10-K 1 d95247e10-k.txt FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2001 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended: DECEMBER 31, 2001 Commission File No. 1-13852 CET ENVIRONMENTAL SERVICES, INC. -------------------------------- (Exact Name of Registrant as Specified in its Charter) CALIFORNIA 33-0285964 -------------------------------------------------------------- --------------------------------------- (State or Other Jurisdiction of Incorporation or Organization) (I.R.S. Employer Identification Number)
7032 SOUTH REVERE PARKWAY, ENGLEWOOD, COLORADO 80112 ---------------------------------------------------- (Address of Principal Executive Offices, Including Zip Code) Issuer's telephone number, including area code: (720) 875-9115 Securities registered pursuant to Section 12(b) of the Act: COMMON STOCK Securities registered pursuant to Section 12(g) of the Act: NONE Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ], As of March 4, 2002, there were 5,757,792 shares of Common Stock outstanding. The aggregate market value of voting stock held by nonaffiliates of the Registrant on that date was approximately $2,514,415. Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-K contained in this form, and no disclosure will be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] DOCUMENTS INCORPORATED BY REFERENCE: The information required by Part III is incorporated by reference from the Registrant's definitive proxy statement to be filed with the Commission pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this report. PART I ITEM 1. BUSINESS. The Company The Company, incorporated in February 1988, is engaged in environmental consulting, engineering, remediation, and construction activities. The Company also has the capability to perform emergency response cleanup services in certain western states for federal agencies, states, municipalities and commercial clients. The Company has developed a broad range of expertise in non-proprietary technology-based environmental remediation. A wholly owned subsidiary, Cleanwater Contracting, Inc., provides a broad spectrum of services related to water treatment and wastewater processing for both the public and private sectors. As a full-service provider of environmental solutions, the Company's capabilities range from turnkey waste management facilities for dealing with water, soil and air pollution problems to providing emergency response to accidental spills of hazardous and/or toxic materials. The Company's personnel have developed expertise in a broad range of remediation techniques such as bioremediation, bioventing, vapor extraction, gas/air sparging, soil washing, and groundwater remediation systems. The Company also offers a variety of services in support of municipal and industrial water and wastewater treatment, and other operations with significant environmental components. The Company believes it has gained a solid reputation for promptly providing cost-effective and innovative remediation and treatment solutions. Over the past three years, the EPA has been the Company's largest single source of revenues, accounting for $12.3 million (87%), $13.1 million (54%), and $26.0 million (60%) in 2001, 2000, 1999, respectively. The sharp drop in EPA generated revenues over the past two years largely reflects the notice of suspension the Company received from the EPA and the responding actions taken by the Company as more fully described below. In August, 1999, the Company received a notice of suspension, pending further review, from the Environmental Protection Agency ("EPA"). The suspension resulted from EPA allegations that the Company engaged in intentional misconduct with respect to billing for services provided under various EPA contracts. Under the suspension, the Company was prohibited from receiving additional government contracts under the provisions of 48 C.F.R Subpart 9.4 of the Federal Acquisitions Regulations. The suspension did, however, allow the Company to continue performance on existing government contracts. Following the receipt of the suspension notice from the EPA, the Company initiated a restructuring plan to reduce operating costs and gain efficiencies through sale, downsizing and closure of regional offices. Restructuring actions included the September, 1999 sale of substantially all the assets in the Mobile (AL) and Jackson (MS) regions; the October, 1999 closing of regional offices in New Orleans (LA) and Houston (TX); the February, 2000 closing of the Richmond (CA) office; and the sale of asset and assignment of certain contracts and liabilities related to the Company's activities in Tustin (CA), which became effective on April 30, 2000 as more fully described in Note F to the Consolidated Financial Statements. In November 1999, following consideration of certain information provided by the Company to the EPA, the EPA's suspension was terminated and an Administrative Agreement ("Administrative Agreement") between the EPA and the Company was executed. Upon execution of the Administrative Agreement, the Company became immediately eligible to bid for, receive, and perform any Federal contract or subcontract, or participate in any assistance, loan or benefit without restriction. In the 1 Administrative Agreement, the Company agreed to cooperate in full with further investigations into the EPA allegations including access to records, availability of Company personnel, certain reporting requirements, audit of EPA billing prior to submission, and certain restrictions of Company assets. After review of available information and consultation with its legal counsel, management believes that the allegations brought against the Company did not warrant suspension. Meanwhile, management has cooperated fully in the EPA's investigation and will continue to do so when and if required. However, despite the lifting of the suspension order, EPA revenues under the then existing contract never recovered to prior levels. The EPA exercised the third year option of the contract in January, 2000, and was empowered to issue delivery orders for up to $42 million in value; actual EPA revenues for 2000 were $13.1 million. The fourth and final option year was exercised in January, 2001, with an empowered value of $44 million. While some additional EPA revenues will accrue during 2002 to complete outstanding delivery orders, actual EPA revenues in 2001 were only $12.3 million. In view of the diminished level of EPA delivery orders received over the past three years and with no assurance that delivery orders would increase even if the Company was successful in obtaining another EPA contract, management decided to forgo bidding on a new contract. At the billing levels of the last two years, the overhead costs necessary to perform EPA work make such efforts marginally profitable, at best. Management believes that water treatment, wastewater management, and Brownfields reclamation offer a greater opportunity for success. In connection with its commercial business, in August 1999 the Company entered into a contract to perform work for Remediation Financial, Inc. (RFI) on a Brownfield development project known as LCRI Investments, Inc. (Hercules) in Hercules, CA. Work performed under this agreement accounted for approximately 5% of total revenues for 1999. Subsequently, the Company entered into another agreement with RFI to perform similar work on a Brownfield project known as Santa Clarita, L.L.C. (Santa Clarita) in Santa Clarita, CA. The combined revenues from the two RFI projects accounted for approximately 32% of total revenues for 2000. During the third quarter of 2000, the Company encountered collection problems with RFI, the severity of which caused the Company to suspend work at the Santa Clarita site in late September 2000. Shortly thereafter, RFI and affiliated partnerships presented the Company with termination notices for both the Santa Clarita and the Hercules projects. The Company has pursued legal alternatives to collect the receivables arising from work performed on these two projects, which amounted to $5.3 million at 2001 year-end. In February, 2002, the Company reached a settlement agreement with respect to the Santa Clarita project and received $2.1 million. (See Item 3. Legal Proceedings and Notes G and S to the Consolidated Financial Statements.) The Environmental Industry The remediation segment of the environmental industry consists of three phases: site assessment, remediation program design, and the actual site remediation. The first phase is largely investigative and can involve substantial chemical analysis to understand the nature and extent of the problem. The design phase involves detailed engineering to develop the optimal solution for cleaning the site. The third phase is the true implementation of the site remediation plan and involves various onsite treatment procedures for contaminated materials or the excavation and containment or offsite transportation of toxic materials. The Company provides an extensive full-service offering in all phases of contaminated site remediation. Innovative onsite remediation technologies are in high demand to provide an alternative to offsite disposal of hazardous waste. These technologies have been provided to various Company clients 2 in order to minimize and/or eliminate our clients' cradle-to-grave liability. Onsite technologies such as bioremediation, bioventing, vapor extraction, gas/air sparging, low-temperature thermal desorption, chemical fixation, and soil washing have gained wide-spread regulatory acceptance. The Company strives to use these remediation techniques more efficiently than its competitors. The never-ending need for clean pure water, the aging of the U.S. water and wastewater treatment facilities, the trend of public municipalities towards privatization, and recent regulatory pressure has expanded the U.S. water market to new highs. The Environmental Review, the EPA's first survey of drinking-water utilities after reauthorization of the Safe Drinking Water Act in 1997, suggested that communities nationwide will need to spend around $12.1 billion "in the immediate future" to protect drinking water supplies. The EPA has also estimated that, over the next two decades, some $137 billion will need to be spent to build new wastewater-treatment plants or to improve existing ones. And the Water Environment Federation, a trade group, projects that the roughly 55,000 community water systems in the U.S. will need to spend some $330 billion over the next two decades to improve their water infrastructure. Public municipalities are becoming aware that considerable savings can be obtained by outsourcing the operations, management, and maintenance of their water-treatment facilities to private water-specialty firms. There remains approximately 24,000 government-owned-and-operated water authorities in the U.S. serving almost 80% of U.S. citizens. Since 1994, increased pressure to create uses for contaminated and idle properties has driven a rise in industrial redevelopment or "Brownfield" site remediation programs. The term "Brownfield" comes from an EPA-sponsored program to study the redevelopment of "abandoned, idled, or underused industrial facilities where expansion or redevelopment is complicated by real or perceived environmental contamination" (U.S. EPA). In 2001, the EPA estimated that there were approximately 450,000 Brownfield sites nationwide. Recently, new legislation was enacted at the federal level providing for Brownfield remediation funding of $250 million annually. This coupled state and municipal initiatives should create an opportunity for full service remediation as well as financial participation in the redevelopments. Organization of the Company The Company is organized into three primary business lines: industrial services, which includes water and wastewater treatment, facility cleaning, operation, maintenance, construction, closures, and emergency response; environmental remediation; and government programs. The Company provides full turnkey environmental services for remediation of non-hazardous, hazardous, and toxic waste on a planned and emergency basis, industrial services, and water and wastewater treatment. This can include assessment and characterization studies, conceptual design, detail design, construction and installation, decontamination and demolition, and operation and maintenance. The offering of full turnkey services is believed to enhance the prospects of success in soliciting new customers, as well as in obtaining follow-on contracts that may be tangential or unrelated to the original scope of work. Industrial Services. The Company performs a variety of industrial services, including maintenance and construction work for numerous groundwater treatment and remediation systems. The Company has also provided clients with a range of water, wastewater, and industrial wastewater treatment services. Detailed services include preventive and corrective maintenance, as well as replacement and emergency maintenance; industrial vacuuming of wet/dry materials; and construction of full-scale facilities, installation of off-the-shelf systems, and retrofitting of existing systems. The Company provides plant services to industrial clients as an outside contractor, or by offering full- or part-time onsite personnel on a contract basis. These services include: 3 o Tank and sump services o Water and wastewater treatment o Specialty construction o Plant operation and maintenance o Waste management and removals o Regulatory agency coordination and permitting, regulatory management outsourcing, and compliance audits o Waste area construction/closures o Facility closures o Emergency response Environmental Remediation Services. The Company provides full-scale turnkey environmental remediation services that range from Phase I environmental assessments and remedial investigation/feasibility studies (RI/FSs) to the design, construction, and operation of remediation systems. The Company does not promote a single technology but recommends the remediation methods that provide the most cost-effective and timely mitigation. Government Programs. As noted earlier in this document, the Company did not seek to renew a contract with the EPA. In addition, the Company, in connection with the sale of certain assets and assignment of contracts, entered into a non-compete agreement which prohibits it from providing remediation services to the Department of Defense, with certain limited exceptions, for a period of four years from April, 2000. (See Note F to the Consolidated Financial Statements.) The Company intends to continue soliciting business with selected federal agencies, as well as at state, municipal, and special district governmental bodies. The services offered are similar to those provided the private sector and include emergency response, remediation, and water-related services. Customers The Company's customers include federal, state, and local government agencies, commercial and industrial enterprises. Business Strategy The Company plans to capitalize on the following trends: o The creation of uses for contaminated properties (Brownfields). o The demand for consultation and construction to upgrade existing water and wastewater