-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Dx/dRXO54D62/QzignbPw3r9B75gUaIjWzAn79A/y20rWGJ6jUtd5dEJuw6hH2bB CpZ7XIxbanP5PHxWKWjKjg== 0000929859-99-000101.txt : 19991103 0000929859-99-000101.hdr.sgml : 19991103 ACCESSION NUMBER: 0000929859-99-000101 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990731 FILED AS OF DATE: 19991102 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PACIFIC SECURITY COMPANIES CENTRAL INDEX KEY: 0000203159 STANDARD INDUSTRIAL CLASSIFICATION: OPERATORS OF NONRESIDENTIAL BUILDINGS [6512] IRS NUMBER: 910669906 STATE OF INCORPORATION: WA FISCAL YEAR END: 0731 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-06673 FILM NUMBER: 99739581 BUSINESS ADDRESS: STREET 1: PEYTON BUILDING STREET 2: N 10 POST STREET CITY: SPOKANE STATE: WA ZIP: 99201 BUSINESS PHONE: 5096240183 MAIL ADDRESS: STREET 1: 10 N POST STREET 2: PEYTON BUILDING STE 525 CITY: SPOKANE STATE: WA ZIP: 99201 FORMER COMPANY: FORMER CONFORMED NAME: SECURITY SAVESCO INC DATE OF NAME CHANGE: 19851028 FORMER COMPANY: FORMER CONFORMED NAME: SECURITY SAVESCO INSTITUTION INC DATE OF NAME CHANGE: 19721114 10-K 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended July 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-6673 PACIFIC SECURITY COMPANIES -------------------------- (Exact name of registrant as specified in its charter) Washington 91-0669906 ------------------------------- ---------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation of organization) Identification No.) N. 10 Post Street 525 Peyton Building Spokane, Washington 99201 ------------------------------- ---------------------------- (Address of principal (Zip code) executive offices) Registrant's telephone number, including area code: (509) 444-7700 Securities registered pursuant to Section 12(b) of the Act: Name of each exchange on which Title of each class registered ------------------------------- --------------------------- None None Securities registered pursuant to Section 12(g) of the Act: Common stock, no par value shares --------------------------------- (Title of class) 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 --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. X --- State the aggregate market value of the voting and non-voting common equity held by nonaffiliates computed by reference to the price at which the common equity was sold, or the average bid and asked price of such common equity, as of a specified date within the past 60 days. There is no regular, established market for trading in the Company's common stock. Therefore, the aggregate market value of the voting stock held by nonaffiliates of the registrant is not determinable. On July 31, 1999, the registrant had outstanding 1,152,532 shares of common stock, no par value ($3 stated value) and 3,000 shares of Class A preferred stock, $100 par value. Documents incorporated by reference: none. PACIFIC SECURITY COMPANIES FORM 10-K ANNUAL REPORT Table of Contents PART I Item 1. Business Item 2. Properties Item 3. Legal Proceedings Item 4. Submission of Matters to a Vote of Security Holders PART II Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters Item 6. Selected Financial Data Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 7A. Quantitative and Qualitative Disclosures About Market Risk Item 8. Financial Statements and Supplementary Data Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure PART III Item 10. Directors and Executive Officers of the Registrant Item 11. Executive Compensation Item 12. Security Ownership of Certain Beneficial Owners and Management Item 13. Certain Relationships and Related Transactions PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K PART I Item 1. Business (a) Pacific Security Companies was merged into Security Savesco, Inc. as of May 31, 1985. The name of Security Savesco, Inc., the surviving corporation, was changed to Pacific Security Companies (the "Company") as of the date of the merger. Prior to the merger, both corporations were engaged principally in real estate contract financing and owning, leasing and selling real properties. The merged corporation has continued these activities. Total assets of the Company at July 31, 1999 and 1998 were $35,946,222 and $30,940,293, respectively, and real estate contracts and loans represent approximately 50% and 36% of the respective asset totals. The Company presently primarily originates commercial loans. The Company also originates contracts to facilitate the sale of real estate held for sale or development. Some of the contracts have fixed contractual interest rates while commercial (interim and construction) loans generally have variable rates. For real estate contracts purchased by the Company, most contracts have been purchased at a discount from the contract balance which increases the effective yield. The total amount invested in real estate contracts and loans of $17,925,338 as of July 31, 1999 is $6,776,329 more than at the end of the prior year. The percentage of contracts which were delinquent over 90 days was 1.9% as of July 31, 1999 and 2.2% as of July 31, 1998. Management continues to emphasize enforcement of the Company's credit and collection policies. In fiscal 1998, the Company's newly formed subsidiary, Cornerstone Realty Advisors, Inc., began making short-term (generally one to two years including extensions) construction and interim loans. Bank lines of credit were increased to provide additional funds for this purpose. The permanent financing for these short-term loans is obtained from the secondary market and includes such sources as banks, savings and loan institutions, life insurance companies, credit unions and conduits. In fiscal 1997, the Company continued to emphasize the development of its rental properties and commenced new projects primarily to improve the occupancy of its commercial buildings. Correspondingly, the acquisition of additional real estate contracts was minimal, other than for Company financed sales of its real estate. Additionally, in fiscal 1997, the Company continued developing certain land for residential development. The project, known as Tanglewood Ranch Park Estates (The Crest) offered approximately 21 ten-acre parcels suitable for home construction. The Company began marketing these parcels in fiscal 1998 and has approximately 13 ten-acre parcels remaining for sale at July 31, 1999. In fiscal 1996, the Company completed construction of Birdies Golf Center (Birdies) and discontinued this operation in fiscal 1999. See further information on this discontinued business segment in Note 4 to the consolidated financial statements. Investments in rental properties totaled $14,807,679 and $13,588,145 as of July 31, 1999 and 1998, respectively. The increase is primarily the net result of the conversion of the Birdies Golf Center building into a leased office building and additional capitalized costs that more than offset depreciation expense and the cost of real estate that was sold. Other real property held for sale and development totaled $2,031,448 and $2,775,542 as of July 31, 1999 and 1998, respectively. These properties will be liquidated and/or developed at such time as market conditions warrant, and in the judgment of management, when the Company can maximize its return. The Company will continue to invest in and hold real property on a long-term basis. These properties may ultimately be sold on an installment basis for tax purposes in order to minimize and defer related income taxes and to conserve funds for additional investment purposes. These plans may be modified as the result of future changes to the Internal Revenue Code. With the Company's sale of certain commercial real estate and multi-family housing, rental income has decreased from $2,398,369 in fiscal 1997 to $2,268,810 in fiscal 1999. During the same period, interest income, including the amortization of discounts on real estate contracts, has increased from 21% of total income in fiscal 1997 to 37% of total income in fiscal 1999. The Company expects to continue its emphasis on the development, leasing and sale of commercial real estate in fiscal 2000, marketing of the Tanglewood (The Crest) parcels and originating construction and interim commercial real estate loans. There are no contractual commitments other than the remaining remodeling costs associated with improvements for commercial buildings and the construction of a new building pre-leased to a tenant at the Cornerstone Office Park. The Company's fiscal 2000 capital expenditures may increase if demand for the rental of Company properties continues or if the Company decides to further develop any of its properties held for sale. A description of the Company's significant properties is included in Item 2 -- Properties. The Company's business is concentrated in financing real estate contracts, originating loans collateralized by real estate, developing real estate for sale or lease and the operation of rental properties. The Company is in competition with financial institutions who originate or invest in real estate collateralized contracts and commercial property owners located primarily in or near Spokane, Washington. As of July 31, 1999, the Company employed approximately 21 people on a full-time equivalent basis, 18 of whom are in its office at N. 10 Post Street in Spokane, Washington. Item 2. Properties As of July 31, 1999, the Company owns the following properties. Some of the properties are subject to real estate contracts or mortgages that are collateralized by the property. Properties Located in Spokane County, Washington:
July 31, 1999 --------------------------------------- Rental/ Net Mortgage Date Development Carrying or Contract Acquired Description of Property Status Value Obligation -------- ---------------------------------------- ------------- ---------- ----------- Commercial: 1979 The Peyton Building at N. 10 Post Street Substantially $4,175,899 $2,422,444 contains approximately 85,000 square leased feet of rentable space. Substantial improvements have been made to the building since its acquisition. Remodel- ing of this ffice building continues as new occupancy warrants. The Company's offices are located in this building. 1979 The Hutton Building at S. 10 Washington Substantially $3,599,368 $ -- contains approximately 56,000 square leased feet of rentable space. Substantial improvements have been made to the building since its acquisition. The Company also acquired 25,000 square feet for parking near this building. 1984 Bank Branch Building at W. 102 Indiana Sold $ 396,250 $ 569,858 Avenue was under a long-term lease. subsequent to year end 1992 The Pier One Building is a commercial Leased $3,176,219 $1,380,312 building. The building has two major tenants, who occupy over 60% of the space, and several other smaller tenants for the remaining space. 1992 The AT&T Wireless Building is a Leased $ 723,304 $ 815,793 commercial building constructed by the Company on the north river bank in Spokane. 1995 Cornerstone Office Building is the Leased $1,581,087 $ -- remodeled Birdies Golf Center, con- structed on 2 acres of the Cornerstone Office Park property. It has approxi- mately 8,300 square feet of rental space occupied by two tenants. Multi-Family Housing: 1969 The Broadmoor Apartments, formerly the Occupied $1,155,561 $ -- Aqua View Apartments, is a 128-unit apartment complex.
July 31, 1999 --------------------------------------- Rental/ Net Mortgage Date Development Carrying or Contract Acquired Description of Property Status Value Obligation -------- ---------------------------------------- ------------- ---------- ----------- Land: 1990 Cornerstone Office Park and property Under $ 752,929 $ -- consists of approximately 12 remaining development acres of raw land in a location where there has been substantial commercial and residential development. 1991 Tanglewood Ranch Park Estates (The Crest) Being $1,106,134 $ -- in south Spokane County was acquired marketed through a judicial foreclosure. The area consisted of approximately 300 acres of undeveloped land. In fiscal 1999, one lot was sold, leaving approxi- mately 13 lots available for sale. 1993 Approximately six acres in Auburn, Being $ 172,386 $ -- Washington zoned for multi-family housing marketed were acquired through a foreclosure.
