Table of
Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x
|
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
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|
|
|
For
the quarterly period ended August 31, 2009
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|
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|
OR
|
|
|
|
o
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|
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 0-22972
CLST HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware
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75-2479727
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(State or other
jurisdiction of
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(I.R.S. Employer
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incorporation or
organization)
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Identification
No.)
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17304
Preston Road, Dominion Plaza, Suite 420
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Dallas,
Texas
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75252
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(Address of
principal executive offices)
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(Zip Code)
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(972) 267-0500
(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
o
No
x
Indicate by check mark
whether the registrant has submitted electronically and posted on its corporate
Web site, if any, every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter)
during the preceding 12 months (or for such shorter period that the registrant
was required to submit and post such files). * Yes
o
No
o
* The registrant is not
subject to the requirements of Rule 405 of Regulation S-T at this time.
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definitions of large accelerated filer, accelerated filer, and smaller
reporting company in Rule 12b-2 of the Exchange Act.
Large accelerated filer
o
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Accelerated filer
o
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Non-accelerated filer
o
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Smaller reporting company
x
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(Do not check if a smaller
reporting company)
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|
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2
of the Exchange Act.). Yes
o
No
x
On October 14,
2009, there were 23,949,282
outstanding
shares of common stock, $0.01 par value per share.
Table of Contents
PART IFINANCIAL INFORMATION
Item 1. Financial Statements
CLST HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
|
|
August 31,
|
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November 30,
|
|
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|
2009
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|
2008
|
|
ASSETS
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|
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|
|
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Current assets:
|
|
|
|
|
|
Cash and cash
equivalents
|
|
$
|
5,670
|
|
$
|
9,754
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|
Notes receivable, net -
current
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|
7,653
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|
8,698
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|
Accounts receivable -
other
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815
|
|
893
|
|
Prepaid expenses and
other current assets
|
|
168
|
|
177
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|
Total current assets
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14,306
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|
19,522
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|
Notes receivable, net -
long-term
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34,940
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|
31,547
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Property and equipment,
net
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8
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|
12
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|
Deferred income taxes
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4,786
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4,786
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|
Other assets
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|
966
|
|
863
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|
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$
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55,006
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|
$
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56,730
|
|
|
|
|
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LIABILITIES
AND STOCKHOLDERS EQUITY
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Current liabilities:
|
|
|
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Loan payable - current
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$
|
7,330
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|
$
|
7,436
|
|
Notes payable - related
parties
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|
365
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|
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|
Accounts payable
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14,354
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|
14,512
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|
Income taxes payable
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82
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|
207
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|
Accrued expenses
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567
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|
473
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|
Total current
liabilities
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|
22,698
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|
22,628
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|
|
|
|
|
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|
Loans payable - long
term
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|
26,588
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|
26,902
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|
Notes payable - related
parties
|
|
311
|
|
|
|
Total liabilities
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49,597
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49,530
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|
|
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Commitments and
contingencies
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|
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Stockholders equity:
|
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|
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Preferred stock, $.01
par value, 5,000,000 shares authorized; none issued
|
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|
|
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Common stock, $.01 par value, 200,000,000 shares
authorized; 24,583,306 and 21,187,229 shares issued, respectively, and
23,949,282 and 20,553,205 shares outstanding, respectively
|
|
246
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|
212
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|
Additional paid-in
capital
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126,999
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126,034
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|
Accumulated other
comprehensive incomeforeign currency translation adjustments
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217
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|
217
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|
Accumulated deficit
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|
(120,406
|
)
|
(117,616
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)
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7,056
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|
8,847
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|
Less: Treasury stock
(634,024 shares at cost)
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|
(1,647
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)
|
(1,647
|
)
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|
|
5,409
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|
7,200
|
|
|
|
$
|
55,006
|
|
$
|
56,730
|
|
See accompanying notes to unaudited consolidated financial statements.
