UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the quarterly period ended March 31, 2001
or
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from __________ to __________
Commission File Number: 1-9293
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PRE-PAID LEGAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
Oklahoma 73-1016728
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
321 East Main Street
Ada, Oklahoma 74821-0145
(Address of principal executive offices) (Zip Code)
(580) 436-1234
(Registrants' telephone number, including area code)
--------------------------------------------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes No X
------- -------
Indicate the number of shares outstanding of each of the issuer's classes
of common stock as of May 10, 2001:
Common Stock $.01 par value 21,343,141
CONTENTS
Part I. Financial Statements
Item 1. Financial Statements of Registrant:
Consolidated Balance Sheets
as of March 31, 2001 (Unaudited) and
December 31, 2000
Consolidated Statements of Income
(Unaudited) for the three months ended
March 31, 2001 and 2000
Consolidated Statements of Comprehensive Income
(Unaudited) for the three months ended
March 31, 2001 and 2000
Consolidated Statements of Cash Flows
(Unaudited) for the three months ended
March 31, 2001 and 2000
Notes to Consolidated Financial Statements (Unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition
And Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Part II. Other Information
Item 1. Legal Proceedings
Item 6. Exhibits and Reports on Form 8-K
ITEM 1. FINANCIAL STATEMENTS OF REGISTRANT
PRE-PAID LEGAL SERVICES, INC.
CONSOLIDATED BALANCE SHEETS
(Amounts in 000's, except par values)
ASSETS
March 31, December 31,
2001 2000
------------ ------------
(Unaudited)
Current assets:
Cash and cash equivalents..........................................................................$ 11,566 $ 11,570
Available-for-sale investments, at fair value...................................................... 1,209 2,448
Membership income receivable....................................................................... 6,285 6,780
Inventories........................................................................................ 1,065 1,542
Amount due from coinsurer.......................................................................... 14,146 12,242
Membership commission advance receivables.......................................................... 47,444 45,594
------------ ------------
Total current assets........................................................................... 81,715 80,176
Available-for-sale investments, at fair value........................................................ 18,284 21,207
Investments pledged................................. ................................................ 5,986 6,105
Membership commission advance receivables, net....................................................... 118,295 110,544
Property and equipment, net.......................................................................... 13,056 11,200
Deferred member and associate service costs.......................................................... 9,280 8,494
Other assets......................................................................................... 10,456 9,562
------------ ------------
Total assets...................................................................................$ 257,072 $ 247,288
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Membership benefits................................................................................$ 7,194 $ 6,831
Deferred Membership revenue and fees and associate fees............................................ 13,897 12,532
Accident and health reserves....................................................................... 14,146 12,242
Life insurance reserves............................................................................ 985 976
Deferred income taxes.............................................................................. 14,948 13,951
Capital lease obligation........................................................................... 139 223
Accounts payable and accrued expenses.............................................................. 9,191 7,096
------------ ------------
Total current liabilities...................................................................... 60,500 53,851
Deferred income taxes................................................................................ 41,450 39,065
Life insurance reserves.............................................................................. 7,741 7,656
------------ ------------
Total liabilities..................................... ........................................ 109,691 100,572
------------ -----------
Stockholders' equity: Common stock, $.01 par value; 100,000 shares authorized; 24,740 issued ...... 247 247
Capital in excess of par value..................................................................... 64,949 64,958
Retained earnings.................................................................................. 145,245 132,079
Accumulated other comprehensive income (loss):
Unrealized gain (losses) on investments.......................................................... 308 (96)
Unrealized loss from foreign currency translation................................................ (104) (12)
Treasury stock, at cost; 3,254 and 2,480 shares held at March 31, 2001 and
December 31, 2000, respectively....................................................................... (63,264) (50,460)
----------- ------------
Total stockholders' equity....................................................................... 147,381 146,716
----------- ------------
Total liabilities and stockholders' equity.....................................................$ 257,072 $ 247,288
=========== ============
The accompanying notes are an integral part of these financial statements.
