American Home Shield 2003 Annual Report Download - page 34

32    ServiceMaster
Financial Position – Continuing Operations
Receivables and inventories are slightly above prior year
levels,reflecting general business growth. Deferred customer
acquisition costs decreased, reflecting decreased volume of
baiting contracts written at Terminix. The Company capital-
izes sales commissions and other direct contract acquisition
costs relating to termite baiting and pest contracts, as well as
home warranty agreements. Property and equipment
decreased slightly, reflecting general business growth offset
by depreciation expense on larger-scale technology projects.
Deferred revenue increased, reflecting growth in warranty
contracts written at American Home Shield and an increased
volume of customer prepayments in the lawn care business.
The Company does not have any material capital commit-
ments at this time.
The Company has minority investors in Terminix. This
minority ownership reflects an interest issued to the prior
owners of the Allied Bruce Terminix Companies in connection
with that acquisition. This equity security is convertible into
eight million ServiceMaster common shares. The Service-
Master shares are included in the shares used for the calculation
of diluted earnings per share.
Total shareholders’equity was $817 million and $1.22 billion
at December 31, 2003 and 2002, respectively. The decrease
reflects the aforementioned charge for impaired assets, cash
dividends and share repurchases, partially offset by net
income from all other operating sources.
Dividends paid in 2003 on the Company’s common stock
were not taxable to shareholders as dividend income for
federal income tax purposes, but instead were treated as a
non-taxable return of capital. Under federal tax rules, divi-
dends are considered taxable only when paid out of current
or accumulated earnings and profits as defined under federal
tax laws.As a result of its December 1997 reincorporation,
the Company only began generating corporate earnings and
profits for tax purposes in 1998. Since 1998, earnings and
profits for tax purposes have been reduced by dividend pay-
ments, amortization of intangible assets for tax reporting,
deductions relating to business closures and the timing of
certain other tax-related items. The Company currently
expects that approximately 70 percent of its 2004 dividends on
common stock will be taxable as dividend income for federal
income tax purposes. The Company currently expects that
the taxable portion of its dividend income will grow to be
fully taxable by the year 2007.
Financial Position – Discontinued Operations
The assets and liabilities related to discontinued businesses
have been classified in separate captions on the Consolidated
Statements of Financial Position.Assets from the discontinued
operations have declined, reflecting cash collections on
receivables. The decrease in liabilities from discontinued
operations represents a cash adjustment to the selling price
of the 2001 disposition of the Company’s European pest
control and property services operations as well as certain
other payments.The remaining liabilities primarily represent
obligations related to long-term self-insurance claims.
Quantitative and Qualitative
Disclosures About Market Risk
The economy and its impact on discretionary consumer
spending, labor wages,fuel prices, insurance costs and medical
inflation rates could be significant to future operating earnings.
The Company does not hold or issue financial instruments
for trading or speculative purposes. The Company has
entered into specific financial arrangements, primarily fuel
hedges, in the normal course of business to manage certain
market risks,with a policy of matching positions and limiting
the terms of contracts to relatively short durations. The effect
of derivative financial instrument transactions is not material
to the Company’s financial statements.
In December 2003 and January 2004, the Company entered
into interest rate swap agreements with a total notional
amount of $165 million.Under the terms of these agreements,
the Company pays a floating rate of interest (based on a spec-
ified spread over six-month LIBOR) on the notional amount
and the Company receives a fixed rate of interest at 7.88% on
the notional amount. The impact of these swap transactions
was to convert $165 million of the Company’s debt from a
fixed rate of 7.88% to a variable rate based on LIBOR.
The Company generally maintains the majority of its debt at
fixed rates.After the effect of the interest swap agreements,
approximately 77 percent of total debt at December 31, 2003
was at a fixed rate. The payments on the approximately $73
million of funding outstanding under the Company’s real
estate operating lease facilities as well as its fleet and equip-
ment operating leases (approximately $241 million in residual
value) are tied to floating interest rates. The Company’s
exposure to interest expense based on floating rates is
partially offset by floating rate investment income earned on
cash and marketable securities. The Company believes its
overall exposure to interest rate fluctuations is not material
to its overall results of operations.
Management Discussion and Analysis of
Financial Condition and Results of Operations