5 million.
1997 COMPARED TO 1996
PROJECT REVENUE. The Company experienced a slight decrease in revenues
of 1.4% from $54.9 million in 1996 to $54.2 million in 1997. As expected
with the award of the EPA ERRS contracts, the proportion of non-EPA work was
reduced in 1997 from 80.2% to 61.2% of total revenue (see table above). The
Company's goal continues to be the maintenance of a relatively equal
distribution of revenues from government contracts and commercial contracts
to produce a solid continuity of revenues, while optimizing margins.
DIRECT COSTS. Direct costs decreased slightly from $43.7 million in
1996 to $43.3 million in 1997. Direct costs as a percentage of revenues
remained relatively constant at 79.9% compared to 79.5% in 1996 therefore the
decrease in direct costs is primarily the result of the change in revenue
described above.
INDIRECT COSTS. Indirect expenses decreased significantly from $8.2
million or 14.9% of revenues in 1996 to $5.6 million or 10.4% of revenues in
1997. This decrease in indirect operating costs caused gross profit to
increase from 5.6% of revenues in 1996 to 9.7% in 1997. The decrease in
indirect operating costs were a result of the Company taking the following
corrective actions:
- Closed unprofitable offices in Portland and Phoenix.
- Reduced staff and realigned personnel classifications to better
control indirect labor costs.
- Restructured employee benefit programs to reduce cost.
- Hired new key financial management staff.
- Implemented revised processes and controls for contract
administration, revenue recognition, billing and collection, and
accounts payable.
SELLING EXPENSES. Selling expenses decreased 33.2% from $3.1 million in
1996 to $2.1 million in 1997. This decrease is the result of some reduction
of the sales and proposal staff, and the refocusing of commercial sales
efforts out to the regional offices. The Company also implemented a sales
commission program, reducing the fixed salary component of sales costs. The
changes have not impacted the Company's ability to continue to win new work
in both the government and commercial sectors.
21
<PAGE>
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expense
decreased 3.6% from $3.2 million in 1996 to $3.0 million in 1997. This
decrease was due primarily to lower insurance costs.
OPERATING INCOME (LOSS). Operating income increased from an operating
loss of $3.2 million in 1996 to an operating income of $0.1 million in 1997.
As described above, the improvement can be attributed primarily to the
increase of $2.2 million gross profit and decrease in selling expenses.
INCOME TAX (BENEFIT). In 1996, the Company was able to carryback
losses equivalent to 1995 profits for federal tax purposes, resulting in a
federal tax benefit of $0.3 million for 1996 and $0.1 million in 1997.
NET INCOME (LOSS). Net loss for the year ended December 31, 1997 was
$0.3 million compared to a net loss of $3.8 million in the year ended
December 31, 1996. As discussed above, the change in net income is due
primarily to the $2.2 million improvement in gross profit and the $1.0
million decrease in selling expense.
BONDING
The amount of bonding capacity offered by sureties is a function of the
financial health of the company requesting the bond. At March 1999, the
bonding capacity for the Company was in excess of $25.0 million.
LIQUIDITY AND CAPITAL RESOURCES
The Company's financial position improved from 1997 to 1998. The
Company's debt to equity ratio improved to 1.71 in 1998 from 2.43 in 1997.
Related to this, the turnover ratio of the combination of accounts receivable
and contracts in process improved to 120 days in 1998 from 157 days in 1997.
The Company's cash and cash equivalents decreased from $0.3 million at
December 31, 1997 to $0.03 million at December 31, 1998. The decrease in
cash and cash equivalents is due to cash used by operating activities of $6.2
million, cash provided by investing activities of $9.1 million and cash used
in financing activities of $3.2 million. Cash used by operating activities
of $6.2 million is due primarily to an increase in accounts receivable and a
reduction of current liabilities. Cash provided by investing activities of
$9.1 million resulted primarily from the sale of WQM. Cash used in
financing activities of $3.2 million resulted primarily from repayment of
short-term borrowings.
Capital resources are used primarily to fund the acquisition of capital
equipment and provide working capital needed to support continued expansion
of the Company's operations. Historically, the Company has been
under-capitalized, attempting to meet cash requirements through funds
generated from operations, together with funds borrowed under revolving and
term loans.
DEBT. Since January 1995, the Company has borrowed funds from related
parties. As of January 1999, all funds have been repaid and the Company does
not anticipate borrowing from these sources in the future.
On May 30, 1997 the Company entered into a new financing agreement with
National Bank of Canada. This agreement is comprised of a line of credit of
$9.0 million based upon a percentage (80%) of qualifying receivables, and an
equipment term loan of $1.0 million. The $9.0 million line provides that up
to $1.0 million can be used for capital expenditures. Interest is payable
monthly at the Bank's
22
<PAGE>
Reference Rate plus .25%. This rate may be adjusted up or down an additional
.25% depending upon the Company's profitability. The Company used proceeds
from the sale of WQM to repay the line of credit, then subsequently borrowed
an additional $1.0 million as of December 31, 1998. In January 1999, the
Company reduced the maximum available under this financing agreement to $7.5
million.
The Company has also financed vehicles and equipment using long term
capital leases from various entities. As of December 31, 1998, the combined
balance due on these leases was $0.6 million.
In December, 1996, the Company commenced a Private Placement Offering of
Common Stock. This offering was completed in January 1997, and resulted in
the issuance of 0.7 million shares with net proceeds to the Company totaling
$2.0 million. The shares issued pursuant to this offering were classified as
"restricted securities" as such term is defined in Rule 144 of the Securities
Act of 1933. The Company completed an S-3 registration of these shares for
resale which was effective January 7, 1998. In conjunction with the
offering, warrants for an additional 72,925 shares of Common Stock were
issued as partial compensation for underwriting services. These warrants are
exercisable at a price of $3.60 per share for five years from the date of the
offering.
In August 1998, the Company completed a private financing, raising $1.9
million of net proceeds in a placement of convertible preferred stock and
warrants. The preferred shares could be converted into shares of the
Company's common stock at a 15 percent discount to the price of the common
shares at the time of conversion with a maximum conversion price of $3.35.
An aggregate of three-year warrants to purchase 35,000 shares of the
Company's common stock at a price of $3.00 per share was also issued. A
total of 430 shares of the preferred securities were converted into 472,803
shares of common stock by the holders. In January 1999, the Company
negotiated to redeem the remaining 1,570 preferred shares for $1.9 million in
cash.
In December 1998, the Company sold all of the outstanding stock of WQM
for $12.5 million in cash to AquaSource Services and Technologies, Inc. In
addition to the $12.5 million in cash, additional consideration may be paid
in 1999 based on the final audit of working capital levels.
Management believes that funds provided by operations, funds available
under the Company's line of credit and available funds from equity financing
discussed above will be sufficient to fund the Company's immediate needs for
working capital.
CAPITAL COMMITMENTS. The Company has entered into leases for its
existing facilities with such leases expiring at various dates through 2004.
Monthly rentals currently are approximately $57,300 in the aggregate.
Management anticipates that capital expenditures will increase in 1999 and
will be funded from working capital, term loans and equipment leases.
YEAR 2000 COMPLIANCE
The Company has assessed the Year 2000 compliance problem and has
determined that it has potential for exposure regarding Year 2000 compliance
in three areas of its internal and external business activities. These areas
include (1) its own internal hardware, software systems, and the
telecommunications systems which are utilized to process and provide the
Company's accounting, operational information, and communications, (2) the
vulnerability of the Company to the failure of other companies to be Year
2000 compliant, and (3) the Year 2000 Compliance efforts of the Environmental
Protection Agency (EPA), a significant client of the Company, on its daily
tracking & billing system. The following discusses management's assessment
and solutions of those risks and the
23
<PAGE>
steps that are being taken to minimize them.
INTERNAL HARDWARE, SOFTWARE AND TELECOMMUNICATIONS. During the past 9
months, the Company has been and is replacing or adding new equipment to its
inventory of network and systems computers. The Company has committed
approximately $350,000 for this hardware/software replacement, which has been
financed with its cash resources and with lease financing. The hardware
includes the Company's organization-wide network systems and servers,
telephone systems, and personal computer equipment. The Company will test
Year 2000 compliance on this new hardware/software as it is accepted. In
addition, the Company has contracted for the replacement of its
organization-wide accounting, costing, and management information computer
software. This new software will operate the Company's accounting and
operational information systems and will be functional for use by all of its
regional locations. The Vendor has warranted that the software is Year 2000
compliant. Customization of the software is scheduled, and the staff
training will begin 2nd quarter 1999. It is estimated that the system will
be installed and functional in the 3rd quarter 1999. The cost of this system
is expected to be approximately $250,000 including software, hardware and
implementation, and training expenses. The primary purpose of acquiring this
system is to provide improved functionality in the area of consolidated
financial reporting, financial project controls, Year 2000 compliance, timely
cost capturing, and management reporting. In addition, the Company has
reviewed its telecommunications systems, analyzed various options, and
purchased a new central telecommunication system that will provide increased
functionality associated with multiple office communication requirements.
The new system is Year 2000 compliant, and installation is scheduled to be
complete by June 1, 1999. The estimated costs associated with a new
telecommunications system are $33,000.
In addition to the above activities, the Company is in the final process
of completing a full inventory and assessment of its computer hardware,
software, and equipment with embedded devices. It is anticipated that this
process will be completed by September 1999. Management intends to identify
any remaining remedial efforts that may be required to ensure its internal
hardware and software systems are Year 2000 complaint.
