ITEM 1. BUSINESS
The DeWolfe Companies, Inc. (the "Company") is an integrated homeownership services company, primarily engaged in the business of providing sales and marketing services to consumers in connection with residential real estate transactions. In addition, the Company originates and services residential mortgage loans, markets insurance products, and provides corporate and employee relocation and related services to a variety of clients. As such, the Company describes the services that it renders as "homeownership" services. The Company concentrates primarily in the residential segment of the real estate market. Accordingly, for financial purposes the Company views itself as having three reportable operating segments: real estate, including both real estate brokerage and relocation services; mortgage banking; and insurance services. For additional segment information, see Note L of the Notes to Consolidated Financial Statements. The Company is the largest homeownership company in New England where its services are offered in Massachusetts, New Hampshire, Maine, Connecticut and Rhode Island.
The Company was incorporated in Massachusetts in 1984 at which time it acquired The DeWolfe Company, Inc., which had been incorporated in 1975 as the successor to a real estate brokerage business originally founded in 1949 by the family of the Company's Chairman and Chief Executive Officer, Richard B. DeWolfe. The DeWolfe Companies, Inc. is the parent corporation of four principal subsidiary corporations, which are the Company's operating entities: The DeWolfe Company, Inc. and its subsidiaries provide residential real estate sales and marketing services; DeWolfe Mortgage Services, Inc. originates and services residential real estate mortgage loans; DeWolfe Relocation Services, Inc., and its subsidiaries provide relocation services; and The DeWolfe Insurance Agency, Inc. provides insurance products to the Company's customer base. The Company and its subsidiaries do business under the trade name "DeWolfe". References in this Report to the business and operations of the Company include the business and operations of the Company and its consolidated subsidiaries.
RESIDENTIAL REAL ESTATE SALES AND MARKETING
The Company acts as a broker or agent in residential real estate transactions. In performing these services, the Company has historically represented the seller, either as the listing broker, or as a co-broker in the sale. In acting as a broker for the seller, the Company's services include assisting the seller in pricing the property and preparing it for sale, advertising the property, showing the property to prospective buyers, and assisting the seller in negotiating the terms of the sale and in closing the transaction. In exchange for these services, the seller pays to the Company a commission, which is generally a fixed percentage of the sales price. In a co-broke arrangement the listing broker typically splits its commission with the other co-broker involved in the transaction. The Company also offers buyer brokerage services. When acting as a broker for the buyer, the Company's services include assisting the buyer in locating properties that meet the buyer's personal and financial specifications, showing the buyer properties, and assisting the buyer in negotiating the terms of the purchase and closing the transaction. In exchange for these services a commission is paid to the Company which also is generally a fixed percentage of the purchase price and is usually, with the consent of the listing broker, deducted from, and payable out of, the commission payable to the listing broker. With the consent of a buyer and seller, subject to certain conditions, the Company may, in certain circumstances, act as a selling broker and as a buying broker in the same transaction. The Company recognizes commission revenue and expense from brokerage services at the time a purchase and sale agreement is signed by the buyer and seller. Allowances are recorded for amounts that are estimated to be ultimately unrealized. The Company's sales and marketing services are provided by licensed real estate sales associates who have entered into independent contractor agreements with the Company.
RELOCATION SERVICES
Through DeWolfe Relocation Services, Inc. ("DRS"), and its subsidiaries, the Company offers to employers a variety of specialized services primarily concerned with facilitating the resettlement of
transferred employees. These services include sales and marketing of transferees' existing homes for their corporate employer, assistance in finding new homes, moving services, educational and school placement counseling, customized videos, property marketing assistance, rental assistance, area tours, international relocation, group move services, marketing and management of foreclosed properties, career counseling, spouse/partner employment assistance, financial services, and employee buyout funding. Clients can select these programs and services on a fee basis according to their needs.
In September 1997, the Company entered into an agreement with Reliance Relocation Services, Inc. ("RELO") to provide relocation services to the RELO network. The RELO organization comprises a network of 1,100 independent real estate brokerage firms, which includes 45% of the nation's largest real estate firms and provides new relocation opportunities with firms on a national level. The Company is a founding member and shareholder of RELO.
DRS generated approximately 18% of the Company's real estate sales dollar volume (aggregate sales price) in 1999 and 1998. The alliance with RELO accounted for approximately 6% and 5% of DRS transactions for the years ended December 31, 1999 and 1998, respectively.
REAL ESTATE BROKERAGE REVENUES
The following table summarizes the Company's revenues from residential real estate transactions, including relocation, for the periods indicated:
Real estate brokerage revenues accounted for 96%, 96% and 97% of total revenues and net real estate brokerage revenues accounted for 89%, 89% and 91% of net revenues of the Company for the years ended December 31, 1999, 1998 and 1997, respectively.
MORTGAGE BANKING
The Company, through its wholly owned subsidiary, DeWolfe Mortgage Services, Inc. ("DMS"), is engaged in the residential mortgage business, which involves the origination, sale and servicing of mortgage loans for one-to-four family residences. The Company primarily originates and services loans for purchases of properties located in Massachusetts, New Hampshire, Connecticut, Rhode Island and Maine. The majority of these loans are for home sales transactions in which the Company also acts as a broker. The term "origination" refers generally to the process of providing mortgage financing for the purchase of property directly to the purchaser or for refinancing an existing mortgage. The Company primarily funds mortgage loans under a $40.0 million line of credit with First Union National Bank. The majority of its mortgage loans are funded by the line of credit and the remainder of the loans are funded by investors at closing. The Company sells the loans that it funds through the line of credit to investors in the secondary mortgage market. The Company has correspondent relationships with several financial institutions (investors or wholesale lenders) to whom it sells some of the mortgage loans that it originates. These sales are pursuant to a pre-closing commitment from the investor at a specified price, based upon a specified interest rate and type of mortgage loan. These relationships are governed by contracts which establish procedures for registering certain types of loans, including submitting complete loan packages for approval, meeting conditions established by the investors, funding the loans, delivering the closed loan package, and assigning the loan to the investor. The Company originates "conventional" mortgage loans, as well as loans that are guaranteed or insured by agencies of the federal government, secured by one-to-
four family residential properties (including condominiums), that comply with the requirements for sale to either the Federal National Mortgage Association ("FNMA") or the Federal Home Loan Mortgage Corporation ("FHLMC"). The Company also originates "jumbo" loans (conventional loans that exceed the maximum amounts qualifying for sale to FNMA or FHLMC but that otherwise generally comply with FNMA or FHLMC requirements) and other loans that do not comply with FNMA or FHLMC requirements but that do comply with requirements for sale to private investors.
The Company is an approved seller/servicer of FNMA and FHLMC, the largest national investors in residential mortgage loans and the Company sells some of its loans directly to these investors, while retaining the rights to service these loans. Mortgage servicing includes processing loan payments, administering escrow funds, monitoring delinquencies, managing foreclosures, and answering borrowers' inquires. Servicing fees are collected by the Company out of mortgage payments and are normally equal to a fixed percentage of the declining principal balance of the loan. In addition, income is derived from earnings on escrow accounts, late fees, and interest on funds received from borrowers prior to remittance to the purchasers of the loan. The right to service these loans has been treated as an asset (Originated Mortgage Servicing Rights) of the Company. This servicing asset is subject to adjustments for impairment of valuation due to prepayment risk.