3
Table of Contents
CLST HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Three and nine months ended August 31, 2009 and 2008
(unaudited)
(In thousands, except per share data)
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Three
months ended
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Nine
months ended
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August 31,
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August 31,
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2009
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2008
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2009
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|
2008
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|
Revenues:
|
|
|
|
|
|
|
|
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Interest income
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|
$
|
1,655
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|
$
|
|
|
$
|
4,830
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|
$
|
|
|
Other
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102
|
|
|
|
335
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|
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|
Total revenues
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1,757
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|
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5,165
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|
|
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|
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Loan servicing fees
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231
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|
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613
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|
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Trust administrative
fees
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4
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|
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8
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|
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|
Provision for doubtful
accounts
|
|
654
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|
|
|
1,957
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|
|
|
Interest expense
|
|
508
|
|
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|
1,590
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|
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|
General and
administrative expenses
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1,517
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|
433
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|
3,780
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|
1,402
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|
Operating loss
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|
(1,157
|
)
|
(433
|
)
|
(2,783
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)
|
(1,402
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)
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|
|
|
|
|
|
|
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Other income (expense):
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|
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Other, net
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1
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|
110
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10
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|
331
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Total other income
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1
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110
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|
10
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331
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|
Loss from continuing
operations before income taxes
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(1,156
|
)
|
(323
|
)
|
(2,773
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)
|
(1,071
|
)
|
Income tax expense
(benefit)
|
|
9
|
|
|
|
17
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|
(5
|
)
|
Loss from continuing
operations, net of taxes
|
|
(1,165
|
)
|
(323
|
)
|
(2,790
|
)
|
(1,066
|
)
|
Discontinued
operations, net of taxes of $5 for 2008
|
|
|
|
|
|
|
|
10
|
|
Net loss
|
|
$
|
(1,165
|
)
|
$
|
(323
|
)
|
$
|
(2,790
|
)
|
$
|
(1,056
|
)
|
Net loss per share:
|
|
|
|
|
|
|
|
|
|
Basic and diluted:
|
|
|
|
|
|
|
|
|
|
Loss from continuing
operations, net of taxes
|
|
$
|
(0.05
|
)
|
$
|
(0.02
|
)
|
$
|
(0.12
|
)
|
$
|
(0.05
|
)
|
Discontinued
operations, net of taxes
|
|
|
|
|
|
|
|
|
|
Net loss per share
|
|
$
|
(0.05
|
)
|
$
|
(0.02
|
)
|
$
|
(0.12
|
)
|
$
|
(0.05
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)
|
|
|
|
|
|
|
|
|
|
|
Weighted average number
of shares:
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
23,349
|
|
20,553
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|
22,662
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|
20,553
|
|
See accompanying notes to unaudited consolidated financial statements.
4
Table of Contents
CLST HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY AND
COMPREHENSIVE INCOME
Nine months ended August 31, 2009 and 2008
(Unaudited)
(In thousands)
|
|
Common Stock
|
|
Treasury Stock
|
|
Additional
|
|
Accumulated
other
comprehensive
|
|
Accumulated
|
|
|
|
|
|
Shares
|
|
Amount
|
|
Shares
|
|
Amount
|
|
paid-in capital
|
|
income
|
|
deficit
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
November 30, 2008
|
|
21,187
|
|
$
|
212
|
|
(634
|
)
|
$
|
(1,647
|
)
|
$
|
126,034
|
|
$
|
217
|
|
$
|
(117,616
|
)
|
$
|
7,200
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,790
|
)
|
(2,790
|
)
|
Total comprehensive loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,790
|
)
|
Grant of restricted
stock
|
|
1,200
|
|
12
|
|
|
|
|
|
(12
|
)
|
|
|
|
|
|
|
Cancellation of
restricted stock
|
|
(300
|
)
|
(3
|
)
|
|
|
|
|
3
|
|
|
|
|
|
|
|
Amortization of
restricted stock
|
|
|
|
|
|
|
|
|
|
100
|
|
|
|
|
|
100
|
|
Stock issuance for notes
receivable
|
|
2,496
|
|
25
|
|
|
|
|
|
874
|
|
|
|
|
|
899
|
|
Balance at
August 31, 2009
|
|
24,583
|
|
$
|
246
|
|
(634
|
)
|
$
|
(1,647
|
)
|
$
|
126,999
|
|
$
|
217
|
|
$
|
(120,406
|
)
|
$
|
5,409
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
November 30, 2007
|
|
21,187
|
|
$
|
212
|
|
(634
|
)
|
$
|
(1,647
|
)
|
$
|
126,034
|
|
$
|
217
|
|
$
|
(115,953
|
)
|
$
|
8,863
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,056
|
)
|
(1,056
|
)
|
Total comprehensive loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,056
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
August 31, 2008
|
|
21,187
|
|
$
|
212
|
|
(634
|
)
|
$
|
(1,647
|
)
|
$
|
126,034
|
|
$
|
217
|
|
$
|
(117,009
|
)
|
$
|
7,807
|
|
See accompanying notes to unaudited consolidated financial statements.
