SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-QSB [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2002 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-9040 DRYCLEAN USA, Inc. (Exact name of small business issuer as specified in its charter) DELAWARE 11-2014231 (State of other jurisdiction of (I.R.S. Employer) incorporation or organization) Identification No.) 290 N.E. 68 Street, Miami, Florida 33138 (Address of principal executive offices) (305) 754-4551 (Issuer's telephone number) Not Applicable (Former name) Check whether the issuer: (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 X. No State the number of shares outstanding of each of the issuer's classes of common equity as of the latest practicable date: Common Stock, $.025 par value per share - 6,996,450 shares outstanding as of November 8, 2002. PART I. FINANCIAL INFORMATION ITEM 1: FINANCIAL INFORMATION. DRYCLEAN USA, Inc. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS - -------------------------------------------------------------------------------- For the three months ended September 30, 2002 2001 (UNAUDITED) (Unaudited) Net sales $ 3,590,305 3,312,831 Management, franchise and license fees, commissions and other income 216,770 219,329 - -------------------------------------------------------------------------------- Total revenues 3,807,075 3,532,160 Cost of sales 2,554,866 2,577,565 Selling, general and administrative expenses 926,731 952,623 Research and development expenses 12,269 7,907 - -------------------------------------------------------------------------------- 3,493,866 3,538,095 Operating income 313,209 (5,935) Interest income 1,160 4,114 Interest expense (8,723) (19,596) - -------------------------------------------------------------------------------- Earnings (loss) from continuing operations before income taxes 305,646 (21,417) Provision for income taxes (benefit) 122,258 ( 8,567) - -------------------------------------------------------------------------------- Earnings from continuing operations 183,388 (12,850) Net loss from discontinued operations (Note 2) - (37,050) - -------------------------------------------------------------------------------- Net earnings (loss) $ 183,388 $ (49,900) ================================================================================ Basic and diluted earnings (loss) per share from continuing operations $ .03 $ (.00) Basic and diluted earnings (loss) per share from discontinued operations (Note 2) - (.01) - -------------------------------------------------------------------------------- Basic and diluted earnings (loss) per share $ .03 $ (.01) ================================================================================ Weighted average number of shares: of common stock outstanding (Note 3) Basic 6,996,450 7,001,250 Diluted 6,996,450 7,001,250 ================================================================================ -2- DRYCLEAN USA, Inc. CONDENSED CONSOLIDATED BALANCE SHEETS ASSETS - -------------------------------------------------------------------------------- SEPTEMBER 30, June 30, 2002 2002 (UNAUDITED) - -------------------------------------------------------------------------------- Current Assets Cash and cash equivalents $ 1,300,301 $ 1,264,357 Accounts and trade notes receivable, net of allowance for doubtful accounts of $145,000 and $130,000 at September 30, and June 30, 2002, respectively 1,535,949 1,542,691 Inventories 2,770,060 2,918,472 Note receivable (Note 2) 157,143 - Refundable income taxes 102,909 225,167 Lease receivables 91,665 37,290 Deferred income taxes 240,351 240,351 Other current assets, net 122,365 185,631 Current assets of discontinued operations (Note 2) - 745,000 - -------------------------------------------------------------------------------- Total current assets 6,320,743 7,158,959 Lease and trade notes receivables, due after one year 63,615 681 Note receivable due after one year (Note 2) 392,857 - Equipment and improvements - net of accumulated depreciation and amortization 257,890 274,124 Franchise, trademarks and other intangible assets, net 444,158 455,104 Deferred income taxes 8,869 8,869 Non-current assets of discontinued operations (Note 2) - 15,000 - -------------------------------------------------------------------------------- $ 7,488,132 $ 7,912,737 ================================================================================ 3 DRYCLEAN USA, Inc. CONDENSED CONSOLIDATED BALANCE SHEETS LIABILITIES AND STOCKHOLDERS' EQUITY - -------------------------------------------------------------------------------- SEPTEMBER 30, June 30, 2002 2002 (UNAUDITED) - -------------------------------------------------------------------------------- Current Liabilities Accounts payable and accrued expenses $ 1,208,632 $ 1,736,393 Customer deposits and other 539,255 539,486 Current portion of long term debt 320,000 320,000 - -------------------------------------------------------------------------------- Total current liabilities 2,067,887 2,595,879 Long term debt, less current portion 400,000 480,000 - -------------------------------------------------------------------------------- Total liabilities 2,467,887 3,075,879 - -------------------------------------------------------------------------------- Stockholders' Equity Common stock, $.025 par value, 15,000,000 shares authorized; 7,027,500 shares issued and outstanding at September 30, and June 30, 2002, including shares held in treasury 175,688 175,688 Additional paid-in capital 2,048,570 2,048,570 Retained earnings 2,799,007 2,615,620 Treasury stock, 31,050 shares at cost (3,020) (3,020) - -------------------------------------------------------------------------------- Total stockholders' equity 5,020,245 4,836,858 - -------------------------------------------------------------------------------- $ 7,488,132 $ 7,912,737 ================================================================================ 4 DRYCLEAN USA, Inc. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - -------------------------------------------------------------------------------- For the three months ended September 30, 2002 2001 (UNAUDITED) (Unaudited) - -------------------------------------------------------------------------------- Operating activities: Net earnings (loss) from continuing operations $ 183,388 $ (12,850) Adjustments to reconcile net earnings to net cash used by operating activities: Depreciation and amortization 35,721 27,289 Bad debt expense 15,651 - (Increase) decrease in operating assets: Accounts, trade notes and lease receivables (126,218) (238,299) Inventories 148,412 (207,452) Other current assets 63,266 (36,679) Refundable income tax 122,258 - Decreases in operating liabilities: Accounts payable and accrued expenses (527,761) (463,468) Customer deposits and other (231) (20,679) - -------------------------------------------------------------------------------- Cash used in operating activities ( 85,514) (952,138) - -------------------------------------------------------------------------------- Discontinued operations: Net loss - (37,050) Decrease in operating assets - 20,252 - -------------------------------------------------------------------------------- Cash used in discontinued operations - (16,798) - -------------------------------------------------------------------------------- Net cash used in operating activities ( 85,514) (968,936) - -------------------------------------------------------------------------------- Investing activities: Net proceeds from disposal of business 210,000 - Capital expenditures, net - (68,172) Patent expenditures (8,542) (5,000) - -------------------------------------------------------------------------------- Net cash provided by (used in) investing activities 201,458 (73,175) - -------------------------------------------------------------------------------- Financing activities: Borrowings under line of credit - 963,146 Payments on term loan (80,000) (120,000) - -------------------------------------------------------------------------------- Net cash (used in) provided by financing activities (80,000) 843,146 - -------------------------------------------------------------------------------- Net increase (decrease) in cash and cash equivalents 35,944 (198,965) Cash and cash equivalents at beginning of period 1,264,357 375,912 - -------------------------------------------------------------------------------- Cash and cash equivalents at end of period $ 1,300,301 $ 176,947 ================================================================================ Supplemental disclosures of cash flow information Cash paid during the period for Interest $ 8,723 $ 19,596 Income taxes - 12,170 5 DRYCLEAN USA, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ---------------------------------------------------- NOTE (1) - GENERAL: The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial statements and the instructions to Form 10-QSB related to interim period financial statements. Accordingly, these condensed consolidated financial statements do not include certain information and footnotes required by generally accepted accounting principles for complete financial statements. However, the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring accruals) which, in the opinion of management, are necessary in order to make the financial statements not misleading. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year. For further information, refer to the Company's financial statements and footnotes thereto in the Company's Annual Report on Form 10-KSB for the year ended June 30, 2002. The June 30, 2002 balance sheet information, contained herein, was derived from the audited consolidated financial statements included in the Company's Annual Report on Form 10-KSB as of that date. NOTE (2) - DISCONTINUED OPERATIONS: As a result of a reduction of revenues and increasing losses and the Company's determination that the telecommunications segment was not part of its core business, effective July 31, 2002, the Company sold substantially all of the operating assets (principally inventory, equipment and intangible assets, including tradenames) of its Metro-Tel telecommunications segment to an unaffiliated third party. The Company retained all of the cash, accounts receivable and liabilities of the segment. The sales price was $800,000, of which $250,000 was paid in cash on August 2, 2002 and the remaining $550,000 is evidenced by the purchaser's promissory note that bears interest at the prevailing prime rate plus 1% per annum and is payable in 42 equal monthly installments commencing October 1, 2002. Payment and performance of the promissory note is guaranteed by two companies affiliated with the purchaser and the three principal stockholders of purchaser and the affiliated companies, and is collateralized by substantially all of the operating assets of the purchaser and the affiliated companies. The Company has agreed to subordinate payment of the promissory note, the obligations of the affiliated companies under their guarantees and the collateral granted by the purchaser and the affiliated companies to the obligations of the purchaser and the affiliated companies to two bank lenders, subject to the Company's right to receive installment payments under the promissory note as long as the purchaser and the affiliated companies are not in default of their obligations to the applicable lender. The Company agreed to a three-year covenant not to compete with the purchaser. The results of operations of the Company's Metro-Tel segment have been classified as discontinued operations. The estimated loss on the sale of approximately $555,000 was accrued for in the Company's financial statements for the year ended June 30, 2002. NOTE (3) - EARNINGS PER SHARE: There were 522,750 and 497,750 stock options outstanding at September 30, 2002 and September 30, 2001, respectively, that were excluded in the computations of earnings per share for such periods because the exercise 6 prices of the options were less than the average market prices of the Company's common stock during these periods. NOTE (4) - REVOLVING CREDIT LINE: On October 11, 2002, the Company received an extension, until October 30, 2003, of its existing $2,250,000 revolving line of credit facility. Revolving credit borrowings are limited by a borrowing base of 60% of eligible accounts receivable and 60% of certain, and 50% of other, eligible inventories. As of September 30, 2002 the Company had no outstanding borrowings under the line of credit. NOTE (5) - SEGMENT INFORMATION: The Company's reportable segments are strategic businesses that offer different products and services. They are managed separately because each business requires different marketing strategies. The Company primarily evaluates the operating performance of its segments based on the categories noted in the table below. The Company has no sales between segments. Financial information for the Company's current business segments is as follows: For the three months ended September 30 2002 2001 (UNAUDITED) (Unaudited) - -------------------------------------------------------------------------------- Revenues: Commercial and industrial laundry and dry cleaning equipment $ 3,760,211 $ 3,447,741 License and franchise operations 46,864 84,419 - -------------------------------------------------------------------------------- Total revenues $ 3,807,075 $ 3,532,160 - -------------------------------------------------------------------------------- Operating income (loss) Commercial and industrial laundry and dry cleaning equipment $ 376,833 $ (20,832) License and franchise operations (12,337) 57,393 Corporate (51,287) (42,496) - -------------------------------------------------------------------------------- Total operating income (loss) $ 313,209 $ (5,935) - -------------------------------------------------------------------------------- SEPTEMBER 30, June 30, 2002 2002 (UNAUDITED) Identifiable assets: Commercial and industrial laundry and dry cleaning equipment $ 5,547,418 $ 5,585,225 License and franchise operations 884,335 789,179 Corporate 1,056,379 778,333 Discontinued operations (Note 3) - 760,000 - -------------------------------------------------------------------------------- Total assets $ 7,488,132 $ 7,912,737 ================================================================================ 7 NOTE (6) - NEW ACCOUNTING PRONOUNCEMENTS: In June 2001, the Financial Accounting Standard Board issued FASB Statements No. 141, Business Combinations (SFAS 141), and No. 142, Goodwill and Other Intangible Assets (SFAS 142). SFAS 141 requires the use of the purchase method of accounting and prohibits the use of the pooling-of-interests method of accounting for business combinations initiated after June 30, 2001. SFAS 141 also requires that the Company recognize acquired intangible assets apart from goodwill if the acquired intangible assets meet certain criteria. SFAS 141 applies to all business combinations initiated after June 30, 2001 and for purchase business combinations completed on or after July 1, 2001. It also requires, upon adoption of SFAS 142, that the Company reclassify the carrying amounts of intangible assets and goodwill based on the criteria in SFAS 141. SFAS No. 142 requires, among other things, that companies no longer amortize goodwill, but instead test goodwill for impairment at least annually. In addition, SFAS 142 requires that the Company identify reporting units for the purposes of assessing potential future impairments of goodwill, reassess the useful lives of other existing recognized intangible assets, and cease amortization of intangible assets with an indefinite useful life. An intangible asset with an indefinite useful life should be tested for impairment in accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in fiscal years beginning after December 15, 2001 to all goodwill and other intangible assets recognized at that date, regardless of when those assets were initially recognized. SFAS 142 requires the Company to complete a transitional goodwill impairment test six months from the date of adoption. The Company is also required to reassess the useful lives of other intangible assets within the first interim quarter after adoption of SFAS 142. The Company's previous business combinations were accounted for using the purchase method. As of September 30, 2002, the net carrying amount of intangible assets is $444,158. Amortization expense during the three month period ended September 30, 2002 was $15,497 and $15,059, respectively. There was no goodwill at September 30, 2002. The adoption of SFAS 141 and SFAS 142 did not have a significant impact on its financial position or results of operations. In August 2001, the FASB issued SFAS 144, Accounting for Impairment or Disposal of Long-Lived Assets. This statement supersedes FASB Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and the accounting and reporting provisions of APB opinion No. 30, "Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions," for the disposal of a segment of a business (as previously defined in that Opinion). This Statement also amends ARB No. 51, "Consolidated Financial Statements" to eliminate the exception to consolidation for a subsidiary for which control is likely to be temporary. The provisions of this Statement are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years, with early application encouraged. The provisions of this Statement generally are to be applied prospectively. The adoption of SFAS 144 did not have a significant impact on its financial position or results of operations. 