PRE-PAID LEGAL SERVICES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(Amounts in 000's, except per share amounts)
(Unaudited)
Three months ended
March 31,
-------------------------
2001 2000
----------- -----------
(Restated)
Revenues:
Membership fees........................................................... $ 59,495 $ 46,976
Associate services........................................................ 10,137 6,233
Other..................................................................... 1,186 2,724
----------- -----------
70,818 55,933
----------- -----------
Costs and expenses:
Membership benefits....................................................... 20,398 15,541
Commissions............................................................... 14,432 11,743
Provision for estimated uncollectible Membership
commission advance receivables.......................................... 1,112 619
Associate services and direct marketing................................... 8,109 4,279
General and administrative................................................ 6,379 5,924
Life insurance benefits................................................... 278 252
Other, net................................................................ 104 668
----------- -----------
50,812 39,026
----------- -----------
Income before income taxes.................................................. 20,006 16,907
Provision for income taxes.................................................. 6,840 5,918
----------- -----------
Income before cumulative effect of change in accounting principle........... 13,166 10,989
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (4,109)
----------- -----------
Net income.................................................................. 13,166 6,880
Less dividends on preferred shares.......................................... - 2
----------- -----------
Net income applicable to common stockholders................................ $ 13,166 $ 6,878
=========== ===========
Basic earnings per common share before cumulative effect of change in
method of accounting for Membership commission advance receivables........ $ .60 $ .49
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (.18)
----------- -----------
Basic earnings per common share............................................. $ .60 $ .31
=========== ===========
Diluted earnings per common share before cumulative effect of change in
method of accounting for Membership commission advance receivables........ $ .60 $ .48
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (.18)
----------- -----------
Diluted earnings per common share........................................... $ .60 $ .30
=========== ===========
The accompanying notes are an integral part of these financial statements.
PRE-PAID LEGAL SERVICES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in 000's)
(Unaudited)
Three months ended
March 31,
-------------------------
2001 2000
----------- -----------
(Restated)
Net income.................................................................. $ 13,166 $ 6,880
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustment................................... (92) (4)
Unrealized gains on investments:
Unrealized holding gains arising during period,......................... 416 24
Less: reclassification adjustment for gains included
in net income......................................................... (12) -
----------- -----------
Other comprehensive income, net of income taxes
of $168 and $11........................................................... 312 20
----------- -----------
Comprehensive income........................................................ $ 13,478 $ 6,900
=========== ===========
The accompanying notes are an integral part of these financial statements.
PRE-PAID LEGAL SERVICES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in 000's)
(Unaudited)
Three months ended
March 31,
-------------------------
2001 2000
----------- -----------
(Restated)
Cash flows from operating activities:
Net income.................................................................. $ 13,166 $ 6,880
Adjustments to reconcile net income to net cash provided
by operating activities:
Cumulative effect on prior years of change in method of accounting
for Membership commission advance receivables........................... - 4,109
Provision for deferred income taxes....................................... 3,164 3,670
Provision for uncollectible Membership commission advance receivables..... 1,112 619
Depreciation and amortization............................................. 948 603
Decrease (increase) in Membership income receivable....................... 495 (497)
Decrease (increase) in inventories........................................ 477 (38)
Increase in amount due from coinsurer..................................... (1,904) (57)
Increase in Membership commission advance receivables..................... (10,713) (10,858)
Increase in deferred member and associate service costs................... (786) (7,530)
(Increase) decrease in other assets....................................... (894) 47
Increase in accrued Membership benefits................................... 363 384
Increase in deferred revenue and fees.................................... 1,365 9,012
Increase in accident and health reserves.................................. 1,904 57
Increase in life insurance reserves....................................... 94 4
Increase (decrease) in accounts payable and accrued expenses.............. 1,994 (1,214)
----------- -----------
Net cash provided by operating activities............................... 10,785 5,191
----------- -----------
Cash flows from investing activities:
Additions to property and equipment....................................... (2,804) (1,465)
Purchases of investments - available for sale............................. (1,031) (599)
Maturities and sales of investments - available for sale.................. 5,934 130
----------- -----------
Net cash provided by (used in) investing activities................. 2,099 (1,934)
----------- -----------
Cash flows from financing activities:
Proceeds from sale of common stock........................................ - 69
Decrease in capital lease obligations..................................... (84) (82)
Purchases of treasury stock............................................... (12,804) -
Dividends paid on preferred stock......................................... - (2)
----------- -----------
Net cash used in financing activities............................... (12,888) (15)
----------- -----------
Net (decrease) increase in cash and cash equivalents... .................... (4) 3,242
Cash and cash equivalents at beginning of period............................ 11,570 10,191
----------- -----------
Cash and cash equivalents at end of period.................................. $ 11,566 $ 13,433
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid for interest.................................................... $ 1 $ 3
=========== ===========
Income taxes paid......................................................... $ 1,000 $ 1,131
=========== ===========
The accompanying notes are an integral part of these financial statements.
PRE-PAID LEGAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
The consolidated balance sheet as of March 31, 2001, and the related
consolidated statements of income, comprehensive income and cash flows for the
three-month periods ended March 31, 2001 and 2000 are unaudited; in the opinion
of management, all adjustments (consisting of normal recurring adjustments)
necessary for a fair presentation of such financial statements have been
included. The results for the three months ended March 31, 2001 are not
considered indicative of the results for the full year.
These financial statements and notes are prepared pursuant to the rules and
regulations of the Securities and Exchange Commission for interim reporting and
should be read in conjunction with the financial statements and notes included
in the Company's 2000 Annual Report on Form 10-K.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and 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. Actual results could differ from those
estimates.