The funding of loans by investors at closing or through the line of credit arrangement subjects the Company to certain risks. For example, if a loan fails to satisfy the terms required under an investor's pre-closing commitment, the investor may decide not to fund or purchase the loan. Alternatively, there is a risk that the Company will fail to obtain a pre-closing commitment from an investor in the secondary market when the Company makes a loan commitment to a borrower. In either case, the Company would then be required to find an alternative investor, which, depending on market conditions, and the nature of the issue giving rise to the first investor's failure to purchase the loan, could result in the loan being unsaleable or saleable only at a loss. The Company believes its exposure to interest rate risk is reasonable, but rapid changes in interest rates could result in loans being sold at a loss.
Another risk the Company faces under this way of doing business is if an error is made in confirming coverage of a commitment, or if an investor breaches its obligation to purchase a loan at the agreed-upon price. The Company manages these risks by maintaining strict policies and procedures to insure proper coverage, and by carefully evaluating the financial capabilities and business practices of its investors.
The Company's mortgage servicing business is also subject to certain risks. For example, the decision to purchase servicing rights or to sell loans while retaining servicing rights is based in part on the Company's estimate of the market value of the servicing rights purchased or retained, which in turn is based on the estimated present value of the expected future cash flows from such rights. Various events, such as a higher than anticipated rate of default or prepayment on loans which the Company has servicing rights, could adversely affect the value of, and earnings from, these rights. However, it is the Company's practice to acquire or retain only servicing rights "without recourse", which means that if a borrower defaults on a loan, then the Company would not be required to remit funds to the loan investor or owner until remittance was received from the borrower.
Mortgage loan origination revenue consists primarily of loan origination fees, application and investor fees paid by the borrowers, originated mortgage servicing rights capitalized and service release premiums paid by the investors. Mortgage revenues are offset by direct loan origination costs, which consist of commissions paid to the Company's mortgage consultants and appraisal fees and credit report fees paid to third parties. The Company recognizes mortgage origination revenues and costs when the sale of a mortgage loan is consummated. DeWolfe Mortgage Services, Inc. is licensed as both a mortgage lender and as a mortgage broker in Massachusetts, New Hampshire, Rhode Island, Maine and Connecticut.
The following table summarizes the Company's mortgage origination and servicing activities for the periods indicated:
INSURANCE SERVICES
In 1996, the Company commenced its insurance agency business and began acting as an insurance agent, advising customers as to their insurance needs and the appropriate types and amounts of coverage, placing coverage on their behalf with insurers directly or through wholesale insurance brokers, and assisting them with any subsequent claims. In return for these services, the Company's customers pay premiums based upon the type and amount of coverage purchased and the insurer remits to the Company a commission for sale of the coverage. Premium and commission rates vary in amount depending upon the type of insurance coverage provided, the insurance company underwriting the coverage and other factors. Gross commission revenues from insurance were $1.2 million in 1999 and $585,000 in 1998. In May 1998 DeWolfe Insurance Agency, Inc. acquired the personal lines business of the Curtin Insurance Agency, Inc., which included approximately 5,000 policyholders.
MARKETING
The Company's real estate sales and marketing, mortgage banking, insurance, and relocation services are marketed by a multimedia program conducted throughout Massachusetts, New Hampshire, Rhode Island, Connecticut, and Maine. This program includes direct mail, newspaper, internet (through dewolfe.com), catalog, radio and television advertising. In addition, the integrated nature of the Company's services is designed to produce a flow of customers from its sales and marketing business to its mortgage and insurance businesses.
COMPETITION
The businesses in which the Company is engaged are highly competitive. Many of its competitors, through affiliated franchising organizations, have substantially greater financial resources than the Company. However, the Company believes that its ability to offer its customers a range of inter-related services and its relative strength in residential real estate sales and marketing strongly position it to meet the competition and improve its market share.
In the Company's traditional business of residential real estate sales and marketing, the Company competes primarily with franchise real estate organizations, such as Century-21, ERA, Realty World, GMAC Home Services, RE/MAX, The Prudential, and Coldwell Banker; and multi-office independent real estate organizations. The Company believes that its major competitors in 2000 will be franchise organizations, such as RE/MAX and Coldwell Banker. Companies compete for sales and marketing business primarily on the basis of services offered, reputation, personal contacts, and price.
The Company's relocation business is fully integrated with its residential real estate sales and marketing business. Accordingly, the Company's major competitors are many of the same franchise organizations previously noted. Competition in the relocation business is based primarily on level of service, reputation, personal contact and recently to a greater extent, price.
In its mortgage loan origination business, the Company competes with other mortgage originators, such as mortgage bankers, state and national banks, and thrift institutions. Many of the Company's competitors for mortgage services have substantially greater resources than the Company. The Company competes for loan origination business based on services offered, price and available terms, and its ability to obtain referrals through its sales and marketing services. DMS employs full-time mortgage consultants who are assigned to various Company real estate offices. The mortgage consultants originate mortgage loans almost exclusively, from the Company's real estate customers.
In its insurance business, the Company competes with other insurance agencies, brokerages, direct writers and mass marketers of personal insurance products. The Company competes for insurance business on the basis of the products and pricing structures of several national and regional carriers. New business is generated from the real estate company referrals and discounted group programs.
GOVERNMENT REGULATION
Several facets of the Company's business are subject to government regulation. For example, the Company's real estate sales and marketing subsidiaries are licensed as real estate brokers in the states in which they conduct their real estate brokerage businesses. In addition, the Company's real estate sales associates must be licensed as real estate brokers or salespersons in the states in which they conduct business. Future expansion of the Company's operations into new geographic markets may subject it to similar licensing requirements in other states.
A number of states and localities have adopted laws and regulations imposing environmental controls, disclosure rules, zoning, and other land use restrictions, which can materially impact the marketability of certain real estate. However, the Company does not believe that compliance with environmental, zoning, and land use laws and regulations has had, or will have, a materially adverse effect on its financial condition or operations.
In its mortgage business, mortgage loan origination activities are subject to the Equal Credit Opportunity Act, the Federal Truth-in-Lending Act, the Real Estate Settlement Procedures Act, and the regulations promulgated thereunder which prohibit discrimination and require the disclosure of certain information to borrowers concerning credit and settlement costs. As an approved FNMA and FHLMC mortgage seller, the Company is required to comply with FNMA and FHLMC seller guidelines for secondary sale of mortgages.
Additionally, there are various state laws affecting the Company's mortgage operations, including licensing requirements and substantive limitations on the interest and fees that may be charged. States also have the right to conduct financial and regulatory audits of the loans under their jurisdiction. The Company is licensed as a mortgage lender and as a mortgage broker in Massachusetts, New Hampshire, Maine, Rhode Island, and Connecticut. In Massachusetts, the Company is required to submit annual audited financial statements to the Commissioner of Banks and maintain a minimum net worth of $100,000, $75,000 of which can be in the form of a bond.
There are various state laws affecting the Company's insurance operations, including licensing requirements.