treatment facilities within the U.S. presents an opportunity for the Company. o The privatization or outsourcing of public municipalities' water and wastewater treatment facilities operation and maintenance offers untapped areas of growth within the industry. o Remediation at active industrial sites under the RCRA corrective action program represents an important private sector segment in an early stage of development. o To meet special requirements and budget constraints, industrial facilities are increasingly outsourcing environmental-related maintenance and construction services. The Company is targeting these facilities to perform this work on a contract basis or offering full- or part-time personnel on site. 4 The Company's strategy to capitalize on these trends emphasizes the following key elements: Diversification through Controlled Expansion. The Company seeks controlled growth and diversification by providing its services to additional industries and by broadening the mix of related services performed for each client. Management has identified several areas of interest for expansion including additional work in the areas of water and wastewater treatment facilities' construction, operation and maintenance, and in-plant services for industrial clients. Emphasis on Recurring Revenue. The Company seeks to expand its base of recurring revenue sources to mitigate the cyclical nature of the environmental remediation services industry. The Company hopes to broaden its inclusion on approved-contractor lists with large corporate customers whereby the Company is invited to bid on future environmental engineering/remediation projects. Inclusion on such lists is a result of the Company having completed prior contracts to the satisfaction of these customers. The Company also intends to increase the number of operations and maintenance contracts, both for industrial services and water/wastewater facilities. These contracts are generally longer term, providing a more sustainable revenue base. Commitment to Quality. Management believes that the long-term success of the Company depends upon its reputation with customers for performing top quality turnkey services. The Company must continue to distinguish itself with private and government sector customers by maintaining competence in various state-of-the-art, technology-based remediation and treatment alternatives, and by efficient and effective job site performance. Marketing The Company has a dedicated marketing staff of sales professionals, proposal writers, technical editors, and project estimators. The Company has developed ongoing relations with a broad range of customers in various industries. The Company's contracts are primarily obtained through competitive bidding and through negotiations with long-standing customers. The Company is typically invited to bid on projects undertaken by recurring customers who maintain pre-qualified contractor bid lists. Bidding activity, backlog, and revenue resulting from the award of contracts to the Company vary significantly from period to period. Competition The environmental industry in the United States has developed rapidly since the passage of RCRA in 1976 and is highly competitive. The industry is going through a rapid transition resulting from several mergers and consolidations during the last three years. Several key players have emerged but the industry still has numerous small- and medium-sized companies serving niche markets according to geography, industry, media (air, water, soil, etc.), and technological specialization (bioremediation, etc.). Because the Company operates in many sectors of the environmental industry, the Company can adapt to changes in the marketplace by allocating its resources to the industry sector in which the business opportunities exist. Management believes that the keys to success in the industry today are service and capabilities. The Company will continue to focus on the application of new technology, as well as innovative applications of existing technologies, and continue providing high quality services to its customers. Management believes that the primary factors of competition are price, technological capabilities, reputation for quality and safety, relevant experience, availability of machinery and 5 equipment, financial strength, knowledge of local markets and conditions, and estimating abilities. Management believes that the Company has competed and will continue to compete favorably on the basis of the foregoing factors. However, many of the Company's competitors have financial and capital equipment resources greater than that of the Company. Additionally, at any time and from time to time, the Company may face competition from new entrants into the industry. The Company may also face competition from technologies that may be introduced in the future, and there can be no assurance that the Company will be successful in meeting the challenges that will be posed by its competition in the future. Government Regulation The Company is presently regulated by a myriad of federal, state, and local environmental and transportation regulatory agencies, including but not limited to the EPA, which regulates the generation and disposal of hazardous waste; the U.S. Department of Labor, which sets safety and training standards for workers; the U.S. Department of Transportation, which regulates transportation of hazardous materials and hazardous waste; and similar state and local agencies. The need for governments and business to comply with the complex scheme of federal and state regulations governing their operations is the market in which the Company operates, although the Company itself must operate under and in conformance with applicable federal and state laws and regulations. The Company attempts to pass the cost of compliance on to the customer through the prices paid by customers for the Company's services. Environmental Laws Most environmental laws and regulations are promulgated by the U.S. Congress and federal departments and agencies. For example, the National Environmental Policy Act compels federal governmental agencies at all levels to make decisions with environmental consequences in mind. The EPA and the U.S. Occupational Safety and Health Administration ("OSHA") are responsible for protecting and monitoring certain natural resources (such as air, water, and soil) and working conditions. These laws and regulations establish a comprehensive regulatory framework consisting of permitting processes, systems construction, monitoring and reporting procedures, and administrative, civil, and criminal enforcement mechanisms. Many of the federal laws and regulations contemplate enforcement by state agencies and adoption by the states of similar environmental laws and regulations that must meet minimum federal requirements. In areas of environmental law where federal regulation is silent, the states may adopt their own environmental laws. Local governments such as counties and municipalities may also enact and enforce environmental laws that address local concerns that may be more stringent than applicable state laws. The Company's ability to assist customers to comply with these environmental laws and regulations forms the basis for the current and future environmental consulting, engineering, remediation, laboratory, and other services provided by the Company. Enforcement of such laws and regulations, such as EPA mandated registration and upgrade of USTs, also leads to business for the Company. The federal laws and regulations described below constitute the major actions that have caused growth in the environmental and water/wastewater service industries. 6 Comprehensive Environmental Response, Compensation and Liability Act of 1980 ("CERCLA"). This legislation, as amended by the Superfund Amendments and Reauthorization Act of 1986, established the Superfund program to identify and clean up existing contaminated hazardous waste sites and other releases of hazardous substances into the environment. CERCLA gives the EPA authorization to compel private parties to undertake the cleanup and enforcement incentives including the imposition of penalties and punitive damages. Resource Conservation and Recovery Act of 1976 ("RCRA"). This legislation, as amended by the Hazardous and Solid Waste Amendments of 1984 ("HSWA"), provides for the regulation of hazardous waste from the time of generation to its ultimate disposal as well as the regulation of persons engaged in generation, handling, transportation, treatment, storage, and disposal of hazardous waste. Hydrocarbon-based hazardous waste as defined by RCRA can include leaked/spilled crude oil, refined oil, gasoline, kerosene, and industrial solvents (used, for example, in the transportation and manufacturing industries). Hazardous waste also includes the by-products of virtually any business, including the production of plastics, pesticides, fertilizers, soaps, medicines, explosives, etc. These wastes can contain heavy metals, organic chemicals, dioxin, PCBs, cyanide, and other toxic substances. EPA UST Regulations. The EPA has mandated that USTs that are used to store gasoline, diesel fuel, fuel oil, waste oil and hazardous materials be registered with the appropriate state regulatory agency, designed or upgraded to meet construction and operational standards, and monitored to insure against groundwater and soil contamination from leaking. Owners and operators are further required to report leaks and undertake appropriate corrective action, including testing and monitoring to identify the extent of the contamination, removal and disposal of contaminated soil, or on-site treatment of contaminated soil or groundwater. The EPA has delegated the administration of UST regulations to state agencies. To assist the remediation process when leaking USTs are identified, many state legislatures have created reimbursement programs funded by gasoline taxes or other taxes and fees. Clean Water Act ("CWA"). The CWA established a system of standards, permits and enforcement procedures for the discharge of pollutants into navigable waters from industrial, municipal and other wastewater sources. The CWA requires, under certain circumstances, pretreatment of industrial wastewater before discharge into municipal treatment facilities. The EPA and delegated state agencies are also placing some non-complying municipalities under enforcement schedules. These regulations are creating the need for the upgrade or construction of new treatment facilities by both industrial and municipal entities. Safe Drinking Water Act ("SDWA"). Under the SDWA and its subsequent reauthorization, the EPA is empowered to set drinking water standards for public water systems in the United States. The SDWA requires that the EPA set maximum permissible contamination levels for over 80 substances and also requires the EPA to establish a list every 3 years of contaminants that may cause adverse health effects and may require regulation. Enforcement responsibility is placed on the states and includes water supply systems monitoring. The SDWA also requires that the EPA set criteria for the use of treatment techniques including when filtration should be used for surface water supplies and when to require utilities to disinfect their water. The EPA regulations under the SDWA are expected to result in significant expenditures by public water systems for evaluation and, ultimately, for upgrading of many facilities. Bolstering federal laws are stringent state laws, such as California's Safe Drinking Water and Toxic Enforcement Act of 1986 ("Prop 65"), which took full legal effect in 1992. To cite just one facet of Prop 65, California's drinking water must not have concentrations of more than one part per billion of benzene. However, one tablespoon of gasoline contains enough benzene to render 50,000 gallons of water undrinkable by California's standards. 7 OSHA and OSHA Reform Act. OSHA has promulgated various regulations setting forth standards for disclosure of health hazards in the work place and for response thereto. The Hazard Communication Standard, for example, requires manufacturers and importers of chemicals to assess the hazards of their products and disclose the same through material data safety sheets and label warnings. In 1990, in an effort in part to create a self-funding administration, Congress increased the ceiling for certain OSHA-imposed penalties. Potential Liability and Insurance The Company maintains quality assurance, quality control, and health and safety programs to reduce the risk of damage to persons and property. However, in providing environmental remediation services to the Company's customers, the Company faces substantial potential liability for environmental damage, personal injury, property damage, economic losses, and fines and costs imposed by regulatory agencies. Furthermore, it is possible that one or more of the Company's customers may assert a claim against the Company for negligent performance of services. The Company's potential environmental liability arises, in part, because some of its services involve the cleanup of petroleum products and other hazardous substances for its customers. The scope of liability under existing law for environmental damage is potentially very broad and could apply to the Company in a number of ways. For example, the Company may be exposed to liability under CERCLA when it conducts a cleanup operation that results in a release of hazardous substances, or when it arranges for disposal of such substances. Other liabilities may arise if the Company creates or exacerbates a contamination problem through errors or omissions in its cleanup work, potentially giving rise to, among other things, tort actions for resulting damages and Superfund liability for any resulting cleanup. Finally, it is possible that one or more of the Company's customers will assert a claim against the Company for an allegedly incomplete or inadequate cleanup. Many state and federal environmental laws apply to the Company's activities, and the potential for liability exists depending on the circumstances and substances involved in each cleanup operation. Moreover, the law in this area is developing rapidly and is thus subject to considerable uncertainty. The Company maintains comprehensive general liability insurance and worker's compensation insurance that provide $5 million of coverage each. In addition, the Company maintains pollution liability and errors and omissions insurance that provides $2 million of coverage each. Because there are various exclusions and retentions under the insurance policies described above, not all liabilities that may be incurred by the Company will necessarily be covered by insurance. In addition, certain of the policies are "claims made" policies that only cover claims made during the term of the policy. If a policy terminates and retroactive coverage is not obtained, a claim subsequently made, even a claim based on events or acts that occurred during the term of the policy, might not be covered by the policy. In the event the Company expands its services into a new market, no assurance can be given that the Company will be able to obtain insurance coverage for such activities or, if insurance is obtained, that the dollar amount of any liabilities incurred in connection with the performance of such services will not exceed policy limits. The market for liability insurance has been severely constrained at times, due in part to high losses experienced by the insurance industry from environmental impairment liability claims, including claims associated with hazardous materials and toxic wastes. Consequently, the available insurance coverage for enterprises such as the Company may be reduced, eliminated entirely or priced beyond the reach of many companies. To date, the Company has been able to obtain any insurance required by a customer. However, there can be no assurance that the Company will be able to maintain adequate liability insurance in the future. 