ITEM 1. BUSINESS
Trendwest Resorts, Inc., (Company) markets, sells and finances timeshare Vacation Ownership Interests in the form of Vacation Credits and Fractional Interests. The Company also acquires, develops and manages timeshare resorts. The Company's timeshare resorts (except Fractional Interests) are owned and operated through WorldMark, the Club, (WorldMark) a non-profit mutual benefit corporation organized by Trendwest in 1989 to provide an innovative, flexible vacation ownership system. The Company presently sells Vacation Ownership interests in Alaska, Arizona, California, Idaho, Oregon, Utah and Washington primarily through off-site sales offices. Fractional Interests are sold on-site at the Depoe Bay resort in Oregon.
Trendwest sells Vacation Ownership Interests in the form of Vacation Credits, which are created by the transfer to WorldMark of resort units purchased or developed by the Company, and Fractional Interests. Vacation Credits can be used by Owners to reserve units at any of the WorldMark resorts, at any time of the year and in increments as short as one day. The use of Vacation Credits is not tied to any particular resort unit or time period as is typical in the timeshare industry. The Company believes that the combination of multiple WorldMark Resorts and the Company's Vacation Credit system provides Owners with an attractive range of vacation planning choices and values not generally available within the timeshare industry. The Company's Vacation Credit system with multiple WorldMark Resorts facilitates the sale of Vacation Credits at off-site sales offices located in major metropolitan areas and reduces dependence on on-site sales centers located at more remote resort locations. The Company was formed as a pure Vacation Credit system and its operations infrastructure was designed to facilitate such an operation. Often, other timeshare operations have overlaid a "points-based" club onto a traditional fixed week product.
Fractional Vacation Ownership Interests represent deeded fixed intervals in timeshare condominiums and are not transferred to WorldMark. The Company's first Fractional program, at the Depoe Bay resort on the Oregon Coast, commenced pre-selling in October, 1998 and began recognizing revenue from these sales in April, 1999 when the Company took possession of the property. The 377 Fractional Interests each representing a 13th share ownership in a condominium were completely sold out by October, 1999. The Company will continue to develop Fractional ownership programs at strategic locations with high demand.
The Company sells vacation credits at twenty-four sales offices, fifteen of which are located off-site in metropolitan areas. The other sales offices are located on-site at nine of the WorldMark Resorts.
RECENT DEVELOPMENTS
On October 22, 1999, the Company formed Trendwest South Pacific, Pty. Ltd. (Trendwest South Pacific) as a wholly-owned subsidiary. Trendwest South Pacific is an Australian corporation formed for the purpose of conducting sales, marketing and resort development activities in the South Pacific. As of December 31, 1999, Trendwest South Pacific had no activity other than general and administrative expenses associated with the start-up of operations.
The Company is currently in the process of registering its product with Australian regulators. The Company anticipates commencing sales operations in April, 2000 following regulatory approval.
CORPORATE BACKGROUND AND CONSOLIDATION OF FINANCE SUBSIDIARIES
The Company commenced its timeshare business as a wholly-owned subsidiary of JELD-WEN in 1989 with three condominium units. JELD-WEN is currently the Company's principal shareholder. JELD-WEN is a privately owned company that was founded in 1960 and is a major manufacturer of doors, windows and millwork products. Headquartered in Klamath Falls, Oregon, JELD-WEN has diversified operations located throughout the United States and in numerous foreign countries that include manufacturing, hospitality and recreation, retail, financial services and real estate.
The Company raises capital for property acquisitions and working capital by selling or securitizing Notes Receivable through four subsidiaries (the "Finance Subsidiaries"). Prior to June 30, 1997, two of the Finance
Subsidiaries were owned by JELD-WEN. Effective June 30, 1997, the Company acquired the two Finance Subsidiaries from JELD-WEN for 5,193,693 shares of the Company's Common Stock (the "Consolidation Transactions"). On August 15, 1997, the Company consummated its public offering.
The Company has transactions with other JELD-WEN subsidiaries and related parties. See note 14 "Related Party Transactions" in the notes to the combined and consolidated financial statements included herein.
The Company was incorporated in Oregon in 1989. The Company's principal executive offices are located at 9805 Willows Road, Redmond, Washington 98052, and its telephone number is (425) 498-2500.
WORLDMARK
WorldMark is a California nonprofit mutual benefit corporation formed by Trendwest in 1989. WorldMark's articles of incorporation provide that the specific purpose for which it was formed is to own, operate and manage the real property conveyed to it by the Company for the benefit of the WorldMark Owners. There are 87,432 Owners at December 31, 1999. Owners receive the right to use all WorldMark Resort units and the right to vote to elect WorldMark's board members and to vote with respect to certain major WorldMark matters. The number of votes that each Owner has is based on the number of Vacation Credits owned.
The Resorts are owned by WorldMark free and clear of all monetary encumbrances. WorldMark maintains a replacement reserve for the WorldMark Resorts which is funded from the annual assessments of the Owners. The replacement reserve is utilized to refurbish and replace the interiors and furnishings of the condominium units and to maintain the exteriors and common areas in WorldMark Resorts in which all units are owned by WorldMark.
Compared to other timeshare arrangements, the WorldMark concept provides Owners significant flexibility in planning vacations. Depending on how many Vacation Credits an Owner has purchased, the Owner may use the Vacation Credits for one or more vacations annually. The number of Vacation Credits that are required to stay one day at WorldMark's units varies, depending upon the resort location, the size of the unit, the vacation season and the day of the week. For example, a Friday or Saturday night stay at a one-bedroom unit may require 825 Vacation Credits per night off-season and 1,450 Vacation Credits per night in peak season. A midweek stay at the same one-bedroom unit would require less Vacation Credits. The range of Vacation Credits that is required to stay one day enables an Owner to receive a varying number of days at the WorldMark Resorts depending on the vacation choices made by the Owner. Under this system, Owners can select vacations according to their schedules, space needs and available Vacation Credits. Vacation Credits are reissued on an anniversary date basis and any unused Vacation Credits may be carried over for one year. An Owner may also borrow Vacation Credits from the Owner's succeeding year's allotment.
An Owner may also purchase bonus time ("Bonus Time") from WorldMark for use when space is available. Bonus Time can only be reserved within fourteen days of use for drive-to locations and within thirty days of use for exotic locations (Hawaii, Mexico and Fiji). Bonus Time gives Owners the opportunity to use available units on short notice at a reduced rate (generally from $20 to $50 per night, mid-week in the off-season) and to obtain usage beyond their Vacation Credit allotment.
WorldMark collects maintenance dues from Owners based on the number of Vacation Credits owned. Currently, the annual dues are $249 for the first 5,000 Vacation Credits owned, plus approximately $76 for each additional increment of 2,500 Vacation Credits owned. These dues are intended to cover WorldMark's operating costs, including condominium association dues at the WorldMark Resorts. The Company pays WorldMark the dues on all unsold Vacation Credits. Such payments totaled $1,376,000, $1,107,000 and $793,000 in 1999, 1998 and 1997, respectively.
WorldMark has a five member board of directors that manages its business and affairs. Three of the directors and principal executive officers of WorldMark are also officers of the Company. The Board must obtain the approval of a majority of the voting power of the Owners represented (excluding Trendwest) to take certain actions, including (i) incurrence of capital expenditures exceeding 5% of WorldMark's budgeted gross expenses during any fiscal year and (ii) selling property of WorldMark during any fiscal year with an aggregate fair market value in excess of 5% of WorldMark's budgeted gross expenses for such year.
THE WORLDMARK RESORTS
The following table sets forth certain information as of December 31, 1999, regarding each existing WorldMark Resort, planned expansion at existing WorldMark Resorts through 2001, and planned new WorldMark Resorts through 2001:
- --------------- (a) The dates in this column indicate, for each resort, the month and year in which the first completed units at such resort were transferred to WorldMark. At certain resorts, additional units were transferred to WorldMark at later dates.
(b) Gold Crown and Resort of International Distinction ("R.I.D.") are resort ratings awarded annually by RCI. In February 2000, approximately 19% of the resorts reviewed by RCI received a Gold Crown rating, the highest rating awarded by RCI, and approximately 14% of the resorts reviewed by RCI received an R.I.D. rating, the second-highest rating awarded by RCI.
(c) Ten units will be contributed to WorldMark South Pacific (see "Recent Developments") when completed.
(d) The Company purchased 659 weeks of time per year from Schooner's Landing and deeded the rights to this time to WorldMark. This is equivalent to 13 condominium units.
(e) The Company purchased 490 weeks of time per year from Wolf Creek and deeded the rights to this time to WorldMark. This is equivalent to 9 condominium units. The remaining 62 units were constructed by the Company.
(f) This resort has not yet been rated by RCI.
SALES AND MARKETING
The Company's sales of Vacation Credits primarily occur at fifteen off-site sales offices located in metropolitan areas in four regions. The remainder of the Company's sales of Vacation Credits occur at nine on-site sales offices. Fractional Interest sales occurred on-site at the Depoe Bay resort in Depoe Bay, Oregon. In 1999, 80% of the Company's Vacation Credit sales were generated by off-site sales offices.
The Company believes the advantages of using off-site sales offices compared to sales offices located at more remote resorts include (i) access to larger numbers of potential customers, (ii) convenience for prospective customers to attend a sales presentation, (iii) access to a wider group of qualified sales personnel due to more convenient work locations, (iv) ability to open new sales offices quickly and without significant capital expenditures and (v) lower marketing costs to attract prospective customers to visit an off-site sales office.
The Company's off-site sales offices are approximately 6,000 square feet and include a theater, sales area and reception area. Each off-site sales center is staffed by a sales manager, an office administrator, approximately 10 to 25 salespeople, two developer's representatives, and additional staff for guest registration and clerical assistance. The on-site sales offices are approximately 3,000 square feet and generally include similar facilities and a smaller number of staff compared to the off-site sales offices.
The Company uses a variety of marketing programs to attract prospective Owners, including sponsored promotional contests offering vacation packages or gifts, targeted mailings and telemarketing efforts, and various other promotional programs. The Company also co-sponsors sweepstakes, giveaways and other promotional programs with professional teams at major sporting events (such as Portland Trail Blazers basketball games and Seattle Mariners baseball games) and with supermarkets. The Company continually monitors and adjusts its marketing programs to improve efficiency. Trendwest targets prospective Owners through an analysis of age, income and travel interests. One of the many marketing programs used by the Company delivers targeted prospective Owners a notice related to the specific promotion, inviting the prospective Owner to call the Company's toll-free voice mail system to leave a return phone number. Those persons who call the Company and leave their phone number receive a call from the Company to invite them to visit an off-site sales office and attend a sales presentation. As an incentive to attend the presentation, the Company offers gifts, such as an overnight trip or electronic equipment.
Printed information regarding Trendwest and WorldMark's properties, as well as the rights and obligations of Owners, is provided to each prospective member before Vacation Ownership Interests are sold. Prior to finalizing a sale, each new Owner meets with one of the Company's developer's representatives to discuss the new Owner's reasons for joining and to review the rights and obligations of Owners. The purpose of
this meeting is to allow prospective Owners to review their proposed commitment in an environment separate from the sales process.
Under the laws of each state where the Company sells Vacation Ownership Interests, each purchaser has a right to rescind the purchase for a period ranging from three to fourteen calendar days following the later of the date the contract was signed or the date the purchaser received the last of the documents required to be provided by the Company, depending on the state. The Company's current practice is to allow all purchasers a minimum rescission period of seven days, even if state law allows a shorter period. During 1999 and 1998, the Company had a rescission rate of 16.3% and 16.7% respectively, which is consistent with the Company's historical experience.
Trendwest offers existing Owners cash awards for referrals of potential new Owners. The Company maintains a staff of marketing individuals who specialize in promoting referrals by existing Owners. In addition, as part of the Company's ongoing marketing efforts, it offers existing Owners the opportunity to purchase additional Vacation Credits (Upgrade Sales) generally at a discount from the current price. Owners may purchase additional Vacation Credits in increments of 1,000. Trendwest currently employs 36 sales representatives who specialize in Upgrade Sales. Sales of Vacation Credits from the Company's owner referral program and Upgrade Sales contributed in the aggregate approximately 27.6% and 26.5% of the Company's net Vacation Credit sales in 1999 and 1998, respectively.
CUSTOMER FINANCING
Since an important component of the Company's sales strategy is the affordability of Vacation Credits, the Company believes that a significant portion of its sales will continue to be financed by the Company. In 1999, the average new Owner purchased approximately 6,519 Vacation Credits for a purchase price of approximately $8,855 and the Company financed approximately 88% of the aggregate purchase price of Vacation Credits sold to new Owners with an average new Note Receivable of approximately $7,794. During 1999, the aggregate amount of Notes Receivable generated in connection with the sale of Vacation Credits to new Owners was approximately $175.0 million. Both Vacation Credit and Fractional Interest sales require a down payment of at least 10% of the purchase price. Notes Receivable relating to Vacation Credit sales have a term of up to seven years at interest rates of 13.9% or 14.9%. Notes Receivable relating to Fractional Interest sales have a term of up to ten years at interest rates of up to 11.9%.
Existing Owners purchasing additional Vacation Credits must either make a down payment of 10% of the price of the Upgrade Sale or have sufficient equity in their existing Vacation Credits to provide at least 10% of the value of all Vacation Credits, including the Upgrade. The amount of the existing receivable is cancelled and a new seven-year note secured by an interest in all Vacation Credits owned is issued.
At December 31, 1999, an aggregate of $389.9 million of Notes Receivable were outstanding, of which approximately $100.9 million with a weighted average interest rate of 14.1% per annum had been retained by the Company. The balance of approximately $289.0 million of Notes Receivable had been sold by the Company prior to that date. The Company retains limited recourse liability for Notes Receivable sold. The Company may continue to sell a substantial amount of its Notes Receivable. See "Liquidity and Capital Resources -- Finance Subsidiaries", "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Risk Factors -- Risks Associated with Customer Financing."
Notes Receivable become delinquent when a scheduled payment is 30 days or more past due and reservation privileges are suspended when a scheduled payment is 60 days or more past due. At December 31, 1999, approximately $7.5 million, or 1.91% of the Company's total receivables portfolio of $389.9 million, including Notes Receivable previously sold by the Company, were past due 60 days or more. The Notes Receivable are secured by a security interest in the related Vacation Credits or Fractional Interest. The Company's practice has been to continue to accrue interest on Notes Receivable until such accounts are deemed uncollectible (generally when the receivable becomes 180 days past due), at which time the Company writes off such Notes Receivable and reverses any interest that had been accrued, reclaims the related Vacation Credits that secure such Notes Receivable and returns such Vacation Credits to inventory as
available for resale. In the event of default of a Fractional Interest, the Company would foreclose on the title and re-market the interest.
The Company maintains an allowance for doubtful accounts in respect of the Notes Receivable owned by the Company and an allowance for recourse liability in respect of the Notes Receivable that have been sold by the Company. The aggregate amount of these allowances at December 31, 1999 and 1998 were $29.1 million and $20.9 million, respectively, representing approximately 7.5% and 6.8%, respectively, of the total portfolio of Notes Receivable at those dates, including the Notes Receivable that had been sold by the Company. The increase in the provision as a percentage of the total portfolio reflects sales growth in new regions with anticipated future default rates higher than the Company's historical average. No assurance can be given that these allowances will be adequate, and if the amount of the Notes Receivable that is ultimately written off materially exceeds the related allowances, the Company's business, results of operations and financial condition could be materially adversely affected.
The Company estimates its allowance for doubtful accounts and recourse liability by analysis of bad debts by each sales site by year of Note Receivable origination. The Company uses this historical analysis, in conjunction with other factors such as local economic conditions and industry trends. The Company also utilizes experience factors of more mature sales sites in establishing the allowance for bad debts at new sales offices. The Company generally charges off all receivables when they become 180 days past due and returns the reclaimed credits associated with such charge-offs to inventory. At December 31, 1999 and 1998, 1.91% and 1.97%, respectively, of the Company's total receivables portfolio of $389.9 million and $307.7 million, respectively, were more than 60 days past due (with reservation privileges suspended).
Sage Systems, Inc. ("Sage"), a licensed escrow company, services the Company's entire portfolio of Notes Receivable under an Escrow Agreement with the Company. Under the Escrow Agreement, contracts for the sale of Vacation Credit and Fractional Interest sales by the Company, and the monthly contract payments from such sales, are placed in escrow with Sage. Sage disburses the escrowed funds to the Company, in the case of Notes Receivable owned by the Company, or to the purchasers of the Company's Notes Receivable, in the case of Notes Receivable sold by the Company (see "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Finance Subsidiaries"). The Company handles billing inquiries and all other personal interaction with the Owners, including collections on its Notes Receivable.
PROPERTY OWNERSHIP
(i) Vacation Credits
Unlike many "right-to-use" timeshare operations in which a developer sells timeshare interests in properties it owns, the Company does not own the properties designated for timeshare use. Rather, when the Company purchases resort property, it vests in WorldMark title to the property free and clear of any debt encumbrance. With respect to property developed by the Company, the Company may initially obtain title in the undeveloped property and then deed the developed resort property to WorldMark. At the time the Company vests title to the property in WorldMark, a "Declaration of Vacation Owner Program" is recorded against the property. This declaration establishes the usage rights of Owners as a covenant on title, thus protecting those rights against the effect of any future encumbrance. This ownership structure is designed to protect the timeshare usage rights of the Owners and comply with statutory regulations.
The Company's only consideration for paying for the properties and for arranging for the seller of the property to transfer title of the property directly to WorldMark is the exclusive right to sell Vacation Credits and to add new properties and additional units at the Company's discretion. The Company's rights to sell Vacation Credits against the deeded properties are protected by a security interest in the unsold inventory of Vacation Credits. This lien prevents WorldMark from revoking such rights or transferring them to another party.
Vacation Credits are allocated to each unit based on its vacation use value relative to existing properties. Vacation Credits are assigned for weeks of peak, shoulder and off-peak use, reserving time for Bonus Time,
repairs and maintenance. At non-exotic resorts (exotic resorts are Hawaii, Mexico and Fiji), only 48 weeks of time of each unit are available for sale to Owners leaving 4 weeks for Bonus Time and maintenance and upkeep on the units. At exotic locations, 51 weeks of time of each unit are available for sale to Owners leaving the remaining time for maintenance and upkeep. The aggregate Vacation Credits assigned to each unit may not be changed in the future, and the actual number of Credits assigned are contained in the recorded declaration. This system of irrevocable allocation and registration with the state protects the Owners by preventing dilution in the usage value of the Owner's Vacation Credits.
As of December 31, 1999, WorldMark had a reserve for replacement costs of approximately $12.2 million for all depreciable assets (e.g., furniture, appliances, carpeting, roofs and decks) of the WorldMark Resorts. In those WorldMark Resorts where WorldMark owns only a small percentage of the units in a complex and belongs to an independent homeowners' association, the dues paid to such association by WorldMark are partially used to provide adequate reserves for replacement costs relating to such properties.
(ii) Fractional Interests
Fractional Interests represent deeded intervals in condominium units. The purchaser of a Fractional Interest owns an equal share of the condominium and pays maintenance dues to a Homeowner's Association made up of other Fractional Owners.
Fractional Owners have been deeded specific weeks of time spaced evenly throughout the year. The current Fractional Project at Depoe Bay in Oregon are 13th shares. Each share represents four one-week intervals thirteen weeks apart. These intervals rotate forward one week each year allowing a Fractional Owner to have access to every calendar week over a thirteen year period.
PARTICIPATION IN VACATION INTERVAL EXCHANGE NETWORK
The Company believes that the sale of Vacation Credits is made more attractive by the Company's participation in the vacation interval exchange network operated by Resort Condominiums International, LLC (RCI). For a membership fee (currently $84 per year with no commitment beyond one year), Owners may participate in RCI, which allows Owners to exchange Vacation Credits for an occupancy right at a participating resort in RCI based upon availability and the payment of an additional exchange fee (currently $124 for exchanges in North America and $162 for International exchanges). The Company pays the RCI annual membership fee for the Owner's first year. An Owner may exchange Vacation Credits for an occupancy right in a resort participating in the RCI network by requesting occupancy and specifying the desired unit size and time period. RCI provides an Owner hotline with direct phone access to representatives who are knowledgeable about WorldMark and are responsible for assisting Owners with an exchange. RCI assigns a weekly exchange value for Vacation Credits. This exchange value is based upon a number of factors. If RCI is unable to meet the Owner's initial request, it suggests alternative resorts based on availability.
COMPETITION
The Company is subject to significant competition from other entities engaged in the business of resort development, sales and operation, including vacation interval ownership, condominiums, hotels and motels. See "Risk Factors -- Competition".
EMPLOYEES
As of December 31, 1999, Trendwest had 1,494 full-time employees. The Company believes that its employee relations are good. None of the Company's employees are represented by a labor union.
The Company prefers to fill promotional opportunities from within the existing staff. To support this philosophy, a full array of training curriculums have been designed and offered. These "in-house" training courses range from curriculums including management training, product knowledge, recruiting and interviewing, employee orientation, and job specific training such as Best Sales Practices, and Customer Service.
In 1999, the Company introduced as a new benefit, the Employee Stock Purchase Plan. This program allows employees to purchase company stock through a payroll deduction, with certain provisions, at a discount.
RISK FACTORS
In addition to the other information contained in this Form 10-K, the following risk factors should be carefully considered in evaluating the Company and its business. The Company cautions the reader that this list of risk factors may not be exhaustive. This document contains forward-looking statements which involve risks and uncertainties. The Company's actual results and the timing of certain events could differ materially from those anticipated by such forward-looking statements as a result of certain factors, including the factors set forth below and in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business," as well as those discussed elsewhere in the Form 10-K.
DEPENDENCE ON ACQUISITIONS OF ADDITIONAL RESORT UNITS FOR GROWTH; NEED FOR ADDITIONAL CAPITAL
The Company purchases or develops resort units for WorldMark in exchange for the exclusive right to sell the Vacation Credits assigned to these units. When the Company purchases or develops a new resort or additional units at an existing WorldMark Resort, the Company causes the units to be conveyed directly to WorldMark free of any monetary encumbrances, and therefore must purchase its properties without any financing secured by the properties. The Company can only sell additional Vacation Credits to the extent that it acquires or develops additional resort units for WorldMark. The Company's future growth and financial success therefore will depend to a significant degree on the availability of attractive resort locations and the Company's ability to acquire and develop additional resort units on favorable terms and to obtain additional debt and equity capital to fund such acquisitions and development. There can be no assurance that the Company will be successful in this regard. As of December 31, 1999, the Company had purchase agreements, developments in progress or plans to obtain 1,032 additional resort units by the end of 2001. No assurance can be given that all of such units will be acquired or completed on a timely basis or at all. There are numerous potential buyers of resort real estate competing to acquire resort properties which the Company may consider attractive resort acquisition opportunities. There can be no assurance that the Company will be able to compete against such other buyers successfully.
Since the Company generally finances approximately 88% of the aggregate purchase price of Vacation Credits sold to new Owners, it does not generate sufficient cash from sales to provide the necessary capital to purchase additional resort units. No assurance can be given that the Company will be able to obtain debt or equity capital through the sale or securitization of its Notes Receivable, or otherwise, in order to continue to acquire additional properties or that such future financing can be obtained on terms favorable to the Company. See "Liquidity and Capital Resources -- Finance Subsidiaries".
RISKS ASSOCIATED WITH DEVELOPMENT AND CONSTRUCTION ACTIVITIES
The Company intends to expand its acquisition, development, construction and expansion of timeshare resorts. There can be no assurance that the Company will complete current or future development or expansion projects. Risks associated with these activities include the risk that (i) acquisition or development opportunities may be abandoned; (ii) construction costs may exceed original estimates, possibly making the development or expansion uneconomical or unprofitable; (iii) financing may not be available on favorable terms or at all; and (iv) construction may not be completed on schedule, resulting in increased interest expense and delays in the availability for sale of Vacation Credits. Development activities are also subject to risks relating to inability to obtain, or delays in obtaining, all necessary zoning, land-use, building, occupancy and other required governmental permits and authorizations, the ability of the Company to coordinate construction activities with the process of obtaining such permits and authorizations, and the ability of the Company to obtain the financing necessary to complete the necessary acquisition, construction and conversion work. In addition, the Company's construction activities are generally performed by third-party contractors. These third-party contractors generally control the timing, quality and completion of the construction
activities. Nevertheless, construction claims may be asserted against the Company for construction defects and such claims may give rise to liabilities. New development activities, regardless of whether or not they are ultimately successful, typically require a substantial portion of management's time and attention. The ability of the Company to expand its business to include new resorts will in part depend upon the availability of suitable properties at reasonable prices and the availability of financing for the acquisition and development of such properties. In the future, the Company may undertake the development of larger resort complexes. No assurance can be given that any such larger resort complexes will be developed in a profitable manner, if at all.
FACTORS AFFECTING SALES VOLUME
As the number of potential customers in the geographic area of a sales office who have attended a sales presentation increases, the Company may have increasing difficulty in attracting additional potential customers to a sales presentation at that office and it may become increasingly difficult for the Company to maintain current sales levels at its existing sales offices. Accordingly, the Company anticipates that a substantial portion of its future sales growth will depend on the opening of additional sales offices. No assurance can be given, however, that sales from existing or new sales offices will meet management's expectations. If the Company does not open additional sales offices or if existing or new sales offices do not perform as expected, the Company's business, results of operations and financial condition could be materially adversely affected.
The Company's marketing is dependent on outbound telemarketing activity to contact prospects and invite guests to attend a sales presentation. Any disruption in the Company's ability to utilize outbound telemarketing, in the short term, could have a material adverse affect on attendance at sales presentations and sales volume until suitable substitute programs could be developed.
GEOGRAPHIC CONCENTRATION IN THE WESTERN UNITED STATES
The Company presently sells Vacation Credits in Alaska, Arizona, California, Idaho, Oregon, Utah and Washington primarily to residents of those states and of British Columbia. The Company intends to continue to sell Vacation Credits and Fractional Interests in these seven states and to increase the number of its sales offices. Since all of the Company's sales offices are in the western United States, any economic downturn in this area of the country could have a material adverse effect on the Company's business, results of operations and financial condition. In addition, the appeal of becoming an Owner may decrease if residents of the western United States and British Columbia do not continue to view the locations of WorldMark's Resorts (which are primarily located in these areas) as attractive vacation destinations.
GENERAL ECONOMIC CONDITIONS; CONCENTRATION IN TIMESHARE INDUSTRY
Any downturn in economic conditions or significant price increases or adverse events related to the travel and tourism industry, such as the cost and availability of fuel, could depress discretionary consumer spending and have a material adverse effect on the Company's business, results of operations and financial condition. Any such economic conditions, including recession, may also adversely affect the future availability of attractive financing rates for the Company or its customers and may materially impact the Company's business. Furthermore, adverse changes in general economic conditions may adversely affect the collectibility of the Notes Receivable. Because the Company's operations are conducted solely within the timeshare industry, any adverse changes affecting the timeshare industry could have a material adverse effect on the Company's business, results of operations and financial condition.
RISKS ASSOCIATED WITH CUSTOMER FINANCING
The Company obtains a security interest in the purchased Vacation Credits and Fractional Interests and it does not verify a prospective Owner's credit history for Vacation Credit sales. At December 31, 1999, an aggregate of $389.9 million of Notes Receivable were outstanding, of which approximately $100.9 million had been retained by the Company. The remaining balance of approximately $289.0 million of Notes Receivable had been sold by the Company prior to that date. The Company retains limited recourse liability for Notes
Receivable sold. This recourse is limited to the retained and residual interest in Notes Receivable sold. As of December 31, 1999 and 1998, total retained interest in Notes Receivable sold of $36,782 and $37,063, respectively, was included in Notes Receivable in the accompanying consolidated balance sheets relating to Notes Receivable sold of $288,950 and $200,840, respectively. Although it is not required to do so, the Company's historical practice has been to repurchase defaulted sold Notes Receivable up to certain limits, generally 10% to 17% of the face amount of the original balance of Notes Receivable sold.
Notes Receivable become delinquent when a scheduled payment is 30 days or more past due and reservation privileges are suspended when a scheduled payment is 60 days or more past due. At December 31, 1999, approximately $7.5 million, or 1.91% of the Company's total receivables portfolio of $389.9 million, including Notes Receivable previously sold by the Company, were past due 60 days or more. The Notes Receivable are secured by a security interest in the related Vacation Credits or Fractional Interests. The Company's practice has been to continue to accrue interest on Notes Receivable until such accounts are deemed uncollectible, at which time the Company writes off such Notes Receivable and records an expense for any interest that had been accrued, reclaims the related Vacation Credits that secure such Notes Receivable and returns such Vacation Credits or Fractional Interests to inventory available for sale. However, the associated marketing costs and sales commissions are not recovered by the Company and these expenses must be incurred again to resell the Vacation Credits or Fractional Interests.
The Company maintains an allowance for doubtful accounts in respect of the Notes Receivable owned by the Company and an allowance for recourse liability for the Company's limited recourse in Notes Receivable sold. These allowances are estimates and if the amount of the Notes Receivable that is ultimately uncollectible materially exceeds the related allowances, the Company's business, results of operations and financial condition could be materially adversely affected. See "Business -- Customer Financing."
INTEREST RATE RISK
The Company generally provides financing for a significant portion of the aggregate purchase price of Vacation Credits and Fractional interests sold at a fixed interest rate. In order to provide liquidity, the Company through the Finance Subsidiaries, sells or securitizes its Notes Receivable. Although a significant portion of the existing financing of the Notes Receivable through the Finance Subsidiaries is at a fixed rate, if interest rates were to increase significantly, the Company's future cost of funds would also likely increase significantly. The Company has the ability to respond to rising interest rates by increasing the interest rate offered to finance Vacation Credit and Fractional Interest purchases. However, such an increase could have a material adverse effect on sales or on the percentage of Owners who finance their purchases through the Company, which could have a material adverse effect on the Company's business, results of operations and financial condition. See "Business -- Customer Financing" and "Liquidity and Capital Resources -- Finance Subsidiaries."
The Company may be exposed to credit losses in the event of nonperformance by the counterparties to its interest rate caps and forward swap agreements used to hedge interest rate risk in securitization transactions. The Company does not obtain collateral to support financial instruments but monitors the credit standing of the counterparties.
FOREIGN EXCHANGE RISK
The Company is subject to foreign currency exchange rate risk when developing resort properties denominated in a foreign currency and future sales operations in the South Pacific. While the Company intends to mitigate its foreign exchange risk through swap agreements and borrowings denominated in foreign currencies, no assurance can be given that these strategies will be successful and that changes in foreign currency exchange rates could have a material adverse effect on the Company's business, results of operations and financial condition
The Company may be exposed to losses in the event of nonperformance by the counterparties to its forward swap agreements used to hedge foreign exchange risks. The Company does not obtain collateral to support financial instruments but monitors the credit standing of the counterparties.
RISKS ASSOCIATED WITH OVERSEAS DEVELOPMENT
The Company is subject to risks arising from developing resort properties and sales and marketing activities in the South Pacific. The Company is in the process of registering its product under Australian regulations. Unlike the United States, Australian law requires a vacation ownership interest to be sold as a security. No assurance can be given that the Company will be successful in its efforts to register its product under Australian law.
The Company's Vacation Credit system is not widely known in the South Pacific. No assurance can be given that consumers in that market will find the benefits of the Company's Vacation Credit program or the resort locations desirable.
Many, if not all of the risks described herein, are potential risk factors for development activities in the South Pacific.
COMPETITION
The Company is subject to significant competition from other entities engaged in the business of resort development, sales and operation, including vacation interval ownership, condominiums, hotels and motels. Major companies that now operate or are developing or planning to develop vacation interval resorts include Marriott International, Inc., The Walt Disney Company, Hilton Hotels Corporation and Starwood Hotels and Resorts, Inc. In addition, other companies in the timeshare industry, such as Sunterra Corp., Westgate Resorts, Fairfield Communities, Inc. and Silverleaf Resorts, Inc., currently compete or may in the future compete with the Company.
Resales of Vacation Credits by Owners may compete with sales of Vacation Credits by the Company and may inhibit the Company's ability to increase the market price of Vacation Credits it sells.
REGULATION OF MARKETING AND SALES OF VACATION CREDITS; OTHER LAWS
The Company's marketing and sales of Vacation Credits and certain of its other operations are subject to extensive regulation by the states and foreign jurisdictions in which the WorldMark Resorts are located and in which Vacation Credits are marketed and sold and also by the federal government.
State and Provincial Regulations. Most U.S. states and Canadian provinces have adopted specific laws and regulations regarding the sale of vacation interval ownership programs. Alaska, Arizona, California, Hawaii, Idaho, Oregon, Utah, Washington and British Columbia require the company to register WorldMark Resorts, the Company's vacation program and the number of Vacation Credits available for sale in such state or province with a designated state or provincial authority. The Company must amend its registration if it desires to increase the number of Vacation Credits registered for sale in that state or province. Either the Company or the state or provincial authority assembles a detailed offering statement describing the Company and all material aspects of the project and sale of Vacation Credits. The company is required to deliver the offering statement to all new purchasers of Vacation Credits, together with certain additional information concerning the terms of the purchase. Hawaii imposes particularly stringent and broad regulation requirements for the sale of interests in interval ownership programs that have resort units located in Hawaii. The Company has incurred substantial expenditures over an extended period of time in the registration process in Hawaii and still has not completed this process. Hawaii has allowed the use of WorldMark units in Hawaii, provided that the company continues in good faith to pursue registration in Hawaii. Laws in each state where the Company sells Vacation Credits grant the purchaser from three to fourteen calendar days following the later of the date the contract was signed or the date the purchaser received the last of the documents required to be provided by the Company to rescind the contract. Most states have other laws which regulate the Company's activities, such as real estate licensure laws, laws relating to the use of public accommodations, and facilities by disabled persons, sellers of travel licensure laws, anti-fraud laws, advertising laws and labor laws.
Federal Regulations. The Federal Trade Commission has taken an active regulatory role in the interval ownership industry through the Federal Trade Commission Act, which prohibits unfair or deceptive acts or
competition in interstate commerce. Other federal legislation to which the Company is or may be subject includes the Truth-In-Lending Act and Regulation Z, the Equal Opportunity Credit Act and Regulation B, the Interstate Land Sales Full Disclosure Act, the Real Estate Standards Practices Act, the Telephone Consumer Protection Act, the Telemarketing and Consumer Fraud and Abuse Prevention Act, the Civil Rights Act of 1964 and 1968, the Fair Housing Act and the Americans with Disabilities Act.
Although the Company believes that it is in material compliance with all federal, state, local and foreign laws and regulations to which it is currently subject, there can be no assurance that it is in fact, in compliance. Any failure by the Company to comply with applicable laws or regulations could have a material adverse effect on the Company's business, results of operations and financial condition. In addition, the Company will continue to incur significant costs to remain in compliance with applicable laws and regulations, and such costs could increase substantially in the future.
POSSIBLE ENVIRONMENTAL LIABILITIES
Under various federal, state, local and foreign laws, ordinances and regulations, the owner or operator of real property generally is liable for the costs of removal or remediation of certain hazardous or toxic substances located on or in, or emanating from, such property, as well as related costs of investigation and property damage. Such laws often impose such liability without regard to whether the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances. Other federal and state laws require the removal or encapsulation of asbestos-containing material when such material is in poor condition or in the event of construction, demolition, remodeling or renovation. Other statutes may require the removal of underground storage tanks. Noncompliance with these and other environmental, health or safety requirements may result in the need to cease or alter operations at the property. Although the Company conducts an environmental assessment with respect to the properties it acquires for WorldMark, the Company has not received a Phase I environmental report for every WorldMark Resort. There can be no assurance that any environmental assessments undertaken by the Company with respect to the WorldMark Resorts have revealed all potential environmental liabilities, or that an environmental condition does not otherwise exist as to any one or more of the WorldMark Resorts that could have a material adverse effect on the Company's business, results of operations and financial condition.