Item 3. Legal Proceedings As of July 31, 1999, it is the opinion of management that there is no pending litigation that would have a material adverse effect on the financial condition or operations of the registrant. Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of the stockholders during the fourth quarter of fiscal 1999. PART II Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters (a) Principal Market. There is no established market for trading in the Company's common stock. Periodically, the Company will purchase and retire its common stock, but does not solicit such transactions. (b) Stock Price and Dividend Information. There is no market information relative to the common stock price of the Company's stock as it is not actively traded. No dividends have been declared since 1990. (c) Approximate Number of Holders of Common Stock. Common no par value -- 1,126 record holders. (d) There is only one class of common stock outstanding. Any dividend which may be declared would be payable at the same rate on each share of common stock. At July 31, 1999, the Company also has issued 3,000 shares of Class A preferred stock owned by two holders. These shares receive cumulative dividends of 6% when declared by the Board of Directors. During the fiscal years ended July 31, 1999 and 1998, dividends totaling $18,000 and $42,000 were declared and accrued on these shares, respectively. During the fiscal years ended July 31, 1997 and 1996, dividends totaling $62,400 were declared and accrued on these shares. The dividends were paid on August 3, 1999, August 3, 1998, August 1, 1997 and August 2, 1996, respectively. Item 6. Selected Financial Data The following selected financial data have been derived from the Company's audited consolidated financial statements, and should be read in conjunction with the consolidated financial statements and notes thereto.
Years Ended July 31, ------------------------------------------------------------------- 1999 1998 1997 1996 1995 ----------- ----------- ----------- ----------- ----------- STATEMENT OF OPERATIONS DATA: Rental income $ 2,268,810 $ 2,220,979 $ 2,398,369 $ 2,714,563 $ 2,832,139 Interest income, including loan fees 2,183,276 963,297 1,032,847 1,138,935 1,375,420 Gains on sales of real estate 1,128,628 514,141 1,611,195 486,469 584,657 Interest expense, net 2,208,858 1,580,820 1,548,173 1,650,559 1,681,213 Income (loss) from continuing operations, before income taxes 853,559 (720,371) 879,238 182,114 -- Net income (loss) 285,342 (596,936) 472,000 39,266 159,310 Income (loss) applicable to common stockholders 57,342 (757,936) 357,600 (75,134) 44,910 Income (loss) per common share - basic and diluted .05 (.48) .19 (.04) .02 =========== =========== =========== =========== =========== Income (loss) from continuing operations per common share - basic and diluted .27 (.42) .26 (.03) -- =========== =========== =========== =========== =========== Cash dividends per common share -- -- -- -- -- Weighted-average number of common shares outstanding 1,161,677 1,591,484 1,895,105 1,938,076 1,960,746 BALANCE SHEET DATA (AT YEAR END): Contracts, mortgages, finance notes and loans receivable, net $17,925,338 $11,149,009 $10,971,700 $10,492,944 $13,457,896 Total assets 35,946,222 30,940,293 32,294,907 32,840,107 35,351,486 Notes and contracts payable 17,421,385 12,255,178 10,028,531 11,055,919 13,107,725 Debentures 9,643,548 9,839,936 9,898,351 9,718,260 9,179,484 Stockholders' equity 6,980,693 6,647,479 9,689,896 9,397,005 9,544,017
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations GENERAL This discussion contains some forward-looking statements. A forward- looking statement may contain words such as "will continue to be," "will be," "continue to," "expect to," "anticipates that," "to be," or "can impact." Management cautions that forward-looking statements are subject to risks and uncertainties that could cause the Company's actual results to differ materially from those projected in forward- looking statements. The Company engages in financing real estate collateralized contracts and loans, originating construction and interim loans, acquiring real estate that is either held for sale or developed and leased or sold and operating rental properties as its primary activities. In fiscal 1999, the Company expanded its lending activities associated with interim construction loans. During the past two years, the Company has also focused on the development and lease of its rental properties as demand for the available space in these projects has increased. Much of the Company's development of the commercial office building projects has involved extensive remodeling efforts in connection with preparation of previously unoccupied space for a new tenant and structural changes as required by current building codes. The Company invests in real estate collateralized contracts and real property primarily within the state of Washington, with a concentration in Spokane County. The Company has concentrated its efforts on the development and sale of existing real estate projects to maximize the return from those investments. The Company has curtailed its contract acquisitions and now primarily originates real estate contracts to facilitate the sale of its property held for sale or development and, in fiscal 1998, began originating loans secured by real estate, including construction and interim loans through its subsidiary, Cornerstone Realty Advisors, Inc. These loans have involved properties located in the western United States. The Company finances its investments in real estate and loans primarily through collateralized line-of-credit arrangements with local banks, real estate notes or mortgages, and the sale of fixed rate debentures with terms ranging from one to ten years. The Company intends to continue using these funding sources in the future. RESULTS OF OPERATIONS For the years ended July 31, 1999, 1998 and 1997, the Company's net income (loss) was approximately $285,000, $(597,000) and $472,000, respectively. Due to dividends and the accretion of the discount on the issuance of preferred stock, the income (loss) applicable to common stockholders was approximately $57,000, $(758,000) and $358,000 in fiscal 1999, 1998 and 1997, respectively. Rental real estate activities have decreased due to sales of rental properties. Total rental income has decreased from $2,398,369 in fiscal 1997 to $2,268,810 in fiscal 1999. Reduced rental income could continue as a result of sales of some rental properties. The total interest income, including loan fees and amortization of discounts on acquired real estate contracts and loans, has increased from approximately $1,059,000 and $1,005,000 in fiscal 1997 and 1998, respectively, to approximately $2,211,000 in fiscal 1999. This increase corresponds directly with the increase in the Company's origination of constrution and interim commercial loans. In the last half of fiscal 1998, the Company began originating new commercial real property construction and interim loans through its subsidiary, Cornerstone Realty Advisors, Inc. Loan fees of $450,000 and net interest income of $251,000 have significantly increased as the loan portfolio has grown in fiscal 1999. Gains on the sale of real estate were approximately $1,129,000, $514,000 and $1,611,000 in fiscal 1999, 1998 and 1997, respectively. The Company anticipates that it will continue to recognize gains both on the sale of real estate acquired through foreclosure and real estate acquired for resale. The expenses associated with rental operations have remained relatively flat at approximately $2.1 million in fiscal 1999 from approximately $2.1 million in fiscal 1997. The rental activities of the Company are expected to continue to contribute to its profitability, but may be affected by sales of rental properties. Interest expense, exclusive of interest on rental properties, net of amounts capitalized, was approximately $1,842,000, $1,212,000 and $1,188,000 in fiscal 1999, 1998 and 1997, respectively. In the last half of fiscal 1998 and through fiscal 1999, outstanding borrowings increased significantly due to advances drawn under the Company's lines of credit to fund the origination of construction and interim loans. These increased borrowings resulted in the increase in interest expense in fiscal 1999. Salaries and commissions have increased in absolute dollar amounts for each of the last three fiscal years. In fiscal 1999, salaries and commissions only increased $24,000. In fiscal 1998, additional staffing for Cornerstone Realty Advisors, Inc. resulted in increased salaries and commissions. General and administrative expenses in fiscal 1999 were significantly lower by approximately $155,000 than in fiscal 1998 due to nonrecurring legal fees incurred in fiscal 1998 of approximately $300,000 related to a minority stockholder lawsuit. The Company's effective income tax rate as a percentage of income (loss) from continuing operations before income taxes was 37% in fiscal 1999, compared to a benefit of 29% and a provision of 32% in fiscal 1998 and 1997, respectively. LIQUIDITY AND CAPITAL RESOURCES At July 31, 1999, the Company had total stockholders' equity of approximately $6,981,000 and a total liabilities to equity ratio of 4.15 to 1, which increased from 3.58 to 1 the year before. The increase in this ratio was primarily due to the increase in bank borrowings to fund new interim and construction loans in fiscal 1999. In fiscal 1999, the Company's primary sources of funds were approximately $1.1 million from the sale of real estate, $13.5 million in real estate contract collections, $.9 million from operating activities and $7.3 million from net line-of-credit and note borrowings. The primary uses of funds were approximately $.8 million used for the acquisition and improvements of real estate projects, $18.5 million used to originate new loans and acquire new contracts and mortgage notes, $.8 in repayment of maturing debentures, $.2 million for purchase and retirement of common stock and preferred stock, and approximately $2.6 million in repayment of outstanding long-term debt. As a holder of monetary assets and liabilities, the Company's performance may be significantly affected by changes in interest rates. These changes are somewhat mitigated or delayed to the extent that much of the Company's investment in real estate contracts and established real estate leases have fixed returns, as do the Company's debentures. The interim and construction loans originated by the Company have variable interest rates and are primarily funded by variable interest rate loans so that the spread between the loans receivable interest rate and debt interest rate is maintained regardless of whether rates are increasing or decreasing. The Company will be affected by changes in the real estate market in Washington and other western states where it originates loans. The Company anticipates that the availability of funds and sales of debentures under its $21,812,500 line-of-credit and loan arrangements, of which approximately $13,925,000 was outstanding at July 31, 1999, will be sufficient to fund its short- and intermediate-term needs to retire maturing debentures and mortgage obligations, to continue development of its real estate projects as demand warrants, and to originate commercial real estate loans. The Company does not anticipate any significant capital expenditures during fiscal 2000, other than the completion of the remodeling of rental properties and the construction of a pre-leased building and other improvements to the Cornerstone Office Park. YEAR 2000 ISSUES Throughout the information technology industry, the use of two-digit fields was common practice in the design of hardware, systems software, proprietary applications and system interfaces. The Year 2000 problem is pervasive and complex. The issue is whether computer systems will properly recognize date sensitive information when the year changes to 2000. Systems that do not properly recognize such information could generate erroneous data or cause a system to fail. The Company recognizes the need to ensure its operations will not be adversely impacted by Year 2000 software failures and has assessed Year 2000 risks. This assessment includes the identification of necessary changes to computer hardware and software applications that will attempt to ensure availability and integrity of the Company's information systems and the reliability of its financial and operational systems. The Company has reviewed its financial, information and operational systems in order to identify those products, services or systems that are not Year 2000 compliant. As a result of this review, the Company has determined that it will be required to modify or replace certain information and operational systems so they will be Year 2000 compliant. These modifications and replacements are being, and will continue to be, made in conjunction with the Company's overall systems initiatives. The total cost of these Year 2000 compliance activities is not anticipated to be material to the Company's financial position or its results of operations. Based on available information, the Company does not believe any material exposure to significant business interruption exists as a result of Year 2000 compliance issues. These costs and the timing in which the Company plans to complete its Year 2000 modifications are based on management's best estimates. However, there can be no assurance that the Company will timely identify and remediate all significant Year 2000 problems, that remedial efforts will not involve significant time and expense, or that such problems will not have a material adverse effect on the Company's business, results of operations or financial position. The Company also faces risk to the extent that its borrowers, vendors, service providers and others with whom the Company transacts business may not comply with Year 2000 requirements. The Company has initiated formal communications with significant borrowers, vendors and service providers to determine the extent to which the Company is vulnerable to these third parties failure to remediate their own Year 2000 issues. In the event any such third parties are not Year 2000 compliant, the Company's results of operations could be materially adversely affected. Item 7A. Quantitative and Qualitative Disclosures About Market Risk MARKET RISK Market risk is the risk of loss from adverse changes in market prices and rates. The Company's market risk arises principally from interest rate risk in its lending and borrowing activities. Management actively monitors and manages its interest rate risk exposure. Although the Company manages other risks, as in credit quality and liquidity risk, in the normal course of business, management considers interest rate risk to be a significant market risk and could potentially have a material effect on the Company's financial condition and results of operations. Other types of market risks, such as foreign currency exchange rate risk and commodity price risk, do not arise in the normal course of the Company's business activity. The Company's profitability is affected by fluctuations in the interest rates. Management's goal is to maintain a reasonable balance between exposure to interest rate fluctuations and earnings. A sudden and substantial increase in interest rates may adversely impact the Company's earnings to the extent that the interest rates on interest- earning assets and interest-bearing liabilities do not change at the same speed, to the same extent or on the same basis. In addition, real estate lending may slow in a rising interest rate environment. The Company mitigates interest rate risk on the interim and construction loans it originates by having variable interest rates on these loans tied to the variable interest rates on its borrowings to fund the loans. These loans are short-term loans (generally one to two years, including extensions). Permanent financing for these loans is obtained from the secondary market and includes such sources as banks, savings and loan institutions, life insurance companies, credit unions and conduits. The following table shows the Company's financial instruments that are sensitive to changes in interest rates, categorized by expected maturity, and the instruments' estimated fair values at July 31, 1999.
