10-K 1 d85525e10-k.txt FORM 10-K FOR FISCAL YEAR END DECEMBER 31, 2000 1 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, 2000 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 14, 2001, there were 6,251,103 shares of Common Stock outstanding. The aggregate market value of voting stock held by nonaffiliates of the Registrant on that date was approximately $1,800,000. 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. 2 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 performs emergency response cleanup services in certain western states and the Trust Territory of the Pacific Islands for the U.S. Government under contracts with the Environmental Protection Agency (EPA), other government agencies, 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 $13.1 million (54%), $26.0 million (60%), and $33.0 million (50%) in 2000, 1999, 1998, 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 below. 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 3 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. Additionally, management intends to cooperate in full but also vigorously defend itself in the EPA's further investigation into the allegations. However, there can be no assurance that further suspension will not occur or that the Company will prevail in this matter. If further suspension occurs, it will have a material effect on the Company's financial position, results of operations, and liquidity. In early January 2000, the EPA exercised the third option period and contracted with the Company to provide environmental services for Regions 6, 8, and 9 from January 9, 2000 through January 8, 2001. During the third option period, the EPA was empowered to issue delivery orders for up to $42 million in value; actual revenues for the period were $13.1 million. Under the terms of the agreement, the EPA in January 2001 exercised its fourth and final option period, covering the period January 9, 2001 through January 8, 2002. During this fourth option period, the EPA may issue delivery orders for up to $44 million. However, the Company is unable to predict the amount of orders the EPA will issue during the fourth option period. The Company's present geographic areas of activity with the EPA are: Region 6 - States of Arkansas, Louisiana, New Mexico, Oklahoma, and Texas. Region 8 - States of Colorado, Montana, North Dakota, South Dakota, Utah, and Wyoming. Region 9 - States of Arizona, California, Hawaii, Nevada, Guam, and American Samoa. As of the date of this filing, the EPA has not issued the Request for Proposal for the new contract which will begin at the expiration of CET's fourth option period. Whether the Company will seek future work from the EPA will depend upon the future specification requirements and the scope of the proposal request. Even in the event that the Company should respond to the Request for Proposal, there can be no assurance that the Company will be successful in securing future contracts from the EPA. 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. (Porta Bella) 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 Porta Bella site in late September 2000. Shortly thereafter, RFI presented the Company with termination notices for both the Porta Bella and the Hercules projects. The Company is pursuing recourse under a Deed of Trust related to the Hercules project and the filing of a mechanics' lien on the Porta Bella project (see Note G and S to the Consolidated Financial Statements). The RFI receivables amount to approximately $5.7 million and represent 76% of the Company's total receivables at the end of 2000. Over the past five years, the Company has been involved in a number of capital transactions, a brief description of which follows. 2 4 In January 1997, a private placement of common stock was completed with the issuance of 700,000 shares from which the Company realized $2 million in net proceeds. The common stock sold via this offering was registered for resale in a Form S-3 Registration Statement which became effective January 7, 1998. In conjunction with the offering, warrants for an additional 72,925 shares of common stock were issued as partial compensation for underwriting services. These warrants are exercisable at a price of $3.60 per share for five years from the date of the offering. In August 1997, the Company acquired Water Quality Management Corporation (WQM) in a cash transaction and, in January 1998, acquired H20 Construction and Maintenance Inc. (H20) for cash and notes. The activities of these two Colorado corporations were merged under WQM and operated as a wholly-owned subsidiary providing construction, operation and maintenance of municipal and industrial water and wastewater treatment facilities. In December 1998, the Company sold WQM for $12.5 million to AquaSource Services and Technologies Inc. (AquaSource). At the date of the sale, the Company received $11.3 million and recorded a gain of $10.2 million. An additional $1.25 million was received during the first quarter of 1999. On February 22, 2000, the Company and AquaSource entered into a final Settlement and Mutual Release Agreement under which the Company received approximately $500,000, a release of all claims against approximately $698,000 of retention on a project completed by the Company, and retention of some $219,000 for certain amounts collected on behalf of WQM. The Company agreed to indemnify AquaSource on certain projects completed by the Company and transferred to AquaSource as part of the sale of WQM. In August 1998, the Company completed a private financing, raising $1.9 million of net proceeds in a placement of convertible preferred stock and warrants. The preferred shares could be converted into shares of the Company's common stock at a 15 percent discount to the price of the common stock at the time of conversion with a maximum conversion price of $3.35. Three-year warrants to purchase an aggregate of 35,000 shares of the Company's common stock at a price of $3.00 per share were also issued. Through January 1999, a total of 430 shares of the preferred securities were converted into 472,803 shares of common stock by the holders. The common stock issued upon conversion was registered for resale in a Form S-3 Registration Statement which became effective August 13, 1998. In January 1999, the Company redeemed the remaining shares of preferred stock for $1,927,400 plus $4,873 of unpaid dividends through the date of redemption. The warrants issued in connection with the preferred stock remain outstanding. On March 8, 2000, the Company entered into an Asset Purchase Agreement with Cape Environmental Management, Inc. covering certain assets and the assignment of certain non-EPA government contracts and liabilities associated with the Tustin (CA) operations. This sale was part of the restructuring program noted above and was effective April 30, 2000. The Company realized a gain of $1.3 million and retained approximately $1.3 million of the Tustin assets, primarily consisting of receivables recorded through the May 8, 2000 closing date. As part of the transaction, the Company entered into a non-compete agreement which prohibits the Company from performing environmental remediation services for the Department of Defense, with certain limited exceptions, anywhere in the United States and for certain customers in California for a period of four years. (See Note F to the Company's Consolidated Financial Statements.) On December 22, 2000, the Board of Directors authorized the repurchase of up to 100,000 shares of the Company's common stock through open market purchases. The buy back is subject to certain restrictions imposed by the Securities & Exchange Commission regarding price, volume, and specified other limitations. As of March 15, 2001, 18,100 shares of common stock have been repurchased under this authorization. 3 5 The Environmental Industry While estimates of the size of the overall environmental services market vary widely, there appears to be a consensus of opinion that the remediation segment of market exceeds $5 billion in revenues annually. Driven largely by legislation passed during the late 1970's and early 1980's in response to widespread public concern regarding clean air and water, the environmental services business has expanded rapidly during the past decade. The Company is involved primarily in the remediation segment of the industry, which is focused on cleanup of existing environmental problems. The remediation business consists of three phases: site assessment, remediation program design, and the actual site remediation. The first phase is largely investigative and can involve substantial chemical analysis to understand the nature and extent of the problem. The design phase involves detailed engineering to develop the optimal solution for cleaning the site. The third phase is the true implementation of the site remediation plan and involves various onsite treatment procedures for contaminated materials or the excavation and containment or offsite transportation of toxic materials. The Company provides an extensive full-service offering in all phases of contaminated site remediation. Innovative onsite remediation technologies are in high demand to provide an alternative to offsite disposal of hazardous waste. These technologies have been provided to various Company clients in order to minimize and/or eliminate our clients' cradle-to-grave liability. Onsite technologies such as bioremediation, bioventing, vapor extraction, gas/air sparging, low-temperature thermal desorption, chemical fixation, and soil washing are gaining wide-spread regulatory acceptance. The Company strives to use these remediation techniques more efficiently than its competitors. 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). The exact number of Brownfield sites is unclear; however, their existence and a governmental effort to facilitate their cleanup have created an opportunity for full service remediation as well as financial participation in the redevelopments. Organization of the Company The Company is organized into three primary business lines: industrial services, which includes 4 6 water and wastewater treatment, facility cleaning, operation, maintenance, construction, closures, and emergency response; environmental remediation; and government programs. This is overlaid with a geographic structure in which each office is able to provide manpower and equipment to support projects in each of the business lines. The Company uses the following resources to provide turnkey services to its customers: o Registered engineers, geologists, and environmental scientists for performing investigations and remediation feasibility studies. o Engineers, scientists, and construction managers to design remediation and water/wastewater treatment systems from the conceptual stage through final design. o Manpower and equipment for performing site preparation such as excavation, grading, berming and hauling soil; removal of obstacles (i.e., drums, transformers, underground storage tanks, and piping); and dismantling above-ground storage tanks. o Manpower and specialized equipment for erecting or installing remediation equipment, support buildings, and enclosures for remediation of contaminated soil, water, sludge or sediment. Services and Products Provided by the Company The Company provides full turnkey environmental services for remediation of non-hazardous, hazardous, and toxic waste on a planned and emergency basis, industrial services, 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. By offering turnkey services, the Company believes it enjoys a competitive advantage in soliciting new customers, as well as in obtaining follow-on contracts that may be tangential or unrelated to the original scope of work. Industrial Services. The Company 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: 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 5 7 Environmental Remediation Services. The Company provides full-scale turnkey environmental remediation services that range from Phase I environmental assessments and remedial investigation/feasibility studies (RI/FSs) to the design, construction, and operation of remediation systems. The Company does not promote a single technology but recommends the remediation methods that provide the most cost-effective and timely mitigation. Government Programs. The Company works with government agencies at all levels: federal, state, county, municipal, and special districts. These contracts are performed with the Company as the prime contractor, a teaming partner, or a subcontractor. The services provided to the government are similar to those provided to the private sector and include emergency response and remediation services. As noted earlier in this document, 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. The Company's present contract to provide environmental services to the EPA expires on January 8, 2002. There can be no assurance that the Company will seek additional work with the EPA following the expiration of the current contract. No assurance can be given that should the Company seek additional work from the EPA it will be successful in its efforts. Customers The Company's customers include federal, state, and local government agencies and commercial enterprises including Fortune 500 companies. Business Strategy The Company plans to capitalize on the following trends: 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. 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 is on appropriate approved-contractor lists with its large corporate customers whereby the Company is invited to bid on future environmental engineering/remediation projects. Inclusion on such lists is a 6 8 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. Professional Marketing and Management. The Company is committed to maintaining a professional marketing and project management staff that understands the needs and requirements of its various customers, that can accurately evaluate requests for proposals and invitations to bid, and that responds in a timely manner with high-quality comprehensive formal proposals. This includes understanding the intricacies of the detailed and time-consuming process associated with bidding and managing projects. Stable Work Force. The Company strives to maintain a stable, dedicated work force of experienced professionals, managers, administrative personnel, and trained operators and laborers. The Company seeks to attract and retain such employees by providing fair compensation, incentives, and a dynamic work environment. The Company maintains a comprehensive program for providing health and safety training related to hazardous material exposure, in full compliance with the highest standards set forth by federal and other applicable regulatory agencies. Management believes that the Company's experienced work force will continue to contribute to the Company's excellent safety record, reducing insurance costs, and increasing customer satisfaction. Ownership of Equipment. The Company attempts to purchase specialized emergency response and remediation equipment, thereby providing the Company with key business advantages, including reduced operating costs, greater flexibility in scheduling the use of resources (equipment, personnel, etc.), and greater reliability in meeting contractually-defined performance timetables and deadlines. The Company typically rents non-specialized equipment such as backhoes and excavators. Marketing The Company has a dedicated marketing staff of sales professionals, proposal writers, technical editors, and project estimators. A significant portion of new business is derived from current customers seeking services for additional sites and new needs. The Company has developed ongoing relations with a broad range of customers in various industries. 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 7 9 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 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. 8 10 The Company's ability to assist customers to comply with these environmental laws and regulations forms the basis for the current and future environmental consulting, engineering, remediation, laboratory, and other services provided by the Company. Enforcement of such laws and regulations, such as EPA mandated registration and upgrade of USTs, also leads to business for the Company. The federal laws and regulations described below constitute the major actions that have caused growth in the environmental and water/wastewater service industries. Comprehensive Environmental Response, Compensation and Liability Act of 1980 ("CERCLA"). This legislation, as amended by the Superfund Amendments and Reauthorization Act of 1986, established the Superfund program to identify and clean up existing contaminated hazardous waste sites and other releases of hazardous substances into the environment. 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 9 11 utilities to disinfect their water. The EPA regulations under the SDWA are expected to result in significant expenditures by public water systems for evaluation and, ultimately, for upgrading of many facilities. Bolstering federal laws are stringent state laws, such as California's Safe Drinking Water and Toxic Enforcement Act of 1986 ("Prop 65"), which took full legal effect in 1992. To cite just one facet of Prop 65, California's drinking water must not have concentrations of more than one part per billion of benzene. However, one tablespoon of gasoline contains enough benzene to render 50,000 gallons of water undrinkable by California's standards. OSHA and OSHA Reform Act. OSHA has promulgated various regulations setting forth standards for disclosure of health hazards in the work place and for response thereto. The Hazard Communication Standard, for example, requires manufacturers and importers of chemicals to assess the hazards of their products and disclose the same through material data safety sheets and label warnings. In 1990, in an effort in part to create a self-funding administration, Congress increased the ceiling for certain OSHA-imposed penalties. 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. 10 12 The market for liability insurance has been severely constrained at times, due in part to high losses experienced by the insurance industry from environmental impairment liability claims, including claims associated with hazardous materials and toxic wastes. Consequently, the available insurance coverage for enterprises such as the Company may be reduced, eliminated entirely or priced beyond the reach of many companies. To date, the Company has been able to obtain any insurance required by a customer. However, there can be no assurance that the Company will be able to maintain adequate liability insurance in the future. Bonding Requirements Commercial remediation projects, as well as federal, state, and municipal projects, often require 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 has developed a job escrow arrangement to meet the EPA's requirements. While the Company continues to seek standard bond coverage for the EPA delivery orders, there can be no assurance that efforts will be successful. Employees As of March 2001, the Company employed approximately 34 employees full-time and 46 part-time at its three offices, including two Company officers. The Company's employees are not represented by a labor union or covered by a collective bargaining agreement, and the Company believes it has good relations with its employees. While all of the Company's projects are performed under the supervision and direction of the Company's supervisors and foremen, and the Company attempts to utilize as many of the Company's regular laborers as possible to staff projects, the location and other factors affecting projects performed away from the immediate vicinity of the Company's permanent offices result in the Company occasionally hiring temporary workers on site. The Company carefully reviews the training and qualifications of all temporary workers hired to assure that all such personnel are qualified to perform the work in question. However, due to the temporary nature of such employment, there is no assurance that all such temporary workers will perform at levels acceptable to the Company and its customers. The operations of the Company are substantially dependent upon its executive officers. The Company has no employment contracts with these persons, and the loss of their services could have a material adverse effect on the Company. The Company's further success will also depend significantly on its ability to attract and retain additional skilled personnel, including highly trained technical personnel, project managers, and supervisors. The Company believes it currently has adequate qualified supervisory personnel, but there is no assurance that experienced and qualified management level personnel will be available to the Company in the future to fill positions as needed. ITEM 2. PROPERTIES. The Company headquarters and administrative facilities are located at 7032 S. Revere Parkway, 11 13 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. The Company leases additional office space for operations located in Edmonds, WA and Ft. Worth, TX. 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. In 1998, the Company filed suit in the United States District Court for the District of Oregon against Road Runner Oil, Inc. and Bernard J. Roscoe, alleging breach of contract for non-payment of services performed by the Company at an oil field in Utah. The amount of unpaid invoices, including interest and collection costs, is approximately $2.1 million. In August 1998 the Oregon court determined that the venue for the United States District Court action should be in Utah, and venue for the action was changed accordingly. Road Runner also filed a claim in this action against the Company for breach of contract seeking unspecified damages. The Company has also filed mechanics' liens on certain equipment at the site and against Road Runner's rights in the oil field. The Default Judgments against Road Runner have been awarded in the Tribal Court and Utah state court, and foreclosure proceedings and corresponding asset investigation are in progress. This account receivable was written off in 1998. 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, a subsidiary of RFI, in response to non-payment for services performed by the Company on the Porta Bella project located in Santa Clarita, CA. On February 16, 2001, the Company filed its First Amended Complaint in order to focus its recovery efforts on the lien release bond rather than sale of the property. The amount of unpaid invoices is approximately $2.1 million. Previous to this action, the Company filed a mechanics' lien against the project. Based on the fact that Santa Clarita, LLC filed a lien release bond sufficient to cover the unpaid invoices, the Company believes it will prevail in this action and will recover most, if not all, of the amounts due the Company. 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 mechanics' lien, and judicial foreclosure of the deed of trust in the amount of $10.1 million against LCRI Investments, LLC, a subsidiary 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 concurrently pursue a trustee's sale of the subject property. The amount of unpaid invoices is approximately $3.7 million. Previous to this action, the Company filed a mechanics' lien against the project. 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. 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 requires quarterly principal payments of $542,278 which are made by LCRI Investments, LLC. As of February 2001, LCRI Investment, LLC is current on their quarterly payments, and approximately $6.4 million remains outstanding on the Financial Obligation. The Company believes it is entitled to be indemnified to the extent it is ultimately obligated to make any payments under any of these arrangements. 12 14 The Company is currently under investigation by the Office of the Inspector General (OIG) of the Environmental Protection Agency due to a past suspended audit. To date, no claims have been made against the Company arising from this investigation, and subsequent independent audits by the Defense Contract Audit Agency (DCAA) have not been adverse and have not resulted in claims against the Company. The Company is cooperating with the OIG to complete its investigation. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of the Company's security holders during the quarter ended December 31, 2000. 13 15 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, 1999 $ 2.00 $ 1.125 June 30, 1999 1.625 1.125 September 30, 1999 1.50 0.25 December 31, 1999 2.125 0.313 March 31, 2000 2.375 1.438 June 30, 2000 1.50 0.75 September 30, 2000 1.438 0.688 December 31, 2000 $ 0.938 $ 0.313
(b) Approximate Number of Holders of Common Stock. The number of record holders of the Company's common stock at March 15, 2001 was 45. 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 14 16 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, 2000 and 1999.
Fiscal Quarter $ in thousands, except per share amounts March 31 June 30 September 30 December 31 Total ---------------------------------------- ---------- ---------- -------------- ----------- ---------- 1999: Revenues $ 12,945 $ 8,503 $ 13,939 $ 7,802 $ 43,189 Project costs 11,289 8,299 13,797 6,745 40,130 ---------- ---------- ---------- ---------- ---------- Gross profit 1,656 204 142 1,057 3,059 ---------- ---------- ---------- ---------- ---------- Selling 308 404 560 131 1,403 General and administrative 678 968 910 974 3,530 Restructuring -- -- 913 (56) 857 Other (income) loss, net 105 325 133 (117) 446 ---------- ---------- ---------- ---------- ---------- Income (loss) before income tax 565 (1,493) (2,374) 125 (3,177) ---------- ---------- ---------- ---------- ---------- Income tax 215 (215) -- -- -- ---------- ---------- ---------- ---------- ---------- Net income $ 350 $ (1,278) $ (2,374) $ 125 $ (3,177) ========== ========== ========== ========== ========== Basic earning per common share $ 0.06 $ (0.20) $ (0.38) $ 0.02 $ (0.51) Diluted earning per common share $ 0.06 $ (0.20) $ (0.38) $ 0.02 $ (0.51) 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
15 17 The following selected financial information for the years ended December 31, 2000, 1999, 1998, 1997, and 1996 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, ------------------------------------------------------------ 2000 1999 1998 1997 1996 -------- -------- -------- -------- -------- CURRENT ASSETS $ 12,627 $ 11,132 $ 26,670 $ 25,089 $ 18,424 TOTAL ASSETS 13,959 13,805 30,202 29,883 23,795 CURRENT LIABILITIES 6,912 7,619 18,835 12,970 15,121 WORKING CAPITAL 5,715 3,513 7,835 12,119 3,303 LONG TERM DEBT 40 179 251 8,204 1,700 -------- -------- -------- -------- -------- TOTAL LIABILITIES 6,952 7,798 19,086 21,174 16,821 -------- -------- -------- -------- -------- SHAREHOLDERS' EQUITY $ 7,007 $ 6,007 $ 11,116 $ 8,709 $ 6,974
Statement of Operations Data (in thousands, except earnings per share data):
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------------------------------------------------- 2000 1999 1998 1997 1996 ------------ ------------ ------------ ------------ ------------ REVENUES $ 24,442 $ 43,189 $ 66,497 $ 54,170 $ 54,919 OPERATING EXPENSES 24,847 45,920 74,727 54,047 58,096 NET INCOME (LOSS) FROM CONTINUING OPERATIONS 1,041 (3,177) 538 (347) (3,756) NET INCOME (LOSS) FROM CONTINUING OPERATIONS PER COMMON SHARE $ 0.17 $ (0.51) $ 0.09 $ (0.06) $ (0.74) WEIGHTED AVERAGE SHARES 6,275,051 6,282,346 5,828,537 5,785,264 5,066,537 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; Edmonds, WA; and Ft. Worth, TX. 16 18 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 its core environmental remediation business; (ii) expansion into 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 -------------------------------------------- --------------------------- 2000 1999 VS. VS. 2000 1999 1998 1999 1998 ---------- ---------- ---------- ---------- ---------- Project Revenue 100.0% 100.0% 100.0% (43.4)% (35.1)% Project Costs: Direct 81.4 78.5 87.7 (41.3) (41.8) Indirect 7.4 14.4 10.4 (71.0) (9.9) ---------- ---------- ---------- ---------- ---------- Gross profit 11.2 7.1 1.9 (10.7) 136.0 Other operating expense (income): Selling 1.6 3.2 3.0 (72.9) (29.5) General and administrative expense 9.9 8.2 11.3 (31.7) (53.2) ---------- ---------- ---------- ---------- ---------- Operating income (loss) (1.7) (6.3) (12.4) 85.2 (66.8) Other income (expense) 5.9 (1.0) 13.5 421.2 781.0 ---------- ---------- ---------- ---------- ---------- Income (loss) before income taxes 4.3 (7.4) 1.1 132.8 (539.9) Income tax (benefit) -- -- 0.3 -- (100.0) ---------- ---------- ---------- ---------- ---------- Net income (loss) 4.3% (7.4)% 0.8% 132.8% (689.2%) ---------- ---------- ---------- ---------- ----------
17 19 2000 COMPARED TO 1999 PROJECT REVENUE. Project revenues decreased $18.7 million or 43% from $43.2 million in 1999 to $24.4 million in 2000. 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 decreased $14.0 million or 41% from $33.9 million or 79% of project revenues in 1999 to $19.9 million or 81% or project costs in 2000. 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 decreased $4.4 million or 71% from $6.2 million or 14% of project revenues in 1999 to $1.8 million or 7% of project revenues in 2000. 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 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 decreased $1.0 million or 73% from $1.4 million or 3.2% or project revenues in 1999 to $0.4 million or 1.6% of project revenues in 2000. The decrease in total dollars and the decrease as a percentage of revenue 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 decreased $1.1 million or 32% from $3.5 million or 8.1 % of project revenues in 1999 to $2.4 million or 9.9% of project revenues in 2000. 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, 18 20 2000. The increase as a percentage of revenues is primarily the result of retaining certain corporate managers/employees whose labor costs where not chargeable to projects during the disruption of business from the EPA suspension in the first quarter of 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. However, the Company does not anticipate incurring any other material restructuring charges related to the closure of these offices. OTHER INCOME (EXPENSE). Other income/expense increased $1.9 million from a net expense of ($0.4) million in 1999 to a net income of $1.4 million in 2000. 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. 1999 COMPARED TO 1998 PROJECT REVENUES. Project revenues decreased $23.3 million or 35% from $66.5 million in 1998 to $43.2 million in 1999. The decrease is primarily attributed to (i) an $8.0 million decrease in revenues due to the sale of WQM in December 1998 (see Note E to the Company's Consolidated Financial Statements); (ii) a decline of $6.1 million in commercial contract revenue as a result of an overall decrease in the Company's commercial business in 1999; (iii) a decrease in EPA contract revenues of $6.9 million due to the suspension issued by the EPA against the Company for the months August through November of 1999. During the suspension period, the Company was not allowed to secure or bid on additional EPA or other government projects, which disrupted the normal flow of business, reducing EPA revenues by approximately $10.0 million dollars in the fourth quarter of 1999 compared to the fourth quarter of 1998 (see Note C to the Company's Consolidated Financial Statements); (iv) a $1.9 million reduction of other government contract revenues as a result of the EPA Suspension, which precluded the Company from bidding on any governmental projects; and (v) a decline of $2.6 million in revenues provided to the Company in 1998 under a Pre-Placed Remedial Actions Contract ("PRAC") with the US Army Corp of Engineers. These decreases were offset by an increase of $2.2 million in project revenues from the Hercules project started in August 1999. 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, --------------------------------------------------------------------------------------------------- 1999 1998 1997 ----------------------------- ----------------------------- ----------------------------- Non-EPA $ 17,231,604 39.9% $ 33,569,412 50.5% $ 33,125,032 61.2% EPA $ 25,957,715 60.1% $ 32,927,870 49.5% $ 21,044,721 38.8% ------------ ------------ ------------ ------------ ------------ ------------ Total $ 43,189,319 100.0% $ 66,497,282 100.0% $ 54,169,753 100.0% ============ ============ ============ ============ ============ ============
19 21 DIRECT PROJECT COSTS. Direct costs decreased $24.4 million or 42% from $58.3 million or 88% of project revenues in 1998 to $33.9 million or 79% or project revenues in 1999. The overall reduction in direct costs is commensurate with the overall decrease in project revenues noted above. However, the improvement of directs costs as a percentage of project revenues in 1999 results primarily from project cost overruns experienced in 1998. Specifically, the State of Washington and Monfort of Colorado, Inc. projects experienced $2.2 million in costs overruns or 3.3% of revenues in 1998. Other negative revenue adjustments of $.8 million or 1.3% of revenues were also experienced in 1998. In 1999, the Company had no significant project cost overruns. In addition, certain typical direct labor costs were charged to indirect costs as a result of the EPA Suspension as noted below. INDIRECT PROJECT COSTS. Indirect project costs decreased approximately $.68 million or 10%, from $6.93 million or 10.4% of project revenues in 1998, to $6.22 million or 14.4% of project revenues in 1999. The overall decrease is commensurate with the reduction in project revenues as noted above. However, the increase as a percentage of revenues is primarily attributed to retaining certain key project manager/employees during the EPA Suspension, which labor costs were not chargeable to direct projects. Total indirect labor costs increased slightly from $1.85 million in 1998 to $1.89 million in 1999. As a result, certain typical direct project labor costs were charged to indirect project costs due to the steady reduction in EPA projects during this period. In addition, there were increases in other indirect project costs related to employee training and relocation and certain non-recurring project costs related to the EPA Suspension. SELLING EXPENSE. Sales and marketing expenses decreased approximately $.59 million or 30% from $1.99 million or 3.0% of project revenues in 1998 to $1.40 million or 3.2% of project revenues in 1999. As a percentage of revenues, sales and marketing remained relatively constant between 1998 and 1999. The decrease in sales and marketing expenses is attributed to the significant restructuring of the Company during 1999, which resulted in the sale or closure of several operating regions/locations within the U.S. In addition, the Company reduced certain marketing expenses as an overall cost reduction policy for 1999 related to the Restructuring Plan (See Note D regarding discussion of the "Restructuring" in the Company's Consolidated Financial Statements). GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expenses decreased by approximately $4.0 million or 53% from $7.5 million or 11.3% of project revenues in 1998 to $3.5 million or 8.1% of project revenues in 1999. The decrease is primarily attributed to certain non-recurring adjustments related to the write off of receivables of $2.4 million and provisions for bad debt allowances of $1.3 million is 1998. For comparative purposes, disregarding the $3.7 million of non-recurring adjustments in 1998, general and administrative expenses increased by approximately $.6 million, from $3.8 million in 1998 to $4.4 million in 1999. This increase is primarily attributed to the restructuring charge of approximately $.9 million incurred in September 1999 as a result of the EPA Suspension (See Note D regarding discussion of the "Restructuring" in the Company's Consolidated Financial Statements). The restructuring charges were offset by cost savings in general and administrative expenses in the fourth quarter by implementation of the Restructuring Plan. RESTRUCTURING EXPENSE. Following the EPA suspension, the Company initiated a Restructuring Plan to reduce operating costs and gain efficiencies through sale, downsizing and closure of regional offices. In September 1999, under the Restructuring Plan, the Company sold substantially all its assets in the Mobile and Jackson regions for proceeds totaling $0.5 million. Also under the Restructuring Plan, in October 1999, the Company closed its regional office located in New Orleans and Houston. As a result, 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. 20 22 OTHER INCOME (EXPENSE). Other income/expense decreased $9.4 million, from $8.95 million of income in 1998 to $.45 million of net expense in 1999. The decrease is attributed to the non-recurring gain of $10.2 million on the sale of WQM in 1998. In addition, interest expense decreased approximately $.42 million from $.89 million in 1998 to $.47 million in 1999. This reduction is attributed to the Company reducing its line of credit and other debt during 1999. INCOME TAX EXPENSE (BENEFIT). During 1999 the Company did not record an income tax expense or benefit due to the net loss. During 1998 the Company recorded income tax expense of $0.2 million. The 1998 income tax expense is related to the gain on sale of WQM. NET INCOME (LOSS). Net loss for the year ended December 31, 1999 was $3.18 million compared to a net income of $.5 million for 1998. As discussed above, the income which was generated in 1998 was primarily the result of a $10.2 million gain from the sale of WQM, off-set by project cost overruns of $2.2 million, non-recurring general and administrative charges of $3.7 million, and the additional interest expense of approximately $.4 million. 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, proceeds from offerings of equity securities, and loans from shareholders. 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. Other sources of liquidity included the sale of WQM in which proceeds for $11.3 million were received in 1998, a payment of $1.3 million in January 1999, and a payment of $0.5 million in March 2000 as part of the Settlement Agreement between the Company and AquaSource. Additionally, the Company sold the Tustin, CA operations for net proceeds of $1.9 million in May 2000 and sold an investment property for net proceeds of $0.2 million in September 2000. The Company's future growth will be dependent upon expansion into the maintenance and construction of waste/water treatment facilities, optimizing margins on its EPA and non-EPA environmental remediation projects, marketing, and its ability to obtain financing at favorable terms. During the third quarter of 2000, the Company experienced problems collecting on receivables from Remediation Financial, Inc. ("RFI"), the parent company for the two Brownfield projects located in Hercules and Santa Clarita, 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 Hercules and Santa Clarita projects from RFI, with the Santa Clarita project termination effective October 6, 2000 and the Hercules termination being 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 or 76% of accounts receivable at December 31, 2000. Management believes that the receivables are collectible from RFI through either cash receipts or by secured liens placed on the projects. See Item 3. Legal Proceeding regarding legal actions taken against RFI for both the Santa Clarita and Hercules, CA projects. In January 2000, the Company satisfied the repayment terms of its line of credit with the National Bank of Canada, which has now released all claims against the Company. Management believes that future cash flows from operations, the collection of receivables from RFI, and funds available under the line of credit with FirsTier 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 FirsTier Bank in May 2001, however, there can be no 21 23 assurance that the line of credit with FirsTier Bank will be renewed, and if not renewed, that other alternate financing sources can be successfully negotiated, which if not obtained, could have material effect on the Company's financial position, operating activities and liquidity. The Company's financial position stabilized in 2000 as a result of the Restructuring Plan and sale of Tustin, CA operations. The Company's working capital increased $2.2 million from $3.5 million as of December 31, 1999 to $5.7 million as of December 31, 2000. The change in working capital results from an increase in current assets of $1.5 million compared to a decrease in current liabilities of $0.7 million. The increase in current assets results from an increase in combined receivables of $3.1 million, cash of $0.4 million, and a decrease in other current assets of $2.0 million resulting from the settlement of $1.5 million on the sale of WQM. The decrease in current liabilities results primarily from a reduction of cash overdrafts accrued liabilities of $0.9 million and the reduction of the line of credit and short-term debt of $1.1 million. These reductions were partially offset by an increase in accounts payable of $1.3 million. The Company's total obligations decreased by $0.8 million from $7.8 million at December 31, 1999 to $7.0 million at December 31, 2000. The Company's shareholders equity increased by $1.0 million as a result of the net income of $1.0 million for the year. Due to the outstanding RFI receivables, combined receivables increased by $3.1 million, from $7.8 million or 66 days sales outstanding at December 31, 1999 to $10.9 million or 163 days sales outstanding at December 31, 2000. The Company's cash and cash equivalents increased $449,000, from $505,000 at December 31, 1999 to $954,000 at December 31, 2000. The increase in cash and cash equivalents results from cash provided from investing activities of $2.2 million. The cash provided by investing activities is offset by cash used in operations and financing activities of $1.8 million. Cash used in operating activities of $0.4 million results primarily from an increase in combined receivables of $3.1 million and a decrease in accrued expenses of $0.7 million. This decrease in cash is offset by an increase of accounts payable of $1.3 million and a decrease in other assets of $1.9 million. Cash provided by investing activities of $2.2 million results from the receipt of $1.9 million from the sale of the Tustin, CA operations and $0.2 million of net cash from the sale of an investment property. Cash used in financing activities of $1.3 million results primarily from the completion of repayment terms on the line of credit of $0.8 million and payments of $0.5 million related to debt and capital leases. DEBT FINANCING. Beginning in January 1995, the Company borrowed funds from related parties. As of January 1999, all funds had been repaid, and the Company does not anticipate borrowing from these sources in the future. In January 2000, the Company satisfied its repayment terms with the National Bank of Canada, which has now released all claims against the Company. In November 2000, the Company obtained a $1 million revolving line of credit with FirsTier Bank secured by the assets of the Company. Interest only payments beginning December 9, 2000 and continuing at monthly time intervals thereafter. A final payment of the unpaid principal balance plus accrued interest is due and payable on May 9, 2001. 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, 2000, there were no principal or interest amounts due under the line of credit and the Company was in compliance with all covenants. The Company has also financed vehicles and equipment using long term capital leases from various entities. As of December 31, 2000, the combined balance due on these leases was $100,000. 22 24 In July 2000, the Company financed its insurance premiums over the next year by issuing a subordinated note, with monthly payments of approximately $29,000 through March 2001. The note bears interest at 9.70% and matures on March 31, 2001. EQUITY FINANCING. In December 1996, the Company commenced a private placement offering of common stock. This offering was completed in January 1997, and resulted in the issuance of 0.7 million shares with net proceeds to the Company totaling $2.0 million. The shares issued pursuant to this offering were classified as "restricted securities" as such term is defined in Rule 144 of the Securities Act of 1933. The Company completed an S-3 registration of these shares for resale which was effective January 7, 1998. In conjunction with the offering, warrants for an additional 72,925 shares of common stock were issued as partial compensation for underwriting services. These warrants are exercisable at a price of $3.60 per share for five years from the date of the offering. In August 1998, the Company completed a private financing, raising $1.9 million of net proceeds in a placement of convertible preferred stock and warrants. The preferred shares could be converted into shares of the Company's common stock at a 15 percent discount to the price of the common shares at the time of conversion with a maximum conversion price of $3.35. An aggregate of three-year warrants to purchase 35,000 shares of the Company's common stock at a price of $3.00 per share was also issued. A total of 430 shares of the preferred securities were converted into 472,803 shares of common stock by the holders. In January 1999, the Company redeemed the remaining 1,570 preferred shares for $1.9 million in cash. The warrants issued remain outstanding at December 31, 2000. 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 entered into leases for its existing facilities with such leases expiring at various dates through 2004. Monthly rentals currently are approximately $22,407 in the aggregate. Management anticipates some capital expenditures in 2000 which will be funded from working capital, term loans and 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 will be made from time to time in the open market or through negotiated transactions depending on market conditions. Such repurchases will be made only through brokers and will be 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 will be 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. Year 2000 Compliance As of the date of this report, the Company has experienced no significant problems related to the Year 2000 conversion. After system verification and testing, all computerized information and project control systems are operating normally. The performance of EPA and non-EPA customers and critical 23 25 suppliers continues without notable change. Production and business activities are normal at all locations. The Company also has not received any material complaint regarding any Year 2000 issue related to its services. However, the Company cannot provide assurance that problems will not arise. The Company continues to monitor the status of its operations, suppliers and customers to ensure no significant interruptions. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not Applicable. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. Please see pages F-1 through F-26. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. 24 26 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 May 31, 2001. 25 27 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 - F26
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.
26 28
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 FirsTier 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. 27 29 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: March 28, 2001 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, March 28, 2001 ---------------------------------------------------- Chief Executive Officer, Steven H. Davis Secretary and Director /s/ Craig C. Barto Director March 28, 2001 ---------------------------------------------------- Craig C. Barto /s/ John D. Hendrick Director March 28, 2001 ---------------------------------------------------- John D. Hendrick /s/ George Pratt Director March 28, 2001 ---------------------------------------------------- George Pratt /s/ Dale W. Bleck Chief Financial Officer March 28, 2001 ---------------------------------------------------- and Assistant Secretary Dale W. Bleck
28 30 CET ENVIRONMENTAL SERVICES, INC. FINANCIAL STATEMENTS AND REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS December 31, 2000 and 1999 F-1 31 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Board of Directors CET Environmental Services, Inc. We have audited the accompanying consolidated balance sheets of CET Environmental Services, Inc. as of December 31, 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, 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. Very truly yours, GRANT THORNTON LLP Denver, Colorado March 2, 2001 F-2 32 CET Environmental Services, Inc. BALANCE SHEETS
ASSETS December 31, December 31, 2000 1999 ------------ ------------ CURRENT ASSETS Cash $ 953,641 $ 504,583 Accounts receivable, less allowance for doubtful accounts; $164,403 in 2000, and $359,648 in 1999 7,572,729 6,086,086 Contracts in process less allowance for doubtful accounts of $56,705 in 2000, and $118,907 in 1999 3,355,603 1,770,954 Retention receivable 268,471 318,883 Income tax receivable -- 90,542 Due from related party -- 104,036 Other receivables 154,524 1,612,962 Inventories 15,317 73,601 Prepaid expenses 306,339 570,532 ------------ ------------ Total current assets 12,626,624 11,132,179 ------------ ------------ EQUIPMENT AND IMPROVEMENTS Field equipment 1,432,070 3,059,206 Vehicles 500,447 890,193 Furniture & fixtures 75,377 84,543 Office equipment 537,038 815,278 Leasehold improvements 49,862 49,861 ------------ ------------ 2,594,794 4,899,081 Less allowance for depreciation and amortization (1,301,217) (2,262,736) ------------ ------------ Equipment and improvements - net 1,293,577 2,636,345 DEPOSITS 38,922 36,656 ------------ ------------ $ 13,959,123 $ 13,805,180 ============ ============
The accompanying notes are an integral part of these statements. F-3 33 CET Environmental Services, Inc. BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY December 31, December 31, 2000 1999 ------------ ------------ CURRENT LIABILITIES Cash overdraft $ -- $ 118,348 Accounts payable 6,237,119 4,959,733 Accrued expenses 271,393 586,612 Accrued contract costs 8,800 364,573 Accrued payroll and benefits 227,413 361,443 Current obligations under capital leases 51,446 119,091 Notes payable - current 116,283 290,982 Line of credit -- 818,152 ------------ ------------ Total current liabilities 6,912,454 7,618,934 OBLIGATIONS UNDER CAPITAL LEASES 40,149 25,669 NOTES PAYABLE - LONG-TERM -- 153,127 COMMITMENTS AND CONTINGENT LIABILITIES -- -- STOCKHOLDERS' EQUITY Common stock (no par value) - authorized 20,000,000 shares; 6,258,803 shares and 6,284,288 shares issued and outstanding in 2000 and 1999, respectively 8,629,755 8,671,261 Paid-in capital 104,786 104,786 Retained earnings (accumulated deficit) (1,728,021) (2,768,597) ------------ ------------ Total stockholders' equity 7,006,520 6,007,450 ------------ ------------ $ 13,959,123 $ 13,805,180 ============ ============
The accompanying notes are an integral part of these statements. F-4 34 CET Environmental Services, Inc. STATEMENTS OF OPERATIONS
Year Ended December 31, ------------------------------------------------ 2000 1999 1998 ------------ ------------ ------------ PROJECT REVENUE $ 24,441,671 $ 43,189,319 $ 66,497,282 PROJECT COSTS Direct 19,904,402 33,909,701 58,298,144 Indirect 1,804,044 6,219,975 6,902,927 ------------ ------------ ------------ 21,708,446 40,129,676 65,201,071 ------------ ------------ ------------ Gross profit 2,733,225 3,059,643 1,296,211 ------------ ------------ ------------ OTHER OPERATING EXPENSES Selling 379,653 1,403,149 1,989,584 General and administrative 2,411,447 3,529,675 7,535,966 Restructuring charge 347,257 857,469 -- ------------ ------------ ------------ ------------ ------------ 3,138,357 5,790,293 9,525,550 ------------ ------------ ------------ Operating income (loss) (405,132) (2,730,650) (8,229,339) ------------ ------------ ------------ OTHER INCOME (EXPENSE) Gain(loss) on sale of equipment (114,444) (89,167) -- Gain on sale of Tustin, CA Operations 1,341,449 -- -- Gain on sale of property held for investment 226,730 -- -- Gain on sale of subsidiary -- -- 10,154,028 Interest expense, net (18,159) (475,504) (892,213) Other income (expense) 10,132 118,564 (310,722) ------------ ------------ ------------ 1,445,708 (446,107) 8,951,093 ------------ ------------ ------------ Income (loss) before taxes on income 1,040,576 (3,176,757) 721,754 (Benefit) taxes on income -- -- 183,276 ------------ ------------ ------------ NET INCOME (LOSS) $ 1,040,576 $ (3,176,757) $ 538,478 ============ ============ ============ Weighted average number of shares outstanding 6,275,051 6,282,346 5,828,537 Earnings (loss) per common share $ 0.17 $ (0.51) $ 0.09 ============ ============ ============ Earnings (loss) per common share-- assuming dilution $ 0.17 $ (0.51) $ 0.09 ============ ============ ============
The accompanying notes are an integral part of these statements. F-5 35 CET Environmental Services, Inc. STATEMENTS OF STOCKHOLDERS' EQUITY Years ended December 31, 2000, 1999 and 1998
Common stock Preferred stock ------------------------------ ------------------------------ Shares Amount Shares Amount ------------ ------------ ------------ ------------ Balance at December 31, 1997 5,805,485 $ 8,235,589 -- $ -- Exercise of stock options and other 6,000 14,000 -- -- Issuance of preferred stock -- -- 2,000 1,879,229 Conversion of preferred stock 317,786 290,127 (290) (290,127) Dividends on preferred stock -- -- -- -- Net income for the year -- -- -- -- ------------ ------------ ------------ ------------ 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 -- $ -- ============ ============ ============ ============ Retained earnings Total Paid-in (accumulated stockholders' capital deficit) equity ------------ ------------ ------------- Balance at December 31, 1997 $ 567,953 $ (94,825) $ 8,708,717 Exercise of stock options and other 6,676 -- 20,676 Issuance of preferred stock -- -- 1,879,229 Conversion of preferred stock -- -- -- Dividends on preferred stock -- (30,620) (30,620) Net income for the year -- 538,478 538,478 ------------ ------------ ------------ 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 ============ ============ ============
The accompanying notes are an integral part of these statements. F-6 36 CET Environmental Services, Inc. STATEMENTS OF CASH FLOWS Years ended December 31,
2000 1999 1998 ------------ ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 1,040,576 $ (3,176,757) $ 538,478 Adjustments to reconcile net income to net cash (used in) provided by operating activities: Depreciation and amortization 642,120 989,732 1,453,900 Restructuring charge -- 390,324 (10,154,028) Provision for bad debts (257,447) (527,430) 333,268 Loss on disposal of equipment 114,444 89,167 216,007 Gain on sale of Tustin, CA operations (1,341,449) -- -- Gain on sale of property held for investment (226,730) -- -- Employee stock option plan -- -- 6,676 Changes in operating assets and liabilities: Decrease (increase) in accounts receivable (1,261,959) 6,057,335 (3,348,937) Decrease (increase) in contracts in process (1,522,447) 8,548,768 2,905,590 Decrease (increase) in income tax, retention and other receivables 1,599,392 1,040,654 (1,942,137) Decrease (increase) in prepaid expenses 253,476 347,112 (370,848) Decrease (increase) in inventory and deposits 43,032 88,159 403,074 Increase (decrease) in accounts payable 1,277,386 (6,423,376) 3,152,811 Increase (decrease) in accrued expenses and income taxes (736,256) (1,858,944) 619,832 ------------ ------------ ------------ Net cash provided by (used in) operating activities (375,862) 5,564,744 (6,186,314) ------------ ------------ ------------ INVESTING ACTIVITIES: Purchase of equipment (28,475) (1,190,209) (1,381,135) Purchase of property held for investment (665,414) -- -- Proceeds from sale of equipment 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 11,250,000 Net purchase of subsidiary -- -- (803,845) ------------ ------------ ------------ Net cash provided by (used in) investing activities 2,208,821 311,440 9,065,020 ------------ ------------ ------------ FINANCING ACTIVITIES: Bank overdraft (118,348) (1,818,393) 1,936,741 Net (payments) on notes (327,826) (1,178,005) (754,877) Payments on capital leases (152,666) (266,349) (411,359) Net (payments) proceeds from credit line loan (818,152) (221,773) (5,158,706) Payments on repurchase of common stock (3,673) -- -- Payment of dividends on preferred stock -- (4,873) (30,620) Proceeds from issuance of preferred stock -- -- 1,879,229 Proceeds from exercise of stock options -- -- 14,000 Proceeds from loans from shareholders -- -- 500,000 Payments on loans from shareholders -- -- (500,000)
The accompanying notes are an integral part of these statements. F-7 37 CET Environmental Services, Inc. STATEMENTS OF CASH FLOWS Years ended December 31,
2000 1999 1998 ------------ ------------ ------------ Net payments from related party 36,764 20,000 -- Preferred stock redemption -- (1,927,400) -- Payments on subordinated notes payable $ -- $ -- $ (671,800) ------------ ------------ ------------ Net cash provided by (used in) financing activities (1,383,901) (5,396,793) (3,197,392) ------------ ------------ ------------ INCREASE (DECREASE) IN CASH 449,058 479,391 (318,686) Cash at beginning of year 504,583 25,192 343,878 ------------ ------------ ------------ Cash at end of year $ 953,641 $ 504,583 $ 25,192 ============ ============ ============ Supplemental disclosures of cash flow information: Cash paid during the year Interest $ 55,307 $ 482,707 $ 1,060,211 Income taxes -- -- -- Noncash investing and financing activities: Issuance of note payable for financing of insurance premiums $ 256,469 $ 635,709 $ 485,818 ============ ============ ============ Conversion of preferred stock to common $ -- $ 131,546 $ 290,127 ============ ============ ============ Related party receivable exchanged for common stock $ 37,833 $ -- $ -- ============ ============ ============ Transfer of CIP from deposits to fixed assets $ -- $ -- $ 368,452 ============ ============ ============ Fixed asset additions (returns) under capital leases, net $ 129,606 $ (215,820) $ -- ============ ============ ============
The accompanying notes are an integral part of these statements. F-8 38 CET ENVIRONMENTAL SERVICES, INC. NOTES TO 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. In August 1997, the Company acquired all of the outstanding stock of Water Quality Management Corporation (WQM). WQM was operated as a wholly-owned subsidiary of the Company. WQM was sold in December 1998 (see Note E). The Company provides a variety of consulting and technical services to resolve environmental and health risk problems in the air, water and soil. The Company has developed a broad range of expertise in non-proprietary technology-based environmental remediation and water treatment techniques for both the public and private sectors throughout North America and the Trust Territory of the Pacific Islands. NOTE B -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Cash For purposes of the statement of cash flows, the Company considers all highly liquid cash investments with an original maturity of three months or less to be cash. Contracts A majority of the Company's revenue is generated from time-and-material contracts whereby the Company provides services, as prescribed under the various contracts, for a specified fixed hourly rate for each type of labor hour and receives reimbursement for material, inventories and subcontractor costs. Many of the contracts also have a fixed mark-up to be applied to material, inventories and subcontract costs. In addition, many of the time and material contracts have a stated maximum contract price, which cannot be exceeded without an authorized change order. Revenue is recorded on contracts based upon the labor hours and costs incurred on the percentage of completion method. Due to uncertainties in the estimation process, actual results could differ from estimates used. Provision for losses on uncompleted contracts are made in the period in which such losses are determined. Claims are recorded in revenue when received. Contracts in process consist of the accumulated unbilled labor at contracted rates, material, subcontractor costs and other direct and indirect job costs and award fees related to projects in process. F-9 39 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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. Equipment and Improvements Equipment and improvements are recorded at cost. Depreciation and amortization are provided on a straight-line method over the estimated useful lives of the respective assets, usually between three to seven years. Leasehold improvements are amortized over the lives of the respective leases or the service lives of the improvements, whichever is shorter. Income Taxes The Company accounts for income taxes on the liability method, which requires that deferred tax assets and liabilities be recorded for expense and income items that are recognized in different periods for financial and income tax reporting purposes. Estimated Fair Value Information Statement of Financial Accounting Standards ("SFAS") No. 107, Disclosure about Fair Value of Financial Instruments, requires disclosure of the estimated fair value of an entity's financial instrument assets and liabilities, as defined, regardless of whether recognized in the financial statements of the reporting entity. The fair value information does not purport to represent the aggregate net fair value of the Company. The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash and other receivables: The carrying amount approximates fair value due to the short-term maturity. Due from related party: The carrying amount approximates the fair value because it is due on demand. Note Payable - Line of Credit: The carrying amount approximates fair value as the line of credit has a variable interest rate which is considered to approximate the market rate. Long-Term Debt / Obligations Under Capital Leases: The carrying value approximates fair value as the interest rate at December 31, 2000 and 1999 is considered to approximate the market rate. F-10 40 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS Use of Estimates In preparing financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Impairment of Long-lived Assets In March 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards 121, Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of (SFAS 121). SFAS 121 requires that long-lived assets and certain identifiable intangibles held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If the sum of the expected future cash flows (undiscounted and without interest) is less than the carrying amount of the asset, an impairment loss is recognized. Measurement of that loss would be based on the fair value of the asset. SFAS 121 also generally requires that long-lived assets and certain identifiable intangibles to be disposed of be reported at the lower of the carrying amount or the fair value, less cost to sell. SFAS 121 is effective for the Company's 1997 fiscal year-end. Any impairment provisions recognized in accordance with SFAS 121 are permanent and may not be restored in the future. No impairment expense was recognized in the years ended December 31, 2000, 1999 and 1998. Earnings per Share The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128, Earnings Per Share (SFAS 128). SFAS 128 requires the presentation of basic earnings per share (EPS) and, for companies with potentially dilutive securities such as convertible debt, options and warrants, diluted EPS. All options and warrants outstanding were excluded from the computation of potential common shares (option price exceeded the average market price during the period) in 1999. Outstanding options excluded in 2000 and 1998 amounted to 59,600 and 67,102, respectively. Outstanding warrants excluded in 2000 and 1998 amounted to 227,925 and 73,001, respectively. F-11 41 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share data):
2000 1999 1998 ---------- ---------- ---------- Numerator Net income (loss) $ 1,041 $ (3,177) $ 539 Preferred stock dividends -- (5) (31) ---------- ---------- ---------- Numerator for basic earnings per share - income available to common stockholders 1,041 (3,182) 508 Effect of dilutive securities: Preferred stock dividends -- -- -- ---------- ---------- ---------- Numerator for diluted earnings per share - income available to common stockholders after assumed conversions $ 1,041 $ (3,182) $ 508 ========== ========== ========== Denominator: Denominator for basic earnings per share - weighted average shares outstanding 6,275 6,282 5,829 Effect of dilutive securities: Warrants -- -- 24 Stock options 3 -- 22 ---------- ---------- ---------- Dilutive potential common shares 3 -- 46 Denominator for diluted earnings per share - adjusted weighted average share and assumed conversion 6,278 6,282 5,875 ========== ========== ========== Basic earnings (loss) per share $ 0.17 $ (0.51) $ 0.09 ========== ========== ========== Diluted earnings (loss) per share $ 0.17 $ (0.51) $ 0.09 ========== ========== ==========
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 2000 and 1998, basic earnings per share data was computed by dividing net income, less preferred stock dividends, if any, by the weighted average number of common shares outstanding during the period. Diluted earnings per share were adjusted for the assumed conversion of potentially dilutive securities including stock options and warrants to F-12 42 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS purchase common stock. However, for 1998 dilutive earnings per share computation does not give effect to the assumed conversion of convertible preferred stock as its effect would have been anti-dilutive. 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. Reclassifications Certain financial statement reclassifications have been made in 1998 to conform to presentations used in 2000. NOTE C -- EPA SUSPENSION AND SUBSEQUENT LIFTING OF SUSPENSION On August 10, 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. 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. In certain circumstances of non-compliance, the EPA has the right under the Administrative Agreement to terminate the agreement and reinstate the Company's suspension. In addition, as defined in the Administrative Agreement, in the case of misconduct by the Company during the EPA's continued investigation, the EPA may immediately terminate EPA contracts, subcontracts, or further award fees. EPA revenue represents approximately 54%, 60%, and 50%, respectively, of the Company's revenue for the years ended December 31, 2000, 1999, and 1998. F-13 43 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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. Following the Restructuring Plan, the Company maintains offices in Denver, CO; Edmonds, WA; and Fort Worth, TX. After review of available information and consultation with its legal counsel, management believes that the allegations brought against the Company did not warrant suspension. Additionally management intends to cooperate in full but also vigorously defend itself in the EPA's further investigation into the allegations. However, there can be no assurance that further suspension will not occur or that the Company will prevail in this matter. If further suspension occurs, it will have a material effect on the Company's financial position, results of operations and liquidity. 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 F-14 44 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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. 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, California 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. NOTE G -- SIGNIFICANT CUSTOMERS A significant portion of the Company's business is from contracts with the EPA. As of December 31, 2000 and 1999, the net balance of accounts receivable from the EPA was $1,880,077 and $2,393,956, respectively. Revenue from the EPA in 2000, 1999, and 1998 amounted to approximately $13 million, $26 million, and $33 million, or 54%, 60%, and 50% of annual gross revenues, respectively. The Company also performed work for the U.S. Army Corps of Engineers and other governmental agencies that accounted for 4%, 8%, and 10% of annual gross revenues in 2000, 1999, and 1998, respectively. In addition, 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 $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"), the parent company for 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 the Hercules and Santa Clarita projects from RFI, with the Santa Clarita project termination effective October 6, 2000 and the Hercules termination being 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 or 76% of accounts receivable at December 31, 2000. Management believes that the receivables are collectible from RFI through either cash F-15 45 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS receipts or by secured liens placed on the projects. However, failure to collect these receivables would have a material adverse effect on the financial position and operations of the Company. Additionally, the continued delay in collecting the receivables 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 of the above-mentioned receivable balances. Contracts in process consist of the following at December 31:
2000 1999 ------------ ------------ Government - EPA contracts $ 3,137,450 $ 1,543,442 Non-EPA contracts 218,153 227,512 ------------ ------------ Total $ 3,355,603 $ 1,770,954 ============ ============
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. 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. NOTE I -- CAPITAL LEASES Vehicles and equipment recorded under capital leases consist of the following at December 31: F-16 46 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS
2000 1999 ------------ ------------ Vehicles $ 148,052 $ 668,053 Equipment 32,736 32,736 ------------ ------------ 180,788 700,789 Less accumulated depreciation (86,061) (501,934) ------------ ------------ Total $ 94,727 $ 198,855 ============ ============
The following is a schedule by year of the future minimum lease payments under capital leases together with the present value of the net minimum lease payments as of December 31, 2000: 2001 $ 62,431 2002 24,264 2003 21,039 ---------- Total minimum lease payments 107,734 Less amounts representing estimated Executory costs (taxes) (6,154) ---------- Net minimum lease payments 101,580 Less amount representing interest (9,985) ---------- Present value of net minimum lease payments $ 91,595 ========== Current portion $ 51,446 Non-current portion 40,149 ---------- $ 91,595 ==========
NOTE J -- RELATED PARTY TRANSACTIONS The Company, from time to time, borrowed funds on a short-term basis from affiliates of the Company or from a trust fund of a relative of the President. In 1997, the Company borrowed $671,800, from relatives of Steven H. Davis, President, pursuant to one-year subordinated notes, which paid interest at the rate of 10% per annum. The Company repaid these notes in December 1998. Interest expense attributable to these related party borrowings amounted to $-0-, $-0-, and $95,761 for 2000, 1999, and 1998, respectively. A director and 11.5% owner of the Company is a 50% owner in Signal Hill Petroleum, Inc., Paramount Petroleum Corp., and Fletcher Oil. The Company provided services to these companies during the years ended December 31, 2000, 1999, and 1998 for fees amounting to approximately $18,145, $ 39,003, and $273,000, respectively. F-17 47 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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 made and applied against the outstanding principal on the loan. On July 1, 2000, 18,285 shares of the Company's common stock were exchanged 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. The National Bank of Canada has now released all claims against the Company. In November 2000, the Company obtained a $1 million revolving line of credit with FirsTier Bank secured by the assets of the Company. Interest only payments beginning December 9, 2000 and continuing at monthly time intervals thereafter. A final payment of the unpaid principal balance plus accrued interest is due and payable on May 9, 2001. 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, 2000, there were no principal or interest amounts due under the line of credit and the Company was in compliance with all covenants. F-18 48 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS Notes payable consists of the following at December 31: 2000 1999 ---------- ---------- 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 6.55%, with monthly payments of $41,374 through June 2000, changing to $10,021 thereafter, the insurance policy and related note balance of $207,198 were cancelled in June 2000 $ -- $ 444,109 ---------- ---------- 116,283 444,109 Less current portion 116,283 290,982 ---------- ---------- $ -- $ 153,127 ========== ==========
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 were entitled to receive dividends when declared by the Board of Directors, payable in cash or common stock of $40 per share. Such dividends were payable in quarterly installments on March 31, June 30, September 30, and December 31 of each year commencing September 30, 1998. In connection with this offering, the Company issued warrants to the representatives of the underwriters in this offering to purchase up to 35,000 shares of the Company's common stock at $3.00 per share. The warrants may be exercised during the period commencing July 24, 1999 and ending on December 31, 2001. F-19 49 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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. The warrants issued in connection with the preferred stock remain outstanding. 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. 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 will be made from time to time in the open market or through negotiated transactions depending on market conditions. Such repurchases will be made only through brokers and will be 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 will be 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. 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 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 $30,625, $79,289, and $82,103 for the years ended December 31, 2000, 1999, and 1998, 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 F-20 50 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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:
2000 1999 1998 ------------ ------------ ------------ Net income (loss) As reported $ 1,040,576 $ (3,176,757) $ 538,478 Pro forma 974,693 (3,236,694) 454,233 Earnings (loss) per common share As reported $ .17 $ (.51) $ 0.09 Pro forma $ .16 $ (.52) $ 0.08
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, 1999 and 1998: 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. F-21 51 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS A summary of the status of the Plan follows:
Weighted average exercise Shares price per share ------------ ---------------- Outstanding at January 1, 1998 230,800 $ 5.10 Granted -- -- Exercised (4,000) 3.50 Canceled (114,700) 4.45 ------------ ------------ Outstanding at December 31, 1998 112,100 5.08 ------------ ------------ Total exercisable at December 31, 1998 51,950 $ 4.75 ============ ============ 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 ============ ============
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 1998. F-22 52 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS The following information applies to options outstanding at December 31, 2000:
Options Outstanding Options Exercisable ---------------------------------------------- ----------------------------- Weighted average Weighted Weighted remaining average average Range of Number contractual exercise Number exercise exercise prices outstanding life (years) price exercisable price --------------- ------------ ------------ ------------ ------------ ------------ $0.44 - $0.66 65,000 9.92 $ 0.44 13,000 $ 0.44 $1.30 - $1.95 30,500 8.22 $ 1.57 12,200 $ 1.57 $3.00 - $4.50 29,100 4.82 $ 3.50 26,400 $ 3.50 ------------ ------------ 124,600 51,600 ============ ============
NOTE P -- TAXES ON INCOME The provision (benefit) for taxes on income includes the following for the year ended December 31:
2000 1999 1998 ------------ ------------ ------------ CURRENT Federal $ -- $ -- $ 183,276 State -- -- -- ------------ ------------ ------------ -- -- 183,276 ------------ ------------ ------------ DEFERRED Federal $ -- $ -- $ -- State -- -- -- ------------ ------------ ------------ -- -- -- ------------ ------------ ------------ Total $ -- $ -- $ 183,276 ============ ============ ============
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: F-23 53 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS
2000 1999 1998 ------------ ------------ ------------ Provision (benefit) for income $ 356,300 $ (1,112,000) $ 281,484 taxes at statutory rate Change in valuation reserve (15,900) 764,000 (1,016,400) Use of operating loss carry forwards (359,500) -- 907,700 Stock options -- 1,000 2,700 Other 19,900 26,000 32,200 Change in prior year estimate (800) 321,000 (24,408) ------------ ------------ ------------ $ -- $ -- $ 183,276 ============ ============ ============
Deferred tax assets and liabilities consist of the following at December 31:
2000 1999 ------------ ------------ Alternative minimum tax credit $ -- $ -- Deferred gain on sale -- (519,900) Accrued salary expense -- -- Allowance for doubtful accounts 84,000 187,500 Other reserves 31,000 264,000 NOL carryforward 1,169,600 1,184,000 Other (374,000) (189,000) ------------ ------------ 926,100 Valuation reserve (910,600) (926,100) ------------ ------------ $ -- $ -- ============ ============
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, 2000, of the future minimum rents due under noncancelable operating leases: F-24 54 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS
Year ending December 31, 2001 $ 187,713 2002 146,152 2003 149,600 2004 50,200 2005 -- ---------- Total $ 533,665 ==========
Total rent expense under operating leases for the years ended December 31, 2000, 1999, and 1998 was approximately $359,385, $670,179, and $839,514, 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, 2000 and 1999 are as follows:
2000 Carrying amount Estimated fair value ---- --------------- -------------------- Cash $ 953,641 $ 953,641 Due from related party -- -- Other receivables 154,524 154,524 Note payable 116,283 116,283 Capitalized lease obligations 91,595 91,595
1999 Carrying amount Estimated fair value ---- --------------- -------------------- Cash $ 504,583 $ 504,583 Due from related party 104,036 104,036 Other receivables 1,612,962 1,612,962 Line of credit 818,152 818,152 Note payable 444,109 444,109 Capitalized lease obligations 144,760 144,760
F-25 55 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS NOTE S -- CONTINGENCIES On February 13, 1998, the Company filed suit in the United States District Court for the District of Oregon against Road Runner Oil, Inc. and Bernard J. Roscoe, alleging breach of contract for non-payment of services performed by the Company at an oil field in Utah. The amount of unpaid invoices, including interest and collection costs, is approximately $2.1 million. The Default Judgments against Road Runner have been awarded in the Tribal Court and Utah state court, and foreclosure proceedings and corresponding asset investigation are in progress. The Company wrote off this account receivable in 1998. On December 19, 2000, the Company filed an action for, among other things, breach of contract, and foreclosure of mechanics' lien/lien release bond against Santa Clarita, LLC, a subsidiary of RFI, in response to non-payment for services performed by the Company on the Porta Bella project located in Santa Clarita, CA. On February 16, 2001, the Company filed its First Amended Complaint in order to focus its recovery efforts on the lien release bond rather than sale of the property. The amount of unpaid invoices is approximately $2.1 million. Previous to this action, the Company filed a mechanics' lien against the project. Based on the fact that Santa Clarita, LLC filed a lien release bond sufficient to cover the unpaid invoices, the Company believes it will prevail in this action and will recover most, if not all, of the amounts due the Company. (Also see Note G.) On February 8, 2001, the Company filed an action for, among other things, breach of contract, foreclosure of mechanics' lien, and judicial foreclosure of the deed of trust in the amount of $10.1 million against LCRI Investments, LLC, a subsidiary 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 concurrently pursue a trustee's sale of the subject property. The amount of unpaid invoices is approximately $3.7 million. Previous to this action, the Company filed a mechanics' lien against the project. 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. 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 requires quarterly principal payments of $503,399 which are made by LCRI Investments, LLC. As of February 2001, LCRI Investment, LLC is current on their quarterly payments and approximately $7.2 million remains outstanding on the Financial Obligation. The Company is entitled to be indemnified by RFI to the extent it is ultimately obligated to make any payments under any of these arrangements. (Also see Note G.) F-26 56 CET ENVIRONMENTAL SERVICES, INC. NOTES TO FINANCIAL STATEMENTS 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. NOTE T -- SUBSEQUENT EVENTS (UNAUDITED) As of March 15, 2001, the Company had repurchased a total of 18,100 shares of common stock at a weighted average price of $0.52 which includes associated broker fees and commissions. F-27 57 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 FirsTier Bank Filed herewith electronically 21 Subsidiaries of the Registrant Filed herewith electronically 23 Consent of Grant Thornton LLP Filed herewith electronically