NATURAL DISASTERS; UNINSURED LOSS
WorldMark maintains property insurance and liability insurance for the units at the WorldMark Resorts, with certain policy specifications, insured limits and deductibles. Certain types of losses, such as losses arising from war or military action, nuclear hazard or pollution, are generally excluded from WorldMark's insurance coverage. Should an uninsured loss or loss in excess of insured limits occur, WorldMark has the option to either (i) remove such units from the Vacation Credit system, which would result in a proportional dilution of vacation time available for the Vacation Credits which have been sold, or (ii) pay the related costs of replacement. Although WorldMark's board of directors may impose a limited amount of special assessments to pay for capital improvements or major repairs, there can be no assurance that WorldMark would be able to increase assessments to provide sufficient funds to pay for all possible capital improvements and major repairs of the units at the WorldMark Resorts.
In such event, the Company may need to advance funds to WorldMark in order to maintain the quality of the WorldMark Resorts or WorldMark may be required to defer certain improvements or repairs. In addition, the Company may advance funds to WorldMark if WorldMark does not have sufficient funds to pay its obligations in a timely manner. See "Business -- Insurance; Legal Proceedings."
EFFECTIVE VOTING CONTROL BY MAJORITY SHAREHOLDER
JELD-WEN owns approximately 80% of the outstanding shares of the Company's common stock. This concentration of ownership gives JELD-WEN control of the election of directors and the management and affairs of the Company and sufficient voting power to determine the outcome of all matters submitted to the
shareholders for approval, including mergers, consolidations and the sale of all, or substantially all, of the Company's assets.
ITEM 2.
ITEM 2. PROPERTIES
The Company owns its corporate headquarters in Redmond, Washington. In the ordinary course of business, the Company purchases property for development and deeds said property to WorldMark upon completion of the project. See "Business -- WorldMark".
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is not aware of any material legal proceedings pending against it. The Company may be subject to claims and legal proceedings from time to time in the ordinary course of business.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
There were no matters submitted to a vote of the Company's equity holders during the fourth quarter of 1999.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The Company's common stock is quoted on the Nasdaq National Market under the symbol "TWRI". The following table sets forth for the periods indicated, the high and low sales price for Common Stock, as quoted on the Nasdaq National Market:
On February 28, 2000, there were approximately 47 holders of record of the Company's common stock and approximately 1,539 beneficial shareholders.
The Company has never declared or paid any cash dividends on its capital stock and does not anticipate paying cash dividends on its Common Stock. The Company currently intends to retain future earnings to finance its operations and fund the growth of the business. Any payment of future dividends will be at the discretion of the Board of Directors of the Company and will depend on, among other things, the Company's earnings, financial condition, contractual restrictions in respect of the payment of dividends and other factors the Board of Directors deems relevant.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The selected data presented below under the captions "Statement of Operations Data" and "Balance Sheet Data" are derived from the audited financial statements of Trendwest Resorts, Inc. and subsidiaries. The information set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the combined and consolidated financial statements for the Company and the notes thereto which are contained elsewhere herein. The information presented below under the captions "Operating Data" and "Selected Quarterly Financial Data" is unaudited.
- --------------- (1) Includes the 5,193,693 shares issued to JELD-WEN in connection with the Consolidation Transactions for all periods presented.
(2) Indebtedness is comprised of notes payable to JELD-WEN and others.
SELECTED QUARTERLY FINANCIAL DATA
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The statements below and other statements herein contain forward looking information which include future financing transactions, acquisition of properties, and the Company's future prospects and other forecasts and statements of expectations. Actual results may differ materially from those expressed in any forward-looking statement made by the Company, due among other things, to the Company's ability to develop or acquire additional resort properties, find acceptable debt or equity capital to fund such development, as well as other risk factors as outlined in the "Risk Factors" section of this Form 10-K.
OVERVIEW
Trendwest markets, sells and finances timeshare ownership interests in the form of Vacation Credits and Fractional Interests and acquires, develops and manages the WorldMark Resorts. The Company derives revenue primarily from the sale of Vacation Credits and Fractional Interests, from the financing of Vacation Credits and Fractional Interests and from management fees generated from its management agreement with WorldMark.
Vacation Credit, Fractional Interests and Upgrade Sales are recognized on the accrual basis after the Company has received an executed sales contract and a minimum 10% down payment, and the rescission period (generally three to fourteen days) has passed. In instances where the Company finances an Upgrade Sale and the customer does not make an additional cash down payment of at least 10% of the Upgrade Sale, the Company uses the installment method to recognize revenue. Under the installment method, gross profit on such Upgrade Sale is deferred and thereafter recognized in relation to each principal payment received.
Revenue is fully recognized on the Upgrade Sale when the principal collected related to the Upgrade Sale totals 10% of the amount of the Upgrade sale. In 1999, 72% of Upgrade Sales had the additional 10% cash down payment, as compared to 74% in 1998.
The Company acquires or develops additional resort units for WorldMark and contributes those units to WorldMark free of monetary encumbrances, thereby creating additional Vacation Credits for sale by the Company. The Company also acquires or develops resort units for Fractional Interest sales. These units are not contributed to WorldMark. The Company assigns each WorldMark Resort unit a specific number of Vacation Credits based on its vacation use value relative to existing WorldMark Resort units. Acquisition and construction costs associated with the resort units are recorded as inventory. Vacation Credit and Fractional Interest cost of sales are allocated as sales are recognized.
Financing is provided by Trendwest at an interest rate of 13.9% or 14.9% per annum for a term of up to seven years for Vacation Credits and an interest rate of up to 11.9% per annum for a term of up to ten years for Fractional Interest sales. The Company routinely sells Notes Receivable to financial institutions and other investors to generate liquidity to acquire or develop new resort units and for working capital. The Company recognizes a gain on the sale of Notes Receivable at the time of sale equal to the excess of the proceeds received (cash plus residual interest in Notes Receivable sold) over the allocated carrying value of the Notes Receivable sold. Residual interest in Notes Receivable sold represents the present value of the estimated net future cash flows of the payment streams, resulting from the sale of Notes Receivable, and is carried at fair value with the changes in fair value included in finance income.
RESULTS OF OPERATIONS
The following discussion of the results of operations relates to entities comprising the Company on a combined historical basis.
Comparison of the year ended December 31, 1999 to the year ended December 31,
For the year ended December 31, 1999 the Company achieved total revenues of $274.5 million compared to $201.0 million for the year ended December 31, 1998, an increase of 36.6%. The principal reasons for the overall improvement was Vacation Credit sales increasing to $221.4 million for the year ended December 31, 1999 from $170.8 million for the year ended December 31, 1998, Fractional Interest Sales of $13.3 million and additional gains on sales of Notes Receivable. The Fractional Interest sales program commenced pre-selling of
Fractional Interests at the Depoe Bay resort on the Oregon Coast in October 1998. The Company exercised its purchase option in April of 1999 and began recognizing revenue from the pre-sales at that time and competed the sale of all 377 interests by October, 1999. The increase in Vacation Credit sales was primarily the result of an increase in Vacation credits sold to 165.8 million for the year ended December 31, 1999 from 131.1 million for the year ended December 31, 1998, a 26.5% increase. The increase in Vacation Credits sold was largely attributable to the maturation of seven sales offices opened in 1998, opening four new sales offices during 1999, continued strong improvement at more mature sales offices and increased Upgrade sales. The following table summarizes the sales offices opened during 1999:
Revenues from Upgrade Sales increased 22.7% to $30.3 million for the year ended December 31, 1999 from $24.7 million for the year ended December 31, 1998 due to the continued growth of resorts, the Owners' continued satisfaction with the WorldMark product and effective sales efforts. The average price per Vacation Credit sold increased to $1.34 for the year ended December 31, 1999 from $1.28 for the year ended December 31, 1998, reflecting the increase in the selling price of vacation credits effective June 28, 1999.
Finance income increased 10.1% to $15.2 million for the year ended December 31, 1999 from $13.8 million for the year ended December 31, 1998. Gains on sales of Notes Receivable increased 48.2% to $16.3 million for the year ended December 31, 1999 from $11.0 million for the year ended December 31, 1998. This reflects a similar increase in the principal balance of Notes Receivable sold in 1999, up 49.4% to $156.3 in 1999 from $104.6 million in 1998. In August 1999, the Company completed a $160 million asset backed securitization to fix interest rates on a significant portion of the Notes Receivable portfolio. The securitization reduced the Company's interest rate risk in the future, if interest rates were to increase. Both gains on sales of Notes Receivable and finance income were negatively impacted during the year because of rising interest rates reducing the net interest spread.
Vacation Credit and Fractional Interest cost of sales increased to $68.6 million for the year ended December 31, 1999 from $48.1 million for the year ended December 31, 1998, an increase of 42.6%. As a percentage of Vacation Credit and Fractional Interest sales, Vacation Credit and Fractional Interest cost of sales increased to 29.2% for the year ended December 31, 1999 from 28.2% for the year ended December 31, 1998. This increase is due to Fractional interest sales which have a higher product cost offset by lower sales and marketing costs.
Sales and marketing costs increased 26.1% to $105.0 million for the year ended December 31, 1999 from $83.3 million for the year ended December 31, 1998. As a percentage of Vacation Credit and Fractional Interest sales, sales and marketing costs decreased to 44.7% for the year ended December 31, 1999 from 48.8% for the year ended December 31, 1998. This decrease is attributable to several factors. First, Fractional Interest sales have lower sales and marketing costs which are offset by higher product cost. Second, the seven sales offices opened in 1998 continue to season and all have higher sales closing percentages in 1999 which reduces marketing costs as a percentage of sales. Finally, the Company's more mature sales offices continued to perform strongly in terms of sales closing percentages.
General and administrative expenses increased 46.5% to $25.2 million for the year ended December 31, 1999 from $17.2 million for the year ended December 31, 1998. As a percentage of total revenues, general and administrative expenses increased to 9.2% for the year ended December 31, 1999 from 8.6% for the year ended December 31, 1998. This increase is the result of increases in the infrastructure, both at the Corporate and Regional levels, to support the continued growth of the Company; increased expenditures in Information Systems to remediate the Year 2000 issue and start-up costs for the Midwest, Las Vegas and South Pacific regions.
Provision for doubtful accounts and recourse liability increased 38.7% to $16.5 million for the year ended December 31, 1999 from $11.9 million for the year ended December 31, 1998. As a percentage of Vacation Credit and Fractional Interest sales, the provision remained comparable at 7.0% for the two periods.
Comparison of the year ended December 31, 1998 to the year ended December 31,
For the year ended December 31, 1998 the Company achieved total revenues of $201.0 million compared to $151.6 million for the year ended December 31, 1997, an increase of 32.6%. The principal reason for the overall improvement was Vacation Credit sales increasing to $170.8 million for the year ended December 31, 1998 from $128.8 million for the year ended December 31, 1997, a 32.6% increase. The increase in Vacation Credit sales was primarily the result of an increase in Vacation credits sold to 131.1 million for the year ended December 31, 1998 from 99.9 million for the year ended December 31, 1997, a 31.2% increase. The increase in Vacation Credits sold was largely attributable to opening seven new sales offices during 1998. The following table summarizes the sales offices opened during the year:
Additionally, the maturation of the Costa Mesa and Woodland Hills sales offices, opened in February and October 1997, and increased Upgrade sales also contributed to the increase in Vacation Credit sales. Revenues from Upgrade Sales increased 24.1% to $24.7 million for the year ended December 31, 1998 from $19.9 million for the year ended December 31, 1997. The number of Vacation Credits sold as Upgrades increased by approximately 28.9% in the year ended December 31, 1998 compared to the year ended December 31, 1997 due to the continued growth of resorts and effective sales efforts. The average price per Vacation Credit sold increased to $1.28 for the year ended December 31, 1998 from $1.27 for the year ended December 31, 1997, reflecting the increase in the selling price of vacation credits effective June 29, 1998. The percentage increase in the average selling price of Vacation Credits was less than the percentage increase in the selling price of Vacation Credits because of the recognition of sales made prior to the price increase.
Finance income increased 15.0% to $13.8 million for the year ended December 31, 1998 from $12.0 million for the year ended December 31, 1997, due to increased carrying balances of Notes Receivable. Gains on sales of Notes Receivable increased 66.7% to $11.0 million for the year ended December 31, 1998 from $6.6 million for the year ended December 31, 1997. This is due to increased sales of Notes Receivable in the fourth quarter of 1998 to generate cash and the asset backed securitization consummated during the first quarter of 1998. The securitization in the first quarter of 1998 resulted in recording gains of $3.1 million for Notes Receivable sold and reduced the Company's interest rate risk in the future, if interest rates were to increase, on $130.4 million of sold notes receivable.
Vacation Credit cost of sales increased to $48.1 million for the year ended December 31, 1998 from $34.6 million for the year ended December 31, 1997, an increase of 39.0%. As a percentage of Vacation Credit sales, Vacation Credit cost of sales increased to 28.2% for the year ended December 31, 1998 from 26.8% for the year ended December 31, 1997. This increase is the result of the Clear Lake and Angels Camp resorts in California which came on line in the third quarter. Clear Lake experienced construction delays and cost overruns due to inclement weather and the Angels Camp resort had a product cost higher than the historical average. In addition, higher carrying balances of inventory resulted in increased developer dues expense paid to WorldMark, the Club.
Sales and marketing costs increased 40.2% to $83.3 million for the year ended December 31, 1998 from $59.4 million in the year ended December 31, 1997. As a percentage of Vacation Credit sales, sales and
marketing costs increased to 48.8% for the year ended December 31, 1998 from 46.1% for the year ended December 31, 1997. Sales and marketing costs for the year ended December 31, 1998, as compared to the same period last year, were impacted by four new off site and three on site sales offices opened during the year as compared to two off site and one on site sales office last year. The Scottsdale, San Diego, Wolf Creek and Salt Lake sales offices experienced lower closing percentages, which initially occur in a new sales office less than one year old, resulting in higher marketing costs as a percentage of Vacation Credit sales. The payment of minimum compensation amounts to sales representatives during this initial period resulted in higher commission costs as a percentage of Vacation Credit sales. Effective July 6, 1998 management initiated changes to the sales commission program for New and Upgrade Sales and raised performance targets for additional bonuses which has resulted in an overall decrease in sales and marketing costs, for the second half of the year, when expressed as a percentage of Vacation Credit sales.
General and administrative expenses increased 28.4% to $17.2 million for the year ended December 31, 1998 from $13.4 million for the year ended December 31, 1997 primarily reflecting the increased sales growth. As a percentage of total revenues, general and administrative expenses decreased slightly to 8.6% for the year ended December 31, 1997 from 8.9% for the year ended December 31, 1997, due primarily to the higher gains on sales of notes receivable. The Company believes that general and administrative expenses as a percentage of total revenues would have increased slightly for the year ended December 31, 1998 absent the increase in gains on sales of notes receivable during the year.
Interest expense decreased to $.3 million for 1998 from $1.7 million for 1997, a decrease of 82.4% due primarily to the reduction in the average borrowings from the Parent and proceeds from the sale of Notes Receivable in 1998. In addition, the Company capitalized interest of $704,000 and $637,000 for the year ended December 31, 1998 and 1997 respectively.
Provision for doubtful accounts and recourse liability increased 30.8% to $11.9 million for the year ended December 31, 1998 from $9.1 million for the year ended December 31, 1997. As a percentage of Vacation Credit sales, the provision remained comparable at 7.0% for the two periods compared.
LIQUIDITY AND CAPITAL RESOURCES
The Company generates cash from operations from down payments on sales of Vacation Credits and Fractional Interests which are financed, cash sales of Vacation Credits and Fractional Interests, management fees, principal and interest on Notes Receivable, proceeds from sales of Notes Receivable and borrowings on the $30.0 million unsecured line of credit. The Company also generates cash on the interest differential between the interest charged on the Notes Receivable and the interest paid on Notes Receivable sold.
During the year ended December 31 1999, cash provided by operating activities was $39.6 million. Cash flows from operating activities resulted primarily from the sale and repayment of Notes Receivable of $207.5 million and net income of $34.9 million. Cash used in operating activities was principally due to issuance of Notes Receivable of $204.5 million to finance the purchase of Vacation Credits and Fractional Interests, purchases of Notes Receivable of $14.2 million and an increase in inventory of $5.2 million.
Net cash used in investing activities for the year ended December 31, 1999, was $.6 million. Cash used in investing activities consisted of the completion of the new corporate headquarters and purchases of additional furniture, fixtures and data processing equipment to support the growth of the Company. Cash provided by investing activities was primarily from the sale of the former corporate headquarters building in Bellevue, Washington for $4.4 million.
Net cash used in financing activities for the year ended December 31 1999 was $37.3 million. Cash used in financing activities consisted primarily of repayment on net borrowings under the bank line of credit of $26.1 million, a decrease in due to Parent of $5.7 million, an increase in receivable from Parent of $3.1 million and repurchases of the Company's common stock on the open market of $2.8 million.
The Company continually needs to acquire and develop additional resort units for WorldMark in order to provide additional Vacation Credits for sale by the Company and to provide a greater variety of resort
locations for Owners. The continued growth of the Company and increase in the owner base allows for the development of larger resorts which provides certain economies of scale to the Company and to WorldMark from an operating cost standpoint. The permitting process for larger resorts can be lengthy at times and necessitates the need to acquire land as much as 18 to 24 months before a resort is completed. The Company's investment in inventory remained comparable at $45.6 and $42.3 million at December 31, 1999 and 1998, respectively.
At December 31, 1999, there were 39.7 million Vacation Credits available for sale. With the completion of current projects in progress, the acquisition of new resorts and the expansion of existing resorts, the Company believes it will have an adequate supply of credits available to meet its planned growth through the early part of the year 2002. Since all Vacation Credits have the same use rights and the same listed selling price, the Company does not experience a buildup of inventory of less desirable resort units or interval dates which are difficult to sell.
Since completed units at various resort properties are acquired or developed in advance and a significant portion of the purchase price of Vacation Credits is financed by the Company, the Company continually needs funds to acquire and develop property, to carry Notes Receivable contracts and to provide working capital. The Company has historically secured additional funds through the sale of Notes Receivable through the Finance Subsidiaries, borrowings on the $30.0 million line of credit and loans from the Parent. See "Risk Factors -- Dependence on Acquisitions of Additional Resort Units for Growth; Need for Additional Capital."
FINANCE SUBSIDIARIES
TW Holdings, Inc. ("TW") was organized in 1993 to purchase Notes Receivable at face value plus accrued interest. TW transfers these Notes Receivable to a group of banks led by Bank of America NT&SA (the "Bank Group") pursuant to a receivables transfer agreement. On June 17, 1999, the Company chose not to renew the revolving portion of the $98 million Receivable Transfer Agreement from the Bank Group. In conjunction with the private placement of Notes Receivable in August 1999, the sold Notes Receivable were acquired by TRI Funding III, the credit facility was retired and the corporation was dissolved.
Subsequent financing of Notes Receivable has been accomplished by the use of a $75 million Receivables Warehouse facility from Prudential Securities Credit Corporation ("Prudential") through TW Holdings II ("TW II"). As of December 31, 1999, total Notes Receivable of $40.0 million were outstanding and transferred through TW II. TW II's credit agreement is subject to annual renewals with the present commitment expiring on April 13, 2000. In the event of non-renewal of the commitment, the Company would not be able to transfer additional Notes Receivable through TW II.
In 1996, the Company sold through Trendwest Funding I, certain Notes Receivable to a limited liability corporation (LLC) in exchange for cash, a subordinated note payable from the LLC and a residual interest in the excess cash flows of the LLC. The LLC issued $70.0 million of senior notes, series 1996-1 to private institutional investors. The notes were rated "A' by Fitch IBCA, Inc., and were issued at a fixed rate of 7.42%.
In March 1998, the Company formed a wholly-owned special purpose company, Trendwest Funding II, Inc. At the same time, the Company sold certain Notes Receivable to TRI Funding II for cash, a subordinated note payable from TRI Funding II and a residual interest in the excess cash flows of TRI Funding II. TRI Funding II issued $130.4 million in two classes of senior and subordinated notes to institutional investors. The 1998-1, Class A notes were issued for $125.0 million and the 1998-1, Class B notes were issued for $5.4 million. The Class A notes and Class B notes were rated "A" and "BBB' by Fitch IBCA, Inc., and were issued at fixed rates of 6.88% and 7.98%, respectively.
In August 1999, the Company formed TRI Funding III, Inc. (TRI Funding III), a special purpose finance company. At the same time, the Company sold certain Notes Receivable to TRI Funding III, for cash, a subordinated note payable from TRI Funding III and a residual interest in the excess cash flows of TRI Funding III. TRI Funding III issued six classes of fixed-rate notes for a ten-year term purchased by institutional investors. Duff & Phelps Credit Rating Agency and Fitch IBCA, Inc rated the Class A, B, and C Notes, with Fitch IBCA rating the Class D Notes. The Notes consisted of three time-tranched Class A Notes,
$104.4 million rated "AAA", Class B Notes, $18.2 million rated "AA", Class C Notes, $19.9 million rated "A", and Class D Notes, $17.4 million rated "BBB". The notes were issued at a weighted average interest rate of 7.49%.
In January 2000, the Company formed TW Holdings III, Inc. ("TW III"), a wholly-owned special purpose finance Company. At the same time, the Company entered into a 364 day $75.0 million Receivables Warehouse Facility ("Facility") funded by a commercial paper conduit with Banc One Capital Markets ("Banc One"). The Facility has an interest rate based on the commercial paper rate plus 50 basis points.
The Company has limited involvement with derivative financial instruments and uses them only to manage well-defined interest rate risks. They are not used for trading purposes. The Company enters into forward interest rate swap agreements, interest rate cap agreements and forward exchange contracts to hedge the effects of fluctuations in interest rates and foreign currency exchange rates related to anticipated sales of Notes Receivable and purchases of resort properties, respectively. These transactions meet the requirements for hedge accounting, including designation to a specific transaction and high correlation.
The Company has a $30.0 million unsecured revolving credit agreement (Credit Agreement) with a group of banks. The credit agreement provides for borrowings at the reference rate as announced by Bank of America, NT&SA or at LIBOR plus 100 basis points and a commitment fee to the banks of 30 basis points per annum on the total unused amount of the commitment. Availability under the line of credit is subject to a borrowing base which is a percentage of unencumbered Notes Receivable and inventory, including property under development. Under the terms of the Credit Agreement, the Company is required to maintain certain interest coverage ratios and capitalization ratios and also imposes limitations on certain liens and carrying amounts of inventory. The Credit Agreement matures on February 12, 2001. Borrowings outstanding at December 31, 1999 and 1998 were $3,900 and $30,000 respectively, at weighted average interest rates of 8.50% and 6.64%, respectively.
The Company has a $10 million open line of credit with the Parent which bears interest at prime plus 1% (9.50% at December 31, 1999) per annum and is payable on demand. As of December 31, 1999 and 1998 outstanding borrowings under this agreement were $0 and $5,688, respectively. The Company periodically lends excess funds to the Parent at the prime rate minus 2% (currently 6.50%). Outstanding lendings under this agreement were $3,058 and $0 at December 31, 1999 and 1998, respectively.
Through the end of 2001, the Company anticipates spending approximately $156.0 million for acquisitions and development of new resort properties and for expansion and development activities at the existing WorldMark Resorts. The Company plans to fund these expenditures from the net proceeds of further sales or securitizations of Notes Receivable and a $30 million revolving credit facility. The Company believes that the above credit facilities, together with cash generated from financing transactions and the $10 million line of credit with Parent should be sufficient to meet the Company's working capital and capital expenditure needs through 2001. At December 31, 1999, the Company has outstanding purchase commitments of $75.8 million related to properties under development.
In the future, the Company may negotiate additional credit facilities, issue corporate debt or equity securities. Any debt incurred or issued by the Company may be secured or unsecured, at a fixed or variable interest rate, and may be subject to such additional terms as management deems appropriate.
RECENT ACCOUNTING PRONOUNCEMENTS
In April, 1998, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP) 98-5, Reporting on the Costs of Start-Up Activities. This SOP was effective on January 1, 1999, and has not impacted the Company's financial position or results of operations.
In June, 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities. This Statement, as amended, is effective as of the beginning of the first quarter of the fiscal year beginning after June 15, 2000.
The Company does not anticipate a material impact on its financial position or results of operations from the future adoption of this standard.
In December, 1999, The Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition", to be effective as of the first quarter of 2000. The Company does not anticipate that compliance with SAB No. 101 will result in any material change to the Company's revenue recognition policies.
YEAR 2000
We have completed our Year 2000 preparedness activities and, to date, have not experienced any material disruption due to the onset of the Year 2000. The Company has not received any notification from key suppliers or regulators of incidence of Year 2000 disruptions. We cannot assure that we will not experience disruptions in the future as a consequence of the Year 2000 issue, however, we do not expect such disruptions, if any, to be material.
The Company has incurred approximately $1.0 million to date to modify or replace software in order to remediate the Year 2000 issue.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to interest rate changes primarily as a result of its financing of timeshare purchases, the sale and securitization of notes receivable and borrowing under revolving lines of credit. The Company's interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to reduce overall borrowing costs. To achieve its objectives, the Company borrows funds, sells or securitizes Notes Receivable primarily at fixed rates and may enter into derivative financial instruments such as interest rate swaps, caps and treasury locks in order to mitigate its interest rate risk on a related financial instrument. The Company is also subject to foreign currency exchange rate risk when developing resort properties denominated in a foreign currency. As the Company expands its operations worldwide, there will be additional exposure to foreign currency exchange risk. The Company does not maintain a trading account for any class of financial instrument, it does not purchase high risk derivative instruments and it is not directly subject to commodity price risk.
The tables below provide information as of December 31, 1999 and 1998, about the Company's financial instruments that are sensitive to changes in interest rates. The table presents estimated principal cash flows and related weighted average interest rates by expected maturity dates. The actual cash flows may differ from these amounts due to prepayments, sales and defaults of notes receivable.
- --------------- (1) Excludes deferred gross profit.
(2) Fixed interest rates represent the differential between the contract interest rate on Notes Receivable sold and the interest rate paid to purchasers of the Notes Receivable.
(3) Variable interest rates represent the differential between the contract interest rate on Notes Receivable sold and the required yield (LIBOR plus 100 basis points).
- --------------- (1) Excludes deferred gross profit.
(2) Fixed interest rates represent the differential between the contract interest rate on Notes Receivable sold and the interest rate paid to purchasers of the Notes Receivable.
(3) Variable interest rates represent the differential between the contract interest rate on Notes Receivable sold and the required yield (LIBOR plus 112.5 basis points).
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See the information set forth on Index to Financial Statements appearing on page 28 of this report on Form 10-K.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item will be set forth under "Directors and Executive Officers" and "Proxy Statement -- Compliance with Section 16(a) Under the Securities Exchange Act of 1934" in the Company's Proxy Statement and reference is expressly made thereto for specific information incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item will be set forth under "Executive Compensation" in the Company's Proxy Statement and reference is expressly made thereto for the specific information incorporated herein by the aforesaid reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item will be set forth under "Proxy Statement -- Share Ownership of Directors and Executive Officers," and "Other information -- Certain Shareholders" in the Company's Proxy Statement and reference is expressly made thereto for the specific information incorporated herein by the aforesaid reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item will be set forth under "Proxy Statement -- Certain Relationships and Related Transactions" in the Company's Proxy Statement and reference is expressly made thereto for the specific information incorporated herein by the aforesaid reference.
TRENDWEST RESORTS, INC., AND SUBSIDIARIES
INDEPENDENT AUDITORS' REPORT
The Shareholders Trendwest Resorts, Inc.:
We have audited the accompanying consolidated balance sheets of Trendwest Resorts, Inc., and subsidiaries as of December 31, 1999 and 1998, and the related combined and consolidated statements of income, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 1999. These combined and consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these combined and consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. 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 combined and consolidated financial statements referred to above present fairly, in all material respects, the financial position of Trendwest Resorts, Inc., and subsidiaries as of December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1999, in conformity with generally accepted accounting principles.
KPMG LLP
Seattle, Washington February 1, 2000
TRENDWEST RESORTS, INC., AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS)
ASSETS
See accompanying notes to the combined and consolidated financial statements.
TRENDWEST RESORTS, INC., AND SUBSIDIARIES
COMBINED AND CONSOLIDATED STATEMENTS OF INCOME (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
See accompanying notes to the combined and consolidated financial statements.
TRENDWEST RESORTS, INC., AND SUBSIDIARIES
COMBINED AND CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DOLLARS IN THOUSANDS)
See accompanying notes to the combined and consolidated financial statements.
TRENDWEST RESORTS, INC., AND SUBSIDIARIES
COMBINED AND CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS)
See accompanying notes to the combined and consolidated financial statements.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
(1) DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
DESCRIPTION OF BUSINESS
Trendwest Resorts, Inc., and subsidiaries (Company) generate revenues from the sale and financing of Vacation Credits in WorldMark, The Club (WorldMark) and Fractional Interests in resort condominium units. Vacation Credits entitle the owner to use a fully furnished vacation resort unit in WorldMark based on the number of Vacation Credits purchased. Vacation Credits are created through the transfer to WorldMark of resort units developed or purchased by the Company. The Company also manages resort properties under a management agreement with WorldMark. WorldMark is a separate entity which owns the transferred properties for the benefit of Vacation Credit owners (Members or Owners). Fractional Interest sales are deeded intervals in condominium units and are not transferred to WorldMark.
The Company sells Vacation Credits and Fractional Interests to individuals principally in the Western United States. Sales to new owners are typically financed by the Company after requiring a minimum 10% down payment. Sales to existing Vacation Credit owners (Upgrades) are typically financed by the Company and require down payments to the extent that the owner's equity interest in Vacation Credits owned, including the Upgrade, is less than 10%. All note balances are secured by the Vacation Credits or Fractional Interests sold.
BASIS OF PRESENTATION
For periods prior to June 30, 1997, the financial statements are presented on a combined basis and include the accounts of Trendwest Resorts, Inc., TW Holdings, Inc. (TW Holdings) and Trendwest Funding I, Inc. (Trendwest Funding I). The financial statements of these three entities have been combined as they were entities under the common control of JELD-WEN, inc. (Parent).
Trendwest is a majority owned subsidiary of the Parent and prior to June 30, 1997, TW Holdings and Trendwest Funding I were wholly-owned subsidiaries of the Parent. Effective June 30, 1997, the Parent transferred to Trendwest all of the outstanding common stock of TW Holdings and Trendwest Funding I in exchange for 5,193,693 shares of Trendwest common stock (Consolidation Transactions) resulting in TW Holdings and Trendwest Funding I becoming wholly-owned subsidiaries of Trendwest. The financial statements for periods beginning June 30, 1997 are presented on a consolidated basis and include the accounts of Trendwest, TW Holdings and Trendwest Funding I. Trendwest Funding II, a wholly owned subsidiary, is included in the financial statements from March 12, 1998 (inception). TW Holdings II, a wholly owned subsidiary, is included from April, 1999 (inception); TRI Funding III, Inc., a wholly-owned subsidiary, is included from August, 1999 (inception); and Trendwest South Pacific, a wholly-owned subsidiary, is included from October 1999 (inception).
The Consolidation Transactions are considered a reorganization of entities under common control and have been accounted for in a manner similar to a pooling of interests. The assets and liabilities of the combining entities continue to be recorded at their historical cost basis and the results of operations continue to include the same components in consolidation as were included in combination.
All intercompany balances and transactions have been eliminated in combination and consolidation.
CAPITAL TRANSACTIONS AND PUBLIC OFFERING
On August 15, 1997, the Company consummated the offering of 3,176,250 shares of the Company's common stock at $18 per share resulting in net proceeds of $51,772, after deducting the related issuance costs.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
In March, 1999 and July, 1998, the Board of Directors authorized the Company to repurchase up to 500,000 and 436,000 shares, respectively, of its common stock on the open market or in privately negotiated transactions based on market conditions. During the years ended December 31, 1999 and 1998, the Company repurchased 135,072 and 434,600 shares, respectively.
BASIC AND DILUTED NET INCOME PER COMMON SHARE
Basic and diluted net income per common share has been computed based on the number of shares of Trendwest common stock outstanding and assumes the 5,193,693 shares issued to the Parent in connection with the Consolidation Transactions have been outstanding for all periods presented.
The following presents the reconciliation of weighted average shares used for basic and diluted net income per share:
Net income available to common shareholders for basic and diluted net income per share was $34,873, $24,031 and $20,609 for the years ended December 31, 1999, 1998 and 1997, respectively.
At December 31, 1999, 1998 and 1997, there were options to purchase 598,000, 491,500 and 490,000 shares of common stock outstanding, respectively, which were antidilutive and therefore not included in the computation of diluted net income per share.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
RESTRICTED CASH
Restricted cash consists primarily of deposits received on sales of Vacation Credits and Fractional Interests that are held in trust or escrow until the applicable statutory rescission period of three to fourteen calendar days has expired and the related customer Note Receivable has been recorded; it also consists of amounts received prior to the attainment of the 10% down payment required to recognize the sale.
ALLOWANCE FOR DOUBTFUL ACCOUNTS AND RECOURSE LIABILITY
The Company provides for estimated losses related to uncollectible Notes Receivable and Notes Receivable sold with limited recourse. The Company's recourse for Notes Receivable sold is limited to the retained and residual interest in Notes Receivable sold. As of December 31, 1999 and 1998, total retained interest in Notes Receivable sold of $36,782 and $37,063, respectively, was included in Notes Receivable in the accompanying consolidated balance sheets relating to Notes Receivable sold of $288,950 and $200,840, respectively. Although it is not required to do so, the Company's historical practice has been to repurchase defaulted sold Notes Receivable up to certain limits, generally 10% to 17% of the face amount of the original
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
balance of Notes Receivable sold. The provision for credit losses is charged to income in amounts sufficient to maintain the allowance and the recourse liability at levels considered adequate to cover losses resulting from liquidation of Notes Receivable and Notes Receivable sold.
The Company estimates its allowance for doubtful accounts and recourse liability by analysis of bad debts by each sales site by year of Notes Receivable origination and are net of anticipated cost recoveries of the underlying Vacation Credits and Fractional Interests. The Company uses this historical analysis in conjunction with other factors such as local economic conditions and industry trends. The Company also utilizes experience factors of more mature sales sites in establishing the allowance for bad debts at new sales offices. Management believes that all such allowances and estimated liabilities are adequate; however, such amounts are based on estimates and there is no assurance that the actual amounts incurred will not be more or less than the amount recorded.
The Company charges off Notes Receivable when deemed to be uncollectible. Interest income previously accrued and unpaid is reversed. Vacation Credits recovered are recorded at the weighted average cost of credits at the time of recovery. Fractional Interests recovered are recorded at historical cost at the time of the recovery. All collection costs are expensed as incurred.
INVENTORIES
Inventories consist of Vacation Credits and construction in progress as follows:
Vacation Credits represent the costs of unsold ownership interests in WorldMark. Resort properties are completed and ownership is transferred by the Company to WorldMark in return for the right to sell Vacation Credits based on the number of credits available for the properties. Credits available are determined using a formula based on the number of user days available as well as the relative value of each property. Vacation Credits are carried at the lower of cost, based on the moving weighted average of property cost per Vacation Credit established, or net realizable value.
Construction in progress is valued at the lower of cost or net realizable value. Interest, taxes and other carrying costs incurred during the construction period are capitalized. The amount of interest capitalized during the years ended December 31, 1999, 1998 and 1997 amounted to $1,188, $552 and $637, respectively.
REVENUE RECOGNITION
(i) Vacation Credits
Substantially all Vacation Credits sold by the Company generate installment Notes Receivable secured by an interest in the related Vacation Credits. These Notes Receivable are payable in monthly installments, including interest, with maturities up to seven years. Vacation Credit sales are included in revenues when at least a 10% down payment requirement has been met and any rescission period has expired.
Vacation Credit cost of sales and direct selling expenses related to a Vacation Credit sale are recorded at the time the sale is recognized. Vacation Credit costs include the cost of land, improvements to the property,
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
including costs of amenities constructed for the use and benefit of the Vacation Credit owners, and other direct acquisition costs. Direct selling expenses are recorded as sales and marketing expenses.
The Company also finances sales of Upgrades which often result in the cancellation of any existing note receivable and the issuance of a new seven-year note secured by an interest in all Vacation Credits owned. No additional down payment is required by the Company as long as the owner's equity interest in the original Vacation Credits is equal to 10% of the value of all Vacation Credits, including those from the Upgrade sale, and the customer is not delinquent in his payments on his existing note receivable. When the Company finances an Upgrade sale and the customer does not make an additional down payment of at least 10% of the Upgrade sale amount, the Company uses the installment method to recognize revenue whereby profit is recognized as a portion of each principal payment is received on the Upgrade. Revenue is fully recognized on the Upgrade sale when the cash collected relating to the Upgrade sale totals 10% of the Upgrade sale. Cash collected relating to a financed Upgrade sale is measured as the sum of any additional down payment received at the time of the Upgrade sale and the principal repayment of the new note receivable which is allocable to the Upgrade sale. Principal repayments are allocated to the Upgrade sale component of the new note receivable and the pre-Upgrade sale component of the new note receivable based on the ratio of such components at the time of the Upgrade sale.
(ii) Fractional Interests
Fractional Interest sales are included in revenues when at least a 10% down payment requirement has been met and any rescission period has expired.
Fractional Interest cost of sales and direct selling expenses related to a Fractional Interest sale are recorded at the time the sale is recognized. Fractional Interest costs include the cost of land, improvements to the property, including costs of amenities constructed and other direct acquisition costs. Direct selling expenses are recorded as sales and marketing expenses.
(iii) Sales of Notes Receivable
Gains on sales of Notes Receivable represent the present value of the differential between contractual interest rates charged to borrowers on Notes Receivable sold by the Company and the interest rates to be received by the purchasers of such Notes Receivable, after considering the effects of estimated prepayments and the costs of servicing, net of transaction costs. The Company recognizes such gains on sales of Notes Receivable on the settlement date. Gains on the sale of a portion of Notes Receivable are based on the relative fair market value of the note receivable portions sold and retained.
The Company discounts cash flows on its Notes Receivable sold at a rate which it believes a purchaser would require as a rate of return. The Company develops its assumptions based on experience with its own portfolio, available market data and ongoing consultation with its investment bankers (see note 13).
Income from the differential retained is recorded in finance income using the interest method. In addition, finance income includes interest income on Notes Receivable retained by the Company. The residual interest in Notes Receivable sold is classified as a trading security in accordance with SFAS No. 115, Accounting for Certain Investments in Debt or Equity Securities, and is carried at market value with changes in the fair market value (see note 13) of the residual interest in Notes Receivable sold recognized as finance income.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost and depreciated or amortized using the straight-line method over the following assets' estimated useful lives:
ADVERTISING
Advertising costs, included in sales and marketing expenses in the accompanying combined statements of income, are expensed as incurred and amounted to $7,337, $5,655 and $4,204 for the years ended December 31, 1999, 1998 and 1997, respectively.
INCOME TAXES
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
The Company was included in the Federal consolidated tax return of the Parent prior to August 15, 1997. The Parent allocated the combined current and deferred tax expense to the Company as if the Company had filed on a stand-alone basis.
Subsequent to August 15, 1997, the Company files its Federal and State consolidated tax returns on a stand-alone basis.
STOCK-BASED COMPENSATION
The Company accounts for stock option plans for employees in accordance with the provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. As such, compensation expense related to employee stock options is recorded if, on the date of grant, the fair value of the underlying stock exceeds the exercise price. The Company applies the disclosure-only requirements of SFAS No. 123, Accounting for Stock-Based Compensation, which allows entities to continue to apply the provisions of APB Opinion No. 25 for transactions with employees, and to provide pro forma results of operations disclosures for employee stock option grants as if the fair-value-based method of accounting in SFAS No. 123 had been applied to those transactions.
USE OF ESTIMATES
Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period to prepare these financial statements in conformity with generally accepted accounting principles. Actual results could differ from those estimates and assumptions.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
DERIVATIVE FINANCIAL INSTRUMENTS
The Company has limited involvement with derivative financial instruments and uses them only to manage well-defined interest and foreign currency rate risks. They are not used for trading purposes.
The Company enters into forward interest rate swap agreements, interest rate cap agreements and forward exchange contracts to hedge the effects of fluctuations in interest rates and foreign currency rates related to anticipated sales of Notes Receivables and purchases of resort properties, respectively. These transactions meet the requirements for hedge accounting, including designation to a specific transaction and high correlation. Gains and losses on these agreements are deferred and recognized upon completion of the sale of Notes Receivable or the purchase of the resort property and included in the basis of the related asset.
EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS
In April, 1998, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP) 98-5, Reporting on the Costs of Start-Up Activities. This SOP was effective on January 1, 1999, and has not impacted the Company's financial position or results of operations.
In June, 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities. This Statement, as amended, is effective as of the beginning of the first quarter of the fiscal year beginning after June 15, 2000. The Company does not anticipate a material impact on its financial position or results of operations from the future adoption of this standard.
In December, 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition", to be effective as of the first quarter of 2000. The Company does not anticipate that compliance with SAB No. 101 will result in any material change to the Company's revenue recognition policies.
(3) NOTES RECEIVABLE
The Company provides financing to the purchasers of Vacation Credits and Fractional Interests. The notes resulting from sales of Vacation Credits bear interest at 13.9% or 14.9%, depending on the method of payment, and are written with initial terms of up to 84 months. Notes resulting from the sale of Fractional Interests bear interest rates of up to 11.9% for a term of up to 120 months. Once a 10% down payment has been received, the Company has no obligation under the notes to refund monies or provide further services to the Owners in the event membership is terminated for nonpayment of the notes.
Maturities of Notes Receivable at December 31, 1999 are as follows:
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
The following table summarizes the Company's total Notes Receivable portfolio at December 31:
Customers over 60 days past due on monthly payments are considered delinquent. Delinquent Notes Receivable represent 1.91% and 1.97% of Notes Receivable at December 31, 1999 and 1998, respectively.
The activity in the allowance for doubtful accounts, recourse liability and sales returns is as follows for the years ended December 31:
(4) SALES OF NOTES RECEIVABLE
TW HOLDINGS
The Company sold through TW Holdings, an 80% interest in certain Notes Receivable to outside investors primarily through an agreement, as amended on June 18, 1998, expiring June 17, 1999 with Bank of America and other purchasers (Bank Group).
On June 17, 1999, the Company chose not to renew the revolving portion of the $98 million Receivable Transfer Agreement with the Bank Group. In conjunction with the private placement of Notes Receivable in August 1999, the sold Notes Receivable were acquired by TRI Funding III, the credit facility was retired and the corporation was dissolved.
Total Notes Receivable sold and outstanding under this agreement amounted to $0 and $61,000 at December 31, 1999 and 1998, respectively. The Company's retained interest included in Notes Receivable
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
under this agreement in the accompanying consolidated balance sheets amounted to $0 and $15,250 at December 31, 1999 and 1998, respectively.
Subsequent to January 1, 1997 and prior to the Consolidation Transactions, the Company's transfer of Notes Receivable under the agreement did not qualify for sales treatment under SFAS No. 125 and were treated as secured borrowings.
In conjunction with the Consolidation Transactions, the bylaws and articles of incorporation of TW Holdings were amended such that the transfer of Notes Receivable from Trendwest to TW Holdings met the sales recognition criteria of SFAS No. 125 resulting in the transferred Notes Receivable no longer being assets of Trendwest. At June 30, 1997, Notes Receivable previously transferred and treated as secured borrowings aggregating $16.8 million were accounted for as sales of Notes Receivable.
TW HOLDINGS II
On April 15, 1999, the Company formed TW Holdings II and simultaneously entered into a $75 million 364 day Receivables Purchase Agreement (Agreement) with Prudential Securities Credit Corporation (Prudential). The Agreement has a 90% advance rate and is priced at LIBOR plus 100 basis points. The Agreement is subject to annual renewals with the current commitment expiring on April 13, 2000. The 10% retained interest is recorded as Notes Receivable whereas the residual interest in the excess cash flows of Notes Receivable sold is classified as residual interest in Notes Receivable sold and is measured at fair value.
Total Notes Receivable sold and outstanding under this Agreement amounted to $40,000 and $0 at December 31, 1999 and 1998, respectively.
Prudential has limited recourse to the Company's retained interest in Notes Receivable sold under certain default provisions related primarily to representations and warranties that do not relate to credit defaults by the underlying obligors. The Company's retained interest included in Notes Receivable in the accompanying balance sheets amounted to $7,822 and $0 at December 31, 1999 and 1998, respectively.
TRENDWEST FUNDING I
In 1996, the Company sold through Trendwest Funding I, certain Notes Receivable to a limited liability corporation (LLC) in exchange for cash, a subordinated note payable from the LLC and a residual interest in the excess cash flows of the LLC. The subordinated note payable from the LLC represents the Company's retained interest in Notes Receivable which provide collateral to holders of notes issued by the LLC (the LLC noteholders) and is classified as Notes Receivable in the accompanying balance sheet. The residual interest in the excess cash flows of the LLC is classified as residual interest in Notes Receivable sold and is measured at fair value.
The LLC noteholders and the LLC outside investor have recourse limited to the Company's retained interest in Notes Receivable sold under certain default provisions related primarily to the delinquency status of the Notes Receivable sold. The Company's retained interest is included in Notes Receivable in the accompanying balance sheets, and amounted to approximately $4,386 and $8,146 at December 31, 1999 and 1998, respectively.
The LLC is controlled and 99% owned by an independent third party who has made a substantial capital investment and has substantial risks and rewards of the assets of the LLC.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
TRENDWEST FUNDING II
In 1998, the Company sold through Trendwest Funding II certain Notes Receivable to a special purpose entity (Entity) wholly-owned by Trendwest Funding II (TFI II) for cash, subordinated notes payable from the Entity and a residual interest in the excess cash flows of the Entity. TFI II issued two classes of senior and subordinated notes to institutional investors. The subordinated notes payable from the Entity represent the Company's retained interest in Notes Receivable which provides collateral to the holders of the notes issued by the Entity and is classified as Notes Receivable in the accompanying balance sheets. The residual interest in the excess cash flows of the Entity is classified as residual interest in Notes Receivable sold and is measured at fair value.
The Company's retained interest is included in Notes Receivable in the accompanying balance sheets, and amounted to approximately $10,139 and $13,667 at December 31, 1999 and 1998, respectively.
TRI FUNDING III
In August 1999, the Company sold certain Notes Receivable to TRI Funding III, Inc. (TRI Funding III), for cash, a subordinated note payable from TRI Funding III and a residual interest in the excess cash flows of TRI Funding III. TRI Funding III issued six classes of senior notes to institutional investors. The subordinated note payable from TRI Funding III represents the Company's retained interest in Notes Receivable which provides collateral to the holders of the notes issued by the entity and is classified as Notes Receivable on the accompanying balance sheets. The residual interest in the excess cash flows is classified as residual interest in Notes Receivable sold and is measured at fair value.
The Company's retained interest is included in Notes Receivable in the accompanying balance sheets, and amounted to approximately $14,435 and $0 at December 31, 1999 and 1998, respectively.
(5) PROPERTY AND EQUIPMENT
Property and equipment, net, consists primarily of the following at December 31:
Construction in progress at December 31, 1999 and 1998 includes capitalized interest of $0 and $152, respectively.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
(6) DEFERRED GROSS PROFIT
The Company accounts for certain Upgrade sales on the installment method prior to satisfaction of minimum down payment requirements. Information for those transactions follows for the years ended December 31:
Notes Receivable is presented net of deferred gross profit in the accompanying balance sheets. Such deferred amounts aggregated $970 and $1,176 at December 31, 1999 and 1998, respectively.
Deferred gross profit related to Notes Receivable sold is combined with allowance for recourse liability on Notes Receivable sold in the accompanying balance sheets. Such deferred amounts aggregated $3,303 and $2,678 at December 31, 1999 and 1998, respectively.
(7) CREDIT FACILITY
The Company has a $30,000 unsecured revolving credit agreement (Credit Agreement) with a group of banks. The credit agreement provides for borrowings at the reference rate as announced by Bank of America, NT&SA or at LIBOR plus 100 basis points and a commitment fee to the banks of 30 basis points per annum on the total unused amount of the commitment. Availability under the line of credit is subject to a borrowing base which is a percentage of unencumbered Notes Receivable and inventory, including property under development. Under the terms of the Credit Agreement, the Company is required to maintain certain interest coverage ratios and capitalization ratios; the Credit Agreement also imposes limitations on certain liens and carrying amounts of inventory. The Credit Agreement matures on February 12, 2001. Borrowings outstanding at December 31, 1999 and 1998 were $3,900 and $30,000 respectively, at weighted average interest rates of 8.50% and 6.64%, respectively.
(8) INCOME TAXES
The provision for income taxes consist of the following for the years ended December 31:
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below at December 31:
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, tax previously paid, projected future taxable income, and tax planning strategies in making this assessment.
Based upon the level of historical taxable income and projections for future taxable income over the periods which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deferred tax assets.
Income tax expense differed from the amounts computed by applying the U.S. Federal income tax rate of 35% to pretax income as a result of the following for the years ended December 31:
As the Company continues to expand sales operations and development activities into new tax jurisdictions, both domestic and international, it becomes subject to new tax rules and tax authorities. Often tax law and taxation criteria require interpretation with regards to the Company's timeshare business, and while it is management's intent to investigate and comply with all applicable tax laws, no assurance can be provided that taxing authorities in such jurisdictions will agree with the Company's assessment of the appropriate filing requirements and liability determinations.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
(9) 401(k) PLANS
Prior to August 15, 1997, the Company participated in the Parent 401(k) plan. Company contributions, which are invested in Parent common stock, were at the discretion of the Board of Directors of the Parent and totaled $1,124 for the period from January 1, 1997 to August 15, 1997.
On August 15, 1997, the Company ceased participation in the Parent 401(k) plan and sponsored a new plan (Trendwest plan) covering all Trendwest employees. Company contributions totaled $2,708, $2,402 and $765 for the years ended December 31, 1999 and 1998, and the period from August 15, 1997 to December 31, 1997, respectively.
(10) EMPLOYEE STOCK PURCHASE PLAN
In July, 1999, the Shareholders of the Company approved the 1999 Employee Stock Purchase Plan (Plan). The Plan allows employees to purchase up to $2,500 of the Company's common stock at a 15% discount from the market price on the last business day of a quarter. There is no lookback provision for determining market value. Under the Plan, the Company issued 17,384 shares of common stock for the year ended December 31, 1999.
(11) FOREIGN EXCHANGE CONTRACT
In October 1999, the Company entered into a forward exchange contract, accounted for as a hedge, to receive $6,638 CDN at a rate of $1.4752 CDN/US on February 15, 2000.
The Company is exposed to credit losses in the event of nonperformance by the counterparties to its foreign exchange contracts. The Company does not obtain collateral to support financial instruments but monitors the credit standing of the counterparties.
(12) STOCK OPTION PLAN
In 1997, the Board of Directors approved the adoption of an incentive stock option plan providing for the award of incentive stock options to employees of the Company at the discretion of the Board of Directors. Under the plan, on the date of grant, the exercise price of the option must be at least equal to the market value of common stock for shares issued. The plan provides for grants up to 5% of the Company's outstanding shares (852,054 at December 31, 1999). Stock options vest ratably over five years and expire three years after becoming fully vested.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
The following table summarizes stock option activity:
The following table summarizes information about stock options outstanding under the Company's stock option plan at December 31, 1999:
At December 31, 1999 and 1998, exercisable options of 201,900 and 96,500, respectfully, were outstanding at weighted average exercise prices of $25.21 and $26.88, respectively. There were no exercisable options outstanding at December 31, 1997.
The Company applies APB Opinion No. 25 in accounting for its plan and, accordingly, no compensation cost has been recognized for its stock options in the accompanying financial statements as the options had no intrinsic value at the grant date. Had the Company determined compensation cost based on the fair value of the options at the grant date, the Company's net income would have been reduced to the pro forma amounts indicated below:
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
The fair value of the options granted is estimated on the date of grant using the Black-Scholes method with the following weighted average assumptions used:
The weighted average grant date fair value per share of options granted during the years ended December 31, 1999, 1998 and 1997 were $12.31, $6.15 and $12.94, respectively.
(13) FAIR VALUES OF FINANCIAL INSTRUMENTS
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. The fair values of financial instruments are based on estimates using present value or other valuation techniques in cases where quoted market prices are not available. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instrument. 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.
Estimated fair values, carrying values and various methods and assumptions used in valuing the Company's financial instruments are set forth below at December 31:
- --------------- (a) The carrying value, prior to consideration of deferred gross profit in the case of Notes Receivable, is considered to be a reasonable estimate of fair value.
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
(b) Fair value is determined using estimated discounted future cash flows taking into consideration anticipated prepayment rates. The Company utilizes the following assumptions in determining the fair value of its residual interest in Notes Receivable sold at December 31:
(c) The carrying value reported approximates fair value due to the variable interest rates charged on the borrowings.
Because no market exists for a portion of the financial instruments, fair value estimates may be based on judgments regarding future instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
The fair value of the Company's forward exchange contract was $92 at December 31, 1999, representing the difference between the currency trading value and the strike price of the forward exchange at that date.
(14) RELATED PARTY TRANSACTIONS
NOTES RECEIVABLE
The Company, on an ongoing basis, acquires from and sells Notes Receivable to related parties at face value with full recourse. A summary of these transactions follows for the years ended December 31:
With respect to Notes Receivable sold to members of the Board of Directors of the Parent and I&I Holdings, the Company serviced such receivables without compensation.
The outstanding balance of Notes Receivable sold to related parties amounted to $0 at December 31, 1999 and 1998.
WORLDMARK
(i) Management Contract
The Company manages the resort properties transferred to WorldMark under the terms of a management agreement which is subject to annual approval by the Members. Under the terms of the management agreement, the Company receives a management fee equal to the lesser of 15% of WorldMark's budgeted expenditures or the full net profit of WorldMark and is reimbursed for certain expenses. In addition, the
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
Company is responsible for paying annual dues on Vacation Credits which it owns prior to their sale to customers and reimburses WorldMark for delinquent dues on canceled memberships. A summary of these transactions for the years ended December 31 follows:
(ii) Financial Information (Unaudited)
A summary of financial information for WorldMark as of and for the years ended December 31, 1999 and 1998 is as follows:
WorldMark maintains a reserve for replacement costs of depreciable assets. Such reserves at December 31, 1999 and 1998, were $12.2 million and $8.3 million, respectively.
PARENT AND OTHER RELATED PARTIES
The Company has an open revolving credit line with its Parent to meet operating needs and invest excess funds. The credit line is $10 million and is payable on demand. It bears interest at the prime rate plus 1% per annum (9.50% and 8.75% at December 31, 1999 and 1998, respectively). Outstanding borrowings under this credit agreement were $0 and $5,688 at December 31, 1999 and 1998, respectively. The Company periodically lends excess funds to the Parent at the prime rate minus 2% (currently 6.50%). Outstanding lendings under this agreement were $3,058 and $0 at December 31, 1999 and 1998, respectively.
The Company also reimburses the Parent for administrative services received and its share of insurance expenses. Also, through June 30, 1997 the Parent was named as the master servicer under the terms of certain sales of Notes Receivable and received a servicing fee of 1.75% per annum of the sold receivables to service the receivable. The Parent subcontracted the servicing to Trendwest for a servicing fee of 1.25% per annum of
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
the sold receivable balance. Trendwest also received a servicing fee from TRI Funding Company I, LLC of 1.75% per annum of the sold receivables' balance and subsequent to June 30, 1997 is the named master servicer under the terms of certain sales of Notes Receivable. Trendwest, in turn, subcontracts components of the servicing to a third-party servicer. A summary of these transactions follows for the years ended December 31:
The Company is developing a resort in central Washington known as MountainStar in conjunction with its Parent. The Parent owns the land and the Company is acting as the developer. On behalf of its Parent, the Company has incurred costs of approximately $10,898 and $5,869 in 1999 and 1998, respectively, related to the project. All costs incurred to date will be reimbursed by the Parent.
In 1998, the Company purchased 25 condominium units at a cost of $3,462 from Running Y Resorts.
(15) COMMITMENTS AND CONTINGENCIES
PURCHASE COMMITMENTS
The Company routinely enters into purchase agreements with various parties to acquire and build resort properties. At December 31, 1999, the Company has outstanding purchase commitments of $75,845 related to properties under development.
LITIGATION
The Company is involved in various claims and lawsuits arising in the ordinary course of business. Management believes the outcome of these matters will not have a material adverse effect on the Company's financial position, results of operations or liquidity.
LEASE COMMITMENTS
The Company has various operating lease agreements, primarily for sales offices. These obligations generally have remaining noncancelable terms of five years or less. Future minimum lease payments are as follows for the years ending December 31:
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
Rental expense amounted to $4,225, $3,262 and $2,018 for the years ended December 31, 1999, 1998 and 1997, respectively.
(16) SEGMENT REPORTING
The Company has two reportable segments; sales and financing. The sales segment markets and sells Vacation Credits and Fractional Interests. The finance segment is primarily responsible for servicing and collecting Notes Receivable originated in conjunction with the financing of sales of Vacation Credits and Fractional interest Sales. The finance segment does not include TW Holdings, TW Holdings II, Trendwest Funding I, Trendwest Funding II or Trendwest Funding III. Management has chosen to evaluate the business based on sales and marketing activities as these are the primary drivers of the business.
The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on profits or losses from sales and marketing activities on a pre-tax basis. Intersegment revenues are recorded at market rates as if the transactions occurred with third parties. Assets are not reported by segment.
The following tables summarize the segment activity of the Company:
TRENDWEST RESORTS, INC. AND SUBSIDIARIES
NOTES TO COMBINED AND CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999, 1998 AND 1997 (DOLLAR AMOUNTS IN THOUSANDS)
The following table provides a reconciliation of segment revenues and profits to the consolidated amounts:
All of the Company's revenue from external customers is derived from sales within the United States.
(17) SUBSEQUENT EVENT
On January 4, 2000, the Company created a wholly-owned special purpose finance company, TW Holdings III, Inc. At the same time, the Company entered into a 364-day $75 million commercial paper-backed Receivables Warehouse facility (Facility) with Banc One Capital Markets. The Facility has an interest rate based on the commercial paper rate plus 50 basis points.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a). The following documents are filed as part of this report:
- --------------- (1) Incorporated by reference to the Company's Registration Statement on Form S-1 (File No. 333-26861).
(2) Incorporated by reference to the Company's Annual Report to Shareholders.
(3) Incorporated by reference to the Company's 1998 quarterly filings on Form 10-Q (File No. 333-26861).
(4) Incorporated by reference to the Company's 1999 quarterly filings on Form 10-Q (File No. 333-26861).
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the year ended December 31, 1999.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, Trendwest Resorts, Inc. has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Redmond, State of Washington, on March 29, 2000.
TRENDWEST RESORTS, INC.
By: /s/ JEFFERY P. SITES ------------------------------------ Jeffery P. Sites Executive Vice President