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," ("SFAS 133") was issued in June 1998. This Statement, as amended,
establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives), and for hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. The accounting for changes in the fair value of a derivative
(that is, gains and losses) depends on the intended use of the derivative and
the resulting designation. SFAS 133, as amended, applies to all entities and is
effective for all fiscal quarters of fiscal years beginning after June 15, 2000.
The Company adopted SFAS 133, as amended, on January 1, 2001 as required. The
Company did not hold any derivative instruments at January 1, 2001 and there was
no effect on the consolidated financial statements upon the adoption of SFAS
133.
During 2000, the Company changed its methodology for evaluating the
recoverability of its commission advance receivables from terminated or "D
status" sales associates. "D status" associates are those that fail to meet the
Company's established vesting requirements (by failing to sell at least three
new Memberships per quarter or by not retaining a personal Membership). "D
status" associates lose their right to any further commissions earned on
Memberships previously sold at the time they are placed in "D status" and as a
result, the Company is entitled to retain all commission earnings that would be
otherwise payable to these terminated associates to recover their commission
advance receivable balance.
Prior to 2000, the Company "pooled" the activity of this "D status" group
of former associates and accounted for the group and evaluated the
collectibility of their commission advance receivables as if it were a single
associate rather than on an associate by associate basis. The Company determined
that it would change its methodology in 2000 such that the Company now evaluates
the collectibility of "D status" commission advance receivables on an individual
associate basis, as it does the commission advance receivables of its active
associates. The cumulative effect of this change on prior years is reflected
separately in the consolidated statement of income for the three months ended
March 31, 2000 and resulted in a reduction in income (net of applicable taxes of
$2.2 million) of approximately $4.1 million ($.18 per basic and diluted share)
for that quarter. The effect of the change on the three months ended March 31,
2000 resulted in a reduction of income (net of applicable income taxes of
$217,000) of approximately $402,000 ($.02 per basic and diluted share).
2. CONTINGENCIES
Subsequent to December 31, 2000, the Company and various of its executive
officers were named in multiple putative securities class action complaints
filed in both the United States District Courts for the Eastern and Western
Districts of Oklahoma seeking damages on the basis of allegations that the
Company issued false and misleading financial information, primarily related to
the method the Company uses to account for commission advance receivables from
sales associates. These complaints have been transferred to Western District of
Oklahoma where motions to consolidate them into a single proceeding are pending.
As of May 13, 2001, these cases were in the preliminary procedural stages
relating to selection of lead counsel and lead plaintiffs as required by the
Private Securities Litigation Reform Act of 1995 ("PSLRA"). After the selection
of lead plaintiffs and lead counsel, the Company expects that an amended and
consolidated complaint will be filed. The Company expects to file a motion to
dismiss the complaint. Under PSLRA, discovery is stayed during the pendency of a
motion to dismiss. Costs of defense of these cases through the motion to dismiss
stage are not expected to be material. While the outcome of these cases is
uncertain, the Company believes these actions are without merit and will
vigorously defend these actions. However, an unfavorable decision in this
litigation could have a material adverse effect on the Company's financial
condition, results of operations and cash flows.
In January 2001, the Company received inquiries from the Division of
Enforcement of the Securities and Exchange Commission ("SEC") requesting
information relating primarily to the Company's accounting policies for
commission advance receivables from sales associates. The Division of
Enforcement's inquiry is informal and does not constitute a formal investigation
or proceeding. At present, the Company is unable to determine the ultimate
outcome of this inquiry.
Also, in January 2001 and May 2001, the staff of the SEC's Division of
Corporation Finance reveiewed the Company's 1999 and 2000 Forms 10-K,
respectively. On May 11, 2001, the Company received a letter from the staff of
the Division of Corporation Finance advising that, after reveiwing the Company's
Forms 10-K, it was the position of the Division that the Company's accounting
for commission advance receivables is not in accordance with GAAP. The Company
has determined that it intends to appeal the position of Division of Corporation
Finance to the SEC's Office of Chief Accountant. The Company is not able to
predict what the outcome of this appeal may be or when it will be resolved, but
will continue to cooperate with the staff of the SEC to resolve these matters.
While the Company continues to believe that its accounting for commission
advance receivables conforms to generally accepted accounting principles in all
material respects, there is significant risk that the SEC's Office of Chief
Accountant will not agree with the Company's position. If the appeal to the
Office of Chief Accountant is resolved adversely to the Company, it could have
material adverse effect on the Company's financial condition and results of
operations.
The Company is a named defendant in certain other lawsuits arising in the
ordinary course of the Company's business. While the outcome of these lawsuits
cannot be predicted with certainty, the Company does not expect these matters to
have a material adverse effect on the Company's financial condition, liquidity
or results of operations.