YEAR 2000 COMPLIANCE OF OTHER COMPANIES. Although the Company expects
its internal systems to be Year 2000 compliant, the failure of any of its
significant vendors or clients to correct a material Year 2000 problem could
result in an interruption in certain normal business activities and
operations. To date, the Company has received various inquires from its
clients and significant vendors to provide information on Year 2000
compliance or to inform the Company of their Year 2000 compliance. The
Company has been responding to these requests and notices. Management is not
aware of any claims by any client to provide remedial services under any
warranty agreement (stated or implied) for systems it may have provided, nor
is it aware of any system that may have been provided that may be in
violation of any Year 2000 compliance. To the extent any such claims may be
made, the Company intends to address these issues on a case by case basis.
The Year 2000 problem is not limited to computer hardware and software.
It can affect a multitude of other day-to-day business activities. Any type
of equipment with a microchip that stores and processes dates can be
affected. The company is diligently identifying and addressing these issues
so that its ability to conduct business as usual is not compromised as it
moves into the 21st century. The Company is identifying mission-critical
business functions that rely upon date-sensitive equipment, software, or
hardware. The Company is requesting Year 2000 verification in these areas by
performance testing or certifications that use various types of testing for
compliance, i.e., century byte, hardware clock rollover, hardware clock leap
year, BIOS rollover, BIOS leap year, power-on rollover, and power-on leap
year. Due to the general uncertainty inherent in the Year 2000 problem, the
Company at this time is unable to completely determine if any adverse impact
will be experienced by the Company from
24
<PAGE>
other companies' Year 2000 failures.
EPA YEAR 2000 COMPLIANCE. The Company has been working with the EPA on
their efforts to bring their daily tracking & billing system (RCMS) to Year
2000 compliance. The EPA has been developing a windows-based RCMS, Year 2000
Compliant system to be issued to its Contractors by July 1999. Their efforts
are currently in the design testing stage. The Company expects some amount
of problems that are inherent to conforming to a new windows-based system.
Given the current assurances from the EPA of their compliance, the Company is
only anticipating the normal conversion problems. (i.e., DOS-based vs.
Windows-based interaction).
While the Company may be vulnerable to other companies' Year 2000
compliance failures, the Company is well positioned to minimize the Y2K
impact. The Company believes that with the implementation of its new
hardware, software, up-grades to our office equipment, and completion of its
assessment of vendors and clients, the possibility of significant
interruptions of normal operations has been greatly reduced.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Please see pages F-1 through F-22.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10, 11, 12 AND 13. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT;
EXECUTIVE COMPENSATION; SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT; AND CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by these Items is incorporated herein by
reference to the Company's definitive Proxy Statement relating to the Annual
Meeting of Shareholders to be held June 8, 1999.
25
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) 1. The following financial statements are filed herewith:
<TABLE>
<CAPTION>
------------------------------------------------------------- ---------------
PAGES
------------------------------------------------------------- ---------------
<S> <C>
Report of Independent Certified Public Accountants F-1
------------------------------------------------------------- ---------------
Consolidated Balance Sheets F-2 - F-3
------------------------------------------------------------- ---------------
Consolidated Statements of Operations F-4
------------------------------------------------------------- ---------------
Consolidated Statements of Stockholders' Equity F-5
------------------------------------------------------------- ---------------
Consolidated Statements of Cash Flows F-6 - F-7
------------------------------------------------------------- ---------------
Notes to Consolidated Financial Statements F-8 - F-22
------------------------------------------------------------- ---------------
</TABLE>
2. Schedules have been omitted because they are not applicable, are
not required or the information required to be set forth therein
is included in the Consolidated Financial Statements or notes
thereto.
3. EXHIBITS. The following exhibits are filed herewith:
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION LOCATION
----------------------- ------------------------------------------ ------------------------------------
<S> <C> <C>
3.1 Amended and Restated Articles of Incorporated by reference to
Incorporation Exhibit 3.1 to the Company's Form
SB-2 Registration Statement No.
33-91602
3.2 Bylaws Incorporated by reference to
Exhibit 3.2 to the Company's Form
SB-2 Registration Statement No.
33-91602
10.1 Incentive Stock Option Plan Incorporated by reference to
Exhibit 10.1 to the Company's Form
SB-2 Registration Statement No.
33-91602
10.2 Form of Incentive Stock Option Agreement Incorporated by reference to
Exhibit 10.2 to the Company's Form
SB-2 Registration Statement No.
33-91602
10.3 Loan Documents Between National Bank of Incorporated by reference to
Canada and the Company Exhibit 10.3 to the Company's
Annual Report on Form 10-K
for the year ended December 31, 1997.
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION LOCATION
----------------------- ------------------------------------------ ------------------------------------
<S> <C> <C>
10.4 Amendment to Loan and Security Agreement Filed herewith electronically
and Loan Documents between National Bank
of Canada
and the Registrant
10.5 Second Amendment to Loan and Security Filed herewith electronically
Agreement and Loan Documents between
National Bank of Canada and the
Registrant
10.6 Third Amendment to Loan and Security Filed herewith electronically
Agreement and Loan Documents between
National Bank of Canada and the
Registrant
10.7 Stock Purchase Agreement with AquaSource Incorporated by reference to
Services and Technologies, Inc. Exhibit 10.1 to the Company's
report on Form 8-K dated December
17, 1998
21 Subsidiaries of the Registrant None.
23 Consent of Grant Thornton LLP Filed herewith electronically
27 Financial Data Schedule Filed herewith electronically
</TABLE>
(b) REPORTS ON FORM 8-K. The Company filed a Report on Form 8-K
dated December 17, 1998 reporting information under Items 2 and 7 of that
form concerning the sale of the Company's WQM subsidiary.
27
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CET ENVIRONMENTAL SERVICES, INC.
Dated: April 15, 1999 By /s/ Steven H. Davis
-------------------------------
Steven H. Davis
President and Chief Executive
Officer
Pursuant to the requirement of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Company and in the capacities and on the date indicated.
<TABLE>
<CAPTION>
Signature Capacity Date
--------- -------- ----
<S> <C> <C>
/s/ Steven H. Davis President (principal financial
- ---------------------------------------------------- and accounting officer), Chief April 15, 1999
Steven H. Davis Executive Officer, Secretary and
Director
/s/ Craig C. Barto Director April 15, 1999
- ----------------------------------------------------
Craig C. Barto
/s/ Douglas W. Cotton Executive Vice President,
- ---------------------------------------------------- Chief Operating Officer and April 15, 1999
Douglas W. Cotton Director
/s/ George Pratt Director April 15, 1999
- ----------------------------------------------------
George Pratt
/s/ Robert A. Taylor Director April 15, 1999
- ----------------------------------------------------
Robert A. Taylor
</TABLE>
28
<PAGE>
CET ENVIRONMENTAL SERVICES, INC.
FINANCIAL STATEMENTS AND
REPORT OF INDEPENDENT CERTIFIED
PUBLIC ACCOUNTANTS
December 31, 1998 and 1997
<PAGE>
REPORT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
CET Environmental Services, Inc.
We have audited the accompanying consolidated balance sheets of CET
Environmental Services, Inc. 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 then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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 CET
Environmental Services, Inc. as of December 31, 1998 and 1997, and the
consolidated results of its operations and its cash flows for each of the
three years in the period then ended, in conformity with generally accepted
accounting principles.
GRANT THORNTON LLP
Denver, Colorado
March 25, 1999
F-1
<PAGE>
CET Environmental Services
BALANCE SHEETS
December 31,
<TABLE>
<CAPTION>
ASSETS
1998 1997
------------ ------------
<S> <C> <C>
CURRENT ASSETS
Cash $ 25,192 $ 343,878
Accounts receivable, less allowance for
doubtful accounts; $721,857 in 1998 and
$642,097 in 1997 11,781,212 10,042,516
Contracts in process less allowance for doubtful
accounts of $284,128 in 1998 and $-0- in 1997 10,154,501 13,344,219
Retention receivable 663,998 268,949
Income tax receivable -- 20,342
Due from related party 124,036 100,010
Other receivables 3,371,828 154,838
Inventories 267,491 248,417
Prepaid expenses 281,935 566,084
------------ ------------
Total current assets 26,670,193 25,089,253
------------ ------------
EQUIPMENT AND IMPROVEMENTS
Field equipment and vehicles 5,761,481 5,931,499
Office furniture, equipment and leasehold improvements 601,843 1,795,996
------------ ------------
6,363,324 7,727,495
Less allowance for depreciation and amortization (2,883,021) (3,921,131)
------------ ------------
Equipment and improvements - net 3,480,303 3,806,364
GOODWILL, net of accumulated amortization
of $57,684 in 1997 -- 509,228
DEPOSITS 51,318 477,966
------------ ------------
$ 30,201,814 $ 29,882,811
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these statements.