The Company is not aware of any material licensing or other government regulatory requirements governing its relocation business, except to the extent that such business also involves the rendering of real estate brokerage services, the licensing and regulation of which are described above.
TRADE NAMES
The name "DeWolfe" (registered in Massachusetts, New Hampshire, Connecticut, Rhode Island, and Maine), the DeWolfe logotype, and the tagline "One Stop and You're Home" are used extensively in the Company's businesses. These service marks are material to the business of the Company and have been registered in the applicable states. The tagline "One Stop and You're Home" has also been registered
federally. In addition, the Company continues to use the trade names of certain companies that it has acquired.
SEASONALITY
The residential real estate sales and marketing business, mortgage loan origination business, and relocation services business are subject to seasonal fluctuations. Historically, revenues from these businesses are greater in the spring and summer months than in the fall and winter months. The following table illustrates the percentage of the Company's revenues by quarter for the periods indicated.
WORK FORCE
At December 31, 1999 the Company's total work force numbered 2,746 people, including 519 employees (including 80 mortgage banking personnel), 2,219 real estate sales associates and 8 relocation associates. The Company believes that its relations with its personnel are satisfactory and none of its employees is represented by a union. All of its real estate sales associates are independent contractors. As independent contractors, the real estate sales associates are paid by commission solely on the basis of closed sales transactions. Mortgage consultants are paid primarily on the basis of closed mortgage loans.
GROWTH STRATEGIES
ACQUISITIONS
Historically, the Company's growth has been achieved primarily through acquisitions. In some acquisitions, the Company acquired the respective business under a non-competition, consulting, and cooperation agreement with the acquired firm's principal which provided for contingent cash payments to such principal in exchange for the principal's fulfillment of the terms of the agreement and based upon the net commission income derived from the acquired firm's sales offices during the term of the agreement. In other cases the purchase price was paid primarily with cash or the issuance of shares of the Company's common stock.
The Company expects to fund all or a portion of future acquisitions through credit facilities negotiated with the principals of the acquired Companies or with institutional lenders. Additionally, the Company may continue to issue shares of its common stock to complete acquisitions and in some cases the Company may grant registration rights to the sellers in such acquisitions. As a result, resales of shares issued in such acquisitions may affect the market price of the Company's stock, depending on the number of shares sold in any particular period.
During 1999, the Company completed the acquisition of ten real estate brokerage firms, including J.W. Riker Northern Rhode Island, Inc. and Mark Stimson Associates and Mark Stimson Real Estate Network, Inc.
During 1998, the Company completed the acquisition of four real estate brokerage firms, including Dollar Dry Dock Real Estate, Inc. ("DDD") and its wholly-owned subsidiary, The Heritage Group, Inc. Additionally, in May 1998, DeWolfe Insurance Agency, Inc. acquired the personal lines business of the Curtin Insurance Agency, Inc., which included approximately 5,000 policyholders.
See page 10 of "Management's Discussion and Analysis of Financial Condition and Results of Operations."
DIVERSIFICATION
The Company has expanded by entering businesses related to homeownership such as mortgage banking and insurance. The Company expects to continue to investigate other revenue producing services providing a better range of products and quality of service related to homeownership.
ITEM 2.
ITEM 2. PROPERTIES
The Company's principal executive offices are located at 80 Hayden Avenue, Lexington, Massachusetts where it leases approximately 36,500 square feet of space under a lease which requires rent of $936,000 per year ($26 per square foot) and expires in June, 2004. In addition, the Company leases office space for its 101 locations and 2 storage space locations, which consist of an average of 2,700 square feet each, under leases which require rent ranging from $9,000 per year ($13 per square foot) to $257,000 per year ($21 per square foot) and expire at various times through September, 2007. The Company owns the land and building occupied by its Westford, Massachusetts sales office. The property includes approximately 4,400 square feet of sales office space. As of December 31, 1999 the property was subject to mortgages in the aggregate amount of $295,000.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is not party to any legal proceedings, except for litigation and arbitration claims arising in the ordinary course of business which, if adversely determined, should not have, in the opinion of the Company, a material adverse effect either in the aggregate or in any single case on the operations or financial condition of the Company.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS
Not Applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The common stock of the Company is traded on the American Stock Exchange under the symbol "DWL". The following table sets forth, for the periods indicated, the high and low selling prices as reported by the American Stock Exchange. As of March 1, 2000, there were 3,879 record holders of the Company's Common Stock.
On November 9, 1999, the Company declared a special cash dividend of $0.15 per common share payable on January 4, 2000 to holders of record on December 7, 1999. On November 24, 1998 the Company declared a special cash dividend of $0.12 per common share payable on January 4, 1999 to holders of record on December 7, 1998. Pursuant to credit agreements with BankBoston, N.A., the Company is restricted from paying dividends without the prior written consent of the lender, which was obtained in each case. The Company will periodically evaluate the merits of paying future cash dividends, however at this time the Company has no plans to pay any future cash dividends.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA--FIVE YEAR FINANCIAL SUMMARY
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(a) Includes a pre-tax charge of $660,000 or $.11 per share after taxes, for costs related to acquisitions.
(b) Includes a pre-tax charge of $405,000 or $.07 per share after taxes, for costs related to acquisitions.
(c) Includes a pre-tax charge of $250,000 or $.04 per share after taxes, primarily related to office closings.
(d) Includes a pre-tax charge of $281,000 or $.05 per share after taxes, for restructuring and write down of certain non-performing assets.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW OF OPERATIONS
Net income for 1999 was $5.0 million compared to $3.2 million in 1998. The increase in net income in 1999 was primarily attributed to continued growth in the Company's existing real estate markets and the effect of business combinations.
The following table summarizes selected operating ratios (shown as a percentage of net revenue) as of December 31 for each of the years indicated:
BUSINESS COMBINATIONS
Historically, the Company's growth has been achieved primarily through acquisitions. During 1999 the Company completed the acquisition of ten real estate brokerage firms. During 1998, the Company completed the acquisition of four real estate brokerage firms. Additionally, in May 1998, DeWolfe Insurance Agency, Inc. acquired the personal lines business of the Curtin Insurance Agency, Inc., which included approximately 5,000 policyholders.
The combined purchase price of the acquisitions in 1999 was $8.7 million. The agreements also require additional payments to be made not to exceed $2.3 million if specific operating goals are achieved by the acquired entities. The combined purchase price of the acquisitions in 1998 was $6.1 million plus additional payments not to exceed $150,000 to be paid if specific operating goals are achieved by the acquired entities. The acquisitions were funded by borrowings from the Company's acquisition line of credit and financing from the principals of the acquired companies.
All business combinations have been accounted for under the purchase method of accounting and, accordingly, are included in the Company's financial statements from the date of acquisition.
See Item 1, "Growth Strategies," and Note B of Notes to Consolidated Financial Statements for further discussion of business combinations.
RESULTS OF OPERATIONS
1999 COMPARED WITH 1998
REAL ESTATE BROKERAGE REVENUES
Real estate brokerage revenues increased 32% in 1999 to $171.7 million, an increase of $42.0 million over 1998. Real estate brokerage revenue per sales associate was $89,000 in 1999 and $84,000 in 1998. The increase in real estate brokerage revenues was primarily attributed to the growth in the Company's existing markets and the effect of business combinations. The Company's growth in its existing markets is attributed to the continued strong economy and the generally low interest rate environment combined with the Company's integrated homeownership service marketing strategy.
Real estate brokerage revenues in 1999 include $7.3 million of revenues from relocation services as compared to $6.8 million in 1998, an increase of 8%. The increase was primarily due to an increase in the number of corporate services clients as well as the Company's expansion into new markets.
Net revenues from real estate brokerage increased 25% in 1999 to $57.6 million, an increase of $11.4 million over 1998. Net real estate brokerage revenues as a percentage of real estate brokerage revenues
decreased to 34% for 1999 as compared to 36% in 1998. Net revenues from real estate brokerage are impacted by many factors, including those beyond the Company's control, such as the number of co-brokered home sales and prevailing market rates for sales associates commission structures.
MORTGAGE REVENUES
Mortgage revenues in 1999 were $4.7 million, the same as 1998. During 1999, the Company's closed loan volume totaled $451.9 million compared to $429.9 million in 1998.
INSURANCE REVENUES
Insurance revenues increased 104% in 1999 to $1.2 million, an increase of $608,000 over 1998. The increase was primarily due to the acquisition of the personal lines business of the Curtin Insurance Agency, Inc. in May 1998, as well as a higher percentage of real estate brokerage customers purchasing their insurance through the Company.
OTHER REVENUES
Other revenues increased 193% in 1999 to $1.2 million, an increase of $812,000 over 1998. The increase is primarily due to revenues related to reimbursement of real estate expenditures and services.
OPERATING EXPENSES
Operating expenses increased 23% in 1999 to $56.1 million, an increase of $10.5 million over 1998. Operating expenses as a percentage of net revenues decreased to 87% in 1999 as compared to 88% in 1998. The increase in operating expenses in 1999 is primarily due to costs associated with the increase in the Company's overall business and non-recurring expenses of $660,000 in costs related to acquisitions.
INTEREST EXPENSE AND INTEREST INCOME
Interest expense decreased by $45,000 in 1999 as compared to 1998. The decrease in 1999 was primarily due to a decrease of $456,000 in interest on the mortgage warehouse line of credit, offset by additional interest of $411,000 primarily related to the financing of acquisitions. The decrease in interest on the mortgage warehouse line of credit was primarily due to the average balance outstanding on the line.
Interest income increased by $289,000 in 1999 as compared to 1998. The increase was primarily due to additional interest earned on bank accounts of $319,000 and partially offset by a decrease in interest earned on originated mortgage loans held for sale. The change in net interest earned on bank accounts was primarily due to balances kept in escrow and operating bank accounts and interest rates earned on these accounts.
RESULTS OF OPERATIONS
1998 COMPARED WITH 1997
REAL ESTATE BROKERAGE REVENUES
Real estate brokerage revenues increased 30% in 1998 to $129.7 million, an increase of $30.0 million over 1997. Real estate brokerage revenue per sales associate was $84,000 in 1998 and $73,000 in 1997. The increase in real estate brokerage revenues was primarily attributed to the continued increase in business in the Company's existing markets which the Company believes was caused by the continued low interest rate market and strong consumer confidence that had a generally positive effect on residential real estate brokerage in 1998 and 1997 and revenues from business combinations.
Real estate brokerage revenues in 1998 include $6.8 million of revenues from relocation services as compared to $5.7 million in 1997, an increase of 18%. The increase was primarily due to an increase in the
number of corporate services provided which is primarily attributed to the increase in business in the Company's existing markets.
Net revenues from real estate brokerage increased 30% in 1998 to $46.2 million, an increase of $10.6 million over 1997. Net real estate brokerage revenues as a percentage of real estate brokerage revenues decreased to 35.6% for 1998 as compared to 35.7% in 1997. Net revenues from real estate brokerage are impacted by many factors, including those beyond the Company's control, such as the number of co-brokered home sales and pressure on the Company to change commission structures to attract qualified sales associates.
MORTGAGE REVENUES
Mortgage revenues increased 66% in 1998 to $4.7 million, an increase of $1.9 million over 1997. The increase was primarily due to an increase in mortgage loans closed, which the Company believes was caused by continued low interest rates and continued strong consumer confidence, and improved pricing on loans. During 1998, the Company's closed loan volume totaled $429.9 million compared to $293.2 million in 1997.
INSURANCE REVENUES
Insurance revenues increased to $585,000 for 1998 compared to $37,000 in 1997. The increase was primarily due to the acquisition of the personal lines business of the Curtin Insurance Agency, Inc. in May 1998.
OPERATING EXPENSES
Operating expenses increased 24% in 1998 to $45.6 million, an increase of $8.7 million over 1997. Operating expenses as a percentage of net revenues decreased to 88% in 1998 as compared to 95% in 1997. The increase in operating expenses in 1998 is primarily due to costs associated with the increase in the Company's overall business and non-recurring expenses of $405,000 in costs related to acquisitions.
INTEREST EXPENSE AND INTEREST INCOME
Interest expense increased by $905,000 in 1998 as compared to 1997. The increase in 1998 was primarily due to additional interest of $613,000 related to the mortgage warehouse line of credit due to increased loan closings. The remaining interest increase of $292,000 was primarily due to increased interest expense from borrowings related to the financing of acquisitions, primarily Dollar Dry Dock Real Estate, Inc., offset in part by reduced interest expense due to scheduled repayment of the Company's debt.
Interest income increased by $669,000 in 1998 as compared to 1997. The increase was primarily due to additional interest earned on mortgage loans of $577,000 and $92,000 in net interest on bank accounts. The increase in mortgage loan interest was due to increased loan closings in 1998 compared to 1997. The change in net interest earned on bank accounts was primarily due to balances kept in escrow and operating bank accounts and interest rates earned on these accounts.
LIQUIDITY AND SOURCES OF CAPITAL
The Company's cash and cash equivalents at December 31, 1999 totaled $9.6 million compared to $6.2 million at December 31, 1998. Cash provided by operating activities was $23.1 million in 1999, as compared to cash used in operations of $2.5 million in 1998, and $2.2 million in 1997. The changes in cash provided by or used in operations in 1999, 1998, and 1997 were primarily due to the decreases and increases in the Company's mortgage loans held for sale which were funded by the Company's mortgage warehouse line of credit with First Union National Bank and by cash generated by net earnings. Net cash provided relating to
a decrease in mortgage loans held for sale was $18.6 million in 1999 as compared to net cash used related to increases in mortgage loans held for sale of $7.9 million in 1998 and $3.3 million in 1997.
Expenditures for property and equipment totaled $2.1 million in 1999, $1.4 million in 1998, and $1.3 million in 1997. Capital spending during this period was primarily attributed to the Company's investment in improvements to acquired and existing sales offices and upgrades to systems and technology. The Company intends to continue to make expenditures for property and equipment in order to maintain the standards for a quality appearance and processing systems in all of the Company's locations.