3. STOCK REPURCHASES
The Company announced on April 6, 1999, a stock repurchase program
authorizing management to reacquire up to 500,000 shares of the Company's common
stock. The Board of Directors has increased such authorization from 500,000
shares to 3,000,000 shares during subsequent board meetings. At March 31, 2001,
the Company had repurchased 2,456,991 shares under these authorizations for a
total consideration of $56.4 million, an average price of $22.94 per share.
Stock repurchases will be made at prices that are considered attractive by
management and at such times that management believes will not unduly impact the
Company's liquidity. No time limit has been set for completion of the repurchase
program.
4. EARNINGS PER SHARE
Basic earnings per common share are computed by dividing net income
applicable to common stockholders by the weighted average number of shares of
common stock outstanding during the respective periods.
Diluted earnings per common share are computed by dividing net income
applicable to common stockholders by the weighted average number of shares of
common stock and common stock equivalents outstanding during the period. The
$3.00 cumulative convertible preferred stock and the special preferred stock are
considered to be dilutive common stock equivalents for the fiscal year 2000. The
weighted average number of common shares is also increased by the number of
shares issuable on the exercise of options less the number of common shares
assumed to be purchased with the proceeds from the exercise of the options
pursuant to the treasury stock method; those purchases are assumed to have been
made at the average price of the common stock during the respective period.
5. SEGMENT INFORMATION
The Company derived approximately 99% and 98%, respectively of its revenues
and net income from the sale of legal service plans and directly related
activities during the three months ended March 31, 2001 and 2000. Revenues and
net income from the Company's other operating segment (life insurance, through
UFL) were approximately 1% and 2% each of the respective consolidated totals for
the three months ended March 31, 2001 and 2000. UFL markets primarily to
individuals, age 65 and over, in New Mexico, Oklahoma and Texas. The following
table sets forth the composition of the segments and total Company revenues, net
income and identifiable assets for the three months ended March 31, 2001 and
2000.
Three months ended
March 31,
-------------------------
2001 2000
----------- -----------
Revenues:
Legal service plans and directly related activities:
Legal service plan Membership fees.................... $ 59,495 $ 46,976
Associate services.................................... 10,137 6,233
Product sales......................................... 20 669
Other................................................. 881 883
----------- -----------
Total............................................. $ 70,533 $ 54,761
----------- -----------
Life insurance segment (UFL):
Life premiums and other income........................ 285 1,172
------------ -----------
Total............................................. $ 285 $ 1,172
----------- -----------
Total.......................................... $ 70,818 $ 55,933
=========== ===========
Interest Income:
Legal service plans and directly related activities... $ 1,126 $ 700
Life insurance segment (UFL).......................... 363 222
----------- -----------
Interest income.................................. $ 1,489 $ 922
=========== ===========
Net Income:
Legal service plans and directly related activities... $ 12,988 $ 6,737
Life insurance segment (UFL).......................... 178 143
----------- -----------
Net Income........................................ $ 13,166 $ 6,880
=========== ===========
Assets:
Legal service plans and directly related activities... $ 229,597 $ 187,791
Life insurance segment (UFL).......................... 27,475 29,477
----------- -----------
Total assets...................................... $ 257,072 $ 217,268
=========== ===========
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Results of Operations
The Company reported net income applicable to common shares of $13.2
million, or $.60 per diluted common share, for the three months ended March 31,
2001, up 91% from net income applicable to common stockholders of $6.9 million,
or $.30 per diluted common share, for the comparable period of the prior year
after an after-tax charge of $4.1 million relating to the cumulative effect on
prior years of changing the accounting for Membership commission advance
receivables. The increase in the net income applicable to common shares for the
2001 period is primarily the result of increases in Membership fees for 2001 as
compared to 2000.
Membership fees totaled $59.5 million during 2001 compared to $47.0 million
for 2000, an increase of 27%. Membership fees and their impact on total revenues
in any period are determined directly by the number of active Memberships in
force during any such period. The active Memberships in force are determined by
both the number of new Memberships sold in any period together with the renewal
rate of existing Memberships. New Membership sales increased 12% during the
three months ended March 31, 2001 to 183,712 from 163,341 during the comparable
period of 2000. At March 31, 2001, there were 1,114,437 active Memberships in
force compared to 890,264 at March 31, 2000, an increase of 25%. Additionally,
the average annual fee per Membership has increased from $237 for all
Memberships in force at March 31, 2000 to $246 for all Memberships in force at
March 31, 2001, a 4% increase. This increase is a result of a higher portion of
active Memberships containing the additional pre-trial hours benefit at an
additional cost and increased sales of the Business Owners' Legal Solutions
plan.