8 In June 2002, the FASB issued SFAS 146, "Accounting for Costs Associated with Exit or Disposal Activities." SFAS 146 requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. This statement supercedes the guidance provided by Emerging Issues Task Force 94-3, "Liability Recognition for Certain Costs Incurred in a Restructuring)." SFAS 146 is required to be adopted for exit or disposal activities initiated after December 31, 2002. The Company does not believe the adoption of SFAS 146 will have a significant impact on its financial position or results of operations. ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. GENERAL - ------- As a result of a reduction of revenues and increasing losses and the Company's determination that the telecommunications segment was not part of its core business, effective July 31, 2002, the Company sold substantially all of the operating assets (principally inventory, equipment and intangible assets, including tradenames) of its Metro-Tel telecommunications segment to an unaffiliated third party. The Company retained all of the cash, accounts receivable and liabilities of the segment. The sales price was $800,000, of which $250,000 was paid in cash on August 2, 2002 and the remaining $550,000 is evidenced by the purchaser's promissory note that bears interest at the prevailing prime rate plus 1% per annum and is payable in 42 equal monthly installments commencing October 1, 2002. Payment and performance of the promissory note is guaranteed by two companies affiliated with the purchaser and the three principal shareholders of purchaser and the affiliated companies, and is collateralized by substantially all of the operating assets of the purchaser and the affiliated companies. The Company has agreed to subordinate payment of the promissory note, the obligations of the affiliated companies under their guarantees and the collateral granted by the purchaser and the affiliated companies to the obligations of the purchaser and the affiliated companies to two bank lenders, subject to the Company's right to receive installment payments under the promissory note as long as the purchaser and the affiliated companies are not in default of their obligations to the applicable lender. The Company agreed to a three-year covenant not to compete with the purchaser. The results of operations of the Company's Metro-Tel segment are not discussed in detail here as they have been classified as discontinued operations. The estimated loss on the sale of approximately $555,000 was accrued for in the Company's financial statements for the year ended June 30, 2002. The following discussion relates to the Company's continuing operations. LIQUIDITY AND CAPITAL RESOURCES - ------------------------------- For the three months ended September 30, 2002, cash increased by $35,944 compared to a decrease of $198,965 for the same period of fiscal 2002. Earnings from continuing operations, exclusive of non-cash expenses for depreciation and amortization ($35,721) and bad debt expense ($15,651), provided cash of $234,760. However, changes in operating assets and liabilities used $320,274 of cash, principally to support an increase in accounts, trade notes and lease receivables ($126,218). In 9 addition, cash of $527,721 was used to reduce accounts payable and accrued expenses. These uses were partially offset by a reduction in inventories ($148,412), refundable income taxes ($122,258) and a decrease in other assets ($63,266). For the three months ended September 30, 2001, continuing operations used cash of $952,138, principally to support increases in accounts, trade notes and lease receivables ($238,299), inventories ($207,452) and other current assets ($36,379) and a decrease in customer deposits ($20,679), as well as to reduce accounts payable and accrued expenses ($463,468). Additional cash was provided by positive cash flows from the Company's continuing operations of $14,439 exclusive of non-cash expenses of $27,289 for depreciation and amortization. Discontinued operations used cash of $16,798. Net cash provided by investing activities for the first quarter of fiscal 2003 was $201,458, primarily as a result of $210,000 cash provided by the net proceeds from the sale of the Company's telecommunications segment. The Company purchased no equipment during the period. For the same period of fiscal 2002, investing activities used cash of $73,175 principally for equipment purchases ($68,172) and to fund patent work ($5,000). Financing activities used cash of $80,000 in the first quarter of fiscal 2003 to make payments on the Company's term loan. For the same period of fiscal 2002, financing activities provided cash of $843,146 principally due to the borrowing of $963,146 under the Company's revolving line of credit, which was partially offset by installment payments made on the Company's term loan ($120,000). On October 11, 2002, the Company received an extension, until October 30, 2003, of its existing $2,250,000 revolving line of credit facility. Revolving credit borrowings are limited by a borrowing base of 60% of eligible accounts receivable and 60% of certain, and 50% of other, eligible inventories. As of September 30, 2002 the Company had no outstanding borrowings under the line of credit. The Company believes that its present cash position and cash it expects to generate from operations and cash borrowings available under its $2,250,000 line of credit will be sufficient to meet its currently anticipated operational needs. 10 CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS - -------------------------------------------------- The following sets forth a schedule of payments required as of September 30, 2002 under the Company's contractual obligations described below: