Item 1. Business
Overview
HLM Design, Inc. ("HLM Design"), headquartered in Charlotte, North Carolina, is a professional consultancy that provides management and services to architectural, engineering and planning ("AEP") firms. Formed in 1997, HLM Design Inc.'s strategy is to consolidate non-professional operations and provide management expertise to individual AEP firms. The Company believes it is the first architecturally-driven public company in the AEP industry to provide operating efficiencies and geographic and service diversification to clients. Through the establishment of management and services relationships, HLM Design has adopted a successful strategy used to consolidate other professional service industries.
The Managed Firms provide a broad spectrum of design services to public and private clients in the United States and abroad. At April 27, 2001, the Managed Firms included:
. HLM Design of North America, Inc. ("HLMNA")
. HLM Design USA, Inc. ("HLMUSA")
. HLM Design Architecture, Engineering and Planning, P.C. ("HLMAEP")
. JPJ Architects, Inc. ("JPJ")
. G.A. Design International Holdings, Ltd. ("GAIH")
. BL&P Engineers, Inc. ("BL&P")
JPJ, GAIH and BL&P are subsidiaries of the Company.
These firms operate in 11 offices located in Atlanta, Georgia; Iowa City, Iowa; Chicago, Illinois; Orlando, Florida; Bethesda, Maryland; Denver, Colorado; San Francisco, California; Dallas, Texas; Philadelphia, Pennsylvania; Charlotte, North Carolina; and London, UK. The Company is headquartered in Charlotte, North Carolina. HLM Design itself is not engaged in the practice of architecture, engineering, and planning.
The Managed Firms
Certain Managed Firms have been in business dating back to 1962. They provide a broad spectrum of design services to public and private clients across the United States and abroad. The professionals include architects, mechanical, electrical, structural, and civil engineers; landscape architects; interior designers; environmental graphic designers; and construction administration personnel.
HLM Design believes that its management strategy will attract new AEP firms as a result of two major trends: (1) the increasing complexity, cost, and competitiveness of the design practice that requires operational and cost efficiencies; and (2) the AEP firm's need for access to a wider pool of geographically dispersed professionals in order to capture new clients and provide solutions for the evolving needs of current clients. The professionals maintain full control over their architectural and engineering practices and set their own standards of practice and retain ownership of all contracts with clients.
Markets
The professionals specialize in the design of large complex projects in the healthcare, justice (courts and correctional facilities), research, corporate/commercial, education, and hospitality markets. Design experience of professionals includes corporate headquarters, hospitals, healthcare facilities, investment office buildings, multi-use office complexes, laboratories, courthouses, schools, and hotels.
Operating Strategy
As a management company, the Company's relationship with the Managed Firms is contractual. It has no ownership interest in the Managed Firms except for JPJ, GAIH and BL&P.
The Company's strategy is to expand revenues of the Managed Firms through (1) the development of new long-term Management and Services Agreements with full-service AEP firms throughout the United States and internationally and (2) the expansion of services by Managed Firms to existing clients.
The creation of a management relationship between the Company and a Managed Firm involves, among other things, the signing of a Management and Services Agreement. Under the terms of the Management and Services Agreement, the Company is the sole and exclusive manager and administrator of all of the Managed Firm's day-to-day business functions. These functions include: financial planning, facilities, equipment and supplies, management and administrative services (including bookkeeping and accounts), general administrative services, contract negotiation and administration for all non- architectural and non-engineering aspects of all agreements pertaining to the provision of architectural and engineering services by Managed Firms to third parties, personnel, maintenance, architectural and engineering recruiting and training, insurance, billing, and marketing support. In connection with these services, the Company receives all but 1% of the Managed Firm's positive cash flow (as determined in accordance with accounting principles generally accepted in the United States of America). See "--HLM Design Operations-- Management and Services Agreements."
In addition to the Management and Services Agreements, the Company requires individual stockholders of Managed Firms to enter into Stockholders' Agreements, which provide the stockholders of those entities with nominee stockholder status. Generally, the Stockholders' Agreements provide for the following: (i) the repurchase by the Managed Firm of the stockholder's stock upon such stockholder's death, (ii) restrictions on transferability of the stock, (iii) a "call-right" on the stock by the Managed Firm and (iv) a voting agreement among the stockholders and the Managed Firm. See "--HLM Design Operations--Stockholders' Agreements."
Joseph M. Harris and Vernon B. Brannon, executive officers and stockholders of the Company, are also the principal stockholders of the non-subsidiary Managed Firms and are the principal officers of all the Managed Firms. As officers, they caused the Managed Firms to enter into Management and Services Agreements with the Company, and as stockholders of certain of the Managed Firms they entered into Stockholders' Agreements (as described below).
Growth Strategy
During the current fiscal year the Company continued its disciplined expansion program by pursuing Management and Services Agreements with (i) large "regional" AEP firms with established operating histories located in large metropolitan and high-growth suburban geographic markets that the Company does not currently serve and (ii) small firms that provide operational diversity in geographic areas that will complement the services that are either currently provided by the Company in such geographic areas or that are intended to be provided in the future. The Company believes its approach is attractive to these large and small AEP firms because it provides these firms with economies of scale and the synergies that result from increased purchasing power, a greater breadth of services, an increased pool of professionals, and geographical diversity. Furthermore, this strategy will give these regional and local AEP firms, as a part of the Company's organization, the ability to provide services to existing and future clients with national operations that might otherwise have turned to "non-local" firms to service their needs. The goal is for the Managed Firms, with the assistance of the Company, to be the single source provider for large national clients with geographically diverse operations.
The Company generally expects that AEP firms that sign Management and Services Agreements will retain existing high-quality professional staff and continue to operate in an effective and efficient manner with personnel who understand the local market. Management also believes it is positioned to pursue larger, well-established AEP firms as a result of the depth of the Company's management team, its capital structure and the reputation of the management team in the design industry. Management further believes these goals can be achieved at less cost than would be incurred by AEP firms operating on a stand-alone basis.
HLM Design Operations
Pursuant to its Management and Services Agreements, the Company manages all aspects of the Managed Firms but does not provide professional architectural, engineering and planning services. The provision of these services is controlled by the Managed Firms. The Company enhances growth of the Managed Firms by assisting in the recruitment of new professionals and by expanding and adding ancillary services.
The Company is positioned to negotiate national arrangements and provide cost savings to Managed Firms through economies of scale in areas such as malpractice insurance, supplies, equipment and business functions.
Management and Services Agreements
The Management and Services Agreements with the Managed Firms are for a period of 40 years. Although these agreements are terminable by the Company, with or without cause, upon 60 days' notice to the Managed Firms (with the approval of a majority of the Board of Directors and a majority of its independent directors), they cannot be terminated by the Managed Firms without a material default or bankruptcy by the Company. Under these agreements, the Company is appointed as the sole and exclusive manager and administrator of all of the Managed Firms' day-to-day business functions. The Company has no authority, directly or indirectly, to perform any of the Managed Firms' operations that are required by law to be performed by duly licensed architects and engineers. The Managed Firms retain ownership of all contracts with clients. Additionally, the Company has the authority to approve or deny, on behalf of the Managed Firm, any and all proposals by stockholders of such firm to encumber, sell, pledge, give or otherwise transfer the capital stock of the Managed Firm, as well as the authority to approve issuances of common stock or incurrence of indebtedness.