The Company has various credit arrangements with BankBoston, N.A., including a $20.0 million acquisition line of credit, a revolving line of credit of $5.0 million, a term note of $725,000, and an aggregate equipment lease line of credit and chattel mortgage financing of $5.0 million.
The outstanding amount under the acquisition line of credit was $11.5 million at December 31, 1999 and $5.1 million at December 31, 1998. There was no outstanding amount under the revolving line of credit at December 31, 1999 and 1998. The remaining outstanding balance of the term note was $225,000 at December 31, 1999 and $525,000 at December 31, 1998. At December 31, 1999 and 1998, the Company had outstanding balances under lease line of credit and chattel mortgage financing of $2.9 million and $2.7 million, respectively.
In connection with its mortgage loan activity, the Company maintains a $40.0 million mortgage warehouse line of credit with First Union National Bank that is used to finance mortgage loans that it originates. The credit line had outstanding balances of $9.0 million and $23.8 million at December 31, 1999 and 1998, respectively. The maturity date of the line is May 2000. The Company expects that the line will be renewed.
In May of 1998, the Company authorized an increase in the amount of the Company's stock that may be repurchased under its stock repurchase plan to a total of $1.9 million. As of December 31, 1999, the Company had acquired a total of $1.3 million of stock under the plan, $31,000 of which was acquired during 1999.
The Company considers its cash flows from operations, combined with its credit arrangements with BankBoston, N.A. and First Union National Bank, to be adequate to fund continuing operations. However, the Company expects to continue to expand its existing businesses, which may include opening new real estate sales offices as well as making investments in or acquiring other real estate and / or insurance businesses. As a result, the Company from time-to-time may seek additional or alternate sources of debt or equity financing which may include the issuance of shares of the Company's capital stock.
FACTORS AFFECTING FUTURE RESULTS
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Certain statements, contained herein, which are not historical fact, including, but not limited to, statements concerning future acquisitions, financing of such acquisitions, financing of the Company's Mortgage line of credit, future alternate revenue sources and relocation opportunities may be deemed to be forward looking statements. There are many important factors that could cause the Company's actual results to differ materially from those indicated in the forward-looking statements. Such factors include, but are not limited to, interest rates and economic conditions generally, regulatory changes (legislative or otherwise) affecting the residential real estate and mortgage lending industries, competition, and prevailing rates for sales associate commission structures.
INFLATION
The Company believes that its revenues per transaction are primarily affected by the increase or decrease in home sale prices. However, the Company's expenses are affected by general price changes, which may not necessarily parallel the changes in home sale prices.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Interest rate risk is the most significant market risk affecting the Company. Interest rate risk is the possibility that changes in interest rates will cause unfavorable changes in net income or in the value of interest-rate sensitive assets, liabilities and commitments. As part of the Company's interest rate risk management programs, the Company purchases financial instruments and enters into agreements with off-balance sheet risk in the normal course of business. The Company uses financial instruments for the purpose of managing interest rate risks to protect the value of its mortgage loans held for sale and mortgage commitment pipeline. Interest rate swaps are also used to convert floating rates to fixed rates. The Company has no market risk sensitive instruments held for trading purposes.
Management actively monitors and manages its exposure to interest rate risk. Analyses are performed for various interest rate scenarios to capture the expected economic change in market value of rate sensitive assets, liabilities and commitments.
In the normal course of business, the Company also faces risks that are either nonfinancial and or nonquantifiable. Such risks include credit risk and legal risk and are not included in the following table.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and schedules listed in Item 14 hereof and the report of independent auditors included in this report on Pages through are incorporated herein by reference.
ITEM 9.
ITEM 9. CHANGES IN, AND DISAGREEMENTS WITH, ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCOLURE
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The section under the heading "Business Experience of Nominees and Executive Officers" on pages 2 and 3 of the Company's Proxy Statement for the Annual Meeting of Stockholders to be held May 16, 2000 is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION AND OTHER INFORMATION
The section under the heading "Executive Compensation and Other Information" in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held May 16, 2000 is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The section under the heading "Principal Stockholders and Stockholdings of Management" in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held May 16, 2000 is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The section under the heading "Certain Relationships and Related Transactions" in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held May 16, 2000 is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted.
3. Exhibits (See the Index to Exhibits included elsewhere in this Report).
Executive Compensation Plans and Arrangements: The following is a list of each management contract or compensatory plan or arrangement in which any director or any of the named executive officers of the registrant participates. Each such contract, plan, or arrangement is also listed in the Index to Exhibits included elsewhere in this report. The Exhibit Number in the left-hand column below refers to the Exhibit Number in this Report. The Reference indicates the Exhibit Number or letter where a copy of such contract, plan or arrangement can be found.
- ------------------------
* Filed herewith
(b) Reports on Form 8-K. None
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
/s/ RICHARD B. DEWOLFE - ------------------------------------------ Richard B. DeWolfe CHAIRMAN, BOARD OF DIRECTORS, CHIEF EXECUTIVE OFFICER AND A DIRECTOR (PRINCIPAL EXECUTIVE OFFICER) Date: March 16, 2000
/s/ JAMES A. MARCOTTE - ------------------------------------------ James A. Marcotte CHIEF FINANCIAL OFFICER (PRINCIPAL FINANCIAL OFFICER) Date: March 16, 2000
/s/ PAUL DEL ROSSI - ------------------------------------------ Paul Del Rossi DIRECTOR Date: March 16, 2000
/s/ A. CLINTON ALLEN - ------------------------------------------ A. Clinton Allen DIRECTOR Date: March 16, 2000
/s/ R. ROBERT POPEO - ------------------------------------------ R. Robert Popeo DIRECTOR Date: March 16, 2000
REPORT OF INDEPENDENT AUDITORS
The Board of Directors The DeWolfe Companies, Inc.
We have audited the accompanying consolidated balance sheets of The DeWolfe Companies, Inc. as of December 31, 1999 and 1998, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. Our audits also included the financial statement schedule listed in the Index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material aspects, the consolidated financial position of The DeWolfe Companies, Inc. at December 31, 1999 and 1998, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
ERNST & YOUNG LLP
Boston, Massachusetts January 28, 2000
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
See notes to consolidated financial statements
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED BALANCE SHEETS (CONTINUED)
LIABILITIES AND STOCKHOLDERS' EQUITY
See notes to consolidated financial statements
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
See notes to consolidated financial statements.
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
See notes to consolidated financial statements
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
THE DEWOLFE COMPANIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
See notes to consolidated financial statements
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A--SUMMARY OF BUSINESS OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
BUSINESS OPERATIONS
The DeWolfe Companies, Inc. (together with its subsidiaries, "the Company") is a provider of integrated homeownership services, and is primarily engaged in the business of providing sales and marketing services to consumers in connection with residential real estate transactions in Massachusetts, New Hampshire, Rhode Island, Maine, and Connecticut. In addition, the Company originates and services residential mortgage loans, provides corporate and employee relocation services and other related services to a variety of clients, and provides insurance products to its homeownership customers.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and all of its wholly-owned subsidiaries. Significant intercompany accounts and transactions are eliminated in consolidation.
REVENUE RECOGNITION
The Company's real estate brokerage services principally involve providing a ready, willing and able buyer of a property to the seller. When these services have been provided the Company has earned a real estate commission. Additional real estate brokerage services are not required. Accordingly, real estate commissions are recognized as revenues when the buyer and seller of a property enter into a contract of sale and a good faith deposit is made by the buyer. Generally, the closing of a contract of sale is subject to the buyer obtaining financing as well as the performance by the buyer and seller of certain contractual requirements and, accordingly, recorded revenue is reduced by an allowance for such contingencies. In the event of a default, the Company is entitled to its real estate commission under its listing agreement with the seller or under the purchase and sale agreement between the buyer and seller.
Mortgage loan origination revenues, offset by direct loan origination costs, are deferred and the net amount is recognized as a component of gain on sale of mortgage loans when the sale of the loan has been consummated. Mortgage loan origination revenue consists primarily of loan origination, application and investor fees paid by the borrowers, originated mortgage servicing rights capitalized and service release premiums paid by the investors. Direct loan origination costs consist of commissions paid to the Company's mortgage consultants and appraisal fees and credit report fees paid to third parties. Interest on mortgage loans held for sale is recorded in income as earned.
Originated mortgage servicing rights are capitalized based on their fair value and are amortized in proportion to, and over the period of, estimated net servicing income. Amortization is adjusted prospectively to reflect changes in prepayment experience. The Company periodically evaluates and measures the value of the servicing rights to determine impairment. In determining the value, the Company stratifies the servicing rights based on predominant risk characteristics of the underlying loans. The characteristics that the Company uses are interest rate, date of origination and loan term. Impairment is recognized in a valuation allowance in the period of impairment.
Servicing income represents net fees earned for servicing real estate mortgage loans owned by outside investors and is recorded in income when received.
Insurance revenue is generally recorded as of the effective date of the insurance policy. Contingent revenue is recorded in income when received.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A--SUMMARY OF BUSINESS OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) MORTGAGE LOANS HELD FOR SALE
Mortgage loans held for sale are carried at the lower of cost or market determined on a net aggregate basis. The carrying value of mortgage loans is adjusted by realized gains and losses generated from corresponding hedging transactions in the form of forward commitments. Forward commitments are used to protect the value of mortgage loans held for sale and loan applications with interest rate commitments from increases in interest rates.
FAIR VALUE DISCLOSURES
SFAS No. 107 "Disclosures about Fair Value of Financial Instruments" requires disclosure of fair value information about financial instruments, whether or not recognized in the balance sheet, for which it is practicable to estimate that value. SFAS No. 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.
PROPERTY AND EQUIPMENT
Property and equipment is stated at cost, except for equipment under capital leases, which is recorded at the net present value of the minimum lease payments at inception of the lease.
Depreciation and amortization is provided using the straight-line method over the estimated useful asset lives for owned assets (three to five years), the related lease term for equipment under capital leases (three to five years), and the shorter of the lease term or estimated useful life of the asset for leasehold improvements.
EXCESS OF COST OVER VALUE IN NET ASSETS ACQUIRED AND TRADE NAMES
The excess of cost over value in net assets of companies acquired and trade names are being amortized using the straight-line method over fifteen to twenty-year periods and are reviewed on an ongoing basis by the Company's management based on several factors, including the Company's projection of undiscounted operating cash flows from such acquisitions. If an impairment of the carrying value was identified by this review, the Company would adjust the carrying value of the excess of cost over value in net assets acquired and trade names to its estimated fair value.
NON-COMPETITION AND CONSULTING AGREEMENTS
Costs related to non-competition and consulting agreements entered into as part of the Company's acquisition of real estate agencies are being amortized over the period of the respective agreements which range from three to five years.
STOCK-BASED COMPENSATION
The Company has elected to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") in accounting for its stock-based compensation plans, rather than the alternative fair value accounting method provided for under SFAS No. 123, "Accounting for Stock-Based Compensation." Under APB 25, when the exercise price of options granted under these plans
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A--SUMMARY OF BUSINESS OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) equals the market price of the underlying stock on the date of grant (as is the case with the Company's options), no compensation expense is required.
ADVERTISING
Advertising costs are expensed as incurred and are classified as marketing and promotion on the accompanying Consolidated Statements of Income.
INCOME TAXES
Income taxes have been provided using the liability method in accordance with the requirements of SFAS No. 109, "Accounting For Income Taxes."
STATEMENT OF CASH FLOWS
For purposes of the statement of cash flows, cash includes cash and short-term highly liquid investments with original maturities of three months or less.
BASIC EARNINGS PER SHARE AND DILUTED EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 128 "Earnings per Share." SFAS No. 128 requires the dual presentation of basic earnings per share and diluted earnings per share on the face of the Income statement and a reconciliation of the numerator and denominator of the earnings per share computation to the numerator and denominator of the diluted earnings per share computation. Basic earnings per share is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the assumed conversion of all dilutive securities, such as options and warrants.
NEW ACCOUNTING PRONOUNCEMENT
In June 1998, SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133"), was issued. SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. In June 1999, SFAS No. 137 "Accounting for Derivative Instruments and Hedging Activities--Deferral of Effective Date of SFAS 133" ("SFAS No. 137"), was issued. SFAS No. 137 amends SFAS No. 133 to become effective for all quarters of fiscal years beginning after June 15, 2000; however, earlier application is encouraged as of the beginning of any fiscal quarter. The Company has not yet determined the effect of the implementation of SFAS No. 133 on its financial statements.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates, and such differences may be material.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A--SUMMARY OF BUSINESS OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) RECLASSIFICATIONS
Certain prior year balances have been reclassified to conform with current year presentation.
NOTE B--ACQUISITIONS
The Company has expanded its operations through the acquisition of 17 independent real estate agencies in the three year period ended December 31, 1999 (10 in 1999, 4 in 1998, and 3 in 1997). Additionally, in May 1998, DeWolfe Insurance Agency, Inc. acquired the personal lines business of the Curtin Insurance Agency, Inc., which included approximately 5,000 policyholders.
The total purchase price of the acquisitions in 1999 was $8.7 million. The agreements also require additional payments to be made not to exceed $2.3 million if specific operating goals are achieved by the acquired entities. The total purchase price of the acquisitions in 1998 was $6.1 million and additional payments not to exceed $150,000 if specific operating goals are achieved by the acquired entities. The total purchase price of the acquisitions in 1997 was $288,000. The acquisitions in 1999 and 1998 were funded by borrowings from the Company's acquisition line of credit and by loans from the principals of the acquired companies. The acquisitions in 1997 were funded by the Company's operating cash. The Company recorded the present value of minimum estimated payments to be made pursuant to non-competition, consulting and cooperation agreements related to acquisitions of $1.3 million in 1999, $99,000 in 1998, and $164,000 in 1997. Additionally, during 1999 and 1998 as a result of the Company's acquisitions, the Company recorded the excess of cost over value in net assets acquired of $5.7 and $5.3 million, respectively. There was no excess of cost over value in net assets acquired recorded for the 1997 acquisitions. Acquisition related costs of $660,000 and $405,000 were incurred in 1999 and 1998, respectively. Acquisition related expenses in 1997 were not material.
In connection with the acquisition of the assets of various real estate agencies, the Company entered into non-competition, consulting and cooperation agreements that expire at various dates through August 2004. Future payments, as called for in the agreements, are contingent upon the fulfillment of the terms of these agreements by the sellers and provide for certain percentage payments of the net commission income of various sales office locations.
On January 16, 1998, the Company acquired 100% of the stock of Dollar Dry Dock Real Estate, Inc. ("DDD") for $4.0 million. The acquisition was funded through a credit facility provided by BankBoston, N.A.
The Company's unaudited consolidated results of operations for the years ended December 31, 1999 and 1998 on a pro forma basis assuming the 1999 acquisitions had occurred as of January 1, 1998 are as follows:
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE C--RELATED PARTY TRANSACTIONS
The Company has various advances and notes receivables with related parties as described below.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE D--INDEBTEDNESS
The Company has a $40.0 million mortgage warehouse line of credit with First Union National Bank to provide financing for mortgage loans that it originates. The line of credit is collaterized by all mortgage notes receivable, the Company's mortgage servicing rights, and certain deposit accounts. The line requires monthly interest payments at the lesser of the Federal Funds rate plus 1.50% or the prime rate. At December 31, 1999 the rate in effect was 6.63%. The maturity date of the line is May 2000, at which time the principal repayment is due, unless the line is renewed. The balances due at December 31, 1999 and at December 31, 1998 were $9.0 million and $23.8 million, respectively.
The Company has various credit arrangements with BankBoston, N.A., which include a $20.0 million acquisition line of credit, a revolving line of credit of $5.0 million, a term note of $725,000, and an equipment lease line of credit of $5.0 million. The credit agreements require the Company to obtain the written consent of the lender prior to paying dividends.
The following table describes the detail of the indebtedness.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE D--INDEBTEDNESS (CONTINUED)
The Company has entered into an interest rate swap agreement in the notional amount of $11,500,000 to reduce the impact of increases in the interest rate on its borrowings under its variable rate acquisition line of credit with BankBoston, N.A. The agreement effectively entitles the Company to convert its variable rate agreement to a fixed rate of 7.36% on borrowings under the facility up to $11,500,000 through March 31, 2001. Payments received or paid as a result of the swap are accrued as a reduction of, or an increase to, interest expense on the variable rate line of credit.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE D--INDEBTEDNESS (CONTINUED) The carrying amounts of the Company's borrowings approximate their fair value. Aggregate annual maturities of long-term debt as of December 31, 1999 are as follows:
NOTE E--COMMITMENTS AND CONTINGENCIES
NON-COMPETITION AND CONSULTING AGREEMENTS
In connection with the acquisition of the assets of various real estate agencies, the Company entered into non-competition, consulting and cooperation agreements that expire at various dates through August 2004. Future payments, as called for in the agreements, are contingent upon the fulfillment of the terms of these agreements by the sellers and provide for certain percentage payments of the net commission income of various sales office locations. The annual minimum commitment for these payments, assuming the contracted commitments are fulfilled, will be approximately $130,000 in 2000, $32,000 in 2001, and $44,000 in 2002, $40,000 in 2003, and $40,000 in 2004. During 1999, 1998, and 1997, the percentage payments were $166,000, $188,000, and $119,000, respectively and are expensed when paid.
FUNDS HELD IN ESCROW
The Company acts as escrow agent in connection with the performance of its real estate services. Accordingly, the Company held escrow funds totaling $15.4 million and $12.9 million at December 31, 1999 and 1998, respectively. These funds are not recorded in the Company's financial statements.
LEASE COMMITMENTS
The Company leases office facilities under operating leases that expire at various dates through 2004. The Company anticipates renewing or replacing leases that expire in the normal course of business. The terms of the leases provide for the payment of minimum annual rentals and generally for the payment of insurance, maintenance, and certain other operating expenses.
The Company also leases various items of equipment used for sales and administrative activities. The leases expire at various dates through 2003. Leases that meet criteria for capitalization have been recorded as capital leases.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following is a schedule of the future minimum payments under operating and capital leases for each of the five years in the period ending December 31, 2004 and thereafter:
Rent expense under the non-cancelable operating leases was $6.1million in 1999, $4.8 million in 1998 and $4.1 million in 1997.
Equipment and improvements recorded under capital leases, which are included with company-owned property and equipment at December 31, 1999 and December 31, 1998, totaled $1.1 million and $2.3 million, respectively, net of accumulated amortization at that date of $2.3 million and $2.5 million, respectively.
COMMITMENTS AND CONTINGENCIES WITH OFF-BALANCE SHEET RISK
The Company is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. These financial instruments include commitments to extend credit to customers and forward commitments to sell mortgage loans to investors. The instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the financial statements. The contract or notional amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.
The Company uses the same credit policies in making commitments and conditional obligations as it does for making loans. In the opinion of management, the Company's outstanding commitments do not reflect any unusual risk.
The contract or notional amount of commitments outstanding at December 31, 1999 and 1998 are as follows:
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. Loan applications must be approved by the Company's underwriting department, before a commitment is issued, for compliance with underwriting criteria of FNMA, FHLMC, or other investors.
Forward commitments are contracts for the future delivery of loans or securities at a specific future date, at a specified price and yield, and are entered into to reduce market risk associated with originating and holding loans for sale. The risks associated with these commitments arise from the possible inability of the counterparties to meet the contract terms, or the Company's inability to generate loans to fulfill the contracts.
Forward commitments are used to protect the value of the anticipated closing of loan applications for which the interest rate has been locked by the borrower. These loans usually close within three months from the time of the application.
The Company sells, without recourse, all its mortgage loan production to investors.
OTHER CONTINGENCIES
The Company is currently a defendant in certain litigation arising in the ordinary course of business. It is management's opinion that the outcome of these actions will not have a material effect on operations or the financial condition of the Company.
NOTE F--FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table represents the carrying amounts and estimated fair values of the Company's financial instruments at December 31, 1999 and 1998.
ESTIMATION OF FAIR VALUES
The following notes summarize the major methods and assumptions used in estimating the fair values of financial instruments shown above and the Company's commitment to extend credit and forward commitments.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE F--FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) CASH AND CASH EQUIVALENTS
The fair value of cash and cash equivalents is considered to approximate the carrying amount as a result of the highly liquid and short-term nature of the instruments.
MORTGAGE LOANS HELD FOR SALE
The fair value of mortgage loans held for sale was determined based upon prices to be realized based on forward commitments.
ORIGINATED MORTGAGE SERVICING RIGHTS
The fair value of mortgage servicing rights is determined using a valuation model that calculates the present value of estimated expected future net servicing cash flows. The Company utilized assumptions that market participants would use in their estimates of future servicing income and expense. The significant assumptions utilized in the valuation were discount rate, prepayment estimates, and cost to service.
NOTE PAYABLE-BANK AND LONG-TERM DEBT
The fair value of the note payable-bank is stated at carrying amount as a result of the short-term nature of the instrument and the variable interest rate. The fair value of long-term debt reflects current rates for similar debt. The fair value of the interest rate swap agreement was $45,000 at December 31, 1999 based on quoted market prices.
COMMITMENT TO EXTEND CREDIT
The fair value of mortgage commitments to extend credit is estimated by comparing the Company's cost to acquire mortgages to the current price for similar mortgage loans, taking into account the terms of the commitments and creditworthiness of the counterparties, but not giving effect to forward commitments. For fixed rate loan commitments, fair value also considers the difference between the current levels of interest rates and the committed rates. The fair value of the Company's commitment to extend credit reflected a gain of $146,000 at December 31, 1999 and a gain of $94,000 at December 31, 1998.
FORWARD COMMITMENTS
The fair value of forward commitments is the estimated amount that the Company would receive or pay to terminate the forward commitments at the reporting date based on market prices for similar financial instruments. The fair value of the Company's forward commitments reflected a gain of $95,000 and a loss of $176,000 at December 31, 1999 and 1998, respectively. The fair value estimates of the Company's forward commitments are estimated without consideration of the future earnings attributable to loans that have been or will be originated to satisfy the forward commitments.
NOTE G--RETIREMENT PLANS
Effective December 1, 1996, the Company established a qualified 401(k) retirement plan for the benefit of eligible employees. The Company has made discretionary contributions to the plan by matching
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE G--RETIREMENT PLANS (CONTINUED) 25% of employee contributions (up to 6% of individual employee contribution) in 1999 and 1998. The Company contributed $181,000 to this plan in 1999 and $162,000 in 1998.
The Company also maintained a qualified defined contribution plan, the Profit-Sharing Retirement Plan, for the benefit of eligible employees. The Company terminated this plan and distributed all plan assets to plan participants in 1998. The plan provided that the Company would make contributions out of current or accumulated earnings in such amount as the Board of Directors would determine on or before December 31 of each year. The contribution each year would in no event exceed the maximum allowable under applicable provisions of the Internal Revenue Code. The Company did not make contributions to the plan for the years ended December 31, 1999, 1998, and 1997.
NOTE H--INCOME TAXES
Deferred income taxes reflect the net effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets and liabilities as of December 31, 1999 and 1998 are as follows:
The provision for income taxes for 1999, 1998 and 1997 consisted of the following:
The provision for income taxes is different from that which would be obtained by applying the statutory Federal income tax rate to income before taxes. The items causing the difference are as follows:
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE I--CONCENTRATION OF CREDIT RISK
The Company sells its services to homeowners and buyers. The Company is affected by the cyclical nature of the residential real estate industry and the availability of financing for the homebuyer.
NOTE J--STOCKHOLDERS' EQUITY
The Company established a policy in 1993 pursuant to which one share of common stock is issued as a bonus under the Company's Company Stock Purchase Plan to each employee, consultant, sales associate, or advisor who joins the Company, subject to a ninety-day waiting period. During 1997, 1998 and 1999, 425, 709 and 1,090 shares, respectively, were issued pursuant to this policy. The total value of these shares amounted to $2,000 in 1997, $5,000 in 1998 and $8,000 in 1999 using as a value the closing sale price of the common stock on the American Stock Exchange on the day immediately preceding the date of issuance.
In 1996, the Company approved a stock repurchase plan authorizing the Company to repurchase shares of its common stock in the open market or in private transactions. In May of 1998, the Company authorized an increase in the amount of the Company's stock that may be repurchased under the repurchase plan to a total of $1.9 million. At December 31, 1999, 231,548 shares at a cost of $1,319,000 had been acquired under this plan, of which 4,500 shares at a cost of $31,000 were acquired in 1999, 108,400 shares at a cost of $656,000 were acquired in 1998; and 108,048 shares at a cost of $577,000 were acquired in 1997.
In 1999 and 1998, the Company issued notes receivable to the Company's principal stockholder (including spouse) and to executive officers totaling $607,000 and $270,000, respectively. The proceeds from these transactions were used to purchase shares of the Company's stock. The notes receivable are carried as a reduction of stockholders' equity.
The Company has various stock option plans under which shares of common stock may be granted to key employees, consultants, sales associates, advisers, and directors of the Company. Options granted under the plans are non-qualified or incentive stock options, and are granted at a price that is not less than the fair market value of the common stock at the date of grant. These options have lives of five or ten years and vest over periods from zero to four years. Options available for future grant under these plans totaled 124,300 at December 31, 1999.
At December 31, 1998 the Company had 500,000 warrants outstanding with exercise prices ranging from $6.00 to $9.00 per share. During 1999, 5,960 warrants were exercised at $6.00 per share. The remaining 494,040 warrants expired unexercised.
Pursuant to the requirements of SFAS 123, the following are the pro forma net income and net income per share amounts for 1999, 1998, and 1997, as if the compensation cost for the stock option and stock purchase plans had been determined based upon the fair value at the grant date for grants in 1999, 1998, and 1997.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE J--STOCKHOLDERS' EQUITY (CONTINUED) The above pro forma estimates were made using the Black-Scholes option pricing model. The following assumptions were used to estimate the fair value of the 1999 options: risk free interest rate of 6.46%, expected volatility of .309, expected dividend yield of 2% and an estimated life of the options of 5 and 10 years based on the grant.
The values estimated related to options are based on management estimates in conjunction with the Black-Scholes valuation model and may not reflect actual values of these options.
A summary of stock option and warrant transactions for the years ended December 31 is as follows:
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(1) Options granted during the year where the exercise price equaled the market price on the grant date.
(2) Options granted during the year where the exercise price exceeds the market price on the grant date.
(3) Options granted during the year where the exercise price was less than the market price on the grant date.
The weighted average remaining life of stock options outstanding at December 31, 1999 was approximately 4 years.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE J--STOCKHOLDERS' EQUITY (CONTINUED) The weighted average fair value of options granted during 1999 and 1998 for options where the exercise price equaled the market price on the grant date was $2.41 and $2.39, respectively. The weighted average fair values of options granted during 1999 and 1998 where the exercise price exceeds the market price on the grant date were $1.97 and $1.88, respectively. The weighted average fair value of options granted during 1999 where the exercise price was less than the market price on the grant date was $2.50. There were no options granted in 1998 where the exercise price was less than the market price on the grant date. These fair values were estimated using the Black-Scholes valuation model and the assumptions noted above.
The following table sets forth the computation of basic earnings per share and diluted earnings per share:
NOTE K--ORIGINATED MORTGAGE SERVICING RIGHTS
The following table represents activity and carrying amounts for originated mortgage servicing rights at December 31, 1999 and 1998.
The following table represents activity and balances for the valuation allowance for originated mortgage servicing rights at December 31, 1999 and 1998.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L--SEGMENT REPORTING
The Company has three reportable operating segments, based upon its services: real estate, including both real estate brokerage and relocation services; mortgage banking; and insurance services. The Company evaluates its segments based on pre-tax income. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. Financial information for the three operating segments is provided in the following table.
THE DEWOLFE COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M--SELECTED QUARTERLY DATA (UNAUDITED)
THE DEWOLFE COMPANIES, INC. SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS
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(1) Represents primarily write-offs of net commissions on real estate sales, which were not consummated.
THE DEWOLFE COMPANIES, INC. EXHIBIT INDEX--FORM 10-K
DESCRIPTION
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* Filed herewith