2000 2001 2002 2003 2004 Thereafter Balance Fair Value ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- Interest-sensitive assets: Contracts, mortgages, finance notes and loans receivable $ 9,238,794 $ 449,193 $ 2,173,037 $ 526,853 $ 570,582 $ 5,279,847 $18,238,306 $18,238,306 Interest-sensitive liabilities: Notes payable to banks 11,502,961 2,422,444 13,925,405 13,925,405 Installment con- tracts, mortgage notes and notes payable 137,543 241,788 255,781 248,238 224,924 2,387,706 3,495,980 3,495,980 Debenture bonds 1,435,825 932,645 820,309 883,000 1,582,411 3,989,358 9,643,548 9,643,548 Off-balance sheet items: Undisbursed loans receivable 4,828,082 4,828,042 4,828,042
Expected maturities are contractual maturities adjusted for prepayments of principal. The Company uses certain assumptions to estimate fair values and expected maturities. For assets, expected maturities are based upon contractual maturity, projected repayments and prepayment of principal. Item 8. Financial Statements and Supplementary Data Report of independent accountants Financial statements: Consolidated balance sheets Consolidated statements of operations Consolidated statements of comprehensive income (loss) Consolidated statements of stockholders' equity Consolidated statements of cash flows Notes to consolidated financial statements Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure There were no disagreements on accounting issues or financial statement disclosure during the fiscal year ended July 31, 1999 or any interim period after July 31, 1999. [PricewaterhouseCoopers LLP Letterhead] REPORT OF INDEPENDENT ACCOUNTANTS Board of Directors and Stockholders Pacific Security Companies and Subsidiaries Spokane, Washington In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, comprehensive income (loss), stockholders' equity and cash flows present fairly, in all material respects, the financial position of Pacific Security Companies and its subsidiaries (the Company) at July 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended July 31, 1999, in conformity with generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. /s/PricewaterhouseCoopers LLP September 29, 1999 PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS July 31, 1999 and 1998
1999 1998 ----------- ----------- Assets: Cash and cash equivalents: Unrestricted $ 512,472 $ 318,026 Restricted 16,321 11,289 ----------- ----------- 528,793 329,315 ----------- ----------- Receivables: Contracts, mortgages, finance notes and loans receivable, net: Related parties 214,795 427,183 Unrelated 17,710,543 10,721,826 ----------- ----------- 17,925,338 11,149,009 Accrued interest 98,319 391,076 Income taxes -- 154,857 Other 31,475 2,415 ----------- ----------- 18,055,132 11,697,357 ----------- ----------- Investment in rental properties, net 14,807,679 13,588,145 ----------- ----------- Investment in golf center, net -- 2,070,994 ----------- ----------- Other investments: Property held for sale and development 2,031,448 2,775,542 Marketable securities 242,168 88,062 ----------- ----------- 2,273,616 2,863,604 ----------- ----------- Other assets: Vehicles and equipment, net 33,590 35,957 Prepaid and other, net 247,412 296,590 Golf center inventories -- 58,331 ----------- ----------- 281,002 390,878 ----------- ----------- Total assets $35,946,222 $30,940,293 =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS, CONTINUED July 31, 1999 and 1998
1999 1998 ----------- ----------- Liabilities: Notes payable to banks $13,925,405 $ 6,643,826 ----------- ----------- Installment contracts, mortgage notes and notes payable: Related parties 337,695 1,028,758 Unrelated 3,158,285 4,582,594 ----------- ----------- 3,495,980 5,611,352 ----------- ----------- Debenture bonds 9,643,548 9,839,936 ----------- ----------- Accrued expenses and other liabilities: Related parties 254,590 207,240 Unrelated 874,602 913,588 ----------- ----------- 1,129,192 1,120,828 ----------- ----------- Income taxes 59,131 -- Deferred income taxes 712,273 586,872 ----------- ----------- Total liabilities 28,965,529 23,802,814 ----------- ----------- Commitments and contingencies (Notes 2, 3, 7, 8, 9, and 14) Redeemable Class A preferred stock, $100 par value; $100 redemption value; authorized 20,000 shares; issued and outstanding 0 and 7,000 shares -- 700,000 Less: Net discount on issuance of preferred stock -- (210,000) ----------- ----------- -- 490,000 ----------- -----------
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS, CONTINUED July 31, 1999 and 1998
1999 1998 ----------- ----------- Stockholders' equity: Preferred stock: Class A preferred stock, $100 par value; authorized 20,000 shares; issued and outstanding, 3,000 shares $ 300,000 $ -- Preferred stock, authorized 10,000,000 no par value shares; no shares issued and outstanding -- -- Common stock: Original class, authorized 2,500,000 no par value shares, $3 stated value; issued and outstanding, 1,152,532 and 1,172,488 shares 3,457,597 3,517,464 Class B, authorized 30,000 no par value shares; no shares issued and out- standing Additional paid-in capital 1,804,009 1,776,951 Retained earnings 1,418,705 1,361,363 Accumulated comprehensive income (loss), net 382 (8,299) ----------- ----------- Total stockholders' equity 6,980,693 6,647,479 ----------- ----------- Total liabilities and stockholders' equity $35,946,222 $30,940,293 =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS for the years ended July 31, 1999, 1998 and 1997
1999 1998 1997 ----------- ----------- ----------- Income: Rental $ 2,268,810 $ 2,220,979 $ 2,398,369 Interest, including loan fees of $450,285, $59,979 and $27,775 2,183,276 963,297 1,032,847 Amortization of discounts on real estate contracts 27,633 41,992 25,856 Gain on sales of real estate 1,128,628 514,141 1,611,195 Gain on sale of marketable securities 279,082 -- -- Other, net 45,897 49,412 (32,757) ----------- ----------- ----------- 5,933,326 3,789,821 5,035,510 ----------- ----------- ----------- Expenses: Rental operations: Depreciation and amortization 663,272 628,149 640,105 Interest 366,817 369,276 360,632 Other 1,064,448 1,038,890 1,097,046 ----------- ----------- ----------- 2,094,537 2,036,315 2,097,783 Interest, net of amount capitalized 1,842,041 1,211,544 1,187,541 Salaries and commissions 735,120 710,660 608,550 General and administrative 368,848 523,443 250,532 Depreciation and amortization 39,014 26,031 9,078 Uncollectible accounts 207 2,199 2,788 ----------- ----------- ----------- 5,079,767 4,510,192 4,156,272 ----------- ----------- ----------- Income (loss) from continuing operations before income taxes 853,559 (720,371) 879,238 Income tax provision (benefit) 312,565 (206,429) 277,668 ----------- ----------- ----------- Income (loss) from continuing operations 540,994 (513,942) 601,570 Discontinued operations: Loss from discontinued operations of golf center (less federal income tax benefit of $147,584, $33,407 and $59,860) (255,652) (82,994) (129,570) ----------- ----------- ----------- Net income (loss) 285,342 (596,936) 472,000 Less: Preferred stock dividends (18,000) (42,000) (62,400) Accretion of discount on preferred stock (210,000) (119,000) (52,000) ----------- ----------- ----------- Income (loss) applicable to common stockholders $ 57,342 $ (757,936) $ 357,600 =========== =========== ===========
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS, CONTINUED for the years ended July 31, 1999, 1998 and 1997
1999 1998 1997 ----------- ----------- ----------- Income (loss) from continuing operations applicable to common stockholders $ 312,994 $ (674,942) $ 487,170 =========== =========== =========== Income (loss) per common share - basic and diluted $ .05 $ (.48) $ .19 =========== =========== =========== Income (loss) from continuing operations per common share - basic and diluted $ .27 $ (.42) $ .26 =========== =========== =========== Loss from discontinued operations per common share - basic and diluted $ (.22) $ (.05) $ (.07) =========== =========== =========== Weighted average common shares outstanding - basic and diluted 1,161,677 1,591,484 1,895,105 =========== =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) for the years ended July 31, 1999, 1998 and 1997
1999 1998 1997 ----------- ----------- ----------- Net income (loss) $ 285,342 $ (596,936) $ 472,000 Other comprehensive income before income taxes: Changes in unrealized losses on marketable securities 13,152 1,058 19,470 ----------- ----------- ----------- Other comprehensive income (loss) before income taxes 298,494 (595,878) 491,470 Less deferred income taxes (4,471) (361) (12,940) ----------- ----------- ----------- Comprehensive income (loss) $ 294,023 $ (596,239) $ 478,530 =========== =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY for the years ended July 31, 1999, 1998 and 1997
Additional Accumulated Preferred Common Paid-In Retained Comprehensive Stock Stock Capital Earnings Income (Loss) Total ----------- ----------- ----------- ----------- ------------- ----------- Balances, July 31, 1996 $ 5,754,255 $ 1,805,001 $ 1,853,275 $ (15,526) $ 9,397,005 Net income 472,000 472,000 Unrealized gain on marketable securities 6,530 6,530 Purchase and retirement of common stock (45,960 shares) (137,880) 66,641 (71,239) Cash dividend declared on preferred stock (62,400) (62,400) Accretion of discount on preferred stock, including redemption of 1,000 shares 35,000 (87,000) (52,000) ----------- ----------- ----------- ----------- ----------- ----------- Balances, July 31, 1997 5,616,375 1,906,642 2,175,875 (8,996) 9,689,896 Net loss (596,936) (596,936) Unrealized gain on marketable securities 697 697 Purchase and retirement of common stock (699,637 shares) (2,098,911) (94,691) (56,576) (2,250,178) Cash dividend declared on preferred stock (42,000) (42,000) Accretion of discount on preferred stock, including redemption of 2,400 shares (35,000) (119,000) (154,000) ----------- ----------- ----------- ----------- ----------- -----------
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY, CONTINUED for the years ended July 31, 1999, 1998 and 1997
Additional Accumulated Preferred Common Paid-In Retained Comprehensive Stock Stock Capital Earnings Income (Loss) Total ----------- ----------- ----------- ----------- ------------- ----------- Balances, July 31, 1998 $ 3,517,464 $ 1,776,951 $ 1,361,363 $ (8,299) $ 6,647,479 Net income 285,342 285,342 Unrealized gain on marketable securities 8,681 8,681 Purchase and retirement of common stock (19,956 shares) (59,867) 27,058 (32,809) Cash dividend declared on preferred stock (18,000) (18,000) Accretion of discount on preferred stock, including redemption of 4,000 shares and conversion of 3,000 shares (210,000) (210,000) Conversion of redeemable preferred stock $ 300,000 300,000 ----------- ----------- ----------- ----------- ----------- ----------- Balances, July 31, 1999 $ 300,000 $ 3,457,597 $ 1,804,009 $ 1,418,705 $ 382 $ 6,980,693 =========== =========== =========== =========== =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS for the years ended July 31, 1999, 1998 and 1997
1999 1998 1997 ----------- ----------- ----------- Cash flows from operating activities: Cash received from contracts, rentals and golf center sales $ 2,836,790 $ 2,690,419 $ 2,759,659 Interest received 1,775,529 879,135 1,003,265 Cash paid to suppliers and employees (2,297,644) (2,590,272) (2,269,308) Interest paid, net of amounts capitalized (1,610,269) (1,040,047) (995,036) Income taxes refunded (paid) 170,330 -- (643,000) ----------- ----------- ----------- Net cash from operating activities 874,736 (60,765) (144,420) ----------- ----------- ----------- Cash flows from investing activities: Proceeds from sales of real estate 1,140,122 566,628 2,032,279 Proceeds from sales and maturities of marketable securities 337,796 -- -- Purchase of marketable securities (200,062) -- -- Collections on contracts, mortgages, finance notes and loans receivable 13,461,784 7,208,934 2,462,229 Origination of loans receivable and investment in contracts, mortgages and finance notes (18,521,619) (6,471,596) (1,535,634) Additions to rental properties, property held for sale, property under develop- ment, golf center, vehicles and equipment (847,658) (1,673,150) (1,353,211) Change in restricted investments (5,032) 351,549 11,348 Other -- -- 16,335 ----------- ----------- ----------- Net cash from investing activities (4,634,669) (17,635) 1,633,346 ----------- ----------- ----------- Cash flows from financing activities: Net borrowings under line-of-credit agreements 7,281,579 1,238,827 956,989 Proceeds from installment contracts, mortgage notes and notes payable 283,333 434,688 -- Payments on installment contracts, mortgage notes and notes payable (2,598,705) (300,868) (1,984,377) Proceeds from sales of debenture bonds 76,912 340,657 447,223 Redemption of debenture bonds (813,931) (954,296) (814,535) Redemption of preferred stock (200,000) (240,000) (100,000) Payment of dividends on preferred stock (42,000) (62,400) (62,400) Purchase and retirement of common stock (32,809) (385,240) (71,239) ----------- ----------- ----------- Net cash from financing activities 3,954,379 71,368 (1,628,339) ----------- ----------- ----------- Net increase (decrease) in cash and cash equivalents 194,446 (7,032) (139,413) Cash and cash equivalents, beginning of year 318,026 325,058 464,471 ----------- ----------- ----------- Cash and cash equivalents, end of year $ 512,472 $ 318,026 $ 325,058 =========== =========== ===========
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED for the years ended July 31, 1999, 1998 and 1997
1999 1998 1997 ----------- ----------- ----------- Reconciliation of net income (loss) to net cash from operating activities: Net income (loss) $ 285,342 $ (596,936) $ 472,000 Adjustments to reconcile net income (loss) to net cash from operating activities: Depreciation and amortization 743,802 750,370 740,980 Deferred income tax provision (benefit) 121,324 (534,967) 274,374 Deferred financing income realized (27,633) (41,992) (25,856) Interest accrued on debenture bonds 540,631 555,224 547,403 Gain on sales of marketable securities (279,082) -- -- Gain on sales of real estate (1,128,628) (514,141) (1,611,195) Uncollectible accounts -- 2,199 2,788 Change in assets and liabilities: Accrued interest receivable 42,537 (299,157) (1,808) Income taxes 213,988 299,764 (699,565) Prepaid expenses 49,178 35,252 61,617 Golf center inventories 58,331 (2,830) 27,851 Accrued expenses and other liabilities 282,584 258,323 29,047 Other, net (27,638) 28,126 37,944 ----------- ----------- ----------- Net cash from operating activities $ 874,736 $ (60,765) $ (144,420) =========== =========== =========== Supplemental schedule of noncash investing and financing activities: Company financed sale of property $ 1,775,358 $ 486,300 $ 1,379,495 Accretion of discount on preferred stock 150,000 119,000 52,000 Stock dividend declared and unpaid 18,000 42,000 62,400 Transfer of investment in golf center to investment in rental properties 1,366,683 -- -- Transfer of investment in golf center to property held for sale or development 460,182 -- -- Note payable issued for purchase and redemption of preferred shares 200,000 -- -- Deferred gain recognized on sale of property -- 41,516 507,703 Related party note issued in exchange for non-competition agreement -- 125,000 -- Exchange of real estate for purchase and redemption of common shares -- 1,143,500 -- Notes payable issued for purchase and redemption of common shares -- 729,000 --
The accompanying notes are an integral part of the consolidated financial statements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: Pacific Security Companies and subsidiaries (the Company) is incorporated under the laws of the state of Washington. The Company is engaged in the business of owning, selling and leasing real properties and in financing contracts and loans, collateralized by real estate. Most of the Company's real estate activities are concentrated within the state of Washington. During the year ended July 31, 1998, the Company began originating commercial real estate loans on properties located in the western United States. A summary of the significant accounting policies followed by the Company is presented below: CONSOLIDATION The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Cornerstone Properties and Development, Inc. (formerly the Aqua View Apartments, Inc.) operating as the Broadmoor Apartments, and Cornerstone Realty Advisors, Inc. which was formed in March 1998. All significant intercompany accounts and transactions have been eliminated. CASH AND CASH EQUIVALENTS The Company deposits all cash and cash equivalents with high quality financial institutions. At times, the deposits may exceed the federal insured limit. The Company considers highly liquid debt instruments, if any, purchased with a remaining maturity of three months or less to be cash equivalents. CONTRACTS, MORTGAGES, FINANCE NOTES AND LOANS RECEIVABLE Contracts, mortgages, finance notes and loans receivable are stated at unpaid principal balance, plus accrued interest, less acquisition discounts, unearned loan fees and an allowance for estimated uncollectible amounts, as necessary. Management evaluates receivables which may not be fully collectible to determine if a provision for loss is necessary based on the present value of expected future cash flows from the receivables in the ordinary course of business or from amounts recoverable through foreclosures and the subsequent resale of the collateral. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: CONTRACTS, MORTGAGES, FINANCE NOTES AND LOANS RECEIVABLE Interest continues to be accrued on non-performing receivables until such amount is not expected to be recovered. DISCOUNTS ON CONTRACTS The Company amortizes discounts on purchased contracts using the level-yield method over the expected term of the contracts. LOAN ORIGINATION FEES Loan origination fees, net of direct origination costs, are deferred and recognized as interest income using the level interest yield method over the contractual term of each loan. INVESTMENT IN RENTAL PROPERTIES Rental properties, including land, buildings and improvements and furniture and equipment, are recorded at cost. Expenditures for maintenance and repairs are charged to operations as incurred. Renewals and betterments are capitalized. Depreciation is provided on the straight-line method over estimated useful lives as summarized below: Years ----- Buildings and improvements 15-40 Furniture and equipment 5-10 Upon sale or retirement of depreciable properties, the related cost and accumulated depreciation are removed from the accounts and any resultant gain or loss is reflected in operations. INVESTMENT IN GOLF CENTER The discontinued golf center assets, including land, building and improvements and furniture and equipment, are recorded at cost. Depreciation is provided on the straight-line method over the estimated useful lives as summarized below: Years ----- Buildings and improvements 15-40 Furniture and equipment 3-10 PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: INTEREST CAPITALIZATION All costs associated with self-constructed assets (including interest and real estate taxes) incurred during the construction period are capitalized. Interest costs of approximately $98,000 were capitalized during the year ended July 31, 1997. PROPERTY HELD FOR SALE OR DEVELOPMENT The Company acquires real estate through direct acquisition and foreclosures and records these assets at the lower of fair value, less estimated costs to sell, or cost. Losses on properties held for sale or development are recognized if the anticipated cash flows from disposition, less estimated selling costs, are estimated to be less than the carrying value of the related asset. The Company evaluates its real estate assets for impairment in value whenever events or circumstances indicate that the carrying value of an asset may not be recoverable. In performing the review, if expected future undiscounted cash flows from the use of the asset or the fair value, less selling costs, from the disposition of the asset is less than its carrying value, an impairment loss is recognized. MARKETABLE SECURITIES The Company's investments, consisting of debt and equity securities, are classified as "available for sale" and, therefore, are carried at market value. Realized gains and losses on the sale of these marketable securities are recognized on a specific identification basis in the consolidated statement of operations in the period the securities are sold. Unrealized gains and losses are excluded from operations and reported as a separate component of accumulated comprehensive income (loss), net of related income taxes. INTANGIBLE ASSETS The amount paid under a covenant not-to-compete is being amortized on a straight-line basis over the five-year term of the related agreement. Accumulated amortization associated with this agreement was $36,441 and $11,441 at July 31, 1999 and 1998, respectively. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: VEHICLES AND EQUIPMENT Vehicles and equipment are stated at cost and are depreciated using the straight-line method over their estimated useful lives of 4 to 5 and 5 to 10 years, respectively. Accumulated depreciation associated with vehicles and equipment was $213,850 and $198,073 at July 31, 1999 and 1998, respectively. Upon sale or retirement, the cost and related accumulated depreciation are removed from the accounts and any resultant gain or loss is reflected in operations. GOLF CENTER INVENTORIES Golf center inventories were stated at the lower of cost or estimated net realizable value using the first-in, first-out method. SALES OF REAL ESTATE Profit on sale of real estate is recognized when the buyers' initial and continuing investment is adequate to demonstrate (1) a commitment to fulfill the terms of the transaction, (2) that collectibility of the remaining sales price due is reasonably assured, and (3) the Company maintains no continuing involvement or obligation in relation to the property sold and has transferred all the risk and rewards of ownership to the buyer. Receipts on sales of real estate investments are accounted for as customer deposits until the principal payments received on the sales contracts exceed the minimum guidelines for gain recognition. Losses arising from sales of real estate are recognized immediately upon sale. RECOGNITION OF RENTAL INCOME Rental income on cancelable operating leases is recognized as it becomes receivable in accordance with the provisions of the lease. Rental income on noncancelable operating leases which contain fixed escalation clauses is recognized on the straight- line method over the term of the lease. The difference between income earned and lease payments received from the tenants is included in the other assets on the consolidated balance sheet. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: INCOME TAXES The Company recognizes deferred tax assets and liabilities for the expected future income tax consequences of events that have been recognized in the financial statements. Under this method, deferred tax liabilities and assets are determined based on the temporary differences between the financial statement carrying amounts and tax bases of assets and liabilities using enacted tax rates in effect in the years in which the temporary differences are expected to reverse. The Company allocates income taxes between continuing and discontinued operations in proportion to their individual effects on the consolidated income tax provision (benefit) at the Company's effective tax rate for the respective period. INCOME OR LOSS PER SHARE Income (loss) per share - basic is computed by dividing income (loss) applicable to common stockholders by the weighted- average number of common shares outstanding during the period. Income (loss) per share - diluted is computed by dividing income (loss) applicable to common stockholders by the weighted-average number of common shares outstanding increased by the additional common shares that would have been outstanding if the dilutive potential common shares had been issued. The Company did not have any potentially dilutive common shares outstanding during the years ended July 31, 1999, 1998 and 1997; therefore, diluted earnings per share amounts are identical to basic earnings per share. The Company also presents income (loss) per share for continuing and discontinued operations. INTEREST RATE RISK The results of operations of the Company may be materially and adversely affected by changes in prevailing economic conditions, including rapid changes in interest rates. The Company's financial assets (primarily contracts, mortgages, finance notes and loans receivable) and liabilities (primarily notes payable to banks, installment contracts, mortgage notes and notes payable and debenture bonds) are subject to interest rate risk. Management is aware of the sources of interest rate risk and endeavors to actively monitor and manage its interest rate risk, although there can be no assurance regarding the management of interest rate risk in future periods. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED: OFF-BALANCE-SHEET INSTRUMENTS The Company has outstanding commitments to extend credit to commercial borrowers. Such financial instruments are recorded in the financial statements when they are funded or related fees are incurred or received. The Company has also entered into participation agreements with other lenders to reduce its credit risk on certain commercial loans. The use of participations enables the Company to diversify its portfolio among its borrowers and lenders and mitigate significant geographical and credit concentration. COMPREHENSIVE INCOME During the year ended July 31, 1999, the Company adopted Statement of Financial Accounting Standards No. 130 (SFAS 130), "Reporting Comprehensive Income". SFAS 130 establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains and losses) in a full set of general-purpose financial statements. This Statement required the Company to classify items of other comprehensive income by their nature in a financial statement and display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of the consolidated balance sheet. Prior periods' financial statements have been presented and reclassified to conform to this Statement. ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates. RECLASSIFICATIONS Certain amounts in the 1998 and 1997 consolidated financial statements have been reclassified to conform with the current year's presentation. These reclassifications had no effect on net income (loss) or retained earnings as previously reported. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 2. CONTRACTS, MORTGAGES, FINANCE NOTES AND LOANS RECEIVABLE: The components of contracts, mortgages, finance notes and loans receivable at July 31, 1999 and 1998 are as follows:
1999 1998 ----------- ----------- Contracts, mortgages and finance notes receivable $ 6,607,188 $ 7,298,708 Originated loans receivable 16,459,200 4,931,340 Undisbursed portion of loans receivable (4,828,082) (837,272) ----------- ----------- 18,238,306 11,392,776 Unamortized discounts, net (113,479) (141,113) Unearned loan fees, net (194,581) (97,746) Allowance for loan losses (4,908) (4,908) ----------- ----------- Contracts, mortgages, finance notes and loans receivable, net $17,925,338 $11,149,009 =========== ===========
At July 31, 1999 and 1998, three individual contract, mortgage, finance note and loan receivable balances represented approximately 13%, 9% and 8% and 15%, 13% and 13% of the gross outstanding receivable, respectively. Additionally, aggregate amounts receivable from two separate borrowers represented 14% and 13% of the gross outstanding receivable at July 31, 1999. At July 31, 1999 and 1998, the aging of the gross amounts due on contracts, mortgages, finance notes and loans receivable was as follows:
1999 1998 ----------- ----------- Current $17,892,985 $11,086,501 31 to 60 days 6,785 53,552 60 to 90 days -- -- Over 90 days 338,536 252,723 ----------- ----------- $18,238,306 $11,392,776 =========== ===========
Management of the Company provides an allowance for losses based upon estimates of the cash flows to be collected on the receivable or the fair value of the underlying collateral, net of selling costs. At July 31, 1999 and 1998, the fair value of the underlying collateral, net of selling costs, is estimated to be PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 2. CONTRACTS, MORTGAGES, FINANCE NOTES AND LOANS RECEIVABLE, CONTINUED: greater than the carrying value of the related receivables, and thus, no allowance for loss has been provided. The receivables are collateralized primarily by residential and commercial real estate located in the western United States. These estimates can be affected by changes in the economic environment in the western United States and the resultant effect on real estate values. As a result of changing economic conditions, the amount of the allowance for loan losses could change in the near term. 3. INVESTMENTS IN RENTAL PROPERTIES: Following is a summary of investments in rental properties at July 31, 1999 and 1998:
1999 1998 ----------- ----------- Land $ 2,389,128 $ 2,417,729 Buildings and improvements 17,842,108 16,130,418 Furniture and equipment 1,267,220 1,166,014 ----------- ----------- 21,498,456 19,714,161 Less accumulated depreciation (6,690,777) (6,126,016) ----------- ----------- $14,807,679 $13,588,145 =========== ===========
The Company leases office space in certain of the above buildings under operating leases. Most of the lease agreements contain renewal options and escalation provisions associated with inflation over the term of the lease. The following is a schedule by years of minimum future rentals on noncancellable operating leases as of July 31, 1999: Year Ending July 31, ----------- 2000 $ 1,294,324 2001 1,068,944 2002 842,406 2003 670,786 2004 293,259 Thereafter 10,228 ----------- Total minimum future rentals $ 4,179,947 =========== PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 3. INVESTMENTS IN RENTAL PROPERTIES, CONTINUED: These properties are primarily located in the greater Spokane, Washington geographical area. Losses on investments in rental properties are recognized if the anticipated undiscounted cash flows from operations or the sale of the rental property, net of selling costs, are estimated to be less than the carrying value of the related asset. These estimates can be affected by changes in the economic environment of the Spokane, Washington area and the resultant effect on the real estate rental and property values. As a result of changing economic conditions, these estimates could change in the near term. Historically, the sales of certain rental property and land were subject to sales contracts, but had not met the criterion to be recorded as a sale. Therefore, the deposit method of accounting for these sales was applied, resulting in the classification of approximately $159,000 as investments in rental properties and deferred gains of approximately $41,000 at July 31, 1997. These gains were recognized during the year ended July 31, 1998 when the criterion for a sale was met. 4. DISCONTINUED OPERATION: In September 1995, the Company completed construction of and began operating Birdies Golf Center (Birdies). The facility consisted of a driving range, lighted fairways with five target greens, a pro shop, a putting green and teaching studios. On December 1, 1998, the Company decided to close Birdies and commenced a liquidation of assets. The Company has leased the Birdies building and plans to sell the driving range land. The consolidated financial statements of the Company for the years ended July 31, 1998 and 1997 have been reclassified to present the operations of Birdies Golf Center as a discontinued operation. The following is a summary of the investment in the golf center at July 31, 1998: Land $ 350,000 Building and improvements 1,696,175 Furniture and equipment 271,896 ----------- 2,318,071 Less accumulated depreciation (247,077) ----------- $ 2,070,994 =========== PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 4. DISCONTINUED OPERATION, CONTINUED: Information about the discontinued operations of the Birdie's business segment is as follows:
Years Ended July 31, --------------------------------- 1999 1998 1997 --------- --------- --------- Operating revenues $ 103,848 $ 332,815 $ 343,528 Loss from discontinued operations before federal income tax benefit (403,236) (116,401) (189,430) Loss from discontinued operations, net of federal income tax benefit (255,652) (82,994) (129,570)
Total assets associated with the discontinued operation were $2,211,911 at July 31, 1998. Proceeds from the sale of these assets during the year ended July 31, 1999 were $188,592. At July 31, 1999, the Birdies building has been included in investment in rental properties, and the excess land associated with Birdies has been included in property held for sale and development. 5. BUSINESS SEGMENT REPORTING: Information about the Company's separate continuing business segments and in total as of and for the years ended July 31, 1999, 1998 and 1997 is as follows:
Real Estate Commercial Rental and Lending Receivable Operations Operations Total ----------- ----------- ----------- 1999: Revenue $ 1,524,139 $ 4,409,187 $ 5,933,326 Income from continuing operations 476,088 377,471 853,559 Identifiable assets, net 11,683,670 24,262,552 35,946,222 Depreciation and amortization 1,075 742,727 743,802 Capital expenditures 3,440 844,218 847,658
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 5. BUSINESS SEGMENT REPORTING, CONTINUED:
Real Estate Commercial Rental and Lending Receivable Operations Operations Total ----------- ----------- ----------- 1998: Revenue $ 183,272 $ 3,606,549 $ 3,789,821 Income (loss) from continuing operations 3,245 (723,616) (720,371) Identifiable assets, net 4,473,573 26,466,720 30,940,293 Depreciation and amortization 277 750,093 750,370 Capital expenditures 4,524 1,668,626 1,673,150 1997: Revenue $ -- $ 5,035,510 $ 5,035,510 Income from continuing operations -- 879,238 879,238 Identifiable assets, net -- 32,294,907 32,294,907 Depreciation and amortization -- 740,980 740,980 Capital expenditures -- 1,353,211 1,353,211