Stockholders' Agreements
Individual stockholders of Managed Firms (not including JPJ, GAIH and BL&P, which are subsidiaries of the Company) have entered into Stockholders' Agreements, which generally restrict the ability of these stockholders to exercise certain rights commonly associated with ownership of common stock and effectively provide stockholders of such entities with nominee stockholder status. Generally, such Stockholders' Agreements provide that:
(i) upon the death of a stockholder, the Managed Firm will purchase, and the personal representative of such stockholder's estate will sell to the Managed Firm, all the stock owned by such deceased stockholder, provided however, in certain circumstances the sale of such stockholder's stock may be made to one or more third parties, subject to the approval of the Managed Firm;
(ii) stockholders may not sell, pledge, give or otherwise transfer any or all of their stock to any third party, either voluntarily or involuntarily, without first obtaining the Managed Firm's written approval of such transfer, provided that if the Managed Firm denies such approval, it shall purchase such stock;
(iii) the Managed Firm has the right at any time to purchase all, but not less than all, of the stock then owned by any or all of the stockholders; and
(iv) the stockholders agree that with respect to all matters submitted to stockholder vote (and, to the extent that all or any of the stockholders serve as a director of the Managed Firm, then also with respect to all matters submitted to a vote of the board of directors), the stockholders will, if not in unanimous agreement, follow specified procedures to achieve unity in voting among all stockholders.
In addition, the Stockholders' Agreements contain an acknowledgment on the part of each stockholder that it is in the parties' best interest that certain of the Managed Firm's administrative and managerial functions be performed pursuant to a Management and Services Agreement with the Company and that in order to ensure consistency and continuity in the management of the firm's business and affairs, with respect to all matters pertaining to the initiation of stock "calls" and the approval or denial of proposed stock transfers, the Managed Firm will in all cases act in accordance with the written recommendation of the Company. The Stockholders' Agreements provide that they may be terminated upon the occurrence of any of the following events:
(i) cessation of the Managed Firm's business;
(ii) bankruptcy, receivership or dissolution of the Managed Firm; or
(iii) the voluntary agreement of all parties bound by the terms of such Stockholders' Agreement.
It is anticipated that Stockholders' Agreements among individual stockholders of the AEP Firms with whom the Company enters into Management and Services Agreements in the future will have similar terms.
Competition
The architectural and engineering services industry is highly fragmented and very competitive. As a result, in each specific market area the Company competes with many architectural and engineering consulting firms, several of which are substantially larger than the Company and possess greater financial resources. No firm currently dominates any significant portion of the Company's market areas. Competition is based on quality of service, expertise, price, reputation and local presence. The Company believes that the Managed Firms compete favorably with respect to each of these factors in the market areas it serves. The Company is not aware of any other company actively pursuing a strategy of contracting for firms' administrative and management functions, but believes that additional companies with similar objectives could be organized in the future.
Governmental Regulations and Environmental Matters
Each state has enacted legislation governing the registration of architects and engineers, and, in some cases, landscape architects, fire protection engineers and interior designers. These state laws and regulations impose licensing requirements and standards upon individual design professionals and architectural-engineering firms that are overseen by a registration board. In general, the state laws and regulations define the practice of architecture and engineering, restrict the use of the titles architect and engineer to licensed individuals, establish rules for entry into the profession, explain how professionals licensed in other states may become reciprocally registered to practice in the jurisdiction and define and enforce standards of professional conduct and misconduct.
The state laws, or the regulations established by a registration board, may also establish requirements for the practice of architecture, engineering or related services by a corporation or partnership. A few states do not permit the practice of architecture or engineering in a corporate form. Some states require design professionals who want to incorporate to do so as a professional corporation authorized and certified by the secretary of state. Most states permit practice through either a professional corporation or a general business corporation. Even if a state permits practice in a corporate form, the state may require that a certain number of principals in the corporation must be registered architects or engineers. Some states specify that a certain percentage of the principals, directors or stockholders of a corporate entity must be registered architects or engineers in order to practice in the state. A corporation seeking to practice in a state other than that in which it is incorporated must register as a foreign corporation in the other state and satisfy all of the registration requirements.
There can be no assurance that the regulatory environment in which the Company operates will not change significantly in the future.
Federal, state and local environmental laws and regulations have not historically had a material impact on the operations of the Company; however, the Company cannot predict the effect of possible future environmental legislation or regulations on its operations.
Employees
As of April 27, 2001, the Company and the Managed Firms together employed approximately 330 persons of which approximately 115 were registered professionals (engineers, architects and others) and approximately 220 degreed professionals (engineers, architects and others). None of the Company's employees or the Managed Firm's employees are represented by a labor union. The Company considers its relations with its employees and the employees of the Managed Firms to be satisfactory.
The registered professional architects and engineers generally have degrees from accredited architecture or engineering schools, several years of work experience and have passed licensing examinations. Both registered and degreed architects have either a five-year architectural degree or a four-year degree and a two-year advanced architectural degree. The Company's degreed professionals who are not registered have not yet passed the required licensing examinations.
Item 2.
Item 2. Properties
The Company's principal executive offices are located at 121 West Trade Street, Suite 2950, Charlotte, North Carolina, where the Company leases 12,292 square feet. Its telephone number is (704) 358-0779. The lease is for a term of five years and expires in January 2006. In addition to the Company's principal executive offices, the Company or the Managed Firms lease office space in San Francisco, California; Denver, Colorado; Orlando, Florida; Atlanta, Georgia; Iowa City, Iowa; Chicago, Illinois; Bethesda, Maryland; Portland, Oregon; Philadelphia, Pennsylvania; Dallas, Texas and London, UK.
Item 3.
Item 3. Legal Proceedings
From time to time the Company or one or more of the Managed Firms are named in legal proceedings involving contractual disputes or other matters arising in the ordinary course of business. Currently, no legal proceedings are pending against or involve the Company or any of the Managed Firms that, in the opinion of management, when considering insurance coverage, could reasonably be expected to have a material adverse effect on the business, financial condition or results of operations of the Company.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fiscal quarter ended April 27, 2001.
PART II
Item 5.
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters
Prior to June 12, 1998, the Company was privately held and there was no market for the Common Stock. Effective June 12, 1998, the Common Stock began trading on the NASDAQ Small Cap Market under the symbol "HLMD". Effective January 14, 2000, the Common Stock began trading on the American Stock Exchange ("AMEX") under the symbol "HMD." As of July 12, 2001, 2,206,589 shares of Common Stock were outstanding and issued to a total of approximately 780 record and beneficial holders.
The Company has never declared or paid a dividend on its Common Stock. The Company intends to retain all of its earnings to finance the growth and development of its business, including the execution of new Management and Services Agreements, and does not anticipate paying any cash dividends on its Common Stock for the foreseeable future. Any future change in the Company's dividend policy will be made at the discretion of the Board of Directors of the Company and will depend upon the Company's operating results, financial condition, capital requirements, general business conditions and such other factors as the Board of Directors deems relevant.
The following table sets forth the high and low closing sales prices for the Company's Common Stock as reported by AMEX.
Recent Sales of Unregistered Securities; Use of Proceeds
As of April 29, 2000 in connection with the acquisition of BL&P, the Company agreed to issue to the sellers 50,000 shares of Common Stock on a delayed delivery basis. Such shares will be issued in reliance upon the private placement exemption from the registration requirements of the Securities Act of 1933, as amended, provided in Section 4(2) thereof. The factors that assured the availability of the exemption included the sophistication of the offerees and purchasers, their access to material information, the disclosures about the Company actually made to them by the Company and the absence of any general solicitation or advertising.
Item 6.
Item 6. Selected Financial Data
The following selected financial data for the Predecessor Company (as defined below) for the year ended April 25, 1997 are derived from audited financial statements. The selected financial data (Predecessor Company) for the one month ended May 30, 1997 are derived from the unaudited financial statements of HLMNA. The selected financial data for the year ended May 1, 1998 are derived from the audited consolidated financial statements of the Company, which reflect the results of operations of the Company for twelve months and the results of operations of HLMNA, HLM of the Southeast, P.C. ("HLMSE") and HLM Design of the Northwest, Architecture, Engineering and Planning, P.C. ("HLMNW") for the eleven month period from May 31, 1997 to May 1, 1998. The selected financial data for the years ended April 30, 1999, April 28, 2000 and April 27, 2001 are derived from audited consolidated financial statements of the Company and the Managed Firms. All of the data set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Financial Statements and related notes included elsewhere herein.
- -------- (1) The "Predecessor Company" is HLMNA. (2) Includes information for HLMNA, HLMSE and HLMNW for the eleven months from May 31, 1997 to May 1, 1998 on a consolidated basis. The Company's operations for the month ended May 30, 1997 reflected herein include no revenues or expenses. HLMSE and HLMNW were merged into HLM AEP in November 1999. (3) Historical net income per share of the Predecessor Company is not presented, as the historical capital structure of the Company prior to the initial public offering (the "Offering") is not comparable with the capital structure of the Company after the Offering. (4) Supplemental net income per share has been prepared based upon the shares outstanding giving effect to the issuance of common stock related to the Offering pro rata for Common Stock used to pay certain indebtedness. In addition, net income has been adjusted to give effect to the Offering and the May 1997 merger transaction between HLMNA and BBH Corp. (HLMNA sold certain shares to BBH Corp. and BBH Corp. was merged into HLMNA. Each BBH Corp. share outstanding at the time of merger was converted to HLMNA's stock. All HLMNA shares held by BBH Corp. were cancelled and retired. HLMNA repurchased all of its common stock from the ESOP) as if the transactions had occurred at the beginning of fiscal 1998. (5) Neither the Company nor the Predecessor Company has paid cash dividends from May 1, 1992 to April 27, 2001.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of the results of operations and financial condition of the Company should be read in conjunction with the Company's financial statements and the related notes thereto included elsewhere herein.
Overview
The Company is a professional consultancy which enters into management and services relationships with full-service architectural, engineering and planning firms. Currently, the Company has Management and Services Agreements with six Managed Firms. These Managed Firms operate in eleven offices: Atlanta, Georgia; Iowa City, Iowa; Chicago, Illinois; Orlando, Florida; Bethesda, Maryland; Denver, Colorado; San Francisco, California; Dallas, Texas; Philadelphia, Pennsylvania; Charlotte, North Carolina and London, UK. The Company is headquartered in Charlotte, North Carolina. A full service AEP Firm provides a spectrum of services in various specialties to clients through a broad range of professionals, including architects, mechanical, electrical, structural and civil engineers, landscape architects, interior designers, environmental graphic designers and construction administration personnel.
Results of Operations
Fiscal 2001 Compared to Fiscal 2000
Revenues were $64.3 million in fiscal 2001 as compared to $53.1 million in fiscal 2000, which is a 21.1% increase. This increase is due to internal growth in existing operations as well as the acquisition of BL&P during the first quarter of fiscal year ended 2001. The rate of internal growth in existing operations declined during the second half of fiscal 2001, thereby reducing the overall fiscal year increase in revenues from the 24.2% experienced for the nine months ended January 26, 2001 to 21.1% for the fiscal year ended 2001.
Direct costs primarily include consultant costs and reimbursable project expenses. Direct costs were $22.9 million, or 35.6% of revenue, in fiscal 2001 as compared to $18.2 million, or 34.3% of revenue, in fiscal 2000. This slight increase as a percentage of revenue is due to increased use of consultants to meet project requirements.
Direct labor cost was $13.2 million, or 31.9% of net production income, in fiscal 2001 as compared to $10.6 million, or 30.3% of net production income, in fiscal 2000. Although the volume of architecture, planning and engineering services has increased, it is offset by (a) an increase in salary and salary related costs which has not been passed through to the Company's clients in all cases and (b) a reduction in certain higher margin projects. The Company's Chief Operating Officer is working directly with the project managers of the Managed Firms to improve the effectiveness and efficiency of each project and ultimately decrease direct labor cost as a percentage of net production income. Management believes within the fiscal year ending 2002, the financial statements will be positively impacted by this focus on operations.
Operating costs were $24.1 million, or 58.3% of net production income, in fiscal 2001 as compared to $20.9 million, or 60.0% of net production income, in fiscal 2000. This decrease is due to fixed costs which do not increase at the same pace as net production income. This decrease as a percentage of net production income is partially offset by (a) expenses incurred and an increase in indirect labor as a result of the consolidation of two of our Managed Firms; (b) an increase in indirect labor as a result of additional marketing efforts; and (c) an increase in certain office expenses.
Amortization of intangible assets was $0.7 million in fiscal 2001 as compared to $0.4 million in fiscal 2000. This increase is attributable to goodwill amortization expense primarily arising from the acquisition of BL&P. See Note 2 to the Consolidated Financial Statements included elsewhere herein.
Interest expense was $1.7 million in fiscal 2001 and $1.1 million in fiscal 2000. This increase is principally due to the Company's increase in borrowings on its line of credit, as well as, debt resulting from the acquisition of BL&P.
Income tax expense was $0.9 million for both fiscal 2001 and fiscal 2000. The effective income tax rate was 54.1% and 46.5% for fiscal 2001 and fiscal 2000, respectively. This effective tax rate is higher in fiscal 2001 principally due to the increase in non-deductible goodwill amortization.
Fiscal 2000 Compared to Fiscal 1999
Revenues were $53.1 million in fiscal 2000 as compared to $37.8 million in fiscal 1999, which is a 40.6% increase. This increase was attributable primarily to internal growth in existing operations and prior year acquisitions.