F-2
<PAGE>
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
1998 1997
----------- ------------
<S> <C> <C>
CURRENT LIABILITIES
Cash overdraft $ 1,936,741 $ --
Accounts payable 11,383,109 8,974,502
Accrued expenses 3,249,019 3,054,740
Current obligations under capital leases 316,798 293,957
Income taxes payable 158,958 --
Current portion of long-term debt 750,000 647,194
Line of credit 1,039,925 --
----------- ------------
Total current liabilities 18,834,550 12,970,393
OBLIGATIONS UNDER CAPITAL LEASES 250,784 583,270
LINE OF CREDIT -- 6,198,631
NOTES PAYABLE TO RELATED PARTIES -- 671,800
LONG-TERM DEBT -- 750,000
COMMITMENTS AND CONTINGENT LIABILITIES -- --
STOCKHOLDERS' EQUITY
Common stock (no par value) - authorized 20,000,000 shares;
6,129,271 and 5,805,485 shares issued and outstanding
at December 31, 1998 and 1997, respectively 8,539,716 8,235,589
4% convertible preferred stock (no par value) -
authorized 5,000,000 shares; 1,710 and -0-
shares issued and outstanding at December 31,
1998 and 1997, respectively 1,589,102 --
Paid-in capital 574,629 567,953
Retained earnings (accumulated deficit) 413,033 (94,825)
----------- ------------
Total stockholders' equity 11,116,480 8,708,717
----------- ------------
$30,201,814 $ 29,882,811
----------- ------------
----------- ------------
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE>
CET Environmental Services
STATEMENT OF OPERATIONS
Years ended December 31,
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
PROJECT REVENUE $ 66,497,282 $ 54,169,753 $ 54,918,520
PROJECT COSTS
Direct 58,298,144 43,286,506 43,660,435
Indirect 6,902,927 5,645,781 8,175,951
------------ ------------ ------------
65,201,071 48,932,287 51,836,386
------------ ------------ ------------
Gross profit 1,296,211 5,237,466 3,082,134
------------ ------------ ------------
OTHER OPERATING EXPENSES (INCOME)
Selling 1,989,584 2,070,130 3,101,197
General and administrative 7,535,966 3,044,045 3,158,707
------------ ------------ ------------
9,525,550 5,114,175 6,259,904
------------ ------------ ------------
Operating income (loss) (8,229,339) 123,291 (3,177,770)
------------ ------------ ------------
OTHER INCOME (EXPENSE)
Gain on sale of subsidiary 10,154,028 -- --
Interest expense, net (892,213) (704,575) (627,537)
Other income (expense) (310,722) 120,446 (292,998)
------------ ------------ ------------
8,951,093 (584,129) (920,535)
------------ ------------ ------------
Income (loss) before taxes on income 721,754 (460,838) (4,098,305)
(Benefit) taxes on income 183,276 (113,547) (341,855)
------------ ------------ ------------
NET INCOME (LOSS) $ 538,478 $ (347,291) $ (3,756,450)
------------ ------------ ------------
------------ ------------ ------------
Weighted average number of
shares outstanding 5,828,537 5,785,264 5,066,537
Earnings (loss) per common share $ 0.09 $ (0.06) $ (0.74)
------------ ------------ ------------
------------ ------------ ------------
Earnings (loss) per common share--
assuming dilution $ 0.09 $ (0.06) $ (0.74)
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
CET Environmental Services, Inc.
STATEMENTS OF STOCKHOLDER'S EQUITY
Years ended December 31, 1998, 1997, and 1996
<TABLE>
<CAPTION>
Retained
Common stock Preferred stock earnings Total
----------------------- ----------------------- Paid-in (accumulated stockholders'
Shares Amount Shares Amount capital deficit) equity
--------- ----------- --------- ----------- --------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1996 5,066,537 $ 6,165,977 - $ - $ 535,175 $ 4,008,916 $ 10,710,068
Issuance of stock options
at exercise price below
market value - - - - 20,355 - 20,355
Net (loss) for the year - - - - - (3,756,450) (3,756,450)
--------- ----------- --------- ----------- --------- ------------ ------------
Balance at December 31, 1996 5,066,537 6,165,977 - - 555,530 252,466 6,973,973
Shares issued in private
placement 729,248 2,035,662 - - - - 2,035,662
Exercise of stock options 9,700 33,950 - - - - 33,950
Issuance of stock options
at exercise price below
market value - - - - 12,423 - 12,423
Net (loss) for the year - - - - - (347,291) (347,291)
--------- ----------- --------- ----------- --------- ------------ ------------
Balance at December 31, 1997 5,805,485 8,235,589 - - 567,953 (94,825) 8,708,717
Exercise of stock options
and other 6,000 14,000 - - 6,676 - 20,676
Issuance of preferred stock - - 2,000 1,879,229 - - 1,879,229
Conversion of preferred stock 317,786 290,127 (290) (290,127) - - -
Dividends on preferred stock - - - - - (30,620) (30,620)
Net income for the year - - - - - 538,478 538,478
--------- ----------- --------- ----------- --------- ------------ ------------
Balance at December 31, 1998 6,129,271 $ 8,539,716 1,710 $ 1,589,102 $ 574,629 $ 413,033 $ 11,116,480
--------- ----------- --------- ----------- --------- ------------ ------------
--------- ----------- --------- ----------- --------- ------------ ------------
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE>
CET Environmental Services, Inc.
STATEMENTS OF CASH FLOWS
Years ended December 31,
<TABLE>
<CAPTION>
1998 1997 1996
------------ ----------- -----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 538,478 $ (347,291) $(3,756,450)
Adjustments to reconcile net income to net cash (used in)
provided by operating activities:
Depreciation and amortization 1,453,900 1,573,085 1,252,781
Gain on sale of subsidiary (10,154,028) -- --
Provision for bad debts 333,268 104,010 402,683
Deferred income taxes -- -- 252,048
Loss on sale of equipment 216,007 -- 13,304
Employee stock option plan 6,676 12,423 20,355
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable (3,348,937) (2,692,133) 5,499,747
Decrease (increase) in contracts in process 2,905,590 (6,687,357) (443,372)
Decrease (increase) in income tax
and other receivables (1,942,137) 1,037,665 (1,335,263)
Decrease (increase) in prepaid expenses (370,848) 47,686 (107,530)
(Increase) decrease in inventory and deposits 403,074 (421,828) 50,210
Increase (decrease) in accounts payable 3,152,811 1,215,834 (99,156)
Increase (decrease) in accrued expenses
and income taxes 619,832 2,199,847 (533,861)
------------ ----------- -----------
Net cash (used in) provided by
operating activities (6,186,314) (3,958,059) 1,215,496
------------ ----------- -----------
INVESTING ACTIVITIES:
Purchase of equipment (1,381,135) (462,947) (1,523,418)
Proceeds from sale of equipment -- -- 65,641
Proceeds from sale of subsidiary 11,250,000 -- --
Net purchase of subsidiary (803,845) (186,798) --
------------ ----------- -----------
Net cash provided by (used in)
investing activities 9,065,020 (649,745) (1,457,777)
------------ ----------- -----------
FINANCING ACTIVITIES:
Bank overdraft 1,936,741 -- --
Proceeds from issuance of long-term debt -- 1,286,476 766,751
Payments on long-term debt (754,877) (1,475,158) (917,592)
Payments on capital leases (411,359) (327,230) (348,711)
Net (payments) proceeds from credit line loan (5,158,706) 1,997,981 1,775,814
Borrowings from related party trust fund -- -- 200,000
Payment of dividends on preferred stock (30,620) -- --
Proceeds from issuance of preferred stock 1,879,229 2,035,662 --
Proceeds from exercise of stock options 14,000 33,950 --
Proceeds from loans from shareholders 500,000 -- 545,000
Payments on loans from shareholders (500,000) (545,000) --
Net payments from related party -- 58,000 (158,010)
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE>
CET Environmental Services, Inc.
STATEMENTS OF CASH FLOWS
Years ended December 31,
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Payments on subordinated notes payable $ (671,800) $ -- $ (210,625)
----------- ----------- -----------
Net cash (used in) provided by
financing activities (3,197,392) 3,064,681 1,652,627
----------- ----------- -----------
(DECREASE) INCREASE IN CASH (318,686) (1,543,123) 1,410,346
Cash at beginning of year 343,878 1,887,001 476,655
----------- ----------- -----------
Cash at end of year $ 25,192 $ 343,878 $ 1,887,001
----------- ----------- -----------
----------- ----------- -----------
Supplemental disclosures of cash flow information:
Cash paid during the year
Interest $ 1,060,211 $ 717,980 $ 485,951
Income taxes -- -- 656,900
Noncash investing and financing activities:
Capital lease and financing obligations
incurred for equipment $ -- $ -- $ 683,223
----------- ----------- -----------
----------- ----------- -----------
Issuance of note payable for financing of
insurance premiums $ 485,818 $ 301,965 $ 412,296
----------- ----------- -----------
----------- ----------- -----------
Conversion of preferred stock to common $ 290,127 $ -- $ --
----------- ----------- -----------
----------- ----------- -----------
Transfer of CIP from deposits to fixed assets $ 368,452 $ -- $ --
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
The accompanying notes are an integral part of these statements.
F-7
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS
December 31, 1998, 1997 and 1996
NOTE A -- ORGANIZATION AND DESCRIPTION OF COMPANY
CET Environmental Services, Inc. (the Company) was incorporated on
February 9, 1988 under the laws of the State of California. On November
29, 1991, Environmental Operations, Inc., purchased 100% of the Company's
outstanding stock from Consolidated Environmental Technologies, Inc. In
August 1992, Environmental Operations, Inc. was merged into CET
Environmental Services, Inc. In August 1997, the Company acquired all of
the outstanding stock of Water Quality Management Corporation (WQM). WQM
was operated as a wholly-owned subsidiary of the Company. WQM was sold in
December 1998 (Note C).
The Company provides a variety of consulting and technical services to
resolve environmental and health risk problems in the air, water and
soil. The Company has developed a broad range of expertise in
non-proprietary technology-based environmental remediation and water
treatment techniques for both the public and private sectors throughout
North America and the Trust Territory of the Pacific Islands.