8 Bonding Requirements Commercial remediation projects, as well as federal, state, and municipal projects, often require contractors to post both performance and payment bonds at the execution of a contract. Performance bonds guarantee that the project will be completed, and payment bonds guarantee that vendors will be paid for equipment and other purchases. A bond typically costs between 1% and 3% of the project costs, and contractors without adequate bonding may be ineligible to bid or negotiate on many projects. Although no payments have been made by any bonding company for bonds issued for the Company, the impact of the EPA suspension in 1999 and the Company's current financial status have made it increasingly difficult to obtain bonding. With respect to EPA delivery orders, in lieu of bonding, the Company developed a job escrow arrangement to meet the EPA's requirements. Employees As of February 2002, the Company employed approximately 21 full-time employees, including two Company officers, and 3 part-time employees. The Company's employees are not represented by a labor union or covered by a collective bargaining agreement, and the Company believes it has good relations with its employees. While all of the Company's projects are performed under the supervision and direction of the Company's supervisors and foremen, and the Company attempts to utilize as many of the Company's regular laborers as possible to staff projects, the location and other factors affecting projects performed away from the immediate vicinity of the Company's office results in the occasionally hiring temporary workers on site. The Company carefully reviews the training and qualifications of all temporary workers hired to assure that all such personnel are qualified to perform the work in question. However, due to the temporary nature of such employment, there is no assurance that all such temporary workers will perform at levels acceptable to the Company and its customers. The operations of the Company are substantially dependent upon its executive officers. The Company has no employment contracts with these persons, and the loss of their services could have a material adverse effect on the Company. The Company's further success will also depend significantly on its ability to attract and retain additional skilled personnel, including highly trained technical personnel, project managers, and supervisors. The Company believes it currently has adequate qualified supervisory personnel, but there is no assurance that experienced and qualified management level personnel will be available to the Company in the future to fill positions as needed. ITEM 2. PROPERTIES. The Company headquarters and administrative facilities are located at 7032 S. Revere Parkway, Englewood, CO, in approximately 12,027 square feet of leased office space. The lease expires May 31, 2004. The Company's corporate and administrative functions are conducted from these facilities. ITEM 3. LEGAL PROCEEDINGS. Except as set forth below, the Company is not a party to any material legal proceedings which are pending before any court, administrative agency or other tribunal. Further, the Company is not aware of any material litigation which is threatened against it in any court, administrative agency, or other tribunal. Management believes that no pending litigation in which the Company is named as a defendant is likely to have a material adverse effect on the Company's financial position or results of operations. 9 On December 19, 2000, the Company filed an action in the Superior Court of the State of California, County of Los Angeles for, among other things, breach of contract and foreclosure of mechanics' lien/lien release bond against Santa Clarita, LLC, an affiliated partnership of RFI, in response to non-payment for services performed by the Company on the Porta Bella project located in Santa Clarita, CA. In early February, 2002, the Company entered into a settlement agreement under which it received a total of $2.1 million, which approximates the value of the receivables related to the project at December 31, 2001 (See Notes G and S to the Consolidated Financial Statements). On February 8, 2001, the Company filed an action in the Superior Court of the State of California, County of Contra Costa for, among other things, breach of contract, foreclosure of a previously filed mechanics' lien, and judicial foreclosure of the deed of trust in the amount of $10.1 million against LCRI Investments, LLC, an affiliated partnership of RFI, in response to non-payment for services performed by the Company on the Hercules project located in Hercules, CA. On March 5, 2001, the Company recorded a notice of default under the subject deed of trust in order to pursue a trustee's sale of the subject property. The Company and LCRI Investments are engaged in arbitration proceedings. The Company believes it will prevail and recover most, if not all, the receivables related to this project, which were valued at $3.3 million on December 31, 2001 (See Notes G and S to the Consolidated Financial Statements). The total value of the receivables related to these two Brownfields projects at December 31, 2001 was $5.3 million. At September 30, 2001, the Company reported the value of these receivables at $6.2 million. The lower value at 2001 year-end stems from adjustments to reflect payments made directly to the Company's subcontractors by RFI and/or affiliated partnerships and certain accounting reconciliations, none of which had an adverse impact on the Company's financial statements. The Company, LCRI Investments, and RFI are parties to a Commercial Insurance Premium Finance and Security Agreement which guaranteed a $10.1 million Bond to Secure Financial Obligation for the Hercules, CA project. The bond secures a note that requires quarterly principal payments of $542,278 which are made by LCRI Investments, LLC. As of December 31, 2001, LCRI Investment, LLC was in default on their 2001 quarterly payments. On July 11, 2001, a letter was issued to LCRI Investments, LLC, RFI, and the Company calling for the immediate payment of remaining principal and interest of $7.2 million. Currently, there has been no legal action taken against the Company for the default. Management believes the Company is entitled to be indemnified to the extent it is ultimately obligated to make any payments under any of these arrangements. Since early 1998, the Company has been the subject of an investigation by the Office of the Inspector General (OIG) of the Environmental Protection Agency (EPA). While initially broad in scope, the focus of the investigation appears to involve labor billing-rates to the EPA beginning in the 1992-1994 period and selected subsequent years. The Company has cooperated fully in all OIG inquiries and will continue to do so when and if required. To date, no claims have been made against the Company. In addition, independent audits by the Defense Contract Audit Agency (DCAA), subsequent to initiation of the OIG investigation, have not been adverse nor have resulted in claims against the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of the Company's security holders during the quarter ended December 31, 2001. 10 PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. (a) Principal Market or Markets. Since July 18, 1995, the Company's Common Stock has been listed on the American Stock Exchange ("AMEX") under the symbol "ENV". The following table sets forth the high and low sale prices for the Company's Common Stock as reported on the AMEX for the periods indicated:
QUARTER ENDED HIGH LOW ------------- ----- ----- March 31, 2000 $2.37 $1.44 June 30, 2000 1.50 0.75 September 30, 2000 1.44 0.69 December 31, 2000 0.94 0.31 March 31, 2001 0.94 0.43 June 30, 2001 0.65 0.37 September 30, 2001 0.58 0.36 December 31, 2001 $0.75 $0.36
(b) Approximate Number of Holders of Common Stock. The number of record holders of the Company's common stock at February 20, 2002 was 43. This does not include approximately 1,100 shareholders that hold their shares in street name. (c) Dividends. The Board of Directors does not anticipate paying cash dividends on the Company's Common Stock in the foreseeable future as it intends to retain future earnings to finance the growth of the business. The payment of future cash dividends will depend on such factors as earnings levels, anticipated capital requirements, the operating and financial conditions of the Company, and other factors deemed relevant by the Board of Directors. The California Corporations Code provides that a corporation may not pay dividends if the corporation is, or as a result of the distribution would likely be, unable to meet its liabilities as they mature. (d) Sales of Unregistered Securities. None 11 ITEM 6. SELECTED FINANCIAL DATA. SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED) Following is a summary of the quarterly results of operations for the years ended December 31, 2001 and 2000.
Fiscal Quarter $ in thousands, except per share amounts March 31 June 30 September 30 December 31 Total -------- -------- ------------ ----------- -------- 2000: Revenues $ 3,453 $ 6,682 $ 7,731 $ 6,576 $ 24,442 Project costs 3,150 5,753 6,968 5,838 21,709 -------- -------- -------- -------- -------- Gross profit 303 929 763 738 2,733 -------- -------- -------- -------- -------- Selling 148 94 78 60 380 General and administrative 732 580 548 551 2,411 Restructuring 144 82 24 97 347 Other (income) loss, net 63 (1,331) (149) (29) (1,446) -------- -------- -------- -------- -------- Income (loss) before income tax (784) 1,504 262 59 1,041 -------- -------- -------- -------- -------- Income tax -- -- -- -- -- -------- -------- -------- -------- -------- Net income $ (784) $ 1,504 $ 262 $ 59 $ 1,041 ======== ======== ======== ======== ======== Basic earning per common share $ (0.12) $ 0.24 $ 0.04 $ 0.01 $ 0.17 Diluted earning per common share $ (0.12) $ 0.24 $ 0.04 $ 0.01 $ 0.17 2001: Revenues $ 4,066 $ 2,509 $ 4,044 $ 3,585 $ 14,204 Project costs 3,512 1,978 3,366 2,861 11,717 -------- -------- -------- -------- -------- Gross profit 554 531 678 724 2,487 -------- -------- -------- -------- -------- Selling 39 55 41 53 188 General and administrative 530 480 451 643 2,104 Restructuring -- -- -- -- -- Other (income) loss, net (27) (20) (26) 49 (24) -------- -------- -------- -------- -------- Income (loss) before income tax 12 16 212 (21) 219 -------- -------- -------- -------- -------- Income tax -- -- -- -- -- -------- -------- -------- -------- -------- Net income $ 12 $ 16 $ 212 $ (21) $ 219 ======== ======== ======== ======== ======== Basic earning per common share $ 0.00 $ 0.00 $ 0.04 $ 0.00 $ 0.04 Diluted earning per common share $ 0.00 $ 0.00 $ 0.04 $ 0.00 $ 0.04
12 The following selected financial information for the years ended December 31, 2001, 2000, 1999, 1998, and 1997 is derived from financial statements of the Company audited by Grant Thornton LLP, independent certified public accountants. Balance Sheet Data (in thousands):
AT DECEMBER 31, ------------------------------------------------------- 2001 2000 1999 1998 1997 ------- ------- ------- ------- ------- CURRENT ASSETS $ 9,907 $12,627 $11,132 $26,670 $25,089 TOTAL ASSETS 10,836 13,959 13,805 30,202 29,883 CURRENT LIABILITIES 3,734 6,912 7,619 18,835 12,970 WORKING CAPITAL 6,173 5,715 3,513 7,835 12,119 LONG TERM DEBT -- 40 179 251 8,204 TOTAL LIABILITIES 3,734 6,952 7,798 19,086 21,174 SHAREHOLDERS' EQUITY $ 7,101 $ 7,007 $ 6,007 $11,116 $ 8,709
Statement of Operations Data (in thousands, except earnings per share data):
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ----------- ----------- ----------- ----------- ----------- REVENUES $ 14,204 $ 24,442 $ 43,189 $ 66,497 $ 54,170 OPERATING EXPENSES 14,009 24,847 45,920 74,727 54,047 NET INCOME (LOSS) FROM CONTINUING OPERATIONS 219 1,041 (3,177) 538 (347) NET INCOME (LOSS) FROM CONTINUING OPERATIONS PER COMMON SHARE $ 0.04 $ 0.17 $ (0.51) $ 0.09 $ (0.06) WEIGHTED AVERAGE SHARES 6,076,872 6,275,051 6,282,346 5,828,537 5,785,264 CASH DIVIDENDS PER COMMON SHARE -0- -0- -0- -0- -0-
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. This Annual Report on Form 10-K contains forward-looking statements (as such term is defined in the private Securities Litigation Reform Act of 1995), and information relating to the Company that is based on beliefs of management of the Company, as well as assumptions made by and information currently available to management of the Company. When used in this Report, the words "estimate," "project," "believe," "anticipate," "intend," "expect," and similar expressions are intended to identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events based on currently available information and are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated in such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company does not undertake any obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. General The Company provides comprehensive environmental remediation services of hazardous and toxic waste on a planned and emergency basis to both government and private sector customers. It also provides water and wastewater treatment facilities and services to municipal and industrial clients. The Company provides these services from its offices in Denver, CO. 13 Business Strategy The Company is focused on basic strategies that should lead to improved profitability, specifically on the completion of more profitable contracts, overall direct and indirect cost reductions, and administrative efficiencies. The Company continues to develop business relationships where it can assure high quality and operate profitably. Cost reduction efforts will continue to focus on improved program management, field consolidation, reduction of corporate expenses, and assessment of field location efficiencies. Delivery of quality service has been and will continue to be closely monitored. While management believes that implementation of this strategy will improve operating performance, no assurances can be given as to its ultimate success. Future strategic alternatives currently being considered by the Company include, among others, (i) the pursuit of opportunities in environmental remediation of Brownfield properties; (ii) water and wastewater treatment construction and operation and maintenance through direct investment or acquisitions; and (iii) continued focus on the improvement of contract profitability. Results of Operations The following table presents, for the periods indicated, the percentage relationship which certain items of the Company's statements of income bear to project revenue and the percentage increase or (decrease) in the dollar amount of such items:
PERCENTAGE RELATIONSHIP TO PROJECT REVENUE PERIOD TO PERIOD YEAR ENDED CHANGE ------------------------------- ------------------- 2001 2000 VS. VS. 2001 2000 1999 2000 1999 ------ ------ ------ ------ ------ Project Revenue 100.0% 100.0% 100.0% (41.9)% (43.4)% Project Costs: Direct 73.7 81.4 78.5 (47.4) (41.3) Indirect 8.8 7.4 14.4 (30.8) (71.0) ------ ------ ------ ------ ------ Gross profit 17.5 11.2 7.1 (9.0) (10.7) Other operating expense (income): Selling 1.3 1.6 3.2 (50.6) (72.9) General and administrative expense 14.8 9.9 8.2 (12.8) (31.7) ------ ------ ------ ------ ------ Operating income (loss) 1.4 (1.7) (6.3) 148.1 85.2 Other income (expense) 0.2 5.9 (1.0) (98.4) 421.2 ------ ------ ------ ------ ------ Income (loss) before income taxes 1.5 4.3 (7.4) (79.0) 132.8 Income tax (benefit) -- -- -- -- -- ------ ------ ------ ------ ------ Net income (loss) 1.5% 4.3% (7.4)% (79.0) 132.8% ------ ------ ------ ------ ------
14 2001 COMPARED TO 2000 PROJECT REVENUE. Project revenues were $14.2 million, down $10.2 million or 42% from the $24.4 million in the year-earlier period. The decline largely reflects the absence of commercial revenues from Brownfields projects that were terminated in October 2000 and accounted for $7.8 million of revenues in 2000 (see Liquidity and Capital Resources). Also, the prior year included some $1.3 million in revenues from the Tustin, California operations prior to the sale of these assets in April, 2000. EPA revenues decreased $0.8 million to $12.3 million from $13.1 million in year earlier period, primarily as a result of lower level work order releases on the part of the EPA. In August 2000, a contract with the State of California provided other governmental revenues of $0.7 million with no corresponding revenues in the current period. Providing a partial offset to the declines in the current period, water/wastewater revenues increased $0.5 million to $1.4 million from $0.9 million in the year earlier period. The Following table sets forth the percentages of the Company's revenues attributable to the EPA vs. non-EPA public and private sector customers:
Year Ended December 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------- --------------------------- --------------------------- Non-EPA $ 1,872,938 13.2% $11,330,144 46.3% $17,231,604 39.9% EPA 12,330,644 86.8% 13,111,527 53.7% 25,957,715 60.1% ----------- ----------- ----------- ----------- ----------- ----------- Total $14,203,582 100.0% $24,441,671 100.0% $43,189,319 100.0% =========== =========== =========== =========== =========== ===========
DIRECT COSTS. Direct costs were $10.5 million in the current period, down $9.4 million or 47% from $19.9 million in the year-earlier period. The decrease in direct costs arises from a combination of lower project revenues and a change in the mix of project revenues. Direct costs were equal to 74% of project revenues for 2001 as compared to 81% of project revenues for 2000. The slightly more favorable ratio of direct costs to project revenues during the current period reflects a change in utilization of personnel and equipment. INDIRECT COSTS. Indirect project costs were $1.2 million for the current period, down $0.6 million or 31% from $1.8 million in the year earlier period. Indirect costs were equal to 9% of project revenues for 2001 as compared to 7% of project revenues for 2000. The slight increase in the ratio of indirect costs to project revenues during the current period reflects retaining certain employees whose labor cost were not chargeable to direct projects during the winding down of EPA jobs and closing the Seattle office. SELLING EXPENSE. Sales and marketing expenses were $188,000 for the current period, down $192,000 or 51% from $380,000 in the year earlier period. This decrease is primarily the result of the sale of the Tustin, CA operations in April 2000, and the full year benefit for the restructuring program implemented in late 1999. GENERAL & ADMINISTRATIVE EXPENSE. General and administrative expenses were $2.1 million for the current period, down $0.3 million or 12.8% from $2.4 million in the year earlier period. While lower expenses in this category reflect the absence of the Tustin, CA operations and the benefits of restructuring, a reduction in administrative personnel in anticipation of the January 8, 2002 EPA contract expiration was also a contributing factor. RESTRUCTURING EXPENSE. There were no restructuring expenses in the current period. In 2000, the Company incurred an additional $347,257 of restructuring expenses, not previously identified in the 15 1999 restructuring accrual, for the closing of the Mobile, Jackson, New Orleans, Houston, and Richmond offices. OTHER INCOME (EXPENSE). Other income, net of other expenses, amounted to $24,000 for the current period, the bulk of which arose from interest income. In the year-earlier period, a $1.3 million gain on the sale of the Tustin, CA operations and a $212,000 gain on the sale of property held for investment resulted, after other expenses, in other income of $1.4 million. NET INCOME. Net income of $218,586 was recorded during the current period compared to the net income of $1,040,576 for the year earlier period. The net income for 2000 was primarily the result of the $1.3 million gain on the sale of the Tustin, CA operations recorded in April 2000. 2000 COMPARED TO 1999 PROJECT REVENUE. Project revenues were $24.4 million in 2000, down $18.7 million or 43% from $43.2 million in 1999. The decrease results from several factors including but not limited to (i) the EPA suspension enacted in August 1999 which disrupted the normal flow of business, reducing EPA revenues by approximately $12.9 million from $26.0 million in 1999 to $13.1 million in 2000; (ii) as a result of the EPA suspension, the Company implemented a restructuring plan in the third and fourth quarter of 1999 during which the Company sold the Mobile and Jackson regions and closed its regional offices located in New Orleans, Houston and Richmond. Revenues from these regions approximated $6.0 million in commercial revenues for 1999 with no corresponding commercial revenues in 2000; (iii) the completion of a large commercial project in early 1999 which contributed approximately $1.5 million with no corresponding revenues in 2000; and (iv) the sale of the Tustin, CA operations reduced commercial and other governmental agency revenues by $2.9 million from $4.2 million for 1999 to $1.3 million for 2000. These revenue decreases were partially off-set by an increase in commercial revenues of $2.1 million and $2.5 million for the Hercules and Santa Clarita, CA and various water/wastewater projects during 2000. The Following table sets forth the percentages of the Company's revenues attributable to the EPA vs. non-EPA public and private sector customers:
Year Ended December 31, --------------------------------------------------------------------------------------------- 2000 1999 1998 --------------------------- --------------------------- --------------------------- Non-EPA $11,330,144 46.3% $17,231,604 39.9% $33,569,412 50.5% EPA 13,111,527 53.7% 25,957,715 60.1% 32,927,870 49.5% ----------- ----------- ----------- ----------- ----------- ----------- Total $24,441,671 100.0% $43,189,319 100.0% $66,497,282 100.0% =========== =========== =========== =========== =========== ===========
DIRECT COSTS. Direct costs were $19.9 million in 2000, down $14.0 million or 41% from $33.9 million 1999. Direct costs were equal to 81% of project revenues in 2000, as compared to 79% of project revenues in 1999. The decrease in total dollars is commensurate with the decrease in projects revenues noted above. The increase in direct costs as a percentage of revenues in 2000 results primarily from the loss of higher margin projects which were sold in the sale of the Tustin, CA operations. INDIRECT COSTS. Indirect project costs were $1.8 million in 2000, down $4.4 million or 71% from $6.2 million in 1999. Indirect costs were equal to 7% of project revenues in 2000, as compared to 14% of project revenues in 1999. The decrease in total dollars and the decrease as a percentage of revenue is primarily the result of the Restructuring Plan implemented in late 1999 and the sale of the Tustin, CA operations, but is also commensurate with the overall decrease in revenues noted above. However, these decreases were offset by retaining certain key project managers/employees whose labor costs where not 16 chargeable to direct projects during the disruption of business from the EPA suspension in the first quarter of 2000. SELLING EXPENSE. Sales and marketing expenses were $0.4 million in 2000, down $1.0 million or 73% from $1.4 million in 1999. The decrease in total dollars is primarily the result of costs savings from the Restructuring Plan implemented in late 1999 and the sale of the Tustin, CA operations effective April 30, 2000. GENERAL & ADMINISTRATIVE EXPENSE. General and administrative expenses were $2.4 million in 2000, down $1.1 million or 32% from $3.5 million in 1999. The decrease in total dollars is primarily the result of cost savings from the Restructuring Plan implemented in late 1999 and the sale of the Tustin, CA operations effective April 30, 2000. RESTRUCTURING EXPENSE. Following the EPA suspension in August 1999, the Company initiated a Restructuring Plan to reduce operating costs and gain efficiencies through sale, downsizing, and closure of regional offices. In the fourth quarter of 1999, the Company recorded a total restructuring charge of approximately $0.9 million, including a $0.3 million non-cash charge for loss on the sale of the regional offices. In 2000, the Company incurred an additional $347,257 of restructuring expenses not previously identified for the closing of the Mobile, Jackson, New Orleans, Houston, and Richmond offices. OTHER INCOME (EXPENSE). Other income, net of other expenses, was $1.4 million in 2000, up $1.9 million from a net expense of $0.4 million in 1999. The increase results primarily from the $1.3 million gain on the sale of the Tustin, CA operations and the $.2 million gain on the sale of investment property. Interest expense decreased due to lower average debt balances in 2000 compared to 1999. NET INCOME (LOSS). Net income for the year ended December 31, 2000 was $1.0 million compared to a net loss of $3.2 million in 1999. As discussed above, net income resulted primarily due to the cost saving from the implementation of the Restructuring Plan and the $1.3 million gain on the sale of the Tustin, CA operations. Liquidity and Capital Resources The Company's sources of liquidity and capital resources historically have been net cash provided by operating activities, funds available under its financing arrangements, and proceeds from offerings of equity securities. In the past, these sources have been sufficient to meet its needs and finance the Company's business. The Company can give no assurance that the historical sources of liquidity and capital resources will be available for future development and acquisitions, and it may be required to seek alternative financing sources not necessarily favorable to the Company. During the third quarter of 2000, the Company experienced problems collecting on receivables from RFI and affiliated partnerships for work performed at Brownfields projects located at Santa Clarita and Hercules, CA. The severity of the problems caused the Company to suspend work on the Santa Clarita, CA project. Subsequently, the Company was presented with termination notices for both the projects, with the Santa Clarita termination effective October 6, 2000 and the Hercules termination effective October 31, 2000. At December 31, 2001 receivables from the Santa Clarita project were approximately $2 million while those arising from the Hercules project were $3.3 million for a total of $5.3 million or 74% of total accounts receivable. In February, 2002, the Company reached a settlement agreement with respect to the Santa Clarita project and received $2.1 million. The Company continues to pursue recovery efforts with respect to Hercules receivables (See Item 3. Legal Proceedings and Notes G and S to the Consolidated Financial 17 Statements). The delay in collecting the aforementioned receivables on a timely basis has adversely effected the Company's cash flow. In 2001, the Company elected not to bid on a new contract with the EPA. Under terms of the prior contract, the fourth and final option year expired on January 8, 2002. The Company will complete the EPA work-orders awarded up to the date of expiration. Management believes it will require an additional six months to finish those work-orders and to complete final administrative procedures. Personnel levels will be reduced in conjunction with the completion of work-orders. The Seattle operations were closed in December 2001 with related assets disposed. For the year ended December 31, 2001, EPA revenues were approximately $12.3 million or 87% of total revenues. Management will attempt to replace EPA activities by focusing on water/wastewater projects, Brownfields developments, and other environmental activities. The Company has signed a pre-development agreement with a Colorado municipality to redevelop a commercial real-estate project. The project would entail purchasing subject property, demolition and environmental remediation, and construction of new affordable housing units and other related structures. The completed project is estimated at $10 million to $20 million. Upon approval of final project plans and financing sources, the project could start as early as April or May 2002. At this time, no estimate can be made as to the amount and timing of revenues that may be afforded to the Company from this project. There can be no assurance that final redevelopment project plans or financing will be approved. In addition, there can be no assurance that this redevelopment project or any other effort will be successful in offsetting the loss of EPA revenues. Management believes that potential future cash flows from operations, the collection of receivables related to the Hercules project, and funds available under the $1.0 million line of credit with Compass Bank will be sufficient to fund the Company's immediate needs for working capital. In addition, management believes that it will be successful in renewing the line of credit with Compass Bank in June 2002. However, there can be no assurance that the line of credit with Compass Bank will be renewed. In the event the line of credit is not renewed and alternate financing sources cannot be found, the Company's financial position, operating activities, and liquidity could be adversely affected. The Company's working capital increased to $6.2 million as of December 31, 2001, up $0.5 million from $5.7 million as of December 31, 2000. The change in working capital is the net result of a decrease in current assets of $2.7 million and a decrease in current liabilities of $3.2 million. The decrease in current assets results from collections of combined receivables of $2.3 million and a decrease in cash of $0.5 million. The decrease in current liabilities results primarily from payment of accounts payable and accrued liabilities of $3.1 million and short-term debt of $0.1 million. The Company's cash and cash equivalents decreased approximately $0.5 million to $0.5 million at December 31, 2001 from $1.0 million at December 31, 2000. The decrease in cash and cash equivalents results from cash used in operating activities of $0.1 million as a result of net income of $0.2 million, a decrease in combined receivables of $2.0 million, $0.4 million of depreciation adjustments to net income, and a decrease in accounts payable and accrued expenses of $3.0 million. Cash used in investing activities of $0.2 million results primarily from cash paid for land under development. Cash used in financing activities of $0.2 million results primarily from payments of notes, payments related to capital leases, and the repurchase of the Company's common stock. DEBT FINANCING. In December 2001, the Company renewed a $1 million revolving line of credit with Compass Bank secured by the assets of the Company. Compass Bank must approve any borrowings on the line of credit. Interest only payments beginning January 9, 2002 and continuing at monthly time intervals thereafter. A final payment of the unpaid principal balance plus accrued interest is due and payable on June 9, 2002. The interest rate is the prime rate as published in the Wall Street 18 Journal plus 1%. The line of credit requires the Company to maintain certain net worth and financial ratios. At December 31, 2001, there were no principal or interest amounts due under the line of credit and the Company was in compliance with all covenants. In addition, as of December 31, 2001, there were no outstanding amounts due under capital leases; nor does the Company have any liability or related risk with any "off-balance sheet financing arrangements". In July 2001, the Company financed its insurance premiums over the next year by issuing a subordinated note, with monthly payments of approximately $25,000 through March 2002. The note bears interest at 9.0% and matures in March 2002. EQUITY FINANCING. In August 1998, the Company completed a private financing, raising $1.9 million of net proceeds in a placement of convertible preferred stock and warrants. The preferred shares could be converted into shares of the Company's common stock at a 15 percent discount to the price of the common shares at the time of conversion with a maximum conversion price of $3.35. An aggregate of three-year warrants to purchase 35,000 shares of the Company's common stock at a price of $3.00 per share was also issued. A total of 430 shares of the preferred securities were converted into 472,803 shares of common stock by the holders. In January 1999, the Company redeemed the remaining 1,570 preferred shares for $1.9 million in cash. The warrants expired on December 31, 2001. In December 1998, the Company sold all of the outstanding stock of WQM for $12.5 million to AquaSource Services and Technologies, Inc. On the date of closing, $11.3 million was paid in cash, $1.3 million was received in January 1999 and another $0.5 million was received as part of the Settlement Agreement in March 2000. CAPITAL COMMITMENTS. The Company has a lease for its existing facility with such lease expiring in May, 2004. Monthly rentals currently are approximately $14,129 in the aggregate. Management anticipates some capital expenditures in 2002 which may be funded from working capital, term loans and/or equipment leases. COMMONS STOCK DIVIDEND POLICY. Since the capitalization of the Company in 1995, the Company has not paid, and does not currently intend to pay in the foreseeable future, cash dividends on its Common Stock. Future earnings, if any, are expected to be retained for the development of the business of the Company. STOCK REPURCHASE PLAN. In December 2000, the Company implemented a Stock Repurchase Plan, allowing for the repurchase of up to 100,000 shares of the Company's outstanding common stock. Repurchases were made from time to time in the open market or through negotiated transactions depending on market conditions. Such repurchases were made only through brokers and were subject to volume, price, and other limitations in order to comply with applicable Securities and Exchange Commission provisions regarding stock repurchases. All common shares repurchased were retired. As of December 31, 2000, the Company had repurchased 7,200 shares of the Company's common stock at a weighted average price of $0.51 per share which includes associated broker fees and commissions. During 2001, the Company repurchased 92,800 shares of the Company's common stock at a weighted average price of $0.53 per share which includes associated broker fees and commissions, thereby completing the terms of the Stock Repurchase Plan. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not Applicable. 19 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. Please see pages F-1 through F-26. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 20 PART III ITEM 10, 11, 12 AND 13. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT; EXECUTIVE COMPENSATION; SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT; AND CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required by these Items is incorporated herein by reference to the Company's definitive Proxy Statement relating to the Annual Meeting of Shareholders to be held June 7, 2002. 21 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) 1. The following financial statements are filed herewith:
PAGES ---------- Report of Independent Certified Public Accountants F-1 - F-2 Consolidated Balance Sheets F-3 - F-4 Consolidated Statements of Operations F-5 Consolidated Statements of Stockholders' Equity F-6 Consolidated Statements of Cash Flows F-7 - F-8 Notes to Consolidated Financial Statements F-9 - F-28
2. Schedules have been omitted because they are not applicable, are not required or the information required to be set forth therein is included in the Consolidated Financial Statements or notes thereto. 3. Exhibits. The following exhibits are filed herewith:
EXHIBIT NUMBER DESCRIPTION LOCATION ------- ----------- -------- 3.1 Amended and Restated Articles of Incorporation Incorporated by reference to Exhibit 3.1 to the Company's Form SB-2 Registration Statement No. 33-91602 3.2 Bylaws Incorporated by reference to Exhibit 3.2 to the Company's Form SB-2 Registration Statement No. 33-91602 10.1 Incentive Stock Option Plan Incorporated by reference to Exhibit 10.1 to the Company's Form SB-2 Registration Statement No. 33-91602 10.2 Form of Incentive Stock Option Agreement Incorporated by reference to Exhibit 10.2 to the Company's Form SB-2 Registration Statement No. 33-91602 10.3 Stock Purchase Agreement with AquaSource Services Incorporated by reference to Exhibit 10.1 and Technologies, Inc. to the Company's report on Form 8K dated December 17, 1998. 10.4 Administrative Agreement between United States Incorporated by reference to Exhibit 10.1 Environmental Protection Agency and the Registrant to Company's Form 10-Q for the nine months ended September 30, 1999. 10.5 Asset Purchase and Assignment Agreement by and Incorporated by reference to Exhibit 10.16 between the Company and CAPE Environmental to the Company's Annual Report on Form 10-K Management, Inc. for the year ended December 31, 1999.
22
EXHIBIT NUMBER DESCRIPTION LOCATION ------- ----------- -------- 10.6 Lease Agreement by and between the Company and Sky Incorporated by reference to Exhibit 10.17 Harbor Associates Limited Partnership to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.7 Line of Credit with Compass Bank Filed herewith electronically 21 Subsidiaries of the Registrant Filed herewith electronically 23 Consent of Grant Thornton LLP Filed herewith electronically
(b) Reports on Form 8-K. None. 23 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. CET ENVIRONMENTAL SERVICES, INC. Dated: April 9, 2002 By /s/ Steven H. Davis ------------------------------------- Steven H. Davis President and Chief Executive Officer Pursuant to the requirement of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities and on the date indicated.
Signature Capacity Date --------- -------- ---- /s/ Steven H. Davis President, April 9, 2002 --------------------------------- Chief Executive Officer, Steven H. Davis Secretary and Director /s/ Craig C. Barto Director April 9, 2002 --------------------------------- Craig C. Barto /s/ John D. Hendrick Director April 9, 2002 --------------------------------- John D. Hendrick /s/ George Pratt Director April 9, 2002 --------------------------------- George Pratt /s/ Dale W. Bleck Chief Financial Officer April 9, 2002 --------------------------------- and Assistant Secretary Dale W. Bleck
24 CET ENVIRONMENTAL SERVICES, INC. FINANCIAL STATEMENTS AND REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS December 31, 2001 and 2000 F-1 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Board of Directors and Stockholders CET Environmental Services, Inc. We have audited the accompanying consolidated balance sheets of CET Environmental Services, Inc. as of December 31, 2001, 2000, and 1999, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above, present fairly, in all material respects, the consolidated financial position of CET Environmental Services, Inc. as of December 31, 2001, 2000, and 1999, and the consolidated results of its operations and its cash flows for each of the three years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. GRANT THORNTON LLP Denver, Colorado January 18, 2002 (except for note T, as to which the date is February 20, 2002) F-2 CET Environmental Services, Inc. CONSOLIDATED BALANCE SHEETS ASSETS
December 31, December 31, 2001 2000 ------------ ------------ CURRENT ASSETS: Cash $ 469,939 $ 953,641 Accounts receivable, less allowance for doubtful accounts; $63,753 in 2001, and $164,403 in 2000 7,171,579 7,572,729 Contracts in process less allowance for doubtful accounts of $38,944 in 2001, and $56,705 in 2000 1,751,874 3,355,603 Retention receivable 65,288 268,471 Other receivables 19,233 154,524 Inventories 15,838 15,317 Land under development 185,350 -- Prepaid expenses 228,260 306,339 ------------ ------------ Total current assets 9,907,361 12,626,624 ------------ ------------ EQUIPMENT AND IMPROVEMENTS: Field equipment 1,210,037 1,432,070 Vehicles 316,494 500,447 Furniture & fixtures 75,378 75,377 Office equipment 421,205 537,038 Leasehold improvements 49,862 49,862 ------------ ------------ 2,072,976 2,594,794 Less allowance for depreciation and amortization (1,267,959) (1,301,217) ------------ ------------ Equipment and improvements - net 805,017 1,293,577 DEPOSITS 123,368 38,922 ------------ ------------ $ 10,835,746 $ 13,959,123 ============ ============
The accompanying notes are an integral part of these statements. F-3 CET Environmental Services, Inc. CONSOLIDATED BALANCE SHEETS LIABILITIES AND STOCKHOLDERS' EQUITY
December 31, December 31, 2001 2000 ------------ ------------ CURRENT LIABILITIES: Accounts payable $ 3,341,708 $ 6,237,119 Accrued expenses 143,520 271,393 Accrued contract costs 49,570 8,800 Accrued payroll and benefits 101,124 227,413 Current obligations under capital leases -- 51,446 Notes payable - current 98,466 116,283 ------------ ------------ Total current liabilities 3,734,388 6,912,454 OBLIGATIONS UNDER CAPITAL LEASES -- 40,149 COMMITMENTS AND CONTINGENT LIABILITIES STOCKHOLDERS' EQUITY: Common stock (no par value) - authorized 20,000,000 shares; 5,976,549 shares and 6,258,803 shares issued and outstanding in 2001 and 2000, respectively 8,506,007 8,629,755 Paid-in capital 104,786 104,786 Accumulated deficit (1,509,435) (1,728,021) ------------ ------------ Total stockholders' equity 7,101,358 7,006,520 ------------ ------------ $ 10,835,746 $ 13,959,123 ============ ============
The accompanying notes are an integral part of these statements. F-4 CET Environmental Services, Inc. CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended December 31, ------------------------------------------------ 2001 2000 1999 ------------ ------------ ------------ PROJECT REVENUE $ 14,203,582 $ 24,441,671 $ 43,189,319 PROJECT COSTS: Direct 10,469,510 19,904,402 33,909,701 Indirect 1,247,512 1,804,044 6,219,975 ------------ ------------ ------------ 11,717,022 21,708,446 40,129,676 ------------ ------------ ------------ Gross profit 2,486,560 2,733,225 3,059,643 ------------ ------------ ------------ OTHER OPERATING EXPENSES: Selling 187,688 379,653 1,403,149 General and administrative 2,103,809 2,411,447 3,529,675 Restructuring charge -- 347,257 857,469 ------------ ------------ ------------ 2,291,497 3,138,357 5,790,293 ------------ ------------ ------------ Operating income (loss) 195,063 (405,132) (2,730,650) ------------ ------------ ------------ OTHER INCOME (EXPENSE): Loss on sales of equipment (27,897) (114,444) (89,167) Gain on sale of Tustin, CA Operations -- 1,341,449 -- Gain on sale of property held for investment -- 226,730 -- Interest income (expense), net 23,063 (18,159) (475,504) Other income, net 28,357 10,132 118,564 ------------ ------------ ------------ 23,523 1,445,708 (446,107) ------------ ------------ ------------ Income (loss) before taxes on income 218,586 1,040,576 (3,176,757) Taxes on income -- -- -- ------------ ------------ ------------ NET INCOME (LOSS) $ 218,586 $ 1,040,576 $ (3,176,757) ============ ============ ============ Earnings (loss) per common share $ 0.04 $ 0.17 $ (0.51) ============ ============ ============ Weighted average number of common shares 6,076,872 6,275,051 6,282,346 ============ ============ ============ Earnings (loss) per common share - assuming dilution $ 0.04 $ 0.17 $ (0.51) ============ ============ ============ Weighted average number of fully diluted common shares 6,089,941 6,278,062 6,282,346 ============ ============ ============
The accompanying notes are an integral part of these statements. F-5 CET Environmental Services, Inc. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY Years ended December 31, 2001, 2000 and 1999
Common stock Preferred stock ------------------------------ ------------------------------ Shares Amount Shares Amount ------------ ------------ ------------ ------------ Balance at December 31, 1998 6,129,271 $ 8,539,716 1,710 $ 1,589,102 Conversion of preferred stock 155,017 131,545 (140) (131,545) Redemption of preferred stock -- -- (1,570) (1,457,557) Dividends on preferred stock -- -- -- -- Net loss for the year -- -- -- -- ------------ ------------ ------------ ------------ Balance at December 31, 1999 6,284,288 8,671,261 -- -- Repurchase & retirement of common stock through Company Stock Repurchase Plan (7,200) (3,673) -- -- Exchanged of shareholder receivable for common stock (18,285) (37,833) Net income for the year ------------ ------------ ------------ ------------ Balance at December 31, 2000 6,258,803 8,629,755 -- -- ------------ ------------ ------------ ------------ Repurchase & retirement of common stock through Company Stock Repurchase Plan (92,800) (48,748) -- -- Repurchase & retirement of common stock from former Director of the Company (189,454) (75,000) -- -- Net income for the year ------------ ------------ ------------ ------------ Balance at December 31, 2001 5,976,549 $ 8,506,007 -- $ -- ============ ============ ============ ============ Retained earnings Total Paid-in (accumulated stockholders' capital deficit) equity ------------ ------------ ------------- Balance at December 31, 1998 $ 574,629 $ 413,033 $ 11,116,480 Conversion of preferred stock -- -- -- Redemption of preferred stock (469,843) -- (1,927,400) Dividends on preferred stock -- (4,873) (4,873) Net loss for the year -- (3,176,757) (3,176,757) ------------ ------------ ------------ Balance at December 31, 1999 104,786 (2,768,597) 6,007,450 Repurchase & retirement of common stock through Company Stock Repurchase Plan -- -- (3,673) Exchanged of shareholder receivable for common stock (37,833) Net income for the year 1,040,576 1,040,576 ------------ ------------ ------------ Balance at December 31, 2000 104,786 (1,728,021) 7,006,520 ------------ ------------ ------------ Repurchase & retirement of common stock through Company Stock Repurchase Plan -- -- (48,748) Repurchase & retirement of common stock from former Director of the Company -- -- (75,000) Net income for the year 218,586 218,586 ------------ ------------ ------------ Balance at December 31, 2001 $ 104,786 $ (1,509,435) $ 7,101,358 ============ ============ ============
The accompanying notes are an integral part of these statements. F-6 CET Environmental Services, Inc. CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, --------------------------------------------- 2001 2000 1999 ----------- ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 218,586 $ 1,040,576 $(3,176,757) Adjustments to reconcile net income to net cash (used in) provided by operating activities: Depreciation and amortization 391,751 642,120 989,732 Restructuring charge -- -- 390,324 Provision for bad debts -- (257,447) (527,430) Loss on disposal of equipment 27,897 114,444 89,167 Gain on sale of Tustin, CA operations -- (1,341,449) -- Gain on sale of property held for investment -- (226,730) -- Changes in operating assets and liabilities: Decrease (increase) in accounts receivable 401,150 (1,261,959) 6,057,335 Decrease (increase) in contracts in process 1,603,729 (1,522,447) 8,548,768 Decrease (increase) in income tax, retention and other receivables 338,474 1,599,392 1,040,654 Decrease (increase) in prepaid expenses 78,079 253,476 347,112 Decrease (increase) in inventory and deposits (84,967) 43,032 88,159 Increase (decrease) in accounts payable (2,895,411) 1,277,386 (6,423,376) Increase (decrease) in accrued expenses and income taxes (213,392) (736,256) (1,858,944) ----------- ----------- ----------- Net cash provided by (used in) operating activities (134,104) (375,862) 5,564,744 ----------- ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of equipment (14,865) (28,475) (1,190,209) Purchase of property held for investment -- (665,414) -- Purchase of land held for development (185,350) -- -- Proceeds from sale of equipment 29,500 62,494 251,649 Proceeds from sale of property held for investment -- 892,144 -- Proceeds from the sale of Tustin, CA operations, net -- 1,948,072 -- Proceeds from sale of subsidiary -- -- 1,250,000 ----------- ----------- ----------- Net cash provided by (used in) investing activities (170,715) 2,208,821 311,440 ----------- ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Bank overdraft -- (118,348) (1,818,393) Net (payments) on notes (17,817) (327,826) (1,178,005) Payments on capital leases (37,318) (152,666) (266,349) Net (payments) proceeds from credit line loan -- (818,152) (221,773) Payments on repurchase of common stock (123,748) (3,673) -- Payment of dividends on preferred stock -- -- (4,873) Net payments from related party -- 36,764 20,000 Preferred stock redemption -- -- (1,927,400) ----------- ----------- ----------- Net cash used in financing activities (178,883) (1,383,901) (5,396,793) ----------- ----------- -----------
The accompanying notes are an integral part of these statements. F-7 CET Environmental Services, Inc. CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, -------------------------------------- 2001 2000 1999 --------- --------- --------- INCREASE (DECREASE) IN CASH (483,702) 449,058 479,391 Cash at beginning of year 953,641 504,583 25,192 --------- --------- --------- Cash at end of year $ 469,939 $ 953,641 $ 504,583 ========= ========= ========= Supplemental disclosures of cash flow information: Cash paid during the year Interest $ 15,072 $ 55,307 $ 482,707 Noncash investing and financing activities: Issuance of note payable for financing of insurance premiums $ 228,001 $ 256,469 $ 635,709 ========= ========= ========= Conversion of preferred stock to common $ -- $ -- $ 131,546 ========= ========= ========= Related party receivable exchanged for common stock $ -- $ 37,833 $ -- ========= ========= ========= Fixed asset additions (returns) under capital leases, net $ 54,277 $ 129,606 $(215,820) ========= ========= =========
The accompanying notes are an integral part of these statements. F-8 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A -- ORGANIZATION AND DESCRIPTION OF COMPANY CET Environmental Services, Inc. (the Company) was incorporated on February 9, 1988 under the laws of the State of California. On November 29, 1991, Environmental Operations, Inc., purchased 100% of the Company's outstanding stock from Consolidated Environmental Technologies, Inc. In August 1992, Environmental Operations, Inc. was merged into CET Environmental Services, Inc. The Company has two wholly-owned subsidiaries, Cleanwater Contracting, Inc., a California corporation, and Community Builders, Inc., a Colorado corporation. The Company provides a variety of consulting, technical and redevelopment services to resolve environmental and health risk problems in the air, water and soil. The Company has developed a broad range of expertise in non-proprietary technology-based environmental remediation and water treatment techniques for both the public and private sectors. NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Consolidation The consolidated financial statements include the accounts of CET Environmental Services, Inc., and its wholly-owned subsidiaries. All significant inter-company transactions have been eliminated. Cash For purposes of the statement of cash flows, the Company considers all highly liquid cash investments with an original maturity of three months or less to be cash. Contracts A majority of the Company's revenue has been generated from time-and-material contracts with the EPA (see Note C), whereby the Company provides services, as prescribed under the various contracts, for a specified fixed hourly rate for each type of labor hour and receives reimbursement, and sometimes a small mark-up, for material, inventories and subcontractor costs. In addition, many of the time and material contracts have a stated maximum contract price, which cannot be exceeded without an authorized change order. Revenue is recorded on time and materials contracts based upon the labor costs incurred as a percentage to estimated total labor costs on the percentage of completion method. Revenue on fixed price contracts is recorded as costs are incurred as a percentage of estimated total costs. Due to uncertainties in the estimation process, actual results could F-9 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS differ from estimates used. Provision for losses on uncompleted contracts are made in the period in which such losses are determined. Recoveries are recorded to revenue when received. Awards applicable to performance on contracts are recorded when there is sufficient information to determine an award is probable. Contracts in process consist of the accumulated unbilled labor at contracted rates, material, subcontractor costs and other direct and indirect job costs and award fees related to projects in process. Inventories Inventories consist of various supplies and materials used in the performance of the services related to the Company's projects and are stated at the lower of cost or market. Land under development Land under development consists of contaminated or other real-estate acquired at cost, including demolition, remediation, grading and other costs. It is the Company's intention to purchase and develop the above and other contaminated real estate as part of its operations. It is not possible to determine the amount of real estate, if any, that will be sold in the next year. Equipment and Improvements Equipment and improvements are recorded at cost. Depreciation and amortization are provided on a straight-line method over the following estimated useful lives. Leasehold improvements are amortized over the lives of the respective leases or the service lives of the improvements, whichever is shorter.
Description Depreciable life ----------- ---------------- Field equipment 7 years Vehicles 5 years Furniture & fixtures 5 years Office equipment 5 years
Income Taxes The Company accounts for income taxes on the liability method, which requires that deferred tax assets and liabilities be recorded for expense and income items that are recognized in different periods for financial and income tax reporting purposes. F-10 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Estimated Fair Value Information Statement of Financial Accounting Standards ("SFAS") No. 107, Disclosure about Fair Value of Financial Instruments, requires disclosure of the estimated fair value of an entity's financial instrument assets and liabilities, as defined, regardless of whether recognized in the financial statements of the reporting entity. The fair value information does not purport to represent the aggregate net fair value of the Company. The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash and other receivables: The carrying amount approximates fair value due to the short-term maturity. Note Payable: The carrying value approximates fair value as the interest rate at December 31, 2001 and 2000 is considered to approximate the market rate. Obligations Under Capital Leases: The carrying value approximates fair value as the interest rate at December 31, 2000 is considered to approximate the market rate. Use of Estimates In preparing financial statements in conformity with accounting principles, generally accepted in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Impairment of Long-lived Assets Financial Accounting Standards Board Statement of Financial Accounting Standards 121, Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of (SFAS 121), requires that long-lived assets and certain identifiable intangibles held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the expected future cash flows (undiscounted and without interest) is less than the carrying amount of the asset, an impairment loss is recognized. Measurement of that loss would be based on the fair value of the asset. SFAS 121 also generally requires that long-lived assets and certain identifiable intangibles to be disposed of be reported at the lower of the carrying amount or the fair value, less cost to sell. Any impairment provisions recognized in accordance with SFAS 121 are permanent and may not be restored in the F-11 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS future. No impairment expense was recognized in the years ended December 31, 2001, 2000 and 1999. Earnings per Share The Financial Accounting Standards Board Statement of Financial Accounting Standards No. 128, Earnings Per Share (SFAS 128) requires the presentation of basic earnings per share (EPS) and, for companies with potentially dilutive securities such as convertible debt, options and warrants, diluted EPS. In 1999, all options and warrants outstanding were excluded from the computation of potential common shares as the option/warrant price exceeded the average market price during the period and the Company incurred a net loss. Similarly, options of 59,600 were excluded in 2001 and 2000, and warrants of 72,925 and 107,925 were excluded in 2001 and 2000. F-12 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):
2001 2000 1999 ------- ------- ------- Numerator Net income (loss) $ 219 $ 1,041 $(3,177) Preferred stock dividends -- -- (5) ------- ------- ------- Numerator for basic earnings per share - income available to common stockholders 219 1,041 (3,182) Effect of dilutive securities: Preferred stock dividends -- -- -- ------- ------- ------- Numerator for diluted earnings per share - income available to common stockholders after assumed conversions $ 219 $ 1,041 $(3,182) ======= ======= ======= Denominator: Denominator for basic earnings per share - weighted average shares outstanding 6,077 6,275 6,282 Effect of dilutive securities: Warrants -- -- -- Stock options 13 3 -- ------- ------- ------- Dilutive potential common shares 13 3 -- Denominator for diluted earnings per share - adjusted weighted average share and assumed conversion 6,090 6,278 6,282 ======= ======= ======= Basic earnings (loss) per share $ 0.04 $ 0.17 $ (0.51) ======= ======= ======= Diluted earnings (loss) per share $ 0.04 $ 0.17 $ (0.51) ======= ======= =======
In 1999, basic earnings per share data was computed by dividing net loss, by weighted average number of common shares outstanding during the period. Diluted earnings per share computations do not give effect to potentially dilutive securities including stock options and warrants as their effect would have been anti-dilutive. In 2001 and 2000, basic earnings per share data was computed by dividing net income by the weighted average number of common shares outstanding during the period. Diluted F-13 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS earnings per share were adjusted for the assumed conversion of potentially dilutive securities including stock options and warrants to purchase common stock. Recent Accounting Pronouncements There have been no recent accounting pronouncements that have had or are expected to have a material effect on the Company's financial position or results of operations. NOTE C -- EPA SUSPENSION, LIFTING OF SUSPENSION AND CONTRACT EXPIRATION On August 10, 1999, the Company received a notice of suspension from the Environmental Protection Agency ("EPA"). The suspension resulted from EPA allegations that the Company engaged in intentional misconduct with respect to billing for services provided under various EPA contracts. Under the suspension, the Company was prohibited from receiving additional government contracts under the provisions of 48 C.F.R Subpart 9.4 of the Federal Acquisitions Regulations. The suspension did however allow the Company to continue performance on existing government contracts. In November 1999, following consideration of certain information provided by the Company to the EPA, the EPA's suspension was terminated and an Administrative Agreement ("Administrative Agreement") between the EPA and the Company was executed. Upon execution of the Administrative Agreement, the Company became immediately eligible to bid for, receive, and perform any federal contract or subcontract, or participate in any assistance, loan or benefit without restriction. In the Administrative Agreement, the Company agreed to cooperate in full with further investigations into the EPA allegations including access to records, availability of Company personnel, certain reporting requirements, audit of EPA billing prior to submission, and certain restrictions of Company assets without notification to the EPA. Following the notice of suspension, the Company initiated a Restructuring Plan which downsized its operations as a decline in revenues occurred. The Restructuring Plan included the sale, downsizing, and closure of certain regional offices. See Note D below on discussion of the Restructuring Plan. After review of available information and consultation with its legal counsel, management believes that the allegations brought against the Company did not warrant suspension. The Company has cooperated fully in all EPA inquiries and will continue to do so if and when required. The fourth and final option period under the existing EPA contract expired on January 8, 2002. The Company has elected not to pursue a new contract with the EPA. The Company F-14 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS will complete the EPA work-orders awarded up to the date of expiration. Management believes it will require an additional six months to finish those work-orders and to complete final administrative procedures. The Company's EPA operations located in Seattle were closed in December 2001 with related assets being disposed. Additional personnel levels will be reduced in conjunction with the completion of work-orders. EPA revenues represented approximately 87%, 54%, and 60%, respectively, of the Company's revenue for the years ended December 31, 2001, 2000, and 1999. NOTE D -- RESTRUCTURING In August 1999, following the EPA suspension discussed in Note C, the Company initiated a Restructuring Plan to reduce operating costs and gain efficiencies through sale, downsizing, and closure of regional offices. Under the Restructuring Plan, the Company sold substantially all its assets in the Mobile and Jackson regions, and closed its regional offices located in New Orleans, Houston, and Richmond. The Company recorded a restructuring charge of $857,469 in September 1999 consisting of facility reduction and asset disposals of $390,324, costs of $226,599 to fulfill and buy out existing lease commitments, and personnel reduction costs of $240,546. During 2000, the Company incurred $347,257 of additional and previously-unidentified restructuring expenses related to the Restructuring Plan. NOTE E -- SALE OF SUBSIDIARY On December 1, 1998, the Company sold all of the outstanding shares of its subsidiary, Water Quality Management Corporation ("WQM"), to AquaSource for a sales price of $12.5 million plus an adjustment for net working capital of WQM at November 30, 1998. The Company recorded a gain on the sale of $10.2 million in 1998. The Company received $11.3 million at the date of sale and in the first quarter of 1999 received an additional $1.25 million. At December 31, 1999, the Company included in other receivables approximately $1.5 million remaining from amounts due on the sale of WQM. On February 22, 2000, AquaSource and the Company signed a Settlement and Mutual Release Agreement. The Settlement Agreement instructed AquaSource to pay the Company approximately $500,000 and release all claims it has against the approximately $698,000 of retention related to a certain project that was completed by the Company. The Company has agreed to indemnify AquaSource on certain projects that have been completed by the Company, which were transferred to AquaSource as part of the sale of WQM. In addition, the Company retained $219,000 for certain amounts collected on behalf of WQM. F-15 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE F -- SALE OF TUSTIN, CA OPERATIONS On April 30, 2000, the Company entered into an Asset Purchase Agreement with Cape Environmental Management, Inc. ("CEM") to sell certain assets and assign certain contracts and liabilities associated with its Tustin, CA operations for $2,100,000. The net book value of the assets sold and liabilities assumed were $606,623. The Company recorded a gain of $1,341,449 with net cash proceeds of $1,948,072 on the sale. In connection with the sale of assets, the Company entered into a non-compete agreement which prohibits it from providing remediation services to the Department of Defense, with certain limited exceptions, for a period of four years from April, 2000. NOTE G -- SIGNIFICANT CUSTOMERS A significant portion of the Company's business was from contracts with the EPA. As of December 31, 2001 and 2000, the balance of accounts receivable from the EPA was $1,737,993 and $1,880,077, respectively. Revenue from the EPA in 2001, 2000, and 1999 amounted to approximately $12 million, $13 million, and $26 million, or 87%, 54%, and 60% of annual gross revenues, respectively. The Company elected not to pursue a new EPA contract and the existing contract expired on January 8, 2002 (see Note C and S). Contracts in process consist of the following at December 31:
2001 2000 ---------- ---------- Government - EPA contracts $1,440,179 $3,137,450 Non-EPA contracts 311,695 218,153 ---------- ---------- Total $1,751,874 $3,355,603 ========== ==========
The EPA may award the Company an annual award fee based on the specific job and overall EPA contract management performance ratings. The amount of the award is based on a ratings percentage multiplied by the pool of funds legislatively approved for award disbursements. All companies performing work under an EPA contract compete for these award fees based on their performance ratings from the EPA. The Company performed work for two Brownfield projects located in Hercules and Santa Clarita, CA. Revenues from these projects in 2000 and 1999 amounted to approximately F-16 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS $7.8 million and $2.2 million, or 32% and 5% of annual gross revenues. During the third quarter of 2000, the Company experienced problems collecting on receivables from Remediation Financial, Inc. ("RFI"), and its affiliated partnerships Santa Clarita, LLC and LCRI Investments, LLC the developers of the two Brownfield projects. The severity of the problems was of such sufficiency to cause the Company to suspend work on the Santa Clarita, CA project. Subsequently, the Company was presented with termination notices for both projects with the Santa Clarita termination effective October 6, 2000 and the Hercules termination effective October 31, 2000. At December 31, 2000, the Company had receivables of $2,061,362 for the Santa Clarita project and $3,668,329 for the Hercules project. These amounts represent $5,729,691 for 76% of accounts receivable at December 31, 2000. At December 31, 2001, the Company had receivables of $2,021,164 for the Santa Clarita project and $3,313,575 for the Hercules project. These amounts represent $5,334,739 or 74% of accounts receivable at December 31, 2001. In February, 2002, the Company entered into a settlement agreement with respect to the Santa Clarita project and received $2.1 million. The Company has a secured lien on the Hercules property and management believes it will recover most, if not all, of the related receivables. However, failure to collect this receivable will have a material adverse effect on the financial position and operations of the Company. Additionally, the continued delay in collecting the receivable has an adverse effect on the cash flow of the Company. See Note S regarding legal actions that have been taken in response to non-payment by RFI and affiliated partners of the above-mentioned receivable balance. The total value of the receivables related to these two Brownfields projects at December 31, 2001 was $5.3 million. At September 30, 2001, the Company reported the value of these receivables at $6.2 million. The lower value at 2001 year-end stems from non-cash adjustments to reflect payments made directly to the Company's subcontractors by RFI and/or affiliated partnerships, none of which had an adverse impact on the Company's financial statements. NOTE H -- OTHER EQUIPMENT DISPOSALS During 1999, other equipment dispositions and write-offs, not related to the Restructuring Plan noted in Note D above, consisted of $23,810 of net equipment disposals for cash proceeds of $2,254. The Company recorded a loss of $21,556 on the disposals plus an additional loss of $67,611 for other equipment write-offs. During 2000, other equipment dispositions and write-offs consisted of $149,811 of net equipment disposals for cash proceeds of $62,494 and $162,543 of leased equipment returns. The Company recorded a loss of $87,317 on the disposals plus an additional loss of $27,127 for leased equipment returns and other equipment write-offs. During 2001, equipment dispositions and write-offs consisted of $55,142 of net equipment disposals for cash proceeds of $29,500 and $54,273 of leased equipment returns. The F-17 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Company recorded a loss of $25,642 on the disposals plus an additional loss of $2,255 for leased equipment returns. NOTE I -- CAPITAL LEASES Vehicles and equipment recorded under capital leases consist of the following at December 31:
2001 2000 ----------- --------- Vehicles $ -- $ 148,052 Equipment -- 32,736 ----------- --------- -- 180,788 Less accumulated depreciation -- (86,061) ----------- --------- Total $ -- $ 94,727 =========== =========
NOTE J -- RELATED PARTY TRANSACTIONS In 1997, the Company made advances to a former officer, director, and shareholder of the Company. The balance due was $104,036 consisting of principal and interest at December 31, 1999. In March 2000, a $36,764 cash payment was received and applied against the outstanding principal on the loan. On July 1, 2000, 18,285 shares of the Company's common stock were received in settlement of the remaining principal of $37,833. As part of the settlement, the Company wrote off $29,440 of interest related to the loan. The company has retired the shares of common stock. NOTE K -- LINE OF CREDIT AND NOTES PAYABLE In May 1997, the Company entered into a financing agreement ("the Agreement") with the National Bank of Canada. The Agreement provided a line of credit up to $9 million, including a $500,000 stand-by letter of credit to the Company based upon a percentage (80%) of eligible receivables (as defined in the loan agreement). In addition, the Company borrowed $1 million from the Bank under a term loan. Originally, interest under the Agreement and the term loan was payable monthly at the Bank's Reference Rate plus .25%. As of December 31, 1999, the Company's remaining debt under its Agreement with National Bank of Canada consisted of $818,152 outstanding under its line of credit. On January 27, 2000 the Company completed the terms of repayment under the Agreement and all security interests in the Company's assets were released. F-18 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS In December 2001, the Company renewed a $1 million revolving line of credit with Compass Bank secured by the assets of the Company. Compass Bank must approve any borrowings on the line of credit. Interest only payments beginning January 9, 2002 and continuing at monthly time intervals thereafter. A final payment of the unpaid principal balance plus accrued interest is due and payable on June 9, 2002. The interest rate is the prime rate as published in the Wall Street Journal plus 1%. The line of credit requires the Company to maintain certain net worth and financial ratios. At December 31, 2001, there were no principal or interest amounts due under the line of credit and the Company was in compliance with all covenants. Notes payable consists of the following at December 31:
2001 2000 -------- -------- Note payable for annual insurance premium, interest at 9.70%, with monthly payments of approximately $29,000, due March 31, 2001 $ -- $116,283 Note payable for annual insurance premium, interest at 9.0%, with monthly payments of approximately $25,088, due March 2002 $ 98,466 $ -- -------- -------- 98,466 116,283 Less current portion 98,466 116,283 -------- -------- $ -- $ -- ======== ========
NOTE L -- STOCKHOLDERS' EQUITY In July 1998, the Company completed a private placement of 2,000 shares of 4% convertible preferred stock (the "Preferred Stock"). The net proceeds were approximately $1,879,000. The Preferred Stock was convertible into shares of common stock based on the stated value of $1,000 per share of Preferred Stock divided by conversion price on the conversion date. The conversion price was equal to 85% of the lowest closing price of the common stock during the six days immediately preceding the conversion date, not to exceed $3.35. A total of 290 shares of the Preferred Stock were converted into 317,786 shares of common stock during 1998 and a total of 140 shares of Preferred Stock were converted into 155,017 shares of common stock in 1999. The holders of 4% convertible preferred stock received dividends, paid quarterly, from September 30, 1998 through March 31, 1999. F-19 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS In connection with this offering, the Company issued warrants to the representatives of the underwriters in this offering to purchase up to 35,000 shares of the Company's common stock at $3.00 per share. The warrants expired on December 31, 2001. In January 1999, the Company redeemed the remaining shares of Preferred Stock for $1,927,400 plus $4,873 of unpaid dividends through the date of redemption. On July 1, 2000, a former officer and shareholder of the Company, exchanged 18,285 shares of the Company's common stock in settlement of $37,833 of loan principal. The Company has retired these shares. On May 2, 2001, the Company reached an agreement to purchase 631,514 shares of the Company's common stock from a former Director and Executive Vice President of the Company for a maximum of $250,000 or approximately $0.395 per share. Initially, the Company purchased 189,454 shares for $75,000. The remaining 442,060 shares will be purchased for a maximum of $175,000, the payment of which is contingent upon receipt of the $5.3 million of past due receivables from RFI. Under the terms of the agreement, 5% of the proceeds from RFI as collected, up to the maximum of $175,000, will be applied to the purchase of the stock (See Note T). NOTE M -- STOCK REPURCHASE PLAN In December 2000, the Company implemented a Stock Repurchase Plan, allowing for the repurchase of up to 100,000 shares of the Company's outstanding common stock. Repurchases were made from time to time in the open market or through negotiated transactions depending on market conditions. Such repurchases were made only through brokers and were subject to volume, price and other limitations in order to comply with applicable Securities and Exchange Commission provisions regarding stock repurchases. All common shares repurchased were retired. At December 31, 2000, the Company had repurchased 7,200 shares of the Company's common stock at a weighted average price of $0.51 per share which includes associated broker fees and commissions. During 2001, the Company repurchased 92,800 shares of the Company's common stock at a weighted average price of $0.53 per share which includes associated broker fees and commissions, thereby completing the terms of the Stock Repurchase Plan. NOTE N -- PROFIT SHARING AND 401(K) PLAN The Company maintains a Profit Sharing and a 401(k) Plan covering certain qualified employees, which includes employer participation in accordance with the provisions of Section 401(k) of the Internal Revenue Code. The Plan allows participants to make pretax contributions and the Company is required to match 25% of the first 6% of all elective F-20 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS deferrals. The profit sharing portion of the Plan is discretionary and noncontributory. All amounts contributed to the plan are deposited into a trust fund administered by an independent trustee. The Company's matching 401(k) contributions required by the 401(k) plan were $13,925, $30,625, and $79,289 for the years ended December 31, 2001, 2000, and 1999, respectively. The Company has not made any discretionary contributions under the profit sharing portion of the Plan. NOTE O -- STOCK OPTIONS On March 1, 1995, the Company adopted an Incentive Stock Option Plan (the Plan) for key personnel. A total of 550,000 shares of the Company's common stock are reserved for issuance pursuant to the exercise of stock options (the Options) which may be granted to full-time employees, including officers and directors who are also employees of the Company. The Plan is administered by the Board of Directors. In addition to determining who will be granted Options, the Board of Directors has the authority and discretion to determine when Options will be granted and the number of Options to be granted. The Board of Directors may grant Options intended to qualify for special treatment under the Internal Revenue Code of 1986, as amended (Incentive Stock Options) and may determine when each Option becomes exercisable, the duration of the exercise period for Options, and the form of the instruments evidencing Options granted under the Plan. The maximum aggregate fair market value (determined as of the date of grant) of the shares as to which the Incentive Stock Options become exercisable for the first time during any calendar year may not exceed $100,000. The Plan provides that the purchase price per share for each Incentive Stock Option on the date of grant may not be less than 100 percent of the fair market value of the Company's common stock on the date of grant. However, any Option granted under the Plan to a person owning more than 10 percent of the Company's common stock shall be at a price of at least 110 percent of such fair market value. The Plan is accounted for under APB Opinion 25 and related interpretations. The Options generally have a term of 10 years when issued and vest over three to five years. Had compensation cost for the Plan been determined based on the fair value of the Options at the grant date consistent with the method of Statement of Financial Accounting Standards 123, Accounting for Stock-Based Compensation, the Company's net income (loss) and earnings (loss) per common share would have been: F-21 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2001 2000 1999 ------------- ------------- ------------- Net income (loss) As reported $ 218,586 $ 1,040,576 $ (3,176,757) Pro forma $ 166,308 $ 974,693 $ (3,236,694) Earnings (loss) per common share As reported $ .04 $ .17 $ (.51) Pro forma $ .03 $ .16 $ (.52)
The fair value of each option grant is estimated on the date of grant using the Black-Scholes options-pricing model with the following weighted-average assumptions for grants used in 2000 and 1999: no expected dividends; expected volatility of 100% and 84.1%, respectively; risk-free interest rate of 6.625% and 6.0%, respectively; and expected lives of 7 and 10 years, respectively. There were no grants of stock options in 2001. A summary of the status of the Plan follows:
Weighted average exercise Shares price per share -------- ---------------- Outstanding at December 31, 1998 112,100 5.08 -------- ------ Total exercisable at December 31, 1998 51,950 $ 4.75 ======== ====== Outstanding at January 1, 1999 112,100 $ 5.08 Granted 220,500 1.64 Exercised -- -- Canceled (138,000) 4.41 -------- ------ Outstanding at December 31, 1999 194,600 1.98 -------- ------ Total exercisable at December 31, 1999 56,800 $ 2.46 ======== ====== Outstanding at January 1, 2000 194,600 $ 1.98 Granted 65,000 .44 Exercised -- -- Canceled (135,000) 1.73 -------- ------ Outstanding at December 31, 2000 124,600 1 .43 -------- ------ Total exercisable at December 31, 2000 51,600 $ 2.27 ======== ======
F-22 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Weighted average exercise Shares price per share ------- ---------------- Outstanding at January 1, 2001 124,600 $ 1.43 Granted -- -- Exercised -- -- Canceled -- -- ------- ------- Outstanding at December 31, 2001 124,600 1.43 ------- ------- Total exercisable at December 31, 2001 73,400 $ 1.93 ======= =======
Weighted average fair value of options granted during the year ended December 31, 2000 and 1999 is $0.37 and $1.42 per share, respectively. There were no options granted in 2001. The following information applies to options outstanding at December 31, 2001:
Options Outstanding Options Exercisable ----------------------------------------------- ------------------------------ Weighted average Weighted Weighted remaining average average Number contractual exercise Number exercise outstanding life (years) price exercisable price ----------- ------------ ----------- ----------- ----------- Range of exercise prices --------------- $0.44 - $0.66 65,000 8.9 $ 0.44 26,000 $ 0.44 $1.30 - $1.95 30,500 7.22 $ 1.57 18,300 $ 1.57 $3.00 - $4.50 29,100 3.82 $ 3.50 29,100 $ 3.50 ----------- ----------- 124,600 73,400 =========== ===========
F-23 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE P -- TAXES ON INCOME The provision (benefit) for taxes on income includes the following for the year ended December 31:
2001 2000 1999 -------------- -------------- -------------- CURRENT Federal $ -- $ -- $ -- State -- -- -- -------------- -------------- -------------- -- -- -- -------------- -------------- -------------- DEFERRED Federal $ -- $ -- $ -- State -- -- -- -------------- -------------- -------------- -- -- -- -------------- -------------- -------------- Total $ -- $ -- $ -- ============== ============== ==============
A reconciliation between the expected federal income tax expense computed by applying the Federal statutory rate to income before income taxes and the actual provision (benefit) for taxes on income for the year ended December 31, is as follows:
2001 2000 1999 ----------- ----------- ----------- Provision (benefit) for income taxes at statutory rate $ 74,300 $ 356,300 $(1,112,000) Change in valuation reserve 16,400 (15,900) 764,000 Use of operating loss carry forwards (46,800) (359,500) -- Stock options -- -- 1,000 Other 13,200 19,900 26,000 Change in prior year estimate (57,100) (800) 321,000 ----------- ----------- ----------- $ -- $ -- $ -- =========== =========== ===========
F-24 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Deferred tax assets and liabilities consist of the following at December 31:
2001 2000 ----------- ----------- Alternative minimum tax credit $ 127,400 $ -- Allowance for doubtful accounts 39,000 84,000 Other reserves 12,300 31,000 NOL carryforward 871,500 1,169,600 Other (123,400) (374,000) ----------- ----------- 926,800 910,600 Valuation reserve (926,800) (910,600) ----------- ----------- $ -- $ -- =========== ===========
Realization of the deferred tax asset depends on achieving future taxable income. The Company incurred losses in recent years and does not consider it likely that the Company will realize the benefit of the deferred tax asset and, accordingly, has recorded a valuation allowance equal to the deferred tax asset. NOTE Q -- LEASE COMMITMENTS The Company is obligated under certain operating leases for its facilities. The leases expire at various dates through 2004, with appropriate rentals as set forth below. Some leases also provide for payments of taxes and certain common area costs and expenses. The following is a summary at December 31, 2001, of the future minimum rents due under noncancelable operating leases:
Year ending December 31, ------------------------ 2002 $ 169,557 2003 170,104 2004 50,200 2005 -- 2006 -- ---------- Total $ 389,861 ==========
F-25 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Total rent expense under operating leases for the years ended December 31, 2001, 2000, and 1999 was approximately $217,573, $359,385, and $670,179, respectively. NOTE R-- DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS All of the Company's financial instruments are held for purposes other than trading. The carrying amounts in the table below are the amounts at which the financial instruments are reported in the financial statements. The estimated fair values of the Company's financial instruments at December 31, 2001 and 2000 are as follows:
2001 Carrying amount Estimated fair value ---- --------------- -------------------- Cash $469,939 $469,939 Other receivables 19,233 19,233 Note payable 98,466 98,466 Capitalized lease obligations -- --
2000 Carrying amount Estimated fair value ---- --------------- -------------------- Cash $953,641 $953,641 Other receivables 154,524 154,524 Note payable 116,283 116,283 Capitalized lease obligations 91,595 91,595
NOTE S -- CONTINGENCIES On December 19, 2000, the Company filed an action in the Superior Court of the State of California, County of Los Angeles for, among other things, breach of contract and foreclosure of a previously filed mechanics' lien/lien release bond against Santa Clarita, LLC, an affiliated partnership of RFI, in response to non-payment for services performed by the Company on the Porta Bella project located in Santa Clarita, CA. In February, 2002, the Company entered into a settlement agreement under which it received $2.1 million (See Note G). On February 8, 2001, the Company filed an action in the Superior Court of the State of California, County of Contra Costa for, among other things, breach of contract, foreclosure of a previously filed mechanics' lien, and judicial foreclosure of the deed of trust in the F-26 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS amount of $10.1 million against LCRI Investments, LLC, an affiliated partnership of RFI, in response to non-payment for services performed by the Company on the Hercules project located in Hercules, CA. On March 5, 2001, the Company recorded a notice of default under the subject deed of trust in order to pursue a trustee's sale of the subject property. The Company and LCRI Investments are engaged in arbitration proceedings. The amount of unpaid invoices is approximately $3.3 million. Based on the secured deed of trust, the Company believes it will prevail in this action and will recover most, if not all, amounts due the Company (Also, see Note G). The Company, LCRI Investments, and RFI are parties to a Commercial Insurance Premium Finance and Security Agreement under which the Company guaranteed a $10.1 million Bond to Secure Financial Obligation for the Hercules, CA project. The bond secures a note that requires quarterly principal payments of $542,278 which are made by LCRI Investments, LLC. As of December 31, 2001, LCRI Investment, LLC was in default on their 2001 quarterly payments. On July 11, 2001, a letter was issued to LCRI Investments, LLC, RFI, and the Company calling for the immediate payment of remaining principal and interest of $7.2 million. There has been no legal action taken against the Company for the default. Management believes the Company is entitled to be indemnified to the extent it is ultimately obligated to make any payments under any of these arrangements. Based on the secured deed of trust mentioned above, management believes that any amounts paid as a result of the guarantee will be recovered. Since early 1998, the Company has been the subject of an investigation by the Office of the Inspector General (OIG) of the Environmental Protection Agency (EPA). While initially broad in scope, the focus of the investigation appears to involve labor billing-rates to the EPA beginning in the 1992-1994 period and selected subsequent years. The Company has cooperated fully in all OIG inquiries and will continue to do so when and if required. To date, no claims have been made against the Company. In addition, independent audits by the Defense Contract Audit Agency (DCAA), subsequent to initiation of the OIG investigation, have not been adverse nor have resulted in claims against the Company. No loss provision has been made at December 31, 2001 as a result of the investigation as the probable outcome is unknown. The Company is party to various legal actions arising out of the normal course of its business. Management believes that the ultimate resolution of such actions, except as previously disclosed, will not have a material adverse effect on the Company's financial position, results of operations, and liquidity of the Company. F-27 CET ENVIRONMENTAL SERVICES, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE T -- SUBSEQUENT EVENTS In February, 2002, the Company and RFI and its affiliated partnerships entered into a settlement agreement with respect to the Santa Clarita project and received $2.1 million (See Notes G and S). In February, 2002, as a result of the Santa Clarita settlement with RFI and its affiliated partnerships, the Company purchased 218,757 shares of common stock from a former Director and Executive Vice President for $86,600 or $0.395 per share (See Note L). F-28 INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION LOCATION ------- ----------- -------- 3.1 Amended and Restated Articles of Incorporation Incorporated by reference to Exhibit 3.1 to the Company's Form SB-2 Registration Statement No. 33-91602 3.2 Bylaws Incorporated by reference to Exhibit 3.2 to the Company's Form SB-2 Registration Statement No. 33-91602 10.1 Incentive Stock Option Plan Incorporated by reference to Exhibit 10.1 to the Company's Form SB-2 Registration Statement No. 33-91602 10.2 Form of Incentive Stock Option Agreement Incorporated by reference to Exhibit 10.2 to the Company's Form SB-2 Registration Statement No. 33-91602 10.3 Stock Purchase Agreement with AquaSource Services Incorporated by reference to Exhibit 10.1 and Technologies, Inc. to the Company's report on Form 8K dated December 17, 1998. 10.4 Administrative Agreement between United States Incorporated by reference to Exhibit 10.1 Environmental Protection Agency and the Registrant to Company's Form 10-Q for the nine months ended September 30, 1999. 10.5 Asset Purchase and Assignment Agreement by and Incorporated by reference to Exhibit 10.16 between the Company and CAPE Environmental to the Company's Annual Report on Form 10-K Management, Inc. for the year ended December 31, 1999. 10.6 Lease Agreement by and between the Company and Sky Incorporated by reference to Exhibit 10.17 Harbor Associates Limited Partnership to the Company's Annual Report on Form 10-K for the year ended December 31, 1999. 10.7 Line of Credit with Compass Bank Filed herewith electronically 21 Subsidiaries of the Registrant Filed herewith electronically 23 Consent of Grant Thornton LLP Filed herewith electronically