Direct costs primarily include consultant costs and reimbursable project expenses. Direct costs were $18.2 million, or 34.3% of revenues, in fiscal 2000 as compared to $9.8 million, or 25.9% of revenues, in fiscal 1999. This increase as a percent of revenues was due to the Company's increased use of consultants to meet project requirements and partially due to the extensive use of consultants by certain companies acquired since November 1998, resulting in only a partial year of such expenses reflected in the April 30, 1999 financial statements, as well as the tight labor market. Management believes that this trend may continue which will cause direct costs as a percentage of revenues to increase in future periods.
Direct labor cost was $10.6 million, or 30.3% of net production income, in fiscal 2000 as compared to $8.1 million, or 29.1% of net production income, in fiscal 1999. Although the volume of architecture, planning and engineering services had increased, it was offset by (a) an increase in salary and salary related costs which has not been passed through to the Company's clients in all cases and (b) a reduction in certain higher margin projects.
Operating costs were $20.9 million, or 60.0% of net production income, in fiscal 2000 as compared to $16.8 million, or 60.2% of net production income, in fiscal 1999. Operating costs as a percentage of net production income had been negatively impacted in the period by (a) an increase in indirect labor as a result of a slowdown in work in November and December imposed by several commercial clients while they concentrated on Y2K issues and winter storms across the country that closed several offices; (b) an increase in education and seminars due to the Company's increased focus on training and education of its employees; and (c) an increase in depreciation expense due to the Company's increased focus on improvement of certain computer and related equipment. Conversely, operating costs as a percentage of net production income was positively impacted in fiscal 2000 by a decrease in certain recurring expenses relating to the Company's obligations as a public company as well as the Company's internally performing several functions that were previously outsourced.
Amortization of intangible assets was $0.4 million in fiscal 2000 as compared to $0.3 million in fiscal 1999. This increase was attributable to goodwill amortization expense arising from the acquisition of JPJ and GAIH in October 1998 and January 1999, respectively. See Note 2 to the Consolidated Financial Statements included elsewhere herein.
Interest expense was $1.1 million in fiscal 2000 and $0.7 million in fiscal 1999. This increase was principally due to the Company's increase in borrowings on its line of credit as well as debt resulting from the acquisitions of JPJ, GAIH and ESS.
Income tax expense was $0.9 million for both fiscal 2000 and fiscal 1999. The effective income tax rate was 47% for both fiscal 2000 and fiscal 1999. This effective tax rate has been impacted by reduction in the effect of state income taxes, which is offset by an increase in the effective tax rate due to increased goodwill amortization.
Extraordinary item for early extinguishment of debt was $0.2 million in fiscal 2000. In February 2000, the early extinguishment of indebtedness to First Charter National Bank ("First Charter") and Berthel Fisher & Company Financial Services, Inc. ("Berthel Fisher") resulted in an extraordinary charge of $228,355, net of income taxes of $128,004, that consisted of write- off of related unamortized financing costs and other related costs.
Liquidity and Capital Resources
Historically, the Company has met working capital and capital expenditure needs through cash from operations and bank financing. At April 27, 2001, the Company's current assets of $23.4 million exceeded current liabilities of $17.2 million resulting in working capital of $6.2 million. In fiscal year ended 2001, the Company's operating activities provided $3.1 million cash from operations before working capital changes of $4.7 million. This increase in cash from operations is partially offset by cash used in operating activities due to working capital changes of $1.6 million. The Company used $2.9 million for investing activities, primarily as payment for the purchase of BL&P on April 29, 2000, and to a lesser extent, the purchase of equipment. The Company used cash of $0.2 million from financing activities primarily for payment on long-term borrowings which is offset by additional borrowings under the Company's revolving credit facility with IBJ.
The Company's growth and operating strategy will require substantial capital and may result in the Company incurring additional debt, issuing equity securities or obtaining additional bank financing. As the management company, the Company will be responsible for the financing of working capital growth, capital growth and other cash needs of the Managed Firms. See "Business--HLM Design Operations--Management and Services Agreements." In fiscal 2000, the Company entered into a revolving credit, term loan and capital expenditure loan for a total of $20,000,000 with IBJ Whitehall Business Center Corporation ("IBJ"). The three financing arrangements are discussed below:
a. Revolving Credit--The maximum revolving advance amount is $17,000,000. The amount available to borrow is calculated based on the aging of certain assets. This loan matures in February 2003 and bears interest at the prime rate plus 0.5%. At April 27, 2001, the Company had $8,191,031 outstanding bearing interest at 8.0%.
b. Term Loan--The amount of the loan is $2,000,000. This loan matures in February 2003 and bears interest at a maximum of prime plus 2%. At April 27, 2001, the Company had $1,222,222 outstanding bearing interest at 9.5%.
c. Capital Expenditure Loan--The maximum capital expenditure loan amount is $1,000,000. The amount is available for the financing of equipment used in the Company's business. This loan matures in February 2005 and bears interest at a maximum of prime plus 1%. At April 27, 2001, there were no borrowings under this loan.
Substantially all assets are pledged under this financing arrangement. This financing arrangement requires certain financial requirements be maintained such as minimum net worth, maximum leverage and senior leverage ratios, maximum fixed charge coverage and senior fixed charge coverage ratios and maximum capital expenditure commitments. At April 27, 2001, the Company was in compliance with these financial requirements.
During the fourth quarter of fiscal year ended 2001, the Company and IBJ entered into discussions regarding the existing revolving credit, term loan and capital expenditure loan to a) reduce the maximum revolving advance amount; b) cancel the capital expenditure loan commitment and c) increase the unpaid principal balance of the term loan to repay amounts under the revolving credit facility which was based on an evaluation of the Company's revolving advance amount, term and capital expenditure loan needs.
Effective June 29, 2001, the Company entered into an amendment to its revolving credit, term loan and capital expenditure loan with IBJ. The amendment is summarized as follows:
a. Revolving Credit--The maximum revolving advance amount is $12,500,000.
b. Term Loan--The unpaid principal balance will be increased to $1,566,667 and will be repaid in equal monthly installments of $80,000, plus interest at a maximum of prime plus 2 percent.
c. Capital Expenditure Loan--The Capital Expenditure Loan commitment has been cancelled.
The Company believes that the existing line of credit and anticipated cash flow from future operations will be sufficient to meet the Company's operating needs for at least the next twelve months. However, in order to continue its expansion program through acquisitions, the Company will require additional capital. If the Company is unable to obtain additional capital, its ability to implement its growth strategy will be adversely affected.
The Company's operations are professional services and as such are not capital intensive. However, in order to enhance productivity, the Company has increased its purchase of computer hardware and software as well as the Company leases certain computer hardware, software, and furniture under operating leases. The Company currently has no material commitments for purchases of additional equipment. Capital expenditures during fiscal 2001 were $0.7 million.
Seasonality
The Company's operations are not seasonal in nature.
Effects of Inflation
Due to the relatively low levels of inflation in fiscal years 1999, 2000 and 2001, inflation did not have a significant effect on the Company's results of operations for those periods.
Significant Materiality of Goodwill
Goodwill represents the excess purchase price over the estimated fair value of tangible and separately measurable intangible net assets acquired. The cumulative amount of goodwill at April 28, 2000 was $8.1 million
and at April 27, 2001 was $12.2 million. As a percentage of total assets and stockholders' equity, goodwill, net of accumulated amortization, represented 25.3% and 83.3%, respectively, at April 28, 2000 and 31.4% and 113.0%, respectively, at April 27, 2001. Accounting principles generally accepted in the United States of America require that goodwill and all other intangible assets be amortized over the period benefited. The Company has determined that the period benefited by the goodwill will be no less than 15 years. Accordingly, the Company amortizes goodwill over a 15 year period for HLMNA and a 25 year period for JPJ, GAIH and BL&P. Earnings reported in periods immediately following an acquisition would be overstated if the Company attributed a 15 or 25 year benefit to an intangible asset that should have had a shorter benefit period. In later years, the Company would be burdened by a continuing charge against earnings without the associated benefit to income valued by management in arriving at the price paid for the businesses acquired. Earnings in later years also could be significantly affected if management then determined that the remaining balance of goodwill was impaired. The Company periodically compares the carrying value of goodwill with the anticipated undiscounted future cash flows from operations of the businesses acquired in order to evaluate the recoverability of goodwill. The Company has concluded that the anticipated future cash flows associated with intangible assets recognized in our acquisitions will continue indefinitely and there is no persuasive evidence that any material portion will dissipate over a period shorter than 15 and 25 years, respectively. The Company expects to incur additional goodwill in future acquisitions.
New Accounting Standards
In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities. This new standard requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. This statement will be effective for the Company for financial statements issued for the fiscal year beginning April 28, 2001. The Company has evaluated the effects the statement will have on its consolidated financial statements and related disclosures and does not believe that the effect will be material.
The FASB recently voted in favor of the issuance of two new statements, SFAS No. 141, Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method be used for all business combinations initiated after June 30, 2001, and the use of the pooling of interest method will be prohibited. SFAS No. 142 changes the accounting for goodwill from an amortization method to an impairment approach. Amortization of goodwill, including goodwill recorded in prior business combinations, will cease prospectively upon the adoption of the standard, which the Company anticipates adopting during fiscal year 2002.
Item 7A.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to market risk from changes in interest rates affecting our credit arrangements, including a variable rate revolving credit arrangement and term loan agreement, which may adversely affect our results of operations and cash flows. We seek to minimize our interest rate risk through our day-to-day operating and financing activities. We do not engage in speculative or derivative financial or trading activities.
A hypothetical 100 basis point adverse change (increase) in interest rates relating to our revolving credit arrangement and term loan agreement would have decreased pre-tax income for the year ended April 27, 2001 by approximately $110,000.
The Company has no other material exposure to market risk sensitive instruments.
Item 8.
Item 8. Financial Statements and Supplementary Data
See Index to Financial Information which appears on herein.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
PART III
Item 10.
Item 10. Directors and Executive Officers of the Registrant
Information required by this item with respect to the Company's directors and executive officers and compliance by the Company's directors, executive officers and certain beneficial owners of the Company's Common Stock with Section 16(a) of the Securities Exchange Act of 1934 is furnished by incorporation by reference of all information under the captions entitled "Election of Directors", and "Compliance with Section 16(a) of the Securities Exchange Act of 1934" in the Proxy Statement (to be filed hereafter) for the Company's Annual Meeting of the Stockholders to be held on September 18, 2001 (the "Proxy Statement").
Item 11.
Item 11. Executive Compensation
The information required by this item is furnished by incorporation by reference of all information under the caption entitled "Executive Compensation" in the Proxy Statement.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required by this item is furnished by incorporation by reference of all information under the caption "General--Equity Security Ownership" in the Proxy Statement.
Item 13.
Item 13. Certain Relationships and Related Transactions
The information required by this item is furnished by incorporation by reference of all information under the caption "Certain Transactions" in the Proxy Statement.
PART IV
Item 14.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
The exhibits and other documents filed as part of this Annual Report on Form 10-K, including those exhibits which are incorporated by reference herein to documents previously filed as exhibits to other filings with the Commission, are:
(a) (1) Financial Statements
See the Index to Financial Information which appears on page herein.
(2) Financial Statement Schedules
Schedule II--Valuation and Qualifying Accounts.
(3) Exhibits:
Exhibits required in connection with this Annual Report on Form 10-K are listed below. Certain of such exhibits, indicated by an asterisk (*), are incorporated by reference to documents previously filed as exhibits to other filings with the Commission.
(b) The Company has not filed any reports on Form 8-K during the last quarter of the period covered by this report.
* Incorporated by reference to documents previously filed as exhibits to other filings with the Commission.
/1/The Company has entered into substantially identical Management and Services Agreements with each of its other Managed Firms--HLMUSA, HLMAEP, JPJ, GAIH and BL&P (in addition to those filed as Exhibit 10.1, as amended (see Exhibits 10.16 and 10.39)).
/2/The other Managed Firms--HLMUSA and HLMAEP (but not including JPJ, GAIH and BL&P, which are subsidiaries of the Company) have entered into substantially identical Stockholders' Agreements with their respective individual stockholders (in addition to those filed as Exhibits 10.2).
INDEX TO FINANCIAL INFORMATION
Page ----
INDEPENDENT AUDITORS' REPORT
Board of Directors HLM Design, Inc. Charlotte, North Carolina
We have audited the accompanying consolidated balance sheets of HLM Design, Inc. and Subsidiaries and Affiliates (the "Company") as of April 28, 2000 and April 27, 2001, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended April 27, 2001. Our audits also included the financial statement schedule listed in the Index at Item 14. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of April 28, 2000 and April 27, 2001, and the results of its operations and its cash flows for each of the three years in the period ended April 27, 2001 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
/s/ DELOITTE & TOUCHE LLP June 29, 2001 Charlotte, North Carolina
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES CONSOLIDATED BALANCE SHEETS
April 28, 2000 and April 27, 2001
See Notes to Consolidated Financial Statements.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES CONSOLIDATED STATEMENTS OF INCOME
Years Ended April 30, 1999, April 28, 2000 and April 27, 2001
See Notes to Consolidated Financial Statements.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended April 30, 1999, April 28, 2000 and April 27, 2001
See Notes to Consolidated Financial Statements.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended April 30, 1999, April 28, 2000 and April 27, 2001
See Notes to Consolidated Financial Statements.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended April 30, 1999, April 28, 2000 and April 27, 2001
1. Description of Business and Summary of Significant Accounting Policies
Organization and Business--HLM Design, Inc. ( "HLM Design") and Subsidiaries and Affiliates ("the Company") is a professional consultancy that provides management and services to architectural, engineering and planning design entities ("Managed Firms") under long-term management and services agreements ("MSAs"). As of April 27, 2001, the Company had wholly owned subsidiaries and affiliates as follows:
. HLM Design of North America, Inc. ("HLMNA")
. HLM Design USA, Inc. ("HLMUSA")
. HLM Design Architecture, Engineering and Planning, P.C. ("HLMAEP")
. JPJ Architects, Inc. ("JPJ")
. G.A. Design International Holdings, Ltd. ("GAIH")
. BL&P Engineers, Inc. ("BL&P")
JPJ, GAIH and BL&P are subsidiaries of HLM Design.
The MSAs are for a term of 40 years. HLM Design is the sole and exclusive manager and administrator of all of the Managed Firms' day-to-day business functions including financial planning, facilities, equipment and supplies and management and administrative services (including bookkeeping and accounts), general administration services, contract negotiation and administration for all non-architectural and non-engineering aspects of all agreements pertaining to the provision of architectural and engineering services by Managed Firms to third parties, personnel, maintenance, architectural and engineering recruiting and training, insurance, billing and marketing support). In connection with these services, HLM Design receives all but 1% of the Managed Firm's positive cash flow (as determined in accordance with accounting principles generally accepted in the United States of America).
Financial Statement Presentation
The financial statements include the accounts of the Company consolidated with the accounts of the Managed Firms, including JPJ, GAIH and BL&P (see Note 2) from their respective dates of acquisition. All significant balances and transactions between the Company and the Managed Firms have been eliminated in the consolidated financial statements.
The Company provides architectural and engineering consulting and design services from offices in Iowa City, Iowa; Chicago, Illinois; Denver, Colorado; Orlando, Florida; Dallas, Texas; Atlanta, Georgia; Bethesda, Maryland; Philadelphia, Pennsylvania; San Francisco, California; Charlotte, North Carolina and London, U.K.
The Company operates in one segment, which encompasses architectural, engineering and planning services.
Fiscal Year-End Policy--The Company uses a 52-53 week fiscal year for accounting purposes which defines the fiscal year-end date as the Friday nearest the end of April. For fiscal years 1999, 2000 and 2001, the year-ends were April 30, April 28 and April 27, respectively, each containing 52 weeks.
Operating Cycle--Assets and liabilities related to long-term contracts are included in current assets and current liabilities in the accompanying balance sheets, as they will be liquidated in the normal course of contract completion, although this may require more than one year.
Stockholder Redemption Rights--Pursuant to the right of certain affiliate shareholders, under nominee shareholder agreements, to redeem their interests, the Company has a remaining non-current liability in the amount of $137,450.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
1. Description of Business and Summary of Significant Accounting Policies-- (Continued)
In the initial consolidation of the Company and HLMNA, the Company eliminated the common stock and additional paid-in capital of HLMNA against goodwill. Upon further evaluation, at April 28, 2000, the Company reclassified in consolidation the common stock and additional paid-in capital of HLMNA as a liability and an increase in goodwill of approximately $470,000. The effect on prior year's financial position and results of operations is not material.
Revenue Recognition--Revenue is recognized, at estimated collectible amounts, in the period the services are performed. More specifically, the Company recognizes revenues either on the percentage-of-completion method whereby the extent of the contract performance is measured by the percentage of direct labor cost incurred to date to estimated total direct labor cost for each contract, or based upon actual hours spent on the project times the agreed-upon hourly rate. Consultant expenses, project expenses, direct labor and indirect expenses are charged to expense as incurred. Provisions for estimated losses on uncompleted projects are made in the period in which such losses are first subject to reasonable estimation. Unanticipated changes in project performance, project conditions and estimated profitability may result in revisions to costs and income and are recognized in the period in which the revisions are determined.
The asset "costs and estimated earnings in excess of billings on uncompleted projects" represents revenues recognized in excess of amounts billed. The liability "billings in excess of costs and estimated earnings on uncompleted projects" represents billings in excess of revenues recognized.
Use of Estimates--The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The most significant estimates impacting the accompanying financial statements relates to revenue recognition under the percentage-of-completion method and the allowance for doubtful accounts.
Property and Equipment--Leasehold improvements and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets or the lease term. The estimated useful lives of property and equipment for financial reporting purposes are as follows:
Long-Lived Assets--The Company reviews the carrying value of its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable. Measurement of any impairment would include a comparison of estimated undiscounted future operating cash flows anticipated to be generated during the remaining life of the assets with their net carrying value. An impairment loss would be recognized as the amount by which the carrying value of the assets exceeds their fair value.
Goodwill--Goodwill represents the excess purchase price over the estimated fair value of the tangible and separately measurable intangible net assets acquired. Goodwill is amortized using the straight-line method over the expected period to be benefited, generally over a 15- to 25-year period. The Company assesses the recoverability of these intangible assets by determining whether the amortization of the goodwill over their remaining lives can be recovered through the undiscounted future operating cash flows of the acquired business. The assessment of the recoverability of goodwill will be impacted if estimated future cash flows are not achieved.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
1. Description of Business and Summary of Significant Accounting Policies-- (Continued)
Deferred Income Taxes--Deferred income tax assets and liabilities are calculated based upon differences between the financial statement and tax basis of assets and liabilities that will result in taxable or deductible amounts in the future. Such deferred income tax asset or liability computations are based on enacted tax laws and rates applicable to periods in which the differences are expected to affect taxable income.
Financial Instruments--The carrying amount of cash, accounts receivable, accounts payable and accrued liabilities approximates their fair value because of the short maturities of these instruments. See Note 4 as to fair value of the Company's financing arrangements.
Foreign Currency--Assets and liabilities denominated in foreign currencies have been translated into U.S. dollars at the period-end exchange rate. Revenues and expenses denominated in foreign currencies have been translated into U.S. dollars at the weighted average exchange rate. Translation gains and losses are accounted for in a separate component of stockholders' equity. The exchange gains and losses arising on transactions are charged to income as incurred and are not significant for any period presented.
New Accounting Standards--In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities. This new standard requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. This statement will be effective for the Company for financial statements issued for the fiscal year beginning April 28, 2001. The Company has evaluated the effects the statement will have on its consolidated financial statements and related disclosures and does not believe that the effect will be material.
The FASB recently voted in favor of the issuance of two new statements, SFAS No. 141, Business Combinations and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method be used for all business combinations initiated after June 30, 2001, and the use of the pooling of interest method will be prohibited. SFAS No. 142 changes the accounting for goodwill from an amortization method to an impairment approach. Amortization of goodwill, including goodwill recorded in prior business combinations, will cease prospectively upon the adoption of the standard, which the Company anticipates adopting during fiscal year 2002.
Net Income Per Share--The calculation of diluted net income per share considers the potential dilutive effect of warrants to purchase shares of common stock at $0.01 per share as well as stock options to purchase shares of common stock which were outstanding from May 1, 1998 to April 27, 2001. For the years ended April 30, 1999, April 28, 2000 and April 27, 2001, the dilutive effect of stock options was 0, 9,615 and 22,373, respectively. The dilutive effect of warrants had no effect on net income per share for any period presented.
Reclassifications--Certain reclassifications have been made to the fiscal 1999 and 2000 financial statements to conform to fiscal 2001 presentation.
2. Business Acquisitions
JPJ Architects, Inc.
On October 30, 1998, the Company purchased all the issued and outstanding common stock of JPJ Architects, Inc. for $2.4 million in cash, an aggregate of 240,000 shares of the Company's common stock, and subordinated promissory notes in the aggregate principal amount of $1,160,000. The purchase agreement specifies delivery of 30 percent of the aggregate shares of the Company's stock and the principal amount of the
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
2. Business Acquisitions--(Continued)
promissory notes on each of October 30, 2000 and October 30, 2001 and delivery of the remaining 40 percent of the aggregate shares of stock and the principal amount of the promissory notes on October 30, 2002. Following the purchase, the Company and JPJ entered into a management services agreement whereby the Company will manage all aspects of JPJ other than the provision of professional architectural services.
The acquisition has been accounted for using the purchase method of accounting. The purchase price has been allocated to the assets and liabilities acquired based on their estimated fair value at the acquisition date.
The following unaudited pro forma financial data is presented as if the transaction occurred as of the beginning of the fiscal year 1999:
G. A. Design International Holdings Ltd.
On January 29, 1999, the Company purchased 95 percent of the issued and outstanding common stock of G. A. Design International Holdings Ltd. for a combination of cash, 27,667 shares of HLM Design common stock and promissory notes for a total of approximately $1,037,000. The purchase agreement specifies delivery of 33.3% of the aggregate shares of the stock on each of January 29, 2000, January 2001 and January 2002. The acquisition has been accounted for using the purchase method of accounting. The purchase price has been allocated to the assets and liabilities acquired based on their estimated fair value at the acquisition date resulting in an allocation of goodwill of approximately $1,042,000. The pro forma effect, assuming the purchase had occurred at the beginning of fiscal year ended 1999, would not be material to the Company's results of operations.
ESS Architects, Inc.
On September 16, 1999, HLM Design purchased all the issued and outstanding common stock of ESS Architects, Inc. ("ESS") for a combination of cash and promissory notes for a total of $425,000 ($219,167 represents notes payable, net of imputed interest, issued to ESS shareholders). The purchase price has been allocated to the assets and liabilities acquired based on their estimated fair value at the acquisition date resulting in an allocation of goodwill of approximately $515,450. The pro forma effect, assuming the purchase had occurred at the beginning of fiscal year ended 2000, would not be material to the Company's results of operations. In December 1999, ESS was merged into HLMUSA.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
2. Business Acquisitions--(Continued)
BL&P Engineers, Inc.
As of April 29, 2000, the Company purchased all of the issued and outstanding common stock and related goodwill of BL&P for $1.46 million in cash, subordinated promissory notes bearing interest at 7 percent in the aggregate amount of $2.04 million (the "Notes") and 50,000 shares of the Company's common stock having a value of $0.26 million to be delivered on a delayed delivery basis.
The Stock Purchase Agreement ("Agreement") provides for, among other things, the delivery to BL&P's former stockholder of 30% of the number of shares of the stock on each of April 29, 2002 and April 29, 2003 and 40% of the number of shares of stock on April 29, 2004. The Notes provide for payment of 30% of the principal amount on each of October 29, 2001 and April 29, 2003 and 40% of the principal amount on April 29, 2004. Following the consummation of the Agreement, the Company and BL&P entered into a Management and Services Agreement, whereby the Company will manage all aspects of BL&P other than the provision of professional engineering services.
In addition, the Company paid BL&P debt of $0.76 million upon closing.
The acquisition has been accounted for using the purchase method of accounting. The purchase price has been allocated to the assets and liabilities acquired based on their estimated fair value at the acquisition date.
The following unaudited proforma financial data is presented as if the transaction occurred at the beginning of the respective years:
3. Contracts in Progress
Information relative to contracts in progress is as follows:
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
3. Contracts in Progress--(Continued)
Net underbillings are included in the accompanying balance sheets as follows:
4. Financing Arrangements
A summary of financing arrangements are as follows:
On February 7, 2000, the Company entered into a revolving credit, term loan and capital expenditure loan for a total of $20,000,000 with its principal lender. The three financing arrangements are discussed below:
Revolving Credit--The maximum revolving advance amount is $17,000,000. The amount available to borrow is calculated based on the aging of certain assets. This loan matures in February 2003 and bears interest at the prime rate plus 0.5%.
Term Loan--The amount of the loan is $2,000,000. This loan matures in February 2003 and bears interest at a maximum of prime plus 2%.
Capital Expenditure Loan--The maximum capital expenditure loan amount is $1,000,000. The amount is available for the financing of equipment used in the Company's business. This loan matures in February 2005 and bears interest at a maximum of prime plus 1%. At April 27, 2001, there were no borrowings under this loan.
In connection with the above financing arrangement, the Company incurred approximately $599,000 in deferred loan transaction fees. These fees are being amortized over the life of the loan. Included in the accompanying consolidated statement of income are amortization expense of these costs of $45,460 and $204,220 for the fiscal years ended 2000 and 2001, respectively.
Effective June 29, 2001, the Company entered into an amendment to its revolving credit, term loan and capital expenditure loan with IBJ. The amendment is summarized as follows:
a. Revolving Credit--The maximum revolving advance amount is $12,500,000.
b. Term Loan--The unpaid principal balance will be increased to $1,566,667 and will be repaid in equal monthly installments of $80,000, plus interest at a maximum of prime plus 2 percent. The increase in unpaid principal balance will be used to repay amounts outstanding under the revolving credit facility.
c. Capital Expenditure Loan--The Capital Expenditure Loan commitment has been cancelled.
Substantially all assets are pledged under this financing arrangement. The arrangement requires certain financial covenants to be maintained, such as minimum net worth, maximum leverage and senior leverage ratios, maximum fixed charge coverage and senior fixed charge coverage ratios and maximum capital expenditure levels. At April 27, 2001, the Company was in compliance with these financial covenants.
During fiscal year ended 2000, the financial arrangements with Berthel Fisher & Company Financial Services, Inc., and First Charter National Bank were extinguished prior to maturity. This resulted in an extraordinary charge of $228,355, net of income taxes of $128,004, that consisted of write-off of related unamortized financing costs.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
4. Financing Arrangements--(Continued)
A summary of long-term debt is as follows:
At April 28, 2000 and April 27, 2001 the fair value of the Company's financing arrangements totaled approximately $10.7 million and $12.2 million, respectively.
Annual principal payments of the various financing agreements are as follows:
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
5. Lease Commitments
The Company leases office space and equipment under non-cancelable operating leases.
The total minimum rental commitment under such non-cancelable operating leases at April 27, 2001, which has been reduced by minimum rentals to be received under subleases, are as follows:
Rent expense was $2,279,585, $2,851,280 and $3,295,457 for the periods ended April 30, 1999, April 28, 2000 and April 27, 2001, respectively.
6. Contingencies
The Company is involved in various disputes and legal actions related to contract operations. In the opinion of Company management, the ultimate resolution of these actions will not have a material effect on the Company's financial position, future results of operations or cash flows.
7. Related Party Transactions
During the year ended April 28, 2000 and April 27, 2001, the Company paid $140,528 and $210,000, respectively, to certain affiliate shareholders, under nominee shareholder agreements, respectively, to redeem a portion of their interest in the associated Managed Firm. In addition, the Company leases certain warehouse space from certain officers at $3,500 per month. During the year ended April 30, 1999, the Company incurred $40,000 in consulting fees for services provided by a director.
8. Income Taxes
The provision for income taxes is as follows:
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
8. Income Taxes--(Continued)
The reconciliation of the statutory federal income tax rate with the Company's overall effective federal and state income tax rate is as follows:
The tax effect of temporary differences giving rise to deferred income tax assets and liabilities as of April 28, 2000 and April 27, 2001 is as follows:
Management believes it is probable that the Company will realize the tax benefits of the deductible differences that were available as of April 27, 2001. At April 27, 2001, the Company has federal operating losses for income tax reporting purposes of approximately $1.0 million which will expire in 2019.
The Company and its Managed Firms, except JPJ and BL&P, file separate federal and state income tax returns. The Company, JPJ and BL&P file a consolidated federal income tax return.
9. Stockholders' Equity
Public Offering of Common Stock--The Company completed the offering of 1,200,000 shares of its common stock on June 12, 1998 at a price of $6.00 per share. Net proceeds of the offering of $5.92 million (after underwriting discount and other offering expenses) were used to repay certain indebtedness consisting of: (a) $2.0 million due under Pacific Capital/Equitas, and (b) $0.75 million term loan from Berthel Leasing and $0.2 million to employee stockholders. Remaining net proceeds were used for development of new business and other general corporate purposes.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
9. Stockholders' Equity--(Continued)
During fiscal year ended 1999, the financial arrangement with Pacific Capital, L.P., Equitas, L.P. and Berthel Fisher & Company Financial Services, Inc. were extinguished prior to maturity. This resulted in an extraordinary charge of $280,849, net of income taxes of $171,842, that consisted of write- off of related unamortized financing costs.
Preferred Stock--The Company's Certificate of Incorporation authorizes the Board of Directors of the Company to issue 1,000,000 shares of preferred stock with such designations, rights and preferences as may be determined from time to time by the Board of Directors. Accordingly, the Board of Directors is empowered, without stockholder approval, to issue preferred stock with dividend, liquidation, conversion, voting or other rights that could adversely affect the voting power or other rights of the holders of the Company's Common Stock. No shares of preferred stock have been issued.
Warrants--In May 1997, warrants to purchase 183,244 shares of HLM Design common stock (as adjusted for subsequent stock splits) were attached to the notes issued to Pacific Capital and Equitas. In addition, warrants to purchase 43,631 shares of HLM Design common stock (as adjusted for subsequent stock splits) were attached to the notes issued to Berthel Fisher in September 1997 and in December 1997. Each warrant allows holders to purchase a share of common stock for $.01 per share for a five year period. At April 30, 1999, all of the warrants held by Berthel Fisher, Pacific Capital and Equitas were exercised.
In connection with the Offering, the Company sold to the underwriters, for a price of $0.01 per warrant, warrants to purchase 120,000 shares of common stock exercisable at $7.20 per share. At April 27, 2001, all of these warrants were outstanding.
10. Employee Benefit Plans
401(K) Plan--Substantially all employees are eligible to participate in a 401(k) plan. Contribution expense for the periods ended April 30, 1999, April 28, 2000 and April 27, 2001 was $53,886, $146,065 and $194,460, respectively.
Employee Stock Purchase Plan--In February 1998, the Board of Directors and stockholders of the Company adopted the HLM Design Inc. Employee Stock Purchase Plan (the "ESPP"). A total of 57,954 shares of common stock has been reserved under the ESPP, provided that the number of shares issued or issuable under the ESPP and under the Stock Option Plan (discussed below) shall not exceed in the aggregate 10% of the total number of shares of common stock outstanding. On January 1 of each year, all eligible employees electing to participate will be granted options to purchase shares of Common Stock. The purchase price of common stock purchased through the ESPP will be 85% of the lesser of (i) the fair market value of the common stock on the applicable Grant Date and (ii) the fair market value of the common stock on the applicable exercise date. Options will expire on the last exercise date of the calendar year in which granted. As of April 27, 2001, 33,576 shares have been granted or issued under the ESPP.
Stock Option Plan--In February 1998, the Board of Directors and stockholders of the Company adopted the HLM Design, Inc. Stock Option Plan (the "Stock Option Plan") in order to attract and retain key personnel. Under the Stock Option Plan, options to purchase an aggregate of 159,955 shares of common stock may be granted to key employees of HLM Design and its Managed Firms and to officers, directors, consultants and other individuals providing services to the Company. The Company increased the number of shares from 159,955 to 265,000 upon shareholder approval in September 2000. During the year ended April 30, 1999, the Board of Directors of HLM Design approved the grant of 125,908 options to three key employees and certain Board Members. During the year ended April 28, 2000 and April 27, 2001, the Board of Directors approved the issuance of options to purchase 28,400 shares and 106,200 shares, respectively, of common stock to several key employees.
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
10. Employee Benefit Plans--(Continued)
Option information is summarized below:
The Company measures the compensation cost of its stock option plan under the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, as permitted under SFAS No. 123, Accounting for Stock-Based Compensation. Under the provisions of APB No. 25, compensation cost is measured based on the intrinsic value of the equity instrument awarded. Under the provisions of SFAS No. 123, compensation cost is measured based on the fair value of the equity instrument awarded. The Company's net income and net income per share would approximate the following pro forma amounts:
HLM DESIGN, INC. AND SUBSIDIARIES AND AFFILIATES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
10. Employee Benefit Plans--(Continued)
The fair value of each grant is estimated on the date of grant using the Black-Scholes option-pricing model with the assumptions listed below:
11. HLM Design Financial Information (Unaudited)
HLM Design's balance sheet as of April 28, 2000 and April 27, 2001 and income statement for each of the three years in the period ended April 27, 2001 are as follows:
12. Unaudited Quarterly Financial Data
-------- (A) In the fourth quarter 2000, certain debt was repaid resulting in an extraordinary charge of $228,355, net of income taxes of $128,004, that consisted of write-off of related unamortized financing costs and other related costs. Net income before such extraordinary item was $293,818, and net income per share was $0.13.
SIGNATURE PAGE
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HLM Design, Inc.
By: /s/ James B. Huff -------------------------------- James B. Huff Vice President and Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
SCHEDULE II
HLM DESIGN, INC.
VALUATION AND QUALIFYING ACCOUNTS Years Ended April 30, 1999, April 28, 2000 and April 27, 2001
- -------- NOTES:
(A) Increases to reserves reflecting acquisitions.
(B) Accounts charged off, recoveries, and other adjustments, net.