5
Table of Contents
CLST HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine months ended August 31, 2009 and 2008
(Unaudited)
(In thousands)
|
|
2009
|
|
2008
|
|
|
|
|
|
|
|
Cash flows from
operating activities:
|
|
|
|
|
|
Net loss
|
|
$
|
(2,790
|
)
|
$
|
(1,056
|
)
|
Adjustments to
reconcile net loss to net cash provided by (used in) operating activities:
|
|
|
|
|
|
Stock based
compensation
|
|
100
|
|
|
|
Provision for doubtful
accounts
|
|
1,957
|
|
|
|
Depreciation
|
|
4
|
|
1
|
|
Non-cash interest
expense
|
|
81
|
|
|
|
Amortization of notes
receivable acquisition costs
|
|
81
|
|
|
|
Changes in operating
assets and liabilities:
|
|
|
|
|
|
Accounts receivable -
other
|
|
(258
|
)
|
5,309
|
|
Prepaid expenses and
other current assets
|
|
9
|
|
346
|
|
Other assets
|
|
(185
|
)
|
373
|
|
Accounts payable
|
|
(158
|
)
|
(32
|
)
|
Income taxes payable
|
|
(125
|
)
|
|
|
Accrued expenses
|
|
94
|
|
(581
|
)
|
Net cash provided by
(used in) operating activities
|
|
(1,190
|
)
|
4,360
|
|
|
|
|
|
|
|
Cash flows from
investing activities:
|
|
|
|
|
|
Purchases of property
and equipment
|
|
|
|
(10
|
)
|
Notes receivable
collections
|
|
8,137
|
|
|
|
Acquisition of notes
receivable
|
|
(4,028
|
)
|
|
|
Additions to notes
receivable acquisition costs
|
|
(155
|
)
|
|
|
Net cash provided by
(used in) investing activities
|
|
3,954
|
|
(10
|
)
|
|
|
|
|
|
|
Cash flows from
financing activities:
|
|
|
|
|
|
Payments on notes
payable
|
|
(6,848
|
)
|
|
|
Net cash used in
financing activities
|
|
(6,848
|
)
|
|
|
|
|
|
|
|
|
Net increase (decrease)
in cash and cash equivalents
|
|
(4,084
|
)
|
4,350
|
|
Cash and cash
equivalents at beginning of period
|
|
9,754
|
|
11,799
|
|
Cash and cash
equivalents at end of period
|
|
$
|
5,670
|
|
$
|
16,149
|
|
|
|
|
|
|
|
Non-Cash Investing and
Financing Activities:
|
|
|
|
|
|
Acquisition of notes
receivable for common stock
|
|
$
|
899
|
|
$
|
|
|
Acquisition of notes
receivable for debt
|
|
$
|
7,273
|
|
$
|
|
|
Acquisition of notes
receivable for accounts receivable, other
|
|
$
|
336
|
|
$
|
|
|
Returned notes
receivable in exchange for reduction of debt
|
|
$
|
170
|
|
$
|
|
|
See accompanying notes to unaudited consolidated financial statements.