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CASH
For purposes of the statement of cash flows, the Company considers all
highly liquid cash investments with an original maturity of three months
or less to be cash.
CONTRACTS
A majority of the Company's revenue is generated from time-and-material
contracts whereby the Company provides services, as prescribed under the
various contracts, for a specified fixed hourly rate for each type of
labor hour and receives reimbursement for material, inventories and
subcontractor costs. Many of the contracts also have a fixed mark-up to
be applied to material, inventories and subcontract costs. In addition,
many of the time and material contracts have a stated maximum contract
price, which can not be exceeded without an authorized change order.
Revenue is recorded on contracts based upon the labor hours and costs
incurred. Provision for losses on uncompleted contracts are made in the
period in which such losses are determined. Claims are recorded in
revenue when received.
Contracts in process consist of the accumulated unbilled labor at
contracted rates, material, subcontractor costs and other direct and
indirect job costs and award fees related to projects in process.
INVENTORIES
Inventories consist of various supplies and materials used in the
performance of the services related to the Company's projects and are
stated at the lower of cost or market.
F-8
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EQUIPMENT AND IMPROVEMENTS
Equipment and improvements are recorded at cost. Depreciation and
amortization are provided on a straight-line method over the estimated
useful lives of the respective assets, usually between three to seven
years. Leasehold improvements are amortized over the lives of the
respective leases or the service lives of the improvements, whichever is
shorter.
GOODWILL
Goodwill is the excess of cost over the fair value of net assets
acquired, and is being amortized over a fifteen-year period using the
straight-line method. The Company evaluates its goodwill annually to
determine potential impairment by comparing the carrying value to the
undiscounted estimated expected future cash flows of the related assets.
INCOME TAXES
The Company accounts for income taxes on the liability method which
requires that deferred tax assets and liabilities be recorded for expense
and income items that are recognized in different periods for financial
and income tax reporting purposes.
ESTIMATED FAIR VALUE INFORMATION
Statement of Financial Accounting Standards ("SFAS") No. 107, DISCLOSURE
ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS, requires disclosure of the
estimated fair value of an entity's financial instrument assets and
liabilities, as defined, regardless of whether recognized in the
financial statements of the reporting entity. The fair value information
does not purport to represent the aggregate net fair value of the
Company.
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:
CASH AND OTHER RECEIVABLES: The carrying amount approximates fair value
due to the short-term maturity.
DUE FROM RELATED PARTY: The carrying amount approximates the fair value
because it is due on demand.
NOTE PAYABLE - LINE OF CREDIT: The carrying amount approximates fair
value as the line of credit has a variable interest rate which is
considered to approximate the market rate.
LONG-TERM DEBT / OBLIGATIONS UNDER CAPITAL LEASES: The carrying value
approximates fair value as the interest rate at December 31, 1998 and
1997 is considered to approximate the market rate.
F-9
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
NOTES PAYABLE TO RELATED PARTIES: The carrying value approximates fair
value as the interest rate at December 31, 1998 and 1997 is considered to
approximate the market rate.
USE OF ESTIMATES
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
the disclosure of contingent assets and liabilities at the date of the
financial statements, and the reported amounts of revenue and expenses
during the reporting period. Actual results could differ from those
estimates.
IMPAIRMENT OF LONG-LIVED ASSETS
In March 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards 121, ACCOUNTING FOR THE IMPAIRMENT OF
LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF (SFAS 121).
SFAS 121 requires that long-lived assets and certain identifiable
intangibles held and used by an entity be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. If the sum of the expected
future cash flows (undiscounted and without interest) is less than the
carrying amount of the asset, an impairment loss is recognized.
Measurement of that loss would be based on the fair value of the asset.
SFAS 121 also generally requires that long-lived assets and certain
identifiable intangibles to be disposed of be reported at the lower of
the carrying amount or the fair value, less cost to sell. SFAS 121 is
effective for the Company's 1997 fiscal year-end. Any impairment
provisions recognized in accordance with SFAS 121 are permanent and may
not be restored in the future. No impairment expense was recognized in
the years ended December 31, 1998 and 1997.
EARNINGS PER SHARE
The Financial Accounting Standards Board recently issued Statement of
Financial Accounting Standards No. 128, EARNINGS PER SHARE (SFAS 128).
SFAS 128 requires the presentation of basic earnings per share (EPS) and,
for companies with potentially dilutive securities such as convertible
debt, options and warrants, diluted EPS.
The following table sets forth the computation of basic and diluted
earnings per share (in thousands, except per share data):
F-10
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Numerator
Net income (loss) $ 539 $ (347) $(3,756)
Preferred stock dividends (31) -- --
------- ------- -------
Numerator for basic earnings per share -
income available to common stockholders 508 (347) (3,756)
Effect of dilutive securities:
Preferred stock dividends -- -- --
------- ------- -------
Numerator for diluted earnings per share -
income available to common stockholders
after assumed conversions $ 508 $ (347) $(3,756)
------- ------- -------
------- ------- -------
Denominator:
Denominator for basic earnings per share -
weighted average shares outstanding $ 5,829 $ 5,785 $ 5,067
Effect of dilutive securities:
Warrants 24 -- --
Convertible preferred stock -- -- --
Stock options 22 -- --
------- ------- -------
Dilutive potential common shares 46 -- --
Denominator for diluted earnings per share -
adjusted weighted average share and
assumed conversion $ 5,875 $ 5,785 $ 5,067
------- ------- -------
------- ------- -------
Basic earnings per share $ 0.09 $ 0.06 $ 0.74
------- ------- -------
------- ------- -------
Diluted earnings per share $ 0.09 $ 0.06 $ 0.74
------- ------- -------
------- ------- -------
</TABLE>
F-11
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
In 1998, basic earnings per share data was computed by dividing net
income, less preferred stock dividends, by the weighted average number of
common shares outstanding during the period. Diluted earnings per share
were adjusted for the assumed conversion of potentially dilutive
securities including stock options and warrants to purchase common stock.
However, dilutive earnings per share computation does not give effect to
the assumed conversion of convertible preferred stock as its effect would
have been anti-dilutive.
In 1997 and 1996, basic earnings per share data was computed by dividing
net loss, by weighted average number of common shares outstanding during
the period. Diluted earnings per share computations do not give effect to
potentially dilutive securities including stock options and warrants as
their effect would have been anti-dilutive.
Certain financial statement reclassifications have been made in 1996 and
1997 to conform with presentations used in 1998.
NOTE C -- SALE OF SUBSIDIARY
Effective December 1, 1998, the Company sold all of the outstanding
shares of its subsidiary, Water Quality Management Corporation (WQM) for
a purchase price of $12,500,000 adjusted for the net working capital of
WQM at November 30, 1998. The Company received $11,250,000 at the date of
purchase with the remaining consideration due ninety days after closing.
At December 31, 1998, $2,598,918 has been included in other receivables
as the remaining consideration.
NOTE D -- CONTRACTS IN PROCESS
Contracts in process consist of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Government - EPA contracts $ 1,971,002 $ 3,801,853
Non-EPA contracts 8,183,499 9,542,366
----------- -----------
Total $10,154,501 $13,344,219
----------- -----------
----------- -----------
</TABLE>
The Environmental Protection Agency (EPA) awards the Company an award fee
for work performed based upon a percentage of sub-contract and material
costs incurred plus a percentage of program management fees billed.
F-12
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE E -- SIGNIFICANT CUSTOMERS
A significant portion of the Company's business is from contracts with
the EPA. A new contract was awarded by the EPA in December 1996, with
estimated maximum revenue of $292,000,000 over five years. As of December
31, 1998 and 1997, the net balance of accounts receivable from the EPA
was $8,359,389 and $3,943,761, respectively. Revenue from the EPA in
1998, 1997, and 1996 amounted to approximately $30 million, $21 million,
and $10.9 million, respectively.
The Company also performs work for the U.S. Army Corps of Engineers
that accounted for 10%, 7% and 1% of revenue in 1998, 1997 and 1996,
respectively.
NOTE F -- RELATED PARTY TRANSACTIONS
In order to meet short-term operating needs, the Company, from time to
time borrows funds on a short-term basis from affiliates of the Company
or from a trust fund of a relative of the President. The Company borrowed
$671,800, which includes subordinated notes of $671,800 (see notes H and
I), from relatives of Steven H. Davis, President, pursuant to one-year
notes, which bear interest at the rate of 10% per annum. The Company
repaid these notes in December 1998. Interest expense attributable to
these related party borrowings amounted to $95,761, $73,544, and $55,898
for 1998, 1997, and 1996, respectively.
A director and 11.5% owner of the Company is a 50% owner in Signal Hill
Petroleum, Inc., Paramount Petroleum Corp. and Fletcher Oil. The Company
provided services to these companies during the years ended December 31,
1998, 1997, and 1996 for fees amounting to approximately $273,000,
$835,000, and $340,000, respectively.
The Company has made advances to a former officer and director of the
Company. The balance due was $124,036 and $100,010 at December 31, 1998
and 1997, respectively. Interest is payable monthly at 10% per annum, and
principal is due on demand.
NOTE G -- CAPITAL LEASES
Vehicles and equipment recorded under capital leases consist of the
following at December 31:
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Vehicles $ 1,363,960 $ 1,497,407
Equipment 202,123 272,679
----------- -----------
1,566,083 1,770,086
Less accumulated depreciation (751,693) (806,148)
----------- -----------
Total $ 814,390 $ 963,938
----------- -----------
----------- -----------
</TABLE>
F-13
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE G -- CAPITAL LEASES (CONTINUED)
The following is a schedule by year of the future minimum lease payments
under capital leases together with the present value of the net minimum
lease payments as of December 31, 1998:
<TABLE>
<S> <C>
1999 $ 382,041
2000 265,031
2001 33,161
---------
Total minimum lease payments 680,233
Less amounts representing estimated
executory costs (taxes) (40,310)
---------
Net minimum lease payments 639,923
Less amount representing interest (72,341)
---------
Present value of net minimum lease payments $ 567,582
---------
---------
Current portion $ 316,798
Noncurrent portion 250,784
---------
$ 567,582
---------
---------
</TABLE>
NOTE H -- LINE OF CREDIT AND LONG-TERM DEBT
The Company has a line of credit facility with National Bank of Canada
(the "Bank") which provides up to $9,000,000 of available credit,
including a $500,000 stand-by letter of credit to the Company based upon
a percentage (80%) of eligible receivables (as defined in the loan
agreement). Interest is payable monthly at the Bank's Reference Rate plus
.25% (9% at December 31, 1998). The line of credit facility has an
expiration date of May 30, 1999. At December 31, 1998, $1,039,925 was
outstanding under the agreement. In addition, the Company borrowed
$1,000,000 from the Bank under a term loan. Interest is payable monthly
at the Bank's Reference Rate plus .25% (9% at December 31, 1998). In
January 1999, the Company reduced the maximum available under this
financing agreement to $7.5 million comprised of a line of credit of
$6.75 million and an equipment term loan of $750,000.
Long-term debt consists of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Note payable to bank, collateralized by equipment, payable in 36 monthly
installments of $2,378 including interest at
9%, beginning December 30, 1995 $ - $ 24,007
Note payable to bank, collateralized by equipment, payable in 36 monthly
installments of $11,267 including interest
at 9%, beginning January 30, 1996 - 118,840
Note payable for annual insurance premium, interest at
5.73%, with monthly payments of $43,531, due June 30, 1998 - 304,347
</TABLE>
F-14
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE H -- LINE OF CREDIT AND LONG-TERM DEBT (CONTINUED)
<TABLE>
<CAPTION>
1998 1997
---------- ----------
<S> <C> <C>
Note payable to a bank, collateralized by equipment,
payable in monthly installments of $16,667 including
interest at 9%, balance due May 30, 1999 750,000 950,000
---------- ----------
750,000 1,397,194
Less current portion 750,000 647,194
---------- ----------
$ - $ 750,000
---------- ----------
---------- ----------
</TABLE>
Related party debt consists of the following at December 31:
<TABLE>
<CAPTION>
1998 1997
---------- ----------
<S> <C> <C>
Subordinated notes payable to related parties, due
February 28, 1999, interest at 10% (see notes F and I) $ - $ 671,800
---------- ----------
671,800
Less current portion - -
---------- ----------
$ - $ 671,800
---------- ----------
---------- ----------
</TABLE>
NOTE I -- SUBORDINATED NOTES PAYABLE
In March and April 1995, the Company issued debt securities in a private
offering pursuant to which it raised $890,000. In exchange for each
$10,000 invested, the nineteen investors were given a warrant to acquire
approximately 1,312 shares of common stock at approximately $1.20 per
share, to be exercised on or before December 31, 1996, for an aggregate
of 116,768 shares, and a subordinated note for the amount invested. On
March 1, 1996, the remaining balance of $471,800 was rolled over into new
notes, with interest payable monthly at ten percent per annum. Interest
of $47,180 and $39,316 was paid to the holders of these notes during 1997
and 1996, respectively.
NOTE J -- TAXES ON INCOME
The provision (benefit) for taxes on income includes the following for
the year ended December 31:
<TABLE>
<CAPTION>
1998 1997 1996
--------- ----------- -----------
<S> <C> <C> <C>
CURRENT
Federal $ 183,276 $ (20,342) $ (569,268)
State - - (24,635)
--------- ----------- -----------
$ 183,276 $ (20,342) $ (593,903)
--------- ----------- -----------
DEFERRED
Federal - (79,650) 215,390
State - (13,555) 36,658
--------- ----------- -----------
- (93,205) 252,048
--------- ----------- -----------
Total $ 183,276 $(113,547) $ (341,855)
--------- ----------- -----------
--------- ----------- -----------
</TABLE>
F-15
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE J -- TAXES ON INCOME (CONTINUED)
A reconciliation between the expected federal income tax expense
computed by applying the Federal statutory rate to income before income
taxes and the actual provision (benefit) for taxes on income for the year
ended December 31, is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
----------- --------- -----------
<S> <C> <C> <C>
Provision (benefit) for income
taxes at statutory rate $ 281,484 $(180,000) $(1,598,400)
Change in valuation reserve (1,016,400) 102,134 1,076,366
Use of operating loss carry forwards 907,700 -- --
Stock options 2,700 6,900 8,142
Other 32,200 13,342 172,037
Change in prior year estimate (24,408) (55,923) --
----------- --------- -----------
$ 183,276 $(113,547) $ (341,855)
----------- --------- -----------
----------- --------- -----------
</TABLE>
Deferred tax assets and liabilities consist of the following at
December 31:
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Alternative minimum tax credit $ 202,000 $ -
Deferred gain on sale (1,000,900) -
Accrued salary expense 211,900 81,900
Allowance for doubtful accounts 377,200 227,000
Other reserves 243,100 -
NOL carryforward - 907,700
Other 128,800 (38,100)
----------- -----------
162,100 1,178,500
Valuation reserve (162,100) (1,178,500)
----------- -----------
$ - $ -
----------- -----------
----------- -----------
</TABLE>
Realization of the deferred tax asset depends on achieving future taxable
income. The Company incurred losses in recent years and does not consider
it likely that the Company will realize the benefit of the deferred tax
asset and, accordingly, has recorded a valuation allowance equal to the
deferred tax asset.
NOTE K -- COMMITMENTS AND CONTINGENCIES
The Company is obligated under certain operating leases for its
facilities. The leases expire at various dates through 2001, with
appropriate rentals as set forth below. Some leases also provide for
payments of taxes and certain common area costs and expenses.
F-16
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE K -- COMMITMENTS AND CONTINGENCIES (CONTINUED)
The following is a summary at December 31, 1998, of the future minimum
rents due under noncancelable operating leases:
<TABLE>
<CAPTION>
Year ending December 31,
<S> <C>
1999 $ 581,578
2000 462,997
2001 134,756
-----------
Total $ 1,179,331
-----------
-----------
</TABLE>
Total rent expense under operating leases for the years ended December
31, 1998, 1997, and 1996, was approximately $839,514, $723,900 and
$892,700, respectively.
Although the Company is involved in litigation in the normal course of
its business, management believes that no pending litigation in which the
Company is named as a defendant is likely to have a materially adverse
effect on the Company's financial position or results of operations.
NOTE L -- STOCKHOLDERS' EQUITY
On February 9, 1996, the Company filed a registration statement on Form
SB-2 to register 402,537 shares of common stock for resale by certain
shareholders (Selling Shareholders), which shares have been "restricted
securities" as defined in Rule 144 under the Securities Act of 1933. None
of the proceeds from the sale of the common stock by the Selling
Shareholders were received by the Company.
In January 1997, the Company completed a private offering of 729,248
shares of its common stock. The net proceeds to the Company from this
offering were approximately $2,035,000. In connection with this offering,
the Company issued a warrant to the representatives of the underwriters
in this offering to purchase up to 10% of the number of shares sold in
the offering of the Company's common stock. The purchase price of such
warrant was $100 and the exercise price under such warrants is $3.60 per
share.
The warrants may be exercised in whole or in part at any time or from
time to time until the expiration date of December 31, 2001. The Company
also issued warrants to purchase 100,000 shares of common stock at $4.25
per share to a management services firm as consideration for its
assistance on the private offering. The warrants may be exercised from
July 1, 1998 through December 31, 1999. These warrants are considered
stock issuance costs, with a value of approximately $235,000 based on the
fair value at the grant date as required by Financial Accounting
Standards 123.
F-17
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE L -- STOCKHOLDERS' EQUITY (CONTINUED)
In July 1998, the Company completed a private placement of 2,000 shares
of 4% convertible preferred stock. The net proceeds were approximately
$1,879,000. The preferred stock is convertible into shares of common
stock based on the stated value of $1,000 per share of preferred stock
divided by conversion price on the conversion date. The conversion price
is equal to 85% of the lowest closing price of the common stock during
the six days immediately preceding the conversion date, not to exceed
$3.35. A total of 290 shares of the preferred stock were converted into
317,786 shares of common stock during 1998.
The holders of 4% convertible preferred stock are entitled to receive
dividends when declared by the Board of Directors, payable in cash or
common stock of $40 per share. Such dividends are payable in quarterly
installments on March 31, June 30, September 30 and December 31 of each
year commencing September 30, 1998.
In the event of a voluntary or involuntary dissolution, liquidation or
winding up of the Company, the holders of 4% convertible preferred stock
are entitled to receive out of the assets of the Company available for
distribution, before payment shall be made to holders of common stock, an
amount per share equal to $1,000 of such shares and all dividends which
have accrued and are unpaid.
In connection with this offering, the Company issued warrants to the
representatives of the underwriters in this offering to purchase up to
35,000 shares of the Company's common stock at $3.00 per share. The
warrants may be exercised during the period commencing July 24, 1999 and
ending on December 31, 2001.
In January 1999, the Company bought back all the remaining shares of
preferred stock for approximately $1,900,000. The warrants issued in
connection with the preferred stock remain outstanding.
NOTE M -- PROFIT SHARING AND 401(K) PLAN
The Company maintains a Profit Sharing and 401(k) Plan, which has been in
effect since January 1, 1990. All classes of employees meeting the
participation requirements are eligible to participate in the Plan.
Company contributions to the Plan are discretionary.
The Company does, however, make a matching contribution in the amount of
25% of the first 6% of all elective deferrals. The Company contributed
$82,103, $65,206, and $83,738 for the years ended December 31, 1998,
1997, and 1996, respectively.
F-18
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE N -- STOCK OPTIONS
On March 1, 1995, the Company adopted an Incentive Stock Option Plan (the
Plan) for key personnel. A total of 550,000 shares of the Company's
common stock are reserved for issuance pursuant to the exercise of stock
options (the Options) which may be granted to full-time employees of the
Company. The Plan is administered by the Board of Directors. In addition
to determining who will be granted Options, the Board of Directors has
the authority and discretion to determine when Options will be granted
and the number of Options to be granted. The Board of Directors may grant
Options intended to qualify for special treatment under the Internal
Revenue Code of 1986, as amended (Incentive Stock Options) and may
determine when each Option becomes exercisable, the duration of the
exercise period for Options and the form of the instruments evidencing
Options granted under the Plan.
The maximum aggregate fair market value (determined as of the date of
grant) of the shares as to which the Incentive Stock Options become
exercisable for the first time during any calendar year may not exceed
$100,000. The Plan provides that the purchase price per share for each
Incentive Stock Option on the date of grant may not be less than 100
percent of the fair market value of the Company's common stock on the
date of grant. However, any Option granted under the Plan to a person
owning more than 10 percent of the Company's common stock shall be at a
price of at least 110 percent of such fair market value.
The Plan is accounted for under APB Opinion 25 and related
interpretations. The Options generally have a term of 10 years when
issued and vest over three to five years. Had compensation cost for the
Plan been determined based on the fair value of the Options at the grant
date consistent with the method of Statement of Financial Accounting
Standards 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, the Company's net
income (loss) and earnings (loss) per common share would have been:
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -------------
<S> <C> <C> <C>
Net income (loss)
As reported $ 538,478 $ (347,291) $ (3,756,450)
Pro forma 454,233 (495,586) 3,854,017
Earnings (loss) per common share
As reported $ 0.09 $ (0.06) $ (0.74)
Pro forma 0.08 (0.09) (0.76)
</TABLE>
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes options-pricing model with the following
weighted-average assumptions for grants used in 1998, 1997 and 1996: no
expected dividends; expected volatility of 74.77%; risk-free interest
rate of 6.07%; and expected lives of five years.
F-19
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE N -- STOCK OPTIONS (CONTINUED)
A summary of the status of the Plan follows:
<TABLE>
<CAPTION>
Average price
Shares per share
-------- -------------
<S> <C> <C>
Outstanding at January 1, 1996 176,000 $ 3.50
Granted 150,000 $ 6.89
Exercised -- --
Canceled (112,000) $ 4.83
-------- --------
Outstanding at December 31, 1996 214,000 $ 5.60
-------- --------
Total exercisable at December 31, 1996 41,600 $ 3.92
-------- --------
-------- --------
Outstanding at January 1, 1997 214,000 $ 5.60
Granted 96,900 $ 7.00
Exercised (9,700) $ 3.50
Canceled (70,400) $ 9.04
-------- --------
Outstanding at December 31, 1997 230,800 $ 5.10
-------- --------
Total exercisable at December 31, 1997 80,375 $ 4.27
-------- --------
-------- --------
Outstanding at January 1, 1998 230,800 $ 5.10
Granted -- $ --
Exercised (4,000) $ 3.50
Canceled (114,700) $ 4.45
-------- --------
Outstanding at December 31, 1998 112,100 $ 5.08
-------- --------
Total exercisable at December 31, 1998 51,950 $ 4.75
-------- --------
-------- --------
</TABLE>
<TABLE>
<CAPTION>
Weighted average
Range Options Proceeds exercise price
------------ ------------ ------------ ----------------
<S> <C> <C> <C> <C>
Exercisable at
December 31, 1998 $3.50 - 7.00 51,950 $ 246,950 $ 4.75
</TABLE>
F-20
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE N -- STOCK OPTIONS (CONTINUED)
The following information applies to options outstanding at December 31,
1998:
<TABLE>
<CAPTION>
Weighted average
Range of Options Weighted average remaining
exercisable prices outstanding exercise price contractual life
------------------ ----------- ---------------- -----------------
<S> <C> <C> <C>
$3.50 - 7.00 112,100 $5.08 6 years
</TABLE>
In May 1995, options for 181,000 shares of common stock were granted
under the Plan of which options for 90,500 shares will vest only upon the
occurrence of certain circumstances. On December 31, 1995, 13,500 of such
remaining options were granted as events upon which these options were
contingent occurred. The Company recorded compensation expense of $6,676,
$12,423, and $20,355 in 1998, 1997, and 1996, respectively, relating to
these options. Compensation expense of $3,172 will be recorded in future
periods as these options vest over a five-year period commencing December
31, 1996.
NOTE O -- DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
All of the Company's financial instruments are held for purposes other
than trading. The carrying amounts in the table below are the amounts at
which the financial instruments are reported in the financial statements.
The estimated fair values of the Company's financial instruments at
December 31, 1998 and 1997, are as follows:
<TABLE>
<CAPTION>
1998 Carrying amount Estimated fair value
--------------------------- --------------- --------------------
<S> <C> <C>
Cash $ 25,192 $ 25,192
Due from related party 124,036 124,036
Other receivables 3,371,828 3,371,828
Note payable - line of credit 1,039,925 1,039,925
Long-term debt 750,000 750,000
Capitalized lease obligations 567,582 567,582
</TABLE>
<TABLE>
<CAPTION>
1997 Carrying amount Estimated fair value
--------------------------- --------------- --------------------
<S> <C> <C>
Cash $ 343,878 $ 343,878
Due from related party 100,010 100,010
Other receivables 154,838 154,838
Note payable - line of credit 6,198,631 6,198,631
Long-term debt 1,397,194 1,397,194
Capitalized lease obligations 877,227 877,227
Notes payable to related parties 671,800 671,800
</TABLE>
F-21
<PAGE>
CET Environmental Services, Inc.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
December 31, 1998, 1997 and 1996
NOTE P -- FOURTH QUARTER ADJUSTMENTS
During the fourth quarter of the year ended December 31, 1998, the
Company made the following adjustments:
<TABLE>
<S> <C>
Wrote off specific accounts receivable that were determined to be
uncollectible. $ 2,400,000
Increase in allowance for bad debts. 740,000
Increase contract cost for an expected settlement with a
subcontractor. 400,000
Wrote off costs of a project in Brazil that was determined not to
be feasible. 175,000
</TABLE>
F-22
<PAGE>
AMENDMENT TO LOAN AND SECURITY AGREEMENT AND LOAN DOCUMENTS
THIS AMENDMENT TO LOAN AND SECURITY AGREEMENT AND LOAN DOCUMENTS (this
"Amendment"), dated as of August 29, 1997, is between NATIONAL BANK OF
CANADA, a Canadian chartered bank ("Lender"), and CET ENVIRONMENTAL
SERVICES, INC., a California corporation ("Borrower").
RECITALS
A. Lender and Borrower entered into a Loan and Security Agreement dated
May 29, 1997 (the "Loan Agreement"), providing for the Revolving Loans,
Equipment Loans, Term Loan and Letters of Credit in the aggregate maximum
available amount not to exceed $9,000,000. Defined terms used herein and
not defined herein shall have the meaning set forth in the Loan Agreement.
B. The Loans are secured by the Collateral.
C. The Borrower and Lender desire to enter into this Amendment in order to
increase the amount of Letters of Credit that may be issued pursuant to
the Loan Agreement.
AGREEMENT
IN CONSIDERATION of the foregoing and other good and valuable consideration,
the receipt and sufficiency of which are hereby acknowledged, Lender and
Borrower agree as follows:
1. AMENDMENT TO LOAN AGREEMENT. In order to increase to the maximum amount of
Letters of Credit that may be issued, subsection (i) of Section 2(c) of the
Loan Agreement is hereby amended by replacing the phrase "FIVE HUNDRED
THOUSAND DOLLARS ($500,000)" with the phrase "ONE MILLION FIVE HUNDRED
THOUSAND DOLLARS ($1,500,000)".
2. TERM LOAN ADVANCE. Lender may agree to advance all or a portion of the
Term Loan to Borrower prior to Lender having a perfected first priority
lien on all vehicles owned by Borrower. However, Lender is not waiving
the requirement that Borrower provide Lender a valid, perfected first
priority lien on all vehicles owned by Borrower. Accordingly, if Lender
elects to make an advance of the Term Loan, Lender hereby agrees that
Borrower shall have twenty (20) days following the advance of the Term
Loan to deliver to Lender the vehicle titles required pursuant to
Section 4(j) of the Loan Agreement and take all other actions required
in order to grant Lender a valid perfected first priority lien on all
vehicles owned by Borrower. If such vehicle titles have not been delivered
to Lender within twenty (20) days after such advance or Borrower fails to
take all other actions requested by Lender in order to grant Lender a valid,
perfected first
<PAGE>
priority lien on all vehicles owned by Borrower, such failure shall, at
the Lender's option, be an Event of Default under Section 13 of the Loan
Agreement.
3. LOAN DOCUMENTS.
a. Lender and Borrower agree that any and all notes or other documents
executed in connection with the Loans (collectively, the "Loan
Documents") are hereby amended to reflect the amendments set forth
herein and that no further amendments to any Loan Documents are
required to reflect the foregoing.
b. All references in any document to the Loan Agreement or any
other Loan Document shall refer to the Loan Agreement or such Loan
Document as amended pursuant to this Amendment.
4. CONDITIONS PRECEDENT. The obligations of Lender under this Amendment are
subject to the satisfaction of the following conditions:
a. Borrower shall have executed and delivered this Amendment; and
b. No Event of Default or Unmatured Event of Default shall have occurred
as of the date hereof.
5. REPRESENTATIONS AND WARRANTIES. Borrower hereby certifies to the Lender
that as of the date of this Amendment (taking into consideration the
transactions contemplated by this Amendment), all of Borrower's
representations and warranties contained in the Loan Agreement and all
Loan Documents are true, accurate and complete in all material respects,
and no Event of Default or event that with notice or the passage of time
or both would constitute an Event of Default has occurred under the Loan
Agreement or any Loan Document. Without limiting the generality of the
foregoing, Borrower represents and warrants that the execution and delivery
of this Amendment has been authorized by all necessary action on the part
of Borrower, that the person executing this Amendment on behalf of Borrower
is duly authorized to do so and that this Amendment constitutes the legal,
valid, binding and enforceable obligation of Borrower.
6. ADDITIONAL DOCUMENTS. Borrower shall execute and deliver to Lender at any
time and from time to time such additional amendments to the Loan Agreement
and the Loan Documents as the Lender may request to confirm and carry out
the transactions contemplated hereby or to confirm, correct and clarify
the security for the Loan.
7. CONTINUATION OF THE LOAN AGREEMENT, ETC. Except as specified in this
Amendment, the provisions of the Loan Agreement and the Loan Documents shall
remain in full force and effect, and if there is a conflict between the
terms of this Amendment and those of the Loan Agreement or the Loan
Documents, the terms of this Amendment shall control.
2
<PAGE>
8. MISCELLANEOUS.
a. This Amendment shall be governed by and construed under the laws of
the State of Colorado and shall be binding upon and inure to the
benefit of the parties hereto and their successors and permissible
assigns.
b. This Amendment may be executed in two or more counterparts, each of
which shall be deemed an original and all of which together shall
constitute one instrument.
c. This Amendment and all documents to be executed and delivered
hereunder may be delivered in the form of a facsimile copy,
subsequently confirmed by delivery of the originally executed
document.
d. Time is of the essence hereof with respect to the dates, terms and
conditions of this Amendment and the documents to be delivered
pursuant hereto.
e. This Amendment constitutes the entire agreement between Borrower and
the Lender concerning the subject matter of this Amendment. This
Amendment may not be amended or modified orally, but only by a
written agreement executed by Borrower and the Lender and designated
as an amendment or modification of the Loan Agreement as amended by
this Amendment.
f. If any provision of this Amendment shall be held invalid, illegal or
unenforceable, the validity, legality and enforceability of the
remaining provisions of this Amendment shall not be impaired thereby.
g. The section headings herein are for convenience only and shall not
affect the construction hereof.
h. Execution of this Amendment is not intended to and shall not
constitute a waiver by the Lender of any Event of Default.
3
<PAGE>
EXECUTED as of the date first set forth above.
BORROWER:
CET ENVIRONMENTAL SERVICES,
INC., a California corporation
By: /s/ Rick C. Townsend
---------------------------
Rick C. Townsend
Executive Vice President
LENDER:
NATIONAL BANK OF CANADA, a
Canadian chartered bank
By: /s/ Andrew M. Conneen, Jr.
---------------------------
Andrew M. Conneen, Jr.
Vice President
4
<PAGE>
SECOND AMENDMENT TO LOAN AND SECURITY AGREEMENT
AND LOAN DOCUMENTS
THIS SECOND AMENDMENT TO LOAN AND SECURITY AGREEMENT AND LOAN DOCUMENTS (this
"Amendment"), dated as of April 10, 1998, is between NATIONAL BANK OF
CANADA, a Canadian chartered bank ("Lender"), and CET ENVIRONMENTAL
SERVICES, INC., a California corporation ("Borrower").
RECITALS
A. Lender and Borrower entered into a Loan and Security Agreement dated
May 29, 1997, as amended by an Amendment to Loan and Security Agreement
and Loan Documents dated as of August 29, 1997 (as amended, the "Loan
Agreement"), providing for the Revolving Loans, Equipment Loans, a Term Loan
and Letters of Credit in the aggregate maximum available amount not to
exceed $10,000,000. Defined terms used herein and not defined herein shall
have the meaning set forth in the Loan Agreement.
B. The Loans are secured by the Collateral.
C. The Borrower and Lender desire to enter into this Amendment in order to
extend the Maturity Date and in order to make certain other changes to the
terms of the Loan Agreement.
AGREEMENT
IN CONSIDERATION of the foregoing and other good and valuable consideration,
the receipt and sufficiency of which are hereby acknowledged, Lender and
Borrower agree as follows:
1. EXTENSION OF MATURITY DATE. In order to extend the Maturity Date of the
Loans, Section 1(t) of the Loan Agreement is hereby revised by substituting
the date "May 3O, 1999" for the date "November 30, 1998" in Subsection (i)
in the second line of the section.
2. ELIGIBLE UNBILLED ACCOUNTS. Section 1(c)(ii) of the definition of "Revolving
Loan Availability" relating to Eligible Unbilled Accounts is amended and
restated in its entirety to read as follows:
(ii) up to the lesser of (A) fifty percent (50%) of the face amount
(less maximum discounts, credits and allowances which may be taken by or
granted to Account Debtors in connection therewith) then outstanding
under Eligible Unbilled Accounts at such time, less such reserves as
Lender in its sole discretion elects to establish or (B) $2,500,000.
<PAGE>
Lender may at any time and from time to time in its sole discretion
change the advance percentage as set forth above.
3. NET PROFIT AFTER TAXES. Section 12(r)(ii) of the Loan Agreement regarding
net profit after taxes and before extraordinary gains is amended to require
Borrower's compliance therewith commencing December 31, 1998 by substituting
the date "December 31, 1998" for the date "December 31, 1997" in the last
line thereof.
4. LOAN DOCUMENTS.
a. Lender and Borrower agree that any and all notes to other documents
executed in connection with the Loans (collectively, the "Loan
Documents") are hereby amended to reflect the amendments set forth
herein and that no further amendments to any Loan Documents are
required to reflect the foregoing.
b. All references in any document to the Loan Agreement or any other Loan
Document shall refer to the Loan Agreement or such Loan Document as
amended pursuant to this Amendment.
5. CONDITIONS PRECEDENT. The obligations of Lender under this Amendment are
subject to the satisfaction of the following conditions:
a. Borrower shall have executed and delivered this Amendment;
b. Borrower shall have paid to Lender a modification fee in the amount
of $10,000;
c. Borrower shall have executed and delivered to Lender and Lender shall
have filed with the Environmental Protection Agency a Notice of
Assignment complying with the Assignment of Claims Act and acceptable
to Lender; and
d. No Event of Default or event that with notice or the passage of time,
or both, would constitute an Event of Default shall have occurred as of
the date hereof.
6. REPRESENTATIONS AND WARRANTIES. Borrower hereby certifies to the Lender that
as of the date of this Amendment (taking into consideration the transactions
contemplated by this Amendment), all of Borrower's representations and
warranties contained in the Loan Agreement and all Loan Documents are true,
accurate and complete in all material respects, and no Event of Default or
event that with notice or the passage of time or both would constitute an
Event of Default has occurred under the Loan Agreement or any Loan Document.
Without limiting the generality of the foregoing, Borrower represents and
warrants that the execution and delivery of this Amendment has been
authorized by all necessary action on the part of Borrower, that the person
executing this Amendment on
2
<PAGE>
behalf of Borrower is duly authorized to do so and that this Amendment
constitutes the legal, valid, binding and enforceable obligation of
Borrower.
7. ADDITIONAL DOCUMENTS. Borrower shall execute and deliver to Lender at any
time and from time to time such additional amendments to the Loan Agreement
and the Loan Documents as the Lender may request to confirm and carry out
the transactions contemplated hereby or to confirm, correct and clarify the
security for the Loan.
8. CONTINUATION OF THE LOAN AGREEMENT, ETC. Except as specified in this
Amendment, the provisions of the Loan Agreement and the Loan Documents shall
remain in full force and effect, and if there is a conflict between the
terms of this Amendment and those of the Loan Agreement or the Loan
Documents, the terms of this Amendment shall control.
9. MISCELLANEOUS.
a. This Amendment shall be governed by and construed under the laws of
the State of Colorado and shall be binding upon and inure to the
benefit of the parties hereto and their successors and permissible
assigns.
b. This Amendment may be executed in two or more counterparts, each of
which shall be deemed an original and all of which together shall
constitute one instrument.
c. This Amendment and all documents to be executed and delivered hereunder
may be delivered in the form of a facsimile copy, subsequently confirmed
by delivery of the originally executed document.
d. Time is of the essence hereof with respect to the dates, terms and
conditions of this Amendment and the documents to be delivered pursuant
hereto.
e. This Amendment constitutes the entire agreement between Borrower and the
Lender concerning the subject matter of this Amendment. This Amendment
may not be amended or modified orally, but only by a written agreement
executed by Borrower and the Lender and designated as an amendment or
modification of the Loan Agreement as amended by this Amendment.
f. If any provision of this Amendment shall be held invalid, illegal or
unenforceable, the validity, legality and enforceability of the
remaining provisions of this Amendment shall not be impaired thereby.
g. The section headings herein are for convenience only and shall not
affect the construction hereof.
3
<PAGE>
h. Execution of this Amendment is not intended to and shall not constitute
a waiver by the Lender of any Event of Default or event that with
notice or the passage of time, or both, would constitute an Event of
Default.
EXECUTED as of the date first set forth above.
BORROWER:
CET ENVIRONMENTAL SERVICES,
INC., a California corporation
By: /s/ Rick C. Townsend
---------------------------
Rick C. Townsend
Executive Vice President
LENDER:
NATIONAL BANK OF CANADA, a
Canadian chartered bank
By: /s/ Andrew M. Conneen, Jr.
---------------------------
Andrew M. Conneen, Jr.
Vice President
4
<PAGE>
THIRD AMENDMENT TO LOAN AND SECURITY AGREEMENT
AND LOAN DOCUMENTS
THIS THIRD AMENDMENT TO LOAN AND SECURITY AGREEMENT AND LOAN DOCUMENTS (this
"Amendment"), dated as of January __, 1999, is between NATIONAL BANK OF
CANADA, a Canadian chartered bank ("Lender"), and CET ENVIRONMENTAL SERVICES,
INC., a California corporation ("Borrower").
RECITALS
A. Lender and Borrower entered into a Loan and Security Agreement dated
May 29, 1997, as amended by an Amendment to Loan and Security Agreement
and Loan Documents dated as of August 29, 1997 and as further amended by
a Second Amendment to Loan and Security Agreement and Loan Documents
dated as of April 10, 1998 (as amended, the "Loan Agreement"), providing
for the Revolving Loans, Equipment Loans, a Term Loan and Letters of
Credit in the aggregate maximum available amount not to exceed $9,000,000.
Defined terms used herein and not defined herein shall have the meaning set
forth in the Loan Agreement.
B. The Loans are secured by the Collateral.
C. The Borrower and Lender desire to enter into this Amendment in order to
decrease the Maximum Loan Availability and in order to make certain other
changes to the terms of the Loan Agreement.
AGREEMENT
IN CONSIDERATION of the foregoing and other good and valuable consideration,
the receipt and sufficiency of which are hereby acknowledged, Lender and
Borrower agree as follows:
1. MAXIMUM LOAN AVAILABILITY. In order to decrease the Maximum Loan
Availability, Section 1(u) of the Loan Agreement is hereby revised by
substituting the phrase "Seven and One-Half Million Dollars ($7,500,000)"
for the phrase "Nine Million Dollars ($9,000,000)" in Subsection (a) of
the section.
2. WAIVER OF FINANCIAL COVENANT. Lender hereby agrees to waive Borrower's
compliance with the covenant set forth in Section 12(r)(iii) of the Loan
Agreement (requiring Borrower to achieve a net profit before extraordinary
gains of at least zero ($O)) for the fiscal quarter beginning on July 1,
1998 and ending on September 30, 1998. The Lender's waiver set forth
herein is specifically limited to the fiscal quarter ended September 30,
1998 and Borrower shall be required to comply with such covenant pursuant
to the terms of the Loan Agreement at all times on or after October 1, 1998.
<PAGE>
3. SUBORDINATED DEBT. Notwithstanding anything to the contrary in the Loan
Agreement, Lender hereby agrees and consents to Borrower repaying off the
Subordinated Debt described in the Loan Agreement in an amount not to
exceed $672,000, provided that such action does not cause an Event of
Default or an event that with notice, the passage of time, or both would
constitute an Event of Default.
4. LOAN DOCUMENTS.
a. Lender and Borrower agree that any and all notes or other documents
executed in connection with the Loans (collectively, the "Loan
Documents") are hereby amended to reflect the amendments set forth
herein and that no further amendments to any Loan Documents are
required to reflect the foregoing.
b. All references in any document to the Loan Agreement or any other
Loan Document shall refer to the Loan Agreement or such Loan Document as
amended pursuant to this Amendment.
5. CONDITIONS PRECEDENT. The obligations of Lender under page 2 (Waiver) and 3
(Subordinated Debt) of this Amendment are subject to the satisfaction of
the following conditions:
a. Borrower shall have paid to Lender a waiver fee in the amount of
$10,000; and
b. No Event of Default or event that with notice or the passage of time,
or both, would constitute an Event of Default shall have occurred as of
the date hereof.
6. REPRESENTATIONS AND WARRANTIES. Borrower hereby certifies to the Lender
that as of the date of this Amendment (taking into consideration the
transactions contemplated by this Amendment), all of Borrower's
representations and warranties contained in the Loan Agreement and all
Loan Documents are true, accurate and complete in all material respects,
and no Event of Default or event that with notice or the passage of time
or both would constitute an Event of Default has occurred under the Loan
Agreement or any Loan Document. Without limiting the generality of the
foregoing, Borrower represents and warrants that the execution and
delivery of this Amendment has been authorized by all necessary action on
the part of Borrower, that the person executing this Amendment on behalf
of Borrower is duly authorized to do so and that this Amendment
constitutes the legal, valid, binding and enforceable obligation of
Borrower.
7. ADDITIONAL DOCUMENTS. Borrower shall execute and deliver to Lender at
any time and from time to time such additional amendments to the Loan
Agreement and the Loan Documents as the Lender may request to confirm and
carry out the transactions contemplated hereby or to confirm, correct and
clarify the security for the Loan.
2
<PAGE>
8. CONTINUATION OF THE LOAN AGREEMENT, ETC. Except as specified in this
Amendment, the provisions of the Loan Agreement and the Loan Documents
shall remain in full force and effect, and if there is a conflict between
the terms of this Amendment and those of the Loan Agreement or the Loan
Documents, the terms of this Amendment shall control.
9. MISCELLANEOUS.
a. This Amendment shall be governed by and construed under the laws of
the State of Colorado and shall be binding upon and inure to the
benefit of the parties hereto and their successors and permissible
assigns.
b. This Amendment may be executed in two or more counterparts, each of
which shall be deemed an original and all of which together shall
constitute one instrument.
c. This Amendment and all documents to be executed and delivered
hereunder may be delivered in the form of a facsimile copy,
subsequently confirmed by delivery of the originally executed
document.
d. Time is of the essence hereof with respect to the dates, terms and
conditions of this Amendment and the documents to be delivered
pursuant hereto.
e. This Amendment constitutes the entire agreement between Borrower and
the Lender concerning the subject matter of this Amendment. This
Amendment may not be amended or modified orally, but only by a
written agreement executed by Borrower and the Lender and designated
as an amendment or modification of the Loan Agreement as amended by
this Amendment.
f. If any provision of this Amendment shall be held invalid, illegal or
unenforceable, the validity, legality and enforceability of the
remaining provisions of this Amendment shall not be impaired thereby.
g. The section headings herein are for convenience only and shall not
affect the construction hereof.
h. Execution of this Amendment is not intended to and shall not
constitute a waiver by the Lender of any Event of Default or event
that with notice or the passage of time, or both, would constitute an
Event of Default.
3
<PAGE>
EXECUTED as of the date first set forth above.
BORROWER:
CET ENVIRONMENTAL SERVICES,
INC., a California corporation
By: /s/ Steven H. Davis
---------------------------
Name: Steven H. Davis
Title: President
LENDER:
NATIONAL BANK OF CANADA, a
Canadian chartered bank
By: /s/ Andrew M. Conneen, Jr.
---------------------------
Andrew M. Conneen, Jr.
Vice President
4
<PAGE>
CONSENT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS
We have issued our reports dated March 25, 1999, accompanying the
consolidated financial statements incorporated by reference or included in
the Annual Report of CET Environmental Services, Inc. (the Company) on Form
10-K for the year ended December 31, 1998. We consent to the incorporation by
reference in the Company's Registration Statement on Form S-8 of the
aforementioned reports.
GRANT THORNTON LLP
Denver, Colorado
April 14, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 25
<SECURITIES> 0
<RECEIVABLES> 27,102
<ALLOWANCES> 1,006
<INVENTORY> 267
<CURRENT-ASSETS> 26,670
<PP&E> 6,363
<DEPRECIATION> 2,883
<TOTAL-ASSETS> 30,202
<CURRENT-LIABILITIES> 18,835
<BONDS> 251
1,589
0
<COMMON> 8,540
<OTHER-SE> 988
<TOTAL-LIABILITY-AND-EQUITY> 30,202
<SALES> 66,497
<TOTAL-REVENUES> 66,497
<CGS> 65,201
<TOTAL-COSTS> 65,201
<OTHER-EXPENSES> 5,858
<LOSS-PROVISION> 3,668
<INTEREST-EXPENSE> 892
<INCOME-PRETAX> 722
<INCOME-TAX> 183
<INCOME-CONTINUING> 538
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 538
<EPS-PRIMARY> 0.09
<EPS-DILUTED> 0.09
</TABLE>