Associate services revenue increased 63% from $6.2 million for the first
three months of 2000 to $10.1 million during the same period of 2001 primarily
as a result of more new associates recruited and of the Fast Start program which
generated training fees of approximately $6.0 million during the first three
months of 2001 compared to $3.5 million for the comparable period of 2000. The
field training program, titled Fast Start to Success ("Fast Start") is aimed at
increasing the level of new Membership sales per associate. Fast Start requires
a training fee of $184 per new associate and upon successful completion of the
program provided for the payment of certain training bonuses through March 31,
2001. The $6.0 million and $3.5 million for the three month periods ending March
31, 2001 and 2000, respectively, in training fees was comprised of $184 from
each of approximately 32,790 new sales associates who elected to participate in
Fast Start during the first three months of 2001 compared to 19,240 that
participated during the comparable quarter of 2000. New associates enrolled
during the first three months of 2001 were 34,286 compared to 21,238 for the
same period of 2000, an increase of 61%. Effective April 2001, the Company
modified its compensation plan to consolidate the lower four levels of its
compensation structure into two levels. At the same time, the Company
implemented a two-year advance at the lowest commission level for associates who
participate in the training program. Associates who do not participate in the
training program receive only earned commissions until they meet the advancement
qualification requiring them to produce 50 new memberships in their organization
in order to advance to the next compensation level and qualify for up to 3 years
commission advance.
Other income decreased from $2.7 million for the first three months of 2000
to $1.2 million during the same period of 2001, primarily due to a reduction in
product sales and UFL's claims processing revenue.
Primarily as a result of the increase in Membership fees and associate
services, total revenues increased to $70.8 million for the three months ended
March 31, 2001 from $55.9 million during the comparable period of 2000, an
increase of 27%.
Membership benefits totaled $20.4 million for the three months ended March
31, 2001 compared to $15.5 million for the comparable period of 2000, and
represented 34.3% and 33.1% of Membership fees for 2001 and 2000, respectively.
This Membership benefit ratio (Membership benefits as a percentage of Membership
fees) should remain near 35% as substantially all active Memberships provide for
a capitated benefit.
Commission expense was $14.4 million for the three months ended March 31,
2001 compared to $11.7 million for the comparable period of 2000, and
represented 24.3% and 25.0% of Membership fees for such periods. Commission
expense, as a percentage of Membership fees, should remain at or near 25% of
Membership fees based on the existing commission structure.
The provision for estimated uncollectible Membership commission advance
receivables was $1.1 million for the three months ended March 31,2001 compared
to $619,000 for the comparable period of 2000, and represented 1.9% and 1.3% of
Membership fees, respectively.
Associate services and direct marketing expenses increased to $8.1 million
for the three months ended March 31, 2001 from $4.3 million for the comparable
period of 2000. Fast Start bonuses incurred were approximately $3.6 million
during the first three months of 2001 compared to $1.8 million in the same
period of 2000. Additional costs due to increased enrollment of new associates
and purchases of marketing and promotional supplies by associates also
contributed to the increase. These expenses also include marketing costs, other
than commissions, that are directly associated with new Membership sales.
General and administrative expenses during the three months ended March 31,
2001 and 2000 were $6.4 million and $5.9 million, respectively, and represented
10.7% and 12.6% of Membership fees for such years. Management expects further
gradual decreases in general and administrative expenses when expressed as a
percentage of Membership fees as a result of certain economies of scale.
Other expenses decreased 84% from $668,000 for the first three months of
2000 to $104,000 for the comparable period of 2001. Fee income on certain
commission advance receivables was $582,000 for the first three months of 2001
compared to $357,000 for the comparable period in 2000. Depreciation and
amortization increased to $948,000 for the first three months of 2001 from
$603,000 for the comparable period of 2000. Product costs declined by
approximately $542,000 from the first three months of 2000.
The Company has recorded a provision for income taxes of $6.8 million
(34.2% of pretax income) for the first three months of 2001 compared to $5.9
million (35% of pretax income) for the same period of 2000.
The Company did not pay dividends during the first three months of 2001 due
to the fact that during the second quarter of 2000, all shares of preferred
stock were converted into shares of common stock or repurchased by the Company.
Dividends paid on outstanding preferred stock were $2,000 for the three-month
period ended March 31, 2000.
The Company and several of its officers and directors have been named as
defendants in numerous putative class actions pending in the United States
District Court for the Western District of Oklahoma, alleging violations of the
federal securities laws in connection with the Company's accounting policies
with respect to payments made to sales associates as commission advances. See
Note 2 (Contingencies) to Consolidated Financial Statements. If the class
actions are resolved adversely to the Company, there could be a material adverse
effect on the Company's financial condition, results of operations and
liquidity.
In January 2001, the Company received inquiries from the Division of
Enforcement of the Securities and Exchange Commission ("SEC") requesting
information relating primarily to the Company's accounting policies for
commission advance receivables from sales associates. The Division of
Enforcement's inquiry is informal and does not constitute a formal investigation
or proceeding. At present, the Company is unable to determine the ultimate
outcome of this inquiry.
Also, in January 2001 and May 2001, the staff of the SEC's Division of
Corporation Finance reveiewed the Company's 1999 and 2000 Forms 10-K,
respectively. On May 11, 2001, the Company received a letter from the staff of
the Division of Corporation Finance advising that, after reveiwing the Company's
Forms 10-K, it was the position of the Division that the Company's accounting
for commission advance receivables is not in accordance with GAAP. The Company
has determined that it intends to appeal the position of Division of Corporation
Finance to the SEC's Office of Chief Accountant. The Company is not able to
predict what the outcome of this appeal may be or when it will be resolved, but
will continue to cooperate with the staff of the SEC to resolve these matters.
While the Company continues to believe that its accounting for commission
advance receivables conforms to generally accepted accounting principles in all
material respects, there is significant risk that the SEC's Office of Chief
Accountant will not agree with the Company's position. If the appeal to the
Office of Chief Accountant is resolved adversely to the Company, it could have
material adverse effect on the Company's financial condition and results of
operations.
Liquidity and Capital Resources
General
Consolidated net cash provided by operating activities was $10.8 million
for the first three months of 2001 compared to cash provided of $5.2 million for
the 2000 period. The increase of $5.6 million in cash provided by operating
activities during the first three months of 2001 compared to the same period of
2000 resulted primarily from the increase in net income of $6.3 million.
Consolidated net cash provided by investing activities was $2.1 million for
the first three months of 2001 compared to net cash used in investing activities
of $1.9 million for the comparable period of 2000. This $4.0 million increase in
cash provided by investing activities resulted primarily from the $5.8 million
change in the maturities and sales of investments offset by a $400,000 increase
in the purchases of investments and the $1.3 million increase in net additions
to property and equipment.
Net cash used in financing activities during the first three months of 2001
was $12.9 million compared to $15,000 for the comparable period of 2000. This
$12.9 million change was primarily comprised of the $12.8 million used to
reacquire treasury stock during the first three months of 2001.
The Company had a consolidated working capital surplus of $21.2 million at
March 31, 2001, a decrease of $5.1 million compared to a consolidated working
capital of $26.3 million at December 31, 2000. The $5.1 million decrease in
working capital during the first three months of 2001 was primarily the result
of a $1.4 million increase in deferred Membership revenue and fees and associate
fees, and a $2.1 million increase in accounts payable and accrued expenses.
At March 31, 2001 the Company reported $37.0 million in cash and
investments (after utilizing more than $12.8 million to repurchase approximately
774,000 shares of its common stock during the three months ending March 31,
2001) compared to $41.3 million at December 31, 2000. The Company's investments
consist of common stocks, investment grade (rated Baa or higher) preferred
stocks and investment grade bonds primarily issued by corporations, the United
States Treasury, federal agencies, federally sponsored agencies and enterprises
as well as mortgage-backed securities and state and municipal tax-exempt bonds.
The Company generally advances significant commissions at the time a
Membership is sold. During the three months ended March 31, 2001, the Company
advanced commissions of $25.2 million on new Membership sales compared to $22.7
million for the same period of 2000. Since approximately 94% of Membership
premiums are collected on a monthly basis, a significant cash flow deficit is
created at the time a Membership is sold. This deficit is reduced as monthly
premiums are remitted and commissions payable on those Memberships are withheld
to recover the advance. Commission advance receivables were reduced by earned
commissions payable of $14.4 million and $11.7 million for the three-month
periods ended March 31, 2001 and 2000, respectively. The Company assesses
collectibility of its commission advance receivables quarterly and has recorded
an allowance of $12.8 million to provide for estimated uncollectible balances.
Commission advance receivable activity for three months ended March 31, 2001 is
as follows:
Beginning commission advance receivables..... ................. $ 167,193
Commission advances............................................. 25,200
Recovery of advanced commissions................................ (14,487)
Write-offs...................................................... (540)
------------
Ending commission advance receivables........................... 177,366
Allowance for unrecoverable commission advance receivables...... (11,627)
Ending commission advance receivables, net...................... ------------
$ 165,739
============
Commission advance receivables as of March 31, 2001 are as follows:
Active sales associates......................................... $ 155,065
"D status" sales associates..................................... 22,301
Allowance for unrecoverable commission advance receivables...... (11,627)
Commission advance receivables, net......... ................... ------------
$ 165,739
============
The Company believes that it has significant ability to finance expected
future growth in Membership sales based on its existing amount of cash and cash
equivalents and unpledged investments at March 31, 2001 of $31.0 million. The
Company expects to maintain cash and investment balances on an on-going basis of
approximately $30 to $40 million in order to meet expected working capital needs
and regulatory capital requirements. Cash balances in excess of this amount
would be used for discretionary purposes such as stock repurchases. The Company
continues to consider incurring indebtedness in order to continue or increase
the rate of stock repurchases, including financing its new corporate
headquarters in order to allow cash flow from operations to continue to be used
to repurchase stock.
Parent Company Funding and Dividends
Although the Company is the operating entity in many jurisdictions, the
Company's subsidiaries serve as operating companies in various states which
regulate Memberships as insurance or specialized legal expense products. The
most significant of these wholly owned subsidiaries are PPLCI, UFL and PPLSIF.
The ability of PPLCI, UFL and PPLSIF to provide funds to the Company is subject
to a number of restrictions under various insurance laws in the jurisdictions in
which PPLCI, UFL and PPLSIF conduct business, including limitations on the
amount of dividends and management fees that may be paid and requirements to
maintain specified levels of capital and reserves. In addition PPLCI and UFL are
required to maintain its stockholders' equity at levels sufficient to satisfy
various state regulatory requirements, the most restrictive of which is
currently $3 million for PPLCI. Additional capital requirements of PPLCI, UFL or
PPLSIF, if needed, would be funded by the Company in the form of capital
contributions or surplus debentures.
FORWARD - LOOKING STATEMENTS
All statements in this report concerning Pre-Paid Legal Services, Inc. (the
"Company") other than purely historical information, including but not limited
to, statements relating to the Company's future plans and objectives, expected
operating results, and statements regarding accounting issues raised by the
staff of the Division of Corporation Finance of the Securities and Exchange
Commission (See Note 2 (Contingencies) to the Consolidated Financial
Statements), and the assumptions on which such forward-looking statements are
based, constitute "Forward-Looking Statements" within the meaning of Section 27A
of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
1934. Such statements are based on the Company's historical operating trends and
financial condition as of March 31, 2001 and other information currently
available to management. The Company cautions that the Forward-Looking
Statements are subject to all the risks and uncertainties incident to its
business, including (among others) those listed in the Company's Annual Report
on Form 10-K and in Note 2 to the Consolidated Financial Statements included
herein. Please refer to page 30 of the Company's 2000 Annual Report on Form 10-K
and page 8 herein for a more complete description of the factors that could
cause actual results to differ materially from those described in the
forward-looking statements. Moreover, the Company may make acquisitions or
dispositions of assets or businesses, enter into new marketing arrangements or
enter into financing transactions. None of these can be predicted with certainty
and, accordingly, are not taken into consideration in any of the Forward-Looking
Statements made herein. For all of the foregoing reasons, actual results may
vary materially from the Forward-Looking Statements. The Company assumes no
obligation to update the Forward-Looking Statements to reflect events or
circumstances occurring after the date of the statement.
Risk Factors
As noted above there are a number of risk factors which could affect our
financial condition or results of operations. The status of pending SEC
inquiries with respect to certain of our accounting practices has been updated
as described in Note 2 (Contingencies) and Item 1, Legal Proceedings. Please
refer to page 30 and 31 of the Company's 2000 Annual Report on Form 10-K for a
description of other risk factors.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's consolidated balance sheets include a certain amount of
assets and liabilities whose fair values are subject to market risk. Due to the
Company's significant investment in fixed-maturity investments, interest rate
risk represents the largest market risk factor affecting the Company's
consolidated financial position. Increases and decreases in prevailing interest
rates generally translate into decreases and increases in fair values of those
instruments. Additionally, fair values of interest rate sensitive instruments
may be affected by the creditworthiness of the issuer, prepayment options,
relative values of alternative investments, liquidity of the instrument and
other general market conditions.
As of March 31, 2001, substantially all of the Company's investments were
in investment grade (rated Baa or higher) fixed-maturity investments,
interest-bearing money market accounts and a collateralized repurchase
agreement. The Company does not hold any investments classified as trading
account assets or derivative financial instruments.
The table below summarizes the estimated effects of hypothetical increases
and decreases in interest rates on the Company's fixed-maturity investment
portfolio. It is assumed that the changes occur immediately and uniformly, with
no effect given to any steps that management might take to counteract that
change. The hypothetical changes in market interest rates reflect what could be
deemed best and worst case scenarios. The fair values shown in the following
table are based on contractual maturities. Significant variations in market
interest rates could produce changes in the timing of repayments due to
prepayment options available. The fair value of such instruments could be
affected and, therefore, actual results might differ from those reflected in the
following table:
Estimated
fair value
after
Hypothetical hypothetical
change in interest change in
rate interest
Fair Value (bp=basis points) rate
--------------- ---------------------- -------------
(Dollars in thousands)
Fixed-maturity investments at March 31, 2001 (1)............ $21,435 100 bp increase $ 20,546
200 bp increase 19,721
50 bp decrease 21,754
100 bp decrease 22,238
Fixed-maturity investments at December 31, 2000 (1)......... $25,480 100 bp increase $ 24,635
200 bp increase 23,773
50 bp decrease 25,882
100 bp decrease 26,261
--------------------
(1) Excluding short-term investments with a fair value of $3.5 million and $3.9
million at March 31, 2001 and December 31, 2000, respectively.
The table above illustrates, for example, that an instantaneous 200 basis
point increase in market interest rates at March 31, 2001 would reduce the
estimated fair value of the Company's fixed-maturity investments by
approximately $1.7 million at that date. At December 31, 2000, an
instantaneous 200 basis point increase in market interest rates would have
reduced the estimated fair value of the Company's fixed-maturity
investments by approximately $1.7 million at that date. The definitive
extent of the interest rate risk is not quantifiable or predictable due to
the variability of future interest rates, but the Company does not believe
such risk is material.
The Company primarily manages its exposure to interest rate risk by
purchasing investments that can be readily liquidated should the interest rate
environment begin to significantly change.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
------------------
In January 2001, the Company received inquiries from the Division of
Enforcement of the Securities and Exchange Commission ("SEC") requesting
information relating primarily to the Company's accounting policies for
commission advance receivables from sales associates. The Division of
Enforcement's inquiry is informal and does not constitute a formal investigation
or proceeding. At present, the Company is unable to determine the ultimate
outcome of this inquiry.
Also, in January 2001 and May 2001, the staff of the SEC's Division of
Corporation Finance reveiewed the Company's 1999 and 2000 Forms 10-K,
respectively. On May 11, 2001, the Company received a letter from the staff of
the Division of Corporation Finance advising that, after reveiwing the Company's
Forms 10-K, it was the position of the Division that the Company's accounting
for commission advance receivables is not in accordance with GAAP. The Company
has determined that it intends to appeal the position of Division of Corporation
Finance to the SEC's Office of Chief Accountant. The Company is not able to
predict what the outcome of this appeal may be or when it will be resolved, but
will continue to cooperate with the staff of the SEC to resolve these matters.
While the Company continues to believe that its accounting for commission
advance receivables conforms to generally accepted accounting principles in all
material respects, there is significant risk that the SEC's Office of Chief
Accountant will not agree with the Company's position. If the appeal to the
Office of Chief Accountant is resolved adversely to the Company, it could have
material adverse effect on the Company's financial condition and results of
operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
---------------------------------
(a) Exhibits: The following exhibits are filed as part of this Form 10-Q:
No. Description
---- ------------------
11.1 Statement Regarding Computation of Per Share Earnings
(b) Reports on Form 8-K: The Company filed Form 8-K dated January 25, 2001
providing under Item 5 additional information pertaining to the Company's
Membership commission advance receivables.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
PRE-PAID LEGAL SERVICES, INC.
Date: May 15, 2001 /s/ Randy Harp
--------------------------------
Randy Harp
Chief Operating Officer
(Duly Authorized Officer)
Date: May 15, 2001 /s/ Steve Williamson
--------------------------------
Steve Williamson
Chief Financial Officer
(Principal Accounting Officer)
EXHIBIT INDEX
No. Description
------ -----------------------------------------------------
11.1 Statement Regarding Computation of Per Share Earnings
EXHIBIT 11.1
PRE-PAID LEGAL SERVICES, INC.
Statement re Computation of Per Share Earnings
(In 000's except per share amounts)
(Unaudited)
Three months ended
March 31,
-------------------------
2001 2000
----------- -----------
(Restated)
Basic Earnings Per Share:
Earnings:
Income before cumulative effect of change in accounting principle........... $ 13,166 $ 10,989
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (4,109)
----------- -----------
Net income.................................................................. 13,166 6,880
Less dividends on preferred shares.......................................... - 2
----------- -----------
Net income applicable to common stockholders................................ $ 13,166 $ 6,878
=========== ===========
Shares:
Weighted average shares outstanding......................................... 22,002 22,549
=========== ===========
Basic earnings per common share before cumulative effect of change in
accounting method......................................................... $ .60 $ .49
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (.18)
----------- -----------
Basic earnings per common share............................................. $ .60 $ .31
=========== ===========
Diluted Earnings Per Share:
Earnings:
Income before cumulative effect of change in accounting principle........... $ 13,166 $ 6,880
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (4,109)
----------- -----------
Income available to common stockholders after assumed conversions........... $ 13,166 $ 6,880
=========== ===========
Shares:
Weighted average shares outstanding......................................... 22,002 22,549
Assumed conversion of preferred stock....................................... - 70
Assumed exercise of options................................................. 31 164
----------- -----------
Weighted average number of shares, as adjusted.............................. 22,033 23,374
=========== ===========
Diluted earnings per common share before cumulative effect on prior
years of change in accounting method for Membership commission
advance receivables........................................................ $ .60 $ .48
Cumulative effect on prior years of change in method of accounting for
Membership commission advance receivables................................. - (.18)
----------- -----------
Diluted earnings per common share........................................... $ .60 $ .30
=========== ===========