6
Table of
Contents
CLST HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Summary
of Significant Accounting Policies
(a)
Basis for Presentation
Although the interim
consolidated financial statements of CLST Holdings, Inc., formerly
CellStar Corporation, and subsidiaries (the
Company
)
are unaudited, Company management is of the opinion that all adjustments
(consisting of only normal recurring adjustments) necessary for a fair
presentation of the results have been reflected therein. Net income (loss) for
any interim period is not necessarily indicative of results that may be
expected for any other interim period or for the entire year.
On November 10,
2008, we purchased all of the outstanding equity interests of FCC Investment
Trust I, and on December 12, 2008 we purchased
certain receivables,
installment sales contracts and related assets owned by
SSPE Investment Trust I and SSPE, LLC. On
February 13, 2009, we purchased assets owned by Fair Finance Company, an
Ohio corporation (
Fair
), James
F. Cochran, Chairman and Director of Fair, and by Timothy S. Durham, Chief
Executive Officer and Director of Fair and an officer, director and stockholder
of our Company. Messrs. Durham and Cochran own all of the outstanding
equity of Fair. The Board of Directors (the
Board
)
believes that each of these acquisitions will be a better investment return for
our stockholders when compared to the recent changes to interest rates and
other investment alternatives. Although we are now engaged in the business of
holding and collecting consumer notes receivable, we have not abandoned our
plan of dissolution. We believe that should we decide that continuing with the
plan of dissolution is in the best interest of our stockholders, we will be
able to dispose of these assets, if properly marketed, within the timeframe
necessary to complete the winding down of the Company prior to final
dissolution of the Company.
The Company has reclassified to discontinued
operations, for all periods presented, the results and related charges for the
North American and Latin American Regions. (See footnote 2.)
(b)
Notes Receivable
In
determining the adequacy of the allowance for doubtful accounts, management
considers a number of factors including the aging of the receivable portfolio,
customer payment trends, financial condition of the customer, economic conditions,
and industry conditions. Actual results could differ from those estimates. The
Company will establish an allowance for doubtful accounts for all receivables.
The allowance will be based on defaulted receivables as defined in the
Companys financing arrangements. Under those arrangements, a defaulted
receivable is one where the customer has not made a payment for the most recent
120 day period. Under such circumstances, the remaining balance will not be
allowed in the borrowing base which helps determine the amount of allowed
borrowings. On a quarterly basis, the Company will adjust the allowance for
doubtful accounts to a minimum amount equal to the defaulted receivables. The
Company may from time to time make additional increases to the allowance based
on business circumstances. Once the note receivable is in default, the Company
will no longer accrue, for financial reporting purposes, interest earned on the
note receivable. Should the note receivable return to a non-default status,
then the Company will resume accruing interest on the note receivable. The
majority of the notes receivable have collateral in various forms, which may
include a second lien position on the borrowers home or property.
(c) Revenue Recognition
Revenues consist of interest earned, late fees and
other miscellaneous charges. Revenues are not accrued on accounts over 120 days
without payment activity, unless payment activity resumes.
(d) Discounts and Deferred Costs
We have recorded assets related to purchase
discounts on certain notes receivables, deferred acquisition costs related to
the purchase of certain notes receivables and deferred loan costs associated
with certain
Company obligations. Both
the purchase discounts and the deferred acquisition cost are amortized over the
remaining principal balance of the notes receivable and are recorded as revenue
and contra revenue, respectively. The deferred loan costs are amortized over
the remaining outstanding balance of the Company obligation and are recorded in
operating interest expense. Any prepayment of the balances by either the
Company or our customers would be recognized in the period of prepayment.
7
Table of
Contents
(2) Discontinued Operations
During fiscal year
2007 we sold all of our U.S. operations, including our Miami-based Latin
American operations, Mexico operations and Chile operations. For more
information on these transactions, please see the Companys Annual Report on Form 10-K
filed on March 2, 2009.
The results of
discontinued operations for U.S., Miami, Mexico and Chile for the three and
nine months ended August 31, 2009 and 2008 are as follows (in thousands):
|
|
Three
months ended
|
|
Nine
months ended
|
|
|
|
August 31,
|
|
August 31,
|
|
|
|
2009
|
|
2008
|
|
2009
|
|
2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
|
|
$
|
|
|
$
|
|
|
$
|
|
|
Cost of sales
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
|
|
|
|
|
|
|
Selling, general and administrative
expenses
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
|
|
|
|
|
|
|
|
Other income (expense):
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
|
|
|
|
|
|
|
Loss on sale of
accounts receivable
|
|
|
|
|
|
|
|
|
|
Minority interest
|
|
|
|
|
|
|
|
|
|
Gain on transactions
|
|
|
|
|
|
|
|
|
|
Other, net
|
|
|
|
|
|
|
|
15
|
|
Total other income
|
|
|
|
|
|
|
|
15
|
|
|
|
|
|
|
|
|
|
|
|
Income before income
taxes
|
|
|
|
|
|
|
|
15
|
|
|
|
|
|
|
|
|
|
|
|
Provision for income
taxes
|
|
|
|
|
|
|
|
5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total discontinued
operations
|
|
$
|
|
|
$
|
|
|
$
|
|
|
$
|
10
|
|
(3) Stock-Based
Compensation
On December 1,
2008, our Board approved the Companys 2008 Long Term Incentive Plan. Effective
September 11, 2009, the Board amended and restated the 2008 Long Term
Incentive Plan to decrease the number of shares of common stock of the Company
that may be issued under the 2008 Long Term Incentive Plan from 20,000,000 to
2,000,000. The following is a brief description of the material terms of the
2008 Long Term Incentive Plan:
·
The plan is administered by the Board of the Company.
·
The plan permits the grant of restricted stock, stock
options and other stock-based awards to employees, officers, directors,
consultants and advisors of the Company and its subsidiaries.
·
The aggregate number of shares of Common Stock of the
Company that may be issued under the plan is 2,000,000 shares.
·
The plan provides that the administrator of the plan
may determine the terms and conditions applicable to each award and each award
will be evidenced by a stock option agreement or restricted stock agreement.
·
The plan will terminate on December 1, 2018.
In addition, on December 1,
2008 the Board approved the grant of 300,000 shares of restricted stock to each
of Timothy S. Durham, Robert A. Kaiser and Manoj Rajegowda. On February 24,
2009, Mr. Rajegowda forfeited all stock issuances provided to him during
the course of his Board membership in connection with his resignation from the
Board. On
March 5, 2009, our Board approved the grant of 300,000 shares of
restricted stock to David Tornek, our director who was appointed to fill the
vacancy on the Board
.
Of each restricted stock grant, 100,000
shares vested on the date of grant and the remaining 200,000 of the shares vest
in two equal annual installments on each anniversary of the date of grant. The
restricted stock grants will be evidenced by restricted stock agreements to be
approved by the Board. The total value of the awards using a grant date price
of $0.22 per share for 600,000 shares and $0.16 per share for 300,000 shares is
$180,000 and will be expensed over the vesting period.
8
Table of
Contents
For the three and
nine months ended August 31, 2009, the Company recognized $14,000 and
$100,000, respectively, of expense related to the restricted stock grants.
(4) Acquisition
of new business
(a)
CLST Asset I
On November 10,
2008, we, through CLST Asset I, LLC (
CLST Asset I
),
a wholly owned subsidiary of CLST Financo, Inc. (
Financo
), which is one of our direct,
wholly owned subsidiaries, entered into a purchase agreement to acquire all of
the outstanding equity interests of FCC Investment Trust I (the
Trust
) from a third party for
approximately $41.0 million (the
Trust
Purchase Agreement
). Our Board unanimously
approved the transaction. Our acquisition of the Trust was financed by
approximately $6.1 million of cash on hand and by a non-recourse, term loan of approximately
$34.9 million by an affiliate of
the seller of the Trust, pursuant to the terms and conditions set forth in the
credit agreement, dated November 10, 2008, among the Trust, the lender,
FCC Finance, LLC (
FCC
), as the
initial servicer, the backup servicer, and the collateral custodian (the
Trust
Credit Agreement
).
The Company is now responsible for the collection of the receivables included
in the trust through its wholly owned subsidiary Financo.
The
repayment terms on the accounts are standardized, but are dependent on the form
of agreement used by the originator.
Customers are required to make monthly payments until the loans are paid
in full. At the time of purchase of the CLST Asset I portfolio, the remaining
time to maturity was in a range of 8-10 years, not including prepayments, if
any.
Financo
has historically conducted our financing business, including ownership of
receivables generated by our businesses and providing internal financing to our
other operating subsidiaries. Substantially all of the assets to be acquired by
the Trust will consist of a portfolio of home improvement consumer receivables,
some of which are collateralized or otherwise secured by interests in real
estate. We are engaging in the business of holding and collecting the
receivables with the intention of generating a higher rate of return on our
assets than we currently receive on our cash and cash equivalent balances. At
the same time, we will continue to review the relative benefits to our
stockholders of continuing to wind down our business pursuant to our
plan of dissolution
or continuing
to do business in one or more of our historic lines of business or related
businesses or in a new line of business. Although we are now engaged in the
business of holding and collecting consumer notes receivable, we have not
abandoned our
plan of
dissolution
. We believe that should we decide that continuing with the
plan of dissolution
is in the best
interest of our stockholders, we will be able to dispose of the Trust
, if properly marketed, within the
timeframe necessary to complete the winding down of the Company prior to final
dissolution of the Company
.
The cut-off date
for the receivables acquired was October 31, 2008, with all collections
subsequent to that date inuring to our benefit. As of October 31, 2008,
the portfolio consisted of approximately 6,000 accounts with an aggregate
outstanding balance of approximately $41.5 million and an average outstanding
balance per account of approximately $6,900. As of October 31, 2008, the
weighted average interest rate of the portfolio was 14.4%. We have the right to
require the seller to repurchase any accounts, for the original purchase price
applicable to such account, that do not satisfy certain specified eligibility
requirements set out in the Trust Purchase Agreement. To date there has not
been a determination that any receivables did not meet the eligibility
requirements set out in the purchase agreement.
The Trust Credit
Agreement provides for a non-recourse, term loan of approximately $34.9
million, maturing on November 10, 2013. The term loan bears interest at an
annual rate of 5.0% over the LIBOR Rate (as defined in the Trust Credit
Agreement). The obligations under the Trust Credit Agreement are secured by a
first priority security interest in substantially all of the assets of the
Trust, including portfolio collections.
The Trust Credit
Agreement provides the material terms and conditions for the services to be
performed by the servicer. In return, the Trust pays the servicer a monthly
servicing fee equal to 1.5%, per annum of the then aggregate outstanding
principal balance of the receivables.
Portfolio
collections are distributed on a monthly basis. Absent an event of default,
after payment of the servicing fee and other fees and expenses due under the
Trust Credit Agreement and the required principal and interest payments to the
lender under the Trust Credit Agreement, all remaining amounts from portfolio
collections are paid to the Trust and are available for distribution to CLST
Asset I and subsequently to Financo.
Principal payments
on the term loan are due monthly to the extent that the aggregate principal
amount of the term loan outstanding exceeds the sum of (a) the sum for
each outstanding receivable of the product of (1) 85%, (2) the
then-current aggregate unpaid principal balance of such receivable and (3) a
percentage specified in the Trust Credit Agreement based upon the aging of such
receivable, and (b) amounts on deposit in the collection account for the receivables
net of any accrued and unpaid interest on the loan and fees due to the
servicer, the backup servicer, the collateral custodian and the owner trustee
(the
Maximum Advance Amount
).
Principal payments are also due within
five business days of any time that the aggregate principal amount of the term
loan outstanding
9
Table of
Contents
exceeds the Maximum
Advance Amount. The remaining outstanding principal amount of the loan plus all
accrued interest, fees and expenses are due on the maturity date. Interest
payments on the term loan are due monthly.
The Trust Credit
Agreement contains customary covenants for facilities of its type, including
among other things covenants that restrict the Trusts ability to incur
indebtedness, grant liens, dispose of property, pay dividends, make certain
acquisitions or to take actions that would negatively affect the Trusts
special purpose vehicle status. Generally, these covenants do not impact the
activities that may be undertaken by the Company. The Trust Credit Agreement
contains various events of default, including failure to pay principal and
interest when due, breach of covenants, materially incorrect representations,
default under certain other agreements of the Trust, bankruptcy or insolvency
of the Trust, the occurrence of an event which causes a material adverse effect
on the Trust, the occurrence of certain defaults by the servicer, entry of
certain material judgments against the Trust, and the occurrence of a change of
control or certain material events and the issuance of a qualified audit
opinion with respect to the Trusts financials.
In addition, an
event of default occurs if the three-month rolling average delinquent accounts
rate exceeds 10.0% or the three-month rolling average annualized default rate
exceeds 7.0%. If an event of default occurs, all of the Trusts obligations
under the Trust Credit Agreement could be accelerated by the lender, causing
the entire remaining outstanding principal balance plus accrued and unpaid
interest and fees to be declared immediately due and payable.
The purchase price
of $41 million consisted of the following:
·
cash paid to the sellers in the amount of $6.1
million; and
·
debt financing of $34.9 million.
The
following unaudited pro forma information presents the results of operations of
the Trust and the Company for
the three and nine months ended August 31, 2008, as if the acquisition had
occurred on December 1, 2007. The
unaudited pro forma results are not comparable to our historical financial
information and are not necessarily indicative of results that would have
occurred had the acquisition been in effect for the periods presented, nor are
they necessarily indicative of future results.
(unaudited, in thousands, except per
share data)
|
|
Pro
forma
|
|
|
|
Three
months
|
|
Nine
months
|
|
|
|
ended
|
|
ended
|
|
|
|
August 31,
|
|
August 31,
|
|
|
|
2008
|
|
2008
|
|
Revenues
|
|
|
|
|
|
Interest income
|
|
$
|
2,111
|
|
$
|
6,333
|
|
Other
|
|
7
|
|
21
|
|
Total revenues
|
|
2,118
|
|
6,354
|
|
|
|
|
|
|
|
Loan servicing fees
|
|
21
|
|
63
|
|
Management fees
|
|
249
|
|
747
|
|
Interest expense
|
|
1,237
|
|
3,711
|
|
General and
administrative expenses
|
|
564
|
|
1,795
|
|
Operating income
|
|
47
|
|
38
|
|
|
|
|
|
|
|
Other expense:
|
|
|
|
|
|
Realized loss on sale
of assets
|
|
(1,071
|
)
|
(3,213
|
)
|
Other, net
|
|
110
|
|
331
|
|
Total other expenses
|
|
(961
|
)
|
(2,882
|
)
|
Loss from continuing
operations before income taxes
|
|
(914
|
)
|
(2,844
|
)
|
Income tax expense
(benefit)
|
|
|
|
(5
|
)
|
Loss from continuing
operations, net of taxes
|
|
(914
|
)
|
(2,839
|
)
|
Discontinued
operations, net of taxes of $5
|
|
|
|
10
|
|
Net income (loss)
|
|
$
|
(914
|
)
|
$
|
(2,829
|
)
|
Net income (loss) per
share:
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted:
|
|
|
|
|
|
Net income (loss) per
share
|
|
$
|
(0.04
|
)
|
$
|
(0.14
|
)
|
Weighted average number
of shares:
|
|
|
|
|
|
Basic and diluted
|
|
20,553
|
|
20,553
|
|
10
Table
of Contents
The pro forma information is
unaudited and includes the use of estimates. Readers of these financial
statements should understand that the historical financials of the Trust are
not representative of the Trust as of November 10, 2008. Historical notes
receivable were materially greater in the past than as of our purchase date.
Certain realized losses have been recorded prior to our purchase, which have a
material impact to the pro forma results. In addition, the historical revenues
and expenses may be materially different than those in future periods due to
differences in the number of notes receivable.
(b)
CLST Asset II
On December 12, 2008, we, through CLST Asset Trust II (the
Trust II
), a newly formed trust wholly
owned by CLST Asset II, LLC (
CLST Asset II
),
a wholly owned subsidiary of Financo, which is one of our direct, wholly
owned subsidiaries, entered into a purchase agreement, effective as of December 10,
2008, to acquire from time to time certain receivables, installment sales
contracts and related assets owned by third parties (the
Trust II
Purchase Agreement
). Our Board
unanimously approved the transaction. We have fulfilled our original commitment
to purchase from the sellers receivables of at least $2 million pursuant to the
Trust II Purchase Agreement. We or the sellers under the Trust II Purchase
Agreement can terminate the Trust II Purchase Agreement at any time (with
notice) after March 29, 2009. We have the right to require the sellers to
repurchase any accounts, for the original purchase price applicable to such
account plus interest accrued thereon, that do not satisfy certain specified
eligibility requirements set out in the Trust II Purchase Agreement.
To date there has not been a
determination that any receivables did not meet the eligibility requirements
set out in the purchase agreement.
These
receivables represent primarily home improvement loans originated through FCC
Finance, LLC
(
FCC
),
the service provider of CLST Asset I. The loans represent new originations with
an average term of 9 years. Since these are new loans, the Company has managed
the originations such that almost 65% of the new loans have credit scores
higher than 680, with a portfolio average of 676. As of June 2009, the
Company is no longer originating new loans under the credit agreement.
The
purchases of receivables by the
Trust II
from the sellers under the
Trust II Purchase Agreement
and other
approved sellers or dealers will be financed by cash on hand and by advances
under a non-recourse, revolving facility provided by a third party lender. The
revolving facility was initially established by an affiliate of the sellers
under the
Trust II
Purchase Agreement
. The
Trust II
has become a co-borrower
under that facility and has pledged its assets to secure performance by the
borrowers thereunder. The revolving facility permits an aggregate borrowing of
all co-borrowers thereunder of up to $50,000,000. Financo has the ability to
direct that not less than $15 million to be borrowed under the revolving
facility be utilized by the
Trust II
to purchase receivables, installment sales
contracts and related assets for the
Trust II
. With the consent of its
co-borrowers, the
Trust
II
may utilize more than $15,000,000 of the aggregate availability under
the revolving facility. Receivables purchased by the
Trust II
will be owned by the
Trust II
, and the
Trust II
will receive the benefits
of collecting them, subject to the third party lenders rights in those assets
as collateral under the revolving facility. The terms and conditions of the
revolver are set forth in the second amended and restated revolving credit
agreement, effective as of December 10, 2008, among the
Trust II
, FCC, the originator, SSPE
Investment Trust I and SSPE, LLC, the co-borrowers (who are the sellers under
the
Trust II Purchase
Agreement
), Fortress Credit Corp., the lender, FCC, the initial servicer, Lyons
Financial Services, Inc., the backup servicer, Eric J. Gangloff, the
guarantor, and U.S. Bank National Association, the collateral custodian (the
Trust II
Credit Agreement
)
and the letter agreement, effective as of December 10, 2008, among the
Trust II
, Financo, the originator,
the co-borrowers, the initial servicer, and the guarantor (the
Letter Agreement
). Advances under the
revolver are limