10-Q 1 form10q.txt FOR PERIOD ENDING JULY 2, 2002 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------- FORM 10-Q (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE QUARTERLY PERIOD ENDED JULY 2, 2002 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE TRANSITION PERIOD FROM _____ TO _____ COMMISSION FILE NUMBER: 333-79419 --------- VOLUME SERVICES AMERICA, INC. ----------------------------- (Exact name of registrant as specified in its charter) DELAWARE 57-0969174 -------- ---------- (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 201 EAST BROAD STREET, SPARTANBURG, SOUTH CAROLINA 29306 -------------------------------------------------- ----------------- (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code: (864) 598-8600 ------------------ N/A ------------------------------ (Former name, former address and former fiscal year, if changed since last report) 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. (X) YES ( ) NO APPLICABLE ONLY TO CORPORATE ISSUERS: The number of shares outstanding of the registrant's Common Stock, par value $.01 per share, at August 15, 2002, was 100. VOLUME SERVICES AMERICA, INC. INDEX PART I FINANCIAL INFORMATION...............................................1 Item 1. Financial Statements..............................................1 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..............................17 Item 3. Quantitative and Qualitative Disclosures About Market Risk.......21 PART II OTHER INFORMATION.................................................21 Item 6. Exhibits and Reports on Form 8-K..................................21 i PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS.

See notes to consolidated financial statements. 2

6 VOLUME SERVICES AMERICA HOLDINGS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) TWENTY-SIX WEEK PERIODS ENDED JULY 2, 2002 AND JULY 3, 2001 ----------------------------------------------------------- 1. GENERAL Volume Services America Holdings, Inc. ("Volume Holdings," and together with its subsidiaries, the "Company") is a holding company, the principal assets of which are the capital stock of its subsidiary, Volume Services America, Inc. ("Volume Services America"). Volume Holdings' financial information is therefore substantially the same as that of Volume Services America. Volume Services America is also a holding company, the principal assets of which are the capital stock of its subsidiaries, Volume Services, Inc. ("Volume Services") and Service America Corporation ("Service America"). The Company is owned by its senior management, Blackstone Capital Partners II Merchant Banking Fund, L.P. ("BCP II"), and General Electric Capital Corporation ("GE Capital"). The accompanying financial statements of Volume Holdings have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission for interim financial reporting. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. However, such information reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of results for the interim periods. The results of operations for the twenty-six week period ended July 2, 2002 are not necessarily indicative of the results to be expected for the fifty-two week fiscal year ending December 31, 2002 due to the seasonal aspects of the business. The accompanying consolidated financial statements and notes thereto should be read in conjunction with the audited financial statements and notes thereto for the year ended January 1, 2002 included in the Company's annual report on Form 10-K. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Reclassifications - Certain amounts in 2001 have been reclassified, where applicable, to conform to the financial statement presentation used in 2002. Insurance - At the beginning of fiscal 2002, the Company adopted a high deductible insurance program for general liability, auto liability and workers' compensation risk supplemented by stop-loss type insurance policies. Prior to fiscal 2002, the Company had a premium based insurance program for these risks. In fiscal 2002, management determined its year end target estimate of the reserve for the deductible required considering a number of factors, including historical experience and actuarial assessment of past years. Actual results could differ from this estimate. New Accounting Standards - In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 142 ("SFAS 142") "Goodwill and Other Intangible Assets", which became effective for the Company on January 2, 2002. SFAS 142 requires, among other things, the discontinuance of goodwill and trademarks amortization. In addition, the standard includes provisions for the reclassification of certain existing recognized intangibles as goodwill, reassessment of the useful lives of existing recognized intangibles, reclassification of certain intangibles out of previously reported goodwill and the identification of reporting units for purposes of assessing potential future impairments of goodwill. The Company has adopted SFAS 142 and completed the required transitional impairment test and found there to be no related impairments. In accordance with the standard, the Company has discontinued the amortization of goodwill and 7 trademarks which was $1.2 million for the twenty-six weeks ended July 3, 2001. A reconciliation of net income (loss) to adjusted net income (loss) is as follows: Thirteen Weeks Ended Twenty Six Weeks Ended -------------------- ---------------------- July 2, July 3, July 2, July 3, 2002 2001 2002 2001 --------- ---------- --------- ----------- (In thousands) Reported net income (loss) $ 3,841 $ 2,155 $(3,029) $(8,477) Goodwill amortization - 443 - 866 Trademark amortization - 171 - 343 --------- ---------- --------- ----------- Adjusted net income (loss) $ 3,841 $ 2,769 $(3,029) $(7,248) --------- ---------- --------- ----------- --------- ---------- --------- ----------- In October 2001, the FASB issued SFAS No. 144 ("SFAS 144") "Accounting for the Impairment or Disposal of Long-Lived Assets" which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS 144 superseded Statement of Financial Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of". SFAS 144 became effective for the Company on January 2, 2002. The adoption of SFAS 144 had no significant impact on the Company's financial position or results of operation. Contract Rights - During the twenty-six weeks ended July 2, 2002, the Company entered into contracts to provide specified concession and other services. Contract rights were purchased for approximately $25.1 million and will be amortized over the lives of the agreements. Income taxes - The Company's income tax expense of $.8 million for the thirteen weeks ended July 2, 2002 reduces the tax benefit of $1.3 million recorded in the first quarter 2002. The benefit for the twenty-six weeks ended July 2, 2002 is calculated using the projected effective tax rate for fiscal 2002 and takes into account the projected reversal of approximately $.8 million of valuation allowances on deferred tax assets. 3. CONTRACT RELATED LOSSES Contract related losses for the twenty-six weeks ended July 2, 2002 reflect an impairment charge of approximately $699,000 for the write-down of contact rights. For the twenty-six weeks ended July 3, 2001, contract related losses consist of approximately $900,000 for the write-down of property and equipment and a receivable reserve of $2.3 million related to two of the Company's customers which filed for reorganization under Chapter 11 of the Bankruptcy Code. 4. COMMITMENTS AND CONTINGENCIES The Company generates a significant portion of its cash flows from Major League Baseball ("MLB") games during the third quarter of its fiscal year. The MLB players union and MLB team owners are negotiating a new labor contract, and the union has indicated its intention to strike if if an agreement is not reached. Conceivably, the MLB team owners could take action to lock out the players if negotiations are unsucessful, although they have not indicated any intention to do so. If a strike or lock out caused the cancellation of a substantial number of games, it could materially adversely affect the Company's results of operations. In addition, the MLB Commissioner on July 10, 2002 warned that one MLB team was at risk of not making its payroll payments and a second team could possibly become insolvent prior to the end of the 2002 MLB season. Should either of these teams be clients of the Company and become insolvent, their insolvency could conceivably have a material adverse effect on the Company's future cash flows and the recoverability of its assets employed at the venue. 8 We are from time to time involved in various legal proceedings incidental to the conduct of our business. In the opinion of management, any liability arising out of any currently pending proceeding will not have a material adverse effect on our financial condition or results of operations. 5. NON-GUARANTOR SUBSIDIARIES FINANCIAL STATEMENTS The Company's $100 million in 11 1/4% senior subordinated notes due 2009 are jointly and severally guaranteed by Volume Holdings and all of the subsidiaries of Volume Services America (the "Guarantor Subsidiaries"), except for certain non-wholly owned U.S. subsidiaries and one non-U.S. subsidiary (together the "Non-Guarantor Subsidiaries"). The following table sets forth the condensed consolidated financial statements of Volume Holdings, the Guarantor Subsidiaries and the Non-Guarantor Subsidiaries as of July 2, 2002 and January 1, 2002 (in the case of the balance sheets), for the thirteen and twenty-six week periods ended, July 2, 2002 and July 3, 2001 (in the case of the statements of operations) and for the twenty-six week periods ended, July 2, 2002 and July 3, 2001 (in the case of the statement of cash flows).

16 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. SEASONALITY AND QUARTERLY RESULTS The Company's sales and operating results have varied and are expected to continue to vary, from quarter to quarter, as a result of factors that include: o seasonal patterns within the industry; o the unpredictability in the number, timing and type of new contracts; o the timing of contract expirations and events; and o the level of attendance at the facilities that we serve. Business at the principal types of facilities that we serve is seasonal in nature, with MLB and minor league baseball sales concentrated in the second and third quarter, the majority of National Football League ("NFL") activity occurring in the fourth quarter and convention centers and arenas generally hosting fewer events during the summer months. Results of operations for any particular quarter may not be indicative of results of operations for future periods. Set forth below are comparative net sales by quarter (in thousands) for the first two quarters of fiscal 2002, fiscal 2001 and fiscal 2000: 2002 2001 2000 ---- ---- ---- 1st Quarter $87,840 $ 83,194 $ 80,120 2nd Quarter $166,421 $157,646 $143,637 3rd Quarter - $177,559 $188,289 4th Quarter - $124,714 $110,487 RESULTS OF OPERATIONS THIRTEEN WEEKS ENDED JULY 2, 2002 COMPARED TO THIRTEEN WEEKS ENDED JULY 3, 2001 Net Sales - For the thirteen weeks ended July 2, 2002, the Company's net sales increased $8.8 million or 5.6% to $166.4 million compared to $157.6 million for the thirteen weeks ended July 3, 2001. The increased sales were principally attributable to $5.1 million in sales from newly acquired service contracts and an increase in sales at the Company's convention center accounts of $3.6 million, primarily due to the expansion of one major facility. Cost of sales - During the thirteen weeks ended July 2, 2002, cost of sales increased to $134.7 million from $127.4 million for the comparable period last year. The related increase of $7.3 million is primarily attributable to the higher level of sales. As a percentage of net sales, these costs increased to 80.9% versus 80.8% for the same period of the prior year. The slight increase was primarily the result of higher personnel costs related to an increase in insurance and workers' compensation partially offset by a decline, as a percentage of net sales, in cost of goods sold as a result of significant savings achieved at certain accounts. Selling, general and administrative expenses - Selling, general and 17 administrative expenses of $14.5 million for the thirteen weeks ended July 2, 2002 increased approximately 0.6% as a percentage of net sales from the prior year period. The increase was primarily the result of higher insurance costs due to dramatic price increases in the insurance market post September 11, 2001, higher corporate overhead expenses related to the addition of management positions and an increase in professional fees. Depreciation and amortization - For the thirteen weeks ended July 2, 2002, depreciation and amortization was $6.7 million as compared to $6.1 million the prior year period. The increase was principally attributable to higher amortization expense related to investments for the renewal and/or acquisition of certain contracts, partially offset by a decline in amortization as a result of the discontinuation of goodwill and trademark amortization ($0.6 million) in accordance with Statement of Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets". Contract related losses - For the thirteen weeks ended July 2, 2002, contract related losses of $0.7 million reflect an impairment charge for the write-down of contact rights. In the prior year period, contract related losses reflect an impairment charge of $0.9 million and a receivable reserve of $2.3 million related to two of the Company's customers which filed for reorganization under Chapter 11 of the Bankruptcy Code. Operating income - Operating income increased approximately $1.7 million from the prior year period primarily due to the factors discussed above. Interest expense - Interest expense declined $0.8 million from the prior year period chiefly as a consequence of lower interest rates on the Company's adjustable rate debt. Income taxes - Management has evaluated the available evidence about future taxable income and other possible sources of realization of deferred tax assets and based on its best current estimates believes that taxable income or benefit will be realized in fiscal 2002. For the thirteen weeks ended July 2, 2002, it has recognized a tax provision of approximately $0.8 million to reduce the benefit of $1.3 million recorded in the first quarter 2002, in comparison to the recognition of no tax expense or benefit in the prior year period. TWENTY-SIX WEEKS ENDED JULY 2, 2002 COMPARED TO TWENTY-SIX WEEKS ENDED JULY 3, 2001 Net Sales - Net sales of $254.3 million for the twenty-six weeks ended July 2, 2002 increased $13.5 million (approximately 6%) from $240.8 million in the prior year period. The increase was attributable in part to $8.8 million in sales from newly acquired service contracts and a $3.6 million increase in sales at the Company's convention center accounts, primarily as the result of the expansion of one major venue. In addition, NFL sales increased approximately $2.6 million as a result of five NFL games played during the period including four games which were postponed due to the events of September 11, 2001 and Super Bowl XXXVI. In the prior year period, two NFL playoff games were played at facilities served by the Company. Partially offsetting these improvements was the closure of certain contracts which accounted for a $4.1 decline in net sales. Cost of sales - The Company's cost of sales as a percentage of net sales remained constant at 82.2% in both the current and prior year periods. Selling, general and administrative expenses - Selling, general and administrative expenses of $26.6 million increased approximately 0.7% as a percentage of net sales from the prior year period, primarily as a result of higher insurance costs, an increase in corporate overhead expenses due to the addition of management positions and an increase in professional fees. Depreciation and amortization - Depreciation and amortization of $12.3 million for the thirteen weeks ended July 2, 2002 increased $0.2 million from the prior year period. The increase was primarily due to higher amortization associated with investments for the renewal and/or acquisition of certain service contracts. The increase was partially offset by the discontinuation of goodwill and trademark amortization ($1.2 million) in accordance with Statement of Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets" which became effective for the Company on January 2, 2002. 18 Contract related losses - For the twenty-six weeks ended July 2, 2002, contract related losses of $0.7 million reflect an impairment charge related to the write-down of contract rights. In the prior year period, contract related losses reflect an impairment charge of $0.9 million and a receivable reserve of $2.3 million related to two of the Company's customers which filed for reorganization under Chapter 11 of the Bankruptcy Code. Operating income - Operating income increased approximately $1.6 million from the prior year period primarily due to the factors discussed above. Interest expense - Interest expense declined $2.0 million from the prior year period chiefly as a consequence of lower interest rates on the Company's adjustable rate debt. Other income - Service America received approximately $1.4 million in connection with funds set aside to satisfy creditors pursuant to a plan of reorganization approved in 1993. Under the plan of reorganization, the company was required to deposit funds with a disbursing agent for the benefit of its creditors. Any funds which remained unclaimed by its creditors after a period of two years from the date of any distribution were forfeited and all interest in those funds reverted back to Service America. Counsel has advised that Service America has no obligation to escheat such funds. Income taxes - Management has evaluated the available evidence about future taxable income and other possible sources of realization of deferred tax assets and based on its best current estimates believes taxable income or benefit will be realized in fiscal 2002. Accordingly in the twenty-six weeks ended July 2, 2002, it has recognized a tax benefit of approximately $0.5 million, in comparison to the recognition of no tax expense or benefit in the prior year period. LIQUIDITY AND CAPITAL RESOURCES For the twenty-six weeks ended July 2, 2002, net cash provided by operating activities was $40.1 million compared to net cash provided by operating activities of $25.0 million in the prior year period. The $15.1 million increase from the prior year period was principally attributable to a decrease of $5.4 million in net losses mainly as the result of the $1.6 million improvement in operating income, a $2.1 million decline in interest expense and the recovery of $1.4 million in funds by Service America Corporation, as discussed above. Additionally, the Company's liabilities increased as compared to the prior year period chiefly due to timing and higher accrued commissions and other contractual obligations related to the Company's MLB clients. Net cash used in investing activities was $27.6 million in the twenty-six weeks ended July 2, 2002 compared to $13.4 million in the prior year period which primarily reflects a higher level of investment in contract rights and property and equipment associated with renewals of existing contracts in the current period. For the twenty-six weeks ended July 2, 2002, net cash used in financing activities was $9.5 million as compared to $1.7 million in the prior year period, primarily reflecting higher net repayments of funds borrowed under the Company's revolving credit facility. FUTURE LIQUIDITY AND CAPITAL RESOURCES We believe that cash flow from operating activities, together with borrowings available under the revolving credit facility, will be sufficient to fund our currently anticipated capital investment requirements, interest and principal payment obligations and working capital requirements. We anticipate total capital investments of $48.2 million in fiscal 2002. At July 2, 2002, $60.5 million of the Company's $75.0 million revolving credit facility was available to be borrowed with $14.5 million of outstanding, undrawn letters of credit reducing availability. OUTLOOK The Company generates a significant portion of its cash flows from MLB games during the third quarter of its fiscal year. The MLB players union and MLB team 19 owners are negotiating a new labor contract, and the union has indicated its intention to strike if an agreement is not reached. Conceivably, the MLB team owners could take action to lock out the players if the negotiations are unsuccessful, although they have not indicated any intention to do so. If a strike or lock out caused the cancellation of a substantial number of games, it could materially adversely affect the Company's results of operations. In addition, the MLB Commissioner on July 10, 2002 warned that one MLB team was at risk of not making its payroll payments and a second team could possibly become insolvent prior to the end of the 2002 MLB season. Should either of these teams be clients of the Company and become insolvent, their insolvency could conceivably have a material adverse effect on the Company's future cash flows and the recoverability of its assets employed at the venue. NEW ACCOUNTING STANDARDS In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 142 ("SFAS 142") "Goodwill and Other Intangible Assets", which became effective for the Company on January 2, 2002. SFAS 142 requires, among other things, the discontinuance of goodwill and trademarks amortization. In addition, the standard includes provisions for the reclassification of certain existing recognized intangibles as goodwill, reassessment of the useful lives of existing recognized intangibles, reclassification of certain intangibles out of previously reported goodwill and the identification of reporting units for purposes of assessing potential future impairments of goodwill. The Company has adopted SFAS 142 and completed the required transitional impairment test and found there to be no related impairments. In accordance with the standard, the Company has discontinued the amortization of goodwill and trademarks which was $1.2 million for the twenty-six weeks ended July 3, 2001. In October 2001, the FASB issued SFAS No. 144 ("SFAS 144") "Accounting for the Impairment or Disposal of Long-Lived Assets," which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS 144 superseded Statement of Financial Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of". SFAS 144 became effective for the Company on January 2, 2002. The adoption of SFAS 144 had no significant impact on the Company's financial position or results of operation. FORWARD LOOKING AND CAUTIONARY STATEMENTS Except for the historical information and discussions contained herein, statements contained in this Form 10-Q may constitute "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve a number of risks, uncertainties and other factors that could cause actual results to differ materially, including, among other things: o our high degree of leverage and significant debt service obligations; o our history of net losses; o the level of attendance at events held at the facilities at which we provide our services and the level of spending on the services that we provide at such events; o the risk of labor stoppages affecting sports teams at whose facilities we provide our services; o the risk of sports facilities at which we provide services losing their sports team tenants; o our ability to retain existing clients or obtain new clients; o the highly competitive nature of the recreational food service industry; o actions taken by our suppliers over which we have no control; o any future changes in management; o the risk of weaker economic conditions within the United States; o the risk of events similar to those of September 11, 2001; 20 o general risks associated with the food industry; o any future changes in government regulation; and o any changes in local government policies and practices regarding facility construction, taxes and financing. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Interest Rate Risk - We are exposed to interest rate volatility with regard to existing issuances of variable rate debt. The Company's financial instruments with market risk exposure consist of its term loans and revolving credit facility borrowings. A change in interest rates of one percent on the outstanding borrowings as of July 2, 2002 would cause a change in annual interest expense of approximately $1.1 million. The Company's Senior Subordinated Notes are fixed interest rate debt obligations. PART II OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits: None. (b) No reports on Form 8-K have been filed during the quarter for which this report is filed. 21 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on August 15, 2002. VOLUME SERVICES AMERICA, INC. By: /s/ Kenneth R. Frick ------------------------------- Name: Kenneth R. Frick Title: Executive Vice President and Chief Financial Officer 22

VOLUME SERVICES AMERICA INC 10-Q