The Company has determined that its reportable business segments are those that are based on its method of disaggregated internal reporting. The Company's reportable business segments are its commercial loan origination business and its rental and receivable operations. Its commercial loan origination business, operated as Cornerstone Realty Advisors, Inc., originates commercial construction loans throughout the western United States. The rental and receivable operations represent the selling and leasing of real properties and the financing of contracts and loans collateralized by real estate. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 6. MARKETABLE SECURITIES: A summary of investments in marketable securities at July 31, 1999 and 1998 is as follows:
1999 1998 -------------------------------- -------------------------------- Market/ Market/ Unrealized Carrying Unrealized Carrying Cost Gain Value Cost Loss Value -------- ---------- -------- -------- ---------- -------- Equity securities $199,865 $ 579 $200,444 $ 41,235 $(12,573) $ 28,662 Debt securities 41,724 -- 41,724 59,400 -- 59,400 -------- -------- -------- -------- -------- -------- $241,589 $ 579 $242,168 $100,635 $(12,573) $ 88,062 ======== ======== ======== ======== ======== ========
The debt securities matured during the year ended July 31, 1998. Proceeds from the partial redemption of these securities of $17,676 were received during the year ended July 31, 1999. In connection with the reorganization of the issuer, the outstanding balance of these securities is expected to be paid in the year ending July 31, 2000 at the full principal amount. Proceeds from the sale of marketable securities during the year ended July 31, 1999 were $320,120, resulting in gross realized gains of $279,082. Included in these sales were securities which had no carrying value as they had been previously written down in connection with the issuer's bankruptcy proceedings. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 7. NOTES PAYABLE TO BANKS: Notes payable to banks consisted of the following at July 31, 1999 and 1998:
1999 1998 ----------- ----------- U.S. Bank of Washington, short-term line of credit, $11,000,000 commitment, interest at the prime rate plus 0.375%, expires October 1, 1999, guaranteed by Wayne Guthrie: Collateralized by contracts, mortgages and finance notes receivable $ 3,075,149 $ 4,163,189 Collateralized by loans receivable 5,116,210 1,435,327 Western Bank, line of credit, $8,000,000 commitment, interest at the prime rate plus 0.25%, expires December 1, 1999, collateral- ized by contracts and loans receivable and guaranteed by Wayne and David Guthrie (stockholder of the Company) 3,311,602 1,045,310 Sterling Savings Bank, line of credit, $2,812,500 commitment, interest at the Bank of America Reference Rate (BARR) plus 0.25%, expires June 1, 2001, guaranteed by Wayne and David Guthrie 2,422,444 -- ----------- ----------- $13,925,405 $ 6,643,826 =========== ===========
The prime rate and the BARR referenced on the above notes were 8.00% at July 31, 1999. $8,000,000 of the U.S. Bank of Washington line of credit was extended to December 15, 1999. The above line-of-credit agreements contain restrictive covenants requiring the maintenance of minimum tangible net worth, and certain debt service coverage, debt to worth and fixed charge ratios. At July 31, 1999, the Company was in compliance with the financial covenants in these agreements. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 7. NOTES PAYABLE TO BANKS, CONTINUED: The following assets were pledged as collateral on these notes payable at July 31, 1999 and 1998: 1999 1998 ----------- ----------- Contracts receivable $ 3,359,806 $ 3,003,208 Loans receivable 5,116,209 1,435,238 Rental properties 7,231,398 4,905,085 ----------- ----------- $15,707,413 $ 9,343,531 =========== =========== 8. INSTALLMENT CONTRACTS, MORTGAGE NOTES AND NOTES PAYABLE: Installment contracts, mortgage notes and notes payable consist of the following at July 31, 1999 and 1998:
1999 1998 ------------- ----------- Installment contracts and mortgage notes payable, interest at 7.0% to 9.0%, aggregate monthly payments, including interest of $54,269, mature 1999 through 2021, collateralized by various properties $ 3,439,096 $ 4,643,887 Notes payable to former stockholders, interest at 7.0%, aggregate monthly payments, including interest of $5,317, mature 2003, collateralized by property -- 850,416 Other notes payable 56,884 117,049 ----------- ----------- $ 3,495,980 $ 5,611,352 =========== ===========
Scheduled future maturities of contracts, mortgage notes and notes payable are as follows: Year Ending July 31, ----------- 2000 $ 137,543 2001 241,788 2002 255,781 2003 248,238 2004 224,924 Thereafter 2,387,706 ----------- $ 3,495,980 =========== PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 9. DEBENTURE BONDS: The Company has issued unsecured investment bonds to residents of the state of Washington under the Securities Act of Washington. The proceeds have been primarily used in making funds available for contracts and loans and the development, improvement and acquisition of commercial real property. The outstanding bonds have original maturities ranging from one to ten years and the interest rates vary depending upon the maturity. Outstanding bonds by interest rate categories were as follows at July 31, 1999 and 1998: Bond Interest Rate 1999 1998 ------------------ ----------- ----------- 5.75% $ -- $ 141,530 6.00 98,735 132,803 6.25 45,467 29,490 6.50 436,280 535,561 7.00 175,707 65,618 7.25 149,250 176,345 7.50 1,501,550 1,669,324 7.75 842,234 756,709 8.00 568,753 788,032 8.25 1,013,729 964,264 8.50 1,502,661 1,416,790 8.75 343,056 341,911 9.00 1,809,218 1,721,023 9.25 341,394 314,511 9.50 779,933 753,906 10.00 16,039 14,531 10.50 12,648 11,403 11.00 6,894 6,185 ----------- ----------- $ 9,643,548 $ 9,839,936 =========== =========== The weighted-average annual interest rate on outstanding debentures at July 31, 1999 and 1998 was 8.26% and 8.19%, respectively. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 9. DEBENTURE BONDS, CONTINUED: Estimated future contractual maturities of outstanding debenture bonds are as follows: Year Ending July 31, 2000 $ 1,435,825 2001 932,645 2002 820,309 2003 883,000 2004 1,582,411 Thereafter 3,989,358 ----------- $ 9,643,548 =========== The Securities Act of Washington contains specific statutory and regulatory requirements concerning companies selling debentures in the state of Washington. These regulations require maintenance of minimum net worth and liquidity levels, define debenture terms and maturity limitations, describe financial reporting requirements and prohibit certain activities by controlling persons of the issuer of debentures. Failure to comply with these requirements may jeopardize a company's ability to issue debentures. The Company's permit to offer debentures for sale under the Securities Act of Washington expired in November 1998, and while a registration statement has been filed, it is not currently effective. Thus, the Company did not sell any new debentures from the expiration of its permit to July 31, 1999. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 10. INCOME TAXES: The components of the income tax provision (benefit) are as follows:
1999 1998 1997 ----------- ----------- ----------- Federal: Current $ 43,657 $ 295,131 $ (56,566) Deferred 121,324 (534,967) 274,374 ----------- ----------- ----------- 164,981 (239,836) 217,808 Benefit allocated to discontinued operations 147,584 33,407 59,860 ----------- ----------- ----------- Income tax provision (benefit) from continuing operations $ 312,565 $ (206,429) $ 277,668 =========== =========== ===========
The components of the net deferred tax liability at July 31, 1999 and 1998 are as follows:
Assets Liabilities Total ----------- ----------- ----------- 1999: Depreciation $ (483,555) $ (483,555) Installment gains (299,457) (299,457) Unrealized gains on marketable securities (197) (197) Accrued expenses $ 52,967 52,967 Other, net 17,969 17,969 ----------- ----------- ----------- $ 70,936 $ (783,209) $ (712,273) =========== =========== =========== 1998: Depreciation $ (324,403) $ (324,403) Installment gains (330,106) (330,106) Unrealized losses on marketable securities $ 4,274 4,274 Accrued expenses 46,297 46,297 Other, net 17,066 17,066 ----------- ----------- ----------- $ 67,637 $ (654,509) $ (586,872) =========== =========== ===========
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 10. INCOME TAXES, CONTINUED: The annual tax provision (benefit) from continuing operations is different from the amount which would be provided by applying the statutory federal income tax rate to the Company's income (loss) from continuing operations. The reasons for the differences are:
1999 % 1998 % 1997 % --------- ----- --------- ----- --------- ----- Computed statutory provision (benefit) $ 290,210 34.0% $(244,926) (34.0)% $ 298,941 34.0% Meals and entertainment 1,729 0.2 801 0.1 861 0.1 Change in tax estimates -- -- -- -- (17,588) (2.0) Nondeductible stock- holder legal expenses -- -- 51,000 7.1 -- -- Effect of graduated tax rate -- -- 5,941 0.8 -- -- Other 20,626 2.4 (19,245) (2.7) (4,546) (0.5) --------- ---- --------- ----- --------- ---- $ 312,565 36.6% $(206,429) (28.7)% $ 277,668 31.6% ========= ==== ========= ===== ========= ====
11. EMPLOYEE BENEFIT PLAN: In August 1998, the Company established a Retirement Savings Plan (the Plan), authorized under Section 401(k) of the Tax Reform Act of 1986, as amended. Under the terms of the Plan, the Company may contribute 25% of pre-tax contributions of compensation up to a maximum of $500. Employees are eligible to contribute up to 18% of their compensation, subject to annual limitations, to the Plan. Contributions are made directly to a qualified individual retirement account or annuity in the employee's name. The Company is required to make nondiscriminatory contributions for each employee who (1) has reached the age of 21; (2) has performed services for the Company during the last year of service in which he or she has completed 1,000 hours of service; (3) is not covered by a collective bargaining agreement; and (4) is not a nonresident alien. The Company's contribution to the Plan was approximately $4,400 during the year ended July 31, 1999. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 12. REDEEMABLE PREFERRED STOCK/PREFERRED STOCK: In fiscal 1995, the Company issued 10,400 shares of $100 par value redeemable Class A preferred stock. The Company had the right to redeem any shares after three years from the date of issuance. During the years ended July 31, 1999, 1998 and 1997, the Company redeemed 4,000, 2,400 and 1,000 shares, respectively, of the preferred stock at par. However, all shares were required to be redeemed by the Company ten years after issuance at the par value plus accrued dividends to date of redemption. Due to the mandatory ten-year redemption, the discount on the issuance of the preferred stock was being accreted using the interest method over the redemption period. This accretion is recorded as an increase in the carrying value of the preferred stock and as a charge against retained earnings. The accretion of this discount, which included accretion on shares redeemed during the year, was $210,000, $119,000 and $52,000 in the years ended July 31, 1999, 1998 and 1997, respectively. On February 18, 1999, at the Annual Meeting of the Stockholders, a motion was passed to amend the Company's articles of incorporation to eliminate the mandatory redemption provisions of the Class A Preferred stock. Accordingly, the remaining 3,000 outstanding shares of preferred stock, with a face amount of $300,000, were reclassified to stockholders' equity. In addition, 10 million no par value shares of preferred stock were authorized, but none were issued. Each share of Class A preferred stock is entitled to one vote on each matter voted on at a stockholders' meeting. The preferred stockholders have liquidation rights equal to the par value plus accumulated and unpaid dividends. The liquidation preference of the Class A preferred stock was $318,000 at July 31, 1999. The liquidation preference of the redeemable Class A preferred stock was $742,000 at July 31, 1998. The 6% annual dividends on the Class A preferred stock are cumulative. Dividends of $18,000, $42,000 and $62,400 were declared on the preferred stock during the years ended July 31, 1999, 1998 and 1997, respectively, and were paid subsequent to each respective year end. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 13. COMMON STOCK: The Company has authorized a second class of common stock, Class B. This class has authorized 30,000, no par value shares and entitles the holder to 50 votes on each matter in all proceedings in which actions are taken by the stockholders, including the election of directors. Otherwise, the common stock is identical to the original class in all respects and for all purposes. 14. RELATED-PARTY TRANSACTIONS: LITIGATION SETTLEMENT On January 5, 1998, in connection with pending litigation between the Company and all of the Company's officers and directors and certain minority stockholders of the Company ("the Minority Stockholders"), who are children of Wayne E. Guthrie, the Company's Chief Executive Officer and largest individual Company common stockholder, the Company agreed to settle all claims of the Minority Stockholders and redeem all Company common shares held by the Minority Stockholders by paying approximately $317,000 in cash, distributing Company real property with an estimated fair value of $643,500 and the issuance of notes payable, bearing interest at 7% per annum, aggregating approximately $729,000. The Company acquired 408,419 of its common shares pursuant to this agreement, which were retired. In addition, the Company obtained a covenant not-to-compete for five years from one of the Minority Stockholders in return for the issuance of a $125,000 note payable bearing interest at 7% per annum. Concurrently, certain Company officers and directors issued notes payable aggregating approximately $236,000 to one of the Minority Stockholders. In connection with the settlement, the Company also agreed to reimburse the Minority Stockholders for legal costs aggregating $150,000. Total expenses incurred by the Company during the year ended July 31, 1998 related to this settlement were approximately $300,000. YELLOWFRONT BUILDING On July 31, 1998, the Company transferred its ownership of the Yellowfront Building, a commercial property located in Coeur d'Alene, Idaho, to a family trust formed by Wayne E. Guthrie in exchange for 200,000 shares of Class A common stock. The transfer was recorded at the fair value of the property and resulted in a net gain to the Company of approximately $420,000 during the year ended July 31, 1998. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 14. RELATED-PARTY TRANSACTIONS, CONTINUED: NOTE RECEIVABLE A certain former stockholder is indebted to the Company by a note secured by real estate bearing interest at 12.5% (prime plus 4% adjusted annually) in the outstanding amounts of $217,002 and $227,183 at July 31, 1999 and 1998, respectively. WASHINGTON CAPITAL, INC. (WCI) In July 1990, certain contracts receivable from Company officers, directors and stockholders were assigned by the Company to WCI, a corporation whose sole stockholder was Wayne E. Guthrie. In December 1991, Mr. Guthrie transferred his ownership interest in WCI to his brother, who is now the sole stockholder of WCI. The contract receivable from WCI had a balance outstanding of $200,000 at July 31, 1998. The contract was satisfied in full in August 1998 in connection with the redemption of preferred stock. INSTALLMENT CONTRACTS, MORTGAGE NOTES AND NOTES PAYABLE At July 31, 1999 and 1998, the following related-party notes payable were outstanding:
Interest Monthly 1999 1998 Rate Payment ---------- ---------- -------- ---------- Wayne E. Guthrie $ 181,675 $ -- 7.00% $ 4,789 Wayne E. Guthrie 156,020 176,658 6.75% 2,000 John Guthrie -- 496,618 7.00% -- Linda Welden -- 176,899 7.00% -- Robert Guthrie -- 176,899 7.00% -- John Guthrie -- 1,684 9.00% -- ---------- ---------- $ 337,695 $1,028,758 ========== ==========
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 14. RELATED-PARTY TRANSACTIONS, CONTINUED: INSTALLMENT CONTRACTS, MORTGAGE NOTES AND NOTES PAYABLE, CONTINUED The scheduled future maturities of these notes are as follows: Year Ending July 31, ----------- 2000 $60,111 2001 64,420 2002 74,037 2003 44,758 2004 18,186 Thereafter 76,183 -------- $337,695 ======== DEBENTURE BONDS Included in debenture bonds at July 31, 1999 and 1998 is approximately $193,000 and $135,000, respectively, that is payable to related parties. These bonds bear interest at the prevailing market rate on the date of issuance. ACCRUED EXPENSES AND OTHER LIABILITIES At July 31, 1999 and 1998, the following demand notes were payable to related parties:
1999 1998 ------------------- ------------------- Interest Interest Amount Rate Amount Rate -------- -------- -------- -------- Wayne E. Guthrie $115,746 6.75% $ 82,990 7.50% Constance Guthrie 91,692 6.75 99,996 7.50 Other stockholders 47,152 6.75 24,254 7.50 -------- -------- $254,590 $207,240 ======== ========
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 14. RELATED-PARTY TRANSACTIONS, CONTINUED: INTEREST INCOME AND EXPENSE The approximate amount of related-party interest income and expense included in the accompanying consolidated statements of operations during the years ended July 31, 1999, 1998 and 1997 is as follows: 1999 1998 1997 ------- ------- ------- Interest income $36,000 $53,000 $68,000 Interest expense 53,000 64,000 36,000 SALE OF REAL ESTATE On December 1, 1979, Pacific Security Companies sold land and a mini-warehouse business to Security Savesco, Inc., an equity method investee. Security Savesco, Inc. merged with Pacific Security Companies in 1985 and had its name changed to Pacific Security Companies. The gain on the sale of the property was $727,703. The gain, net of $220,000 of income taxes, was deferred for financial statement purposes until the property was sold to an unrelated entity. During the year ended July 31, 1997, the property was sold and the net deferred gain of $507,703 was recognized in the statement of operations. 15. FAIR VALUE OF FINANCIAL INSTRUMENTS: The following methods and assumptions were used to estimate the value of each class of financial instrument for which it is practicable to estimate that value. Potential income tax ramifications related to the realization of unrealized gains and losses that would be incurred in an actual sale and/or settlement have not been taken into consideration. CASH AND CASH EQUIVALENTS - Due to the nature of these financial instruments, carrying value approximates fair value. DEBENTURE BONDS, CONTRACTS RECEIVABLE AND INSTALLMENT CONTRACTS PAYABLE - Fair values are determined using future cash flows discounted at a rate of interest currently offered for debt or receivables with similar remaining maturities and credit risks. At July 31, 1999 and 1998, the carrying values of these financial instruments approximated their fair values. PACIFIC SECURITY COMPANIES AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED for the years ended July 31, 1999, 1998 and 1997 15. FAIR VALUE OF FINANCIAL INSTRUMENTS: NOTES PAYABLE TO BANKS - Fair value approximates the carrying value because the notes bear variable interest rates. MARKETABLE SECURITIES - Fair value approximates the carrying value based on quoted market prices. OFF-BALANCE-SHEET INSTRUMENTS - Fair value approximates the notional amount of commitments to extend credit because advances bear variable interest rates and are made contingent to the borrower's compliance with the existing loan agreement. LIMITATIONS - The fair value estimates are made at a discrete point in time based on relevant market information and information about the financial instruments. Because no market exists for many of these financial instruments, fair value estimates are based on judgments regarding current economic conditions and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect the estimates. Accordingly, the estimates presented herein are not necessarily indicative of what the Company could realize in a current market exchange. PART III Item 10. Directors and Executive Officers of the Registrant IDENTIFICATION OF DIRECTORS AND EXECUTIVE OFFICERS The following information as of July 31, 1999 is provided with respect to each director and executive officer of the Company:
Year First Term as Elected as Director Name Age Director Expires in Position (date elected to position) --------------------- --- ---------- ---------- -------------------------------------------- Wayne E. Guthrie 79 1970 1999 Chairman of the Board (January 17, 1970); Director David L. Guthrie 35 1987 2001 President (February 18, 1999); Director Kevin M. Guthrie 44 1980 2001 Vice President (May 2, 1985); Director Donald J. Migliuri 52 1992 2002 Secretary/Treasurer (May 29, 1990); Director Raymond J. Fisher 76 1970 1999 Director Constance M. Guthrie 65 1981 1999 Director Robert N. Codd 69 1994 2001 Director Julian Guthrie 34 1998 2001 Director
FAMILY RELATIONSHIPS Kevin M. Guthrie, David L. Guthrie and Julian Guthrie are the children of Wayne E. Guthrie. Constance M. Guthrie is the wife of Wayne E. Guthrie. BUSINESS EXPERIENCE Wayne E. Guthrie, Chairman of the Board of Pacific Security Companies. Mr. Guthrie is also Chairman of the Board of Cornerstone Properties and Development, Inc., a Washington corporation and subsidiary of the registrant. Mr. Guthrie has over 50 years of experience in areas of construction, financing of real estate and personal property, and real estate investments. David L. Guthrie, President of Pacific Security Companies since 1999 and Vice Presdient since 1989. Mr. Guthrie was formerly a financial consultant with Merrill Lynch in Spokane, Washington. Mr. Guthrie is also an officer and director of Cornerstone Properties and Development, Inc. Mr. Guthrie is a NASD licensed securities sales person (registered representative) and broker-dealer (general securities principal). He is a licensed real estate broker in the state of Washington and has obtained the CCIM designation (certified commercial investment member) awarded by the commercial real estate investment institute. Kevin M. Guthrie, Vice President of Pacific Security Companies since 1985. Mr. Guthrie has served as property manager for the Company since 1976. Mr. Guthrie is also an officer and director of Cornerstone Properties and Development, Inc. Donald J. Migliuri, Treasurer of Pacific Security Companies since 1990 and Secretary since 1991. Mr. Migliuri is a Certified Public Accountant and has served as an accounting officer with various diversified financial services companies for over 19 years. He also is a certified management accountant (CMA) and has a Masters degree in Business Administration. Constance M. Guthrie. Mrs. Guthrie is a housewife and has not been employed outside the home during the past ten years. Raymond J. Fisher. Mr. Fisher, now retired, was Secretary of Pacific Security Companies. He was a Certified Public Accountant and was employed by the Company and its predecessor companies for 41 years. Robert N. Codd. Mr. Codd is employed by Pacific Security Companies in its leasing and real estate activities. He was employed by the Company from 1970 to 1979 and was rehired in November 1992. Prior to being rehired, he was a commercial realtor and property manager. Julian Guthrie. Ms. Guthrie is a reporter for the San Francisco Examiner. She covered general news for the paper for two years and in 1998 was named education reporter, responsible for covering all education issues in the Bay Area. Before that, she was senior editor of a lifestyle managzine in San Francisco and also worked as a freelance writer for the Examiner, covering breaking business, political and lifestyle stories. She currently lives in San Francisco. Item 11. Executive Compensation REMUNERATION OF DIRECTORS AND OFFICERS The following table lists, on an accrual basis, for each of the three years ended July 31, 1999, the remuneration paid by the Company to any officers or directors in excess of $100,000 and to all officers and directors as a group who were officers or directors of the Company at any time during the year ended July 31, 1999:
Annual Compensation* Name of Individual -------------------- or Number of Fiscal Persons in Group Capacities in Which Served Year Salary Bonus ------------------ ---------------------------- ------ -------- -------- David L. Guthrie President and Director 1999 $101,045 $ 7,500 Vice President and Director 1998 98,580 10,000 Kevin M. Guthrie Vice President and Director 1999 $101,396 $ 7,500 Vice President and Director 1998 98,862 10,000 Officers and Directors 1999 $375,212 $ 22,500 as a group (5)
The Company has no qualified or nonqualified stock option plans as of July 31, 1999. *Annual compensation did not exceed $100,000 in 1997. Item 12. Security Ownership of Certain Beneficial Owners and Management (a) SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS Set forth below is certain information concerning parties, excluding management, who are known by the Company to directly own more than 5% of any class of the Company's voting shares on July 31, 1999: none. (b) SECURITY OWNERSHIP OF MANAGEMENT The following table sets forth as of July 31, 1999 information concerning the direct ownership of each class of equity securities by all directors and all directors and officers of the Company as a group:
Amount and Nature of Title Beneficial Percent of Class Name of Beneficial Owner Ownership of Class -------------- ------------------------------------- ---------- -------- Common stock Wayne E. Guthrie 180,000* 15.62% Common stock Constance Guthrie 105,043 9.11 Common stock Kevin Guthrie 222,718** 19.32 Common stock David Guthrie 222,718** 19.32 Common stock Julian Guthrie 196,838 17.10 ------- ------ Common stock All directors and officers as a group 927,319 80.47% ======= ====== Preferred stock Wayne E. or Constance Guthrie 2,000 66.70% Preferred stock Constance Guthrie 1,000 33.30 ------- ------ Preferred stock All directors and officers as a group 3,000 100.00% ======= ======
* Includes shares held in trust. ** Kevin and David Guthrie each exercise voting rights over an additional 24,706 (2.14%) shares of this class through the holdings of their minor children. Item 13. Certain Relationships and Related Transactions Transactions with Company officers, directors and stockholders and other related parties are summarized in Notes 12 and 14 to the consolidated financial statements included herein. PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K (a) 1. Financial Statements - See index under Item 8 (a) 2. Financial Statement Schedules: Report of independent accountants Schedule III - Real estate and accumulated depreciation Schedule IV - Mortgage loans on real estate All other schedules are omitted because they are not applicable, or not required, or because the required information is included in the financial statements or notes thereto. (a) 3. Exhibits: Exhibit 27 - Financial Data Schedule (b) Reports on Form 8-K during the last quarter: None [PricewaterhouseCoopers LLP Letterhead} REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULES To the Board of Directors and Stockholders Pacific Security Companies and Subsidiaries Spokane, Washington Our audits of the consolidated financial statements referred to in our report dated September 29, 1999, of Pacific Security Companies and Subsidiaries, which report and consolidated financial statements are included herein in this Annual Report on Form 10-K, also included an audit of the financial statement schedules listed in Item 14(a)(2) of this Form 10-K. In our opinion, these financial statement schedules present fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. /s/PricewaterhouseCoopers LLP September 29, 1999 Pacific Security Companies and Subsidiaries Schedule III Real Estate and Accumulated Depreciation July 31, 1999
Life on Which Depreciation Cost in Latest Capitalized Amount at Income Subsequent Which Carried Accumulated Date Statement Description Encumbrance Initial Cost to Acquisition at Close of Period Depreciation Acquired is Computed -------------------- ----------- ------------ -------------- ------------------ ------------ -------- ------------- Residential and commercial properties: Rental buildings and improvements: Spokane, Washington N. 10 Post Street (Peyton Bldg.) $ 2,422,444 $ 2,209,343 $ 3,581,973 $ 5,791,316 $ 1,754,329 1979 25-40 years S. 10 Washington (Hutton Bldg.) -- 1,498,769 3,849,774 5,348,543 1,884,873 1979 25-40 years Broadmoor Apartments -- 1,385,074 990,422 2,375,496 1,219,935 1969 40 years W. 102 Indiana 569,858 663,031 -- 663,031 266,781 1984 30 years Pier One Building 1,380,312 1,194,017 2,771,167 3,965,184 801,981 1992 25-40 years AT&T Wireless Building 815,793 950,373 (2,811) 947,562 224,258 1992 25 years Cornerstone Office Building -- 1,558,552 25,533 1,584,085 7,369 1999 25-40 years Furniture related to above 540,237 283,002 823,239 531,251 Various Various ----------- ----------- ----------- ----------- ----------- $ 5,188,407 $ 9,999,396 $11,499,060 $21,498,456 $ 6,690,777 =========== =========== =========== =========== ===========
SCHEDULE III, Continued Real Estate and Accumulated Depreciation July 31, 1999 Real estate: Balance at beginning of period$ $22,032,232 Additions during period: Purchases and capitalized costs, net 395,602 Deductions during period: Cost of real estate sold (929,378) ----------- Balance at close of period $21,498,456 =========== Accumulated depreciation: Balance at beginning of period $ 6,373,093 Depreciation for the year 728,649 Charges to accumulated depreciation related to real estate investments sold, net of other adjustments (411,965) ----------- Balance at close of period $ 6,690,777 =========== PACIFIC SECURITY COMPANIES AND SUBSIDIARIES SCHEDULE IV Mortgage Loans on Real Estate July 31, 1999
Principal Amount of Loans Subject Face Carrying to Delinquent Interest Maturity Periodic Amount of Amount of Principal Description Rate Date Payment Terms Prior Liens Mortgages Mortgages or Interest -------------------------- ---------- -------- --------------------- ----------- ----------- ----------- ------------- Loan (PP Two LLC) Prime + 3% 2000 Interest only monthly $ 2,296,515 $2,296,515 Real estate contract on apartment complex (Evergreen Town House) 10.50% 2023 $18,498 per month, including interest 1,632,894 1,632,894 Loan (WAM #1963) Prime + 3% 1999 Interest only monthly 1,435,328 1,435,328 Loan (WAM #1993) Prime + 3% 1999 Interest only monthly 1,089,536 1,089,536 Loan (GLMD) Prime + 3.50% 2000 Interest only monthly 1,060,279 1,060,279 Loan (Calderwood #1988) Prime + 3% 2000 Interest only monthly 900,000 900,000 Loan (Calderwood #1987) Prime + 3% 2000 Interest only monthly 587,000 587,000 Loan (Rock Ridge) Prime + 4.25% 2000 Interest only monthly 804,815 804,815 Loan (U-City) Prime + 3% 2000 Interest only monthly 650,000 650,000 Real estate contract on apartment building (East Valley Terrace) 9.50% 2002 $8,492 per month, including interest 946,561 946,561 Real estate contract on North Riverbank land 8% 2000 Interest only monthly 740,000 740,000
PACIFIC SECURITY COMPANIES AND SUBSIDIARIES SCHEDULE IV Mortgage Loans on Real Estate July 31, 1999
Principal Amount of Loans Subject Face Carrying to Delinquent Interest Maturity Periodic Amount of Amount of Principal Description Rate Date Payment Terms Prior Liens Mortgages Mortgages or Interest -------------------------- ---------- -------- --------------------- ----------- ----------- ----------- ------------- Other mortgage contracts and notes receivable, none of which individually exceed 3% of the total carrying value of mortgages Various Various Various 6,095,378 5,782,410 ----------- ----------- $18,238,306 $17,925,338 =========== =========== Balance at beginning of period $11,149,009 Additions during period: Mortgage loans origi- nated and purchased $20,296,977 Contract discounts realized 27,633 ----------- 20,324,610 Deductions during period: Collections of principal and contract payoffs 13,461,784 Other 86,497 13,548,281 ----------- ----------- Balance at end of period $17,925,338 ===========
SIGNATURES Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, Pacific Security Companies has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PACIFIC SECURITY COMPANIES (Registrant) Dated: October 29, 1999 By: /s/ David L. Guthrie ----------------------------------- David L. Guthrie Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons, which include the Chief Executive Officer, the Chief Financial Officer, and the Board of Directors, on behalf of the Registrant and in the capacities and on the dates indicated: Signature Capacity Date ----------------------- ----------------------- ---------------- /s/David L. Guthrie Chief Executive Officer October 29, 1999 ----------------------- Director ---------------- David L. Guthrie /s/Donald J. Migliuri Secretary-Treasurer October 29, 1999 ----------------------- Chief Financial Officer ---------------- Donald J. Migliuri and Director /s/Wayne E. Guthrie Chairman of the Board October 29, 1999 ----------------------- of Directors and ---------------- Wayne E. Guthrie Director /s/Kevin M. Guthrie Vice-President and October 29, 1999 ----------------------- Director ---------------- Kevin M. Guthrie /s/Constance M. Guthrie Director October 29, 1999 ----------------------- ---------------- Constance M. Guthrie /s/Raymond J. Fisher Director October 29, 1999 ----------------------- ---------------- Raymond J. Fisher /s/Robert N. Codd Director October 29, 1999 ----------------------- ---------------- Robert N. Codd /s/Julian Guthrie Director October 29, 1999 ----------------------- ---------------- Julian Guthrie EX-27.1 2
5 1000 YEAR JUL-31-1999 JUL-31-1999 529 242 18055 0 0 0 21498 (6691) 35946 0 9644 0 300 3458 3223 35946 0 5933 0 2095 806 0 2179 854 313 541 (256) 0 0 285 .05 .05
-----END PRIVACY-ENHANCED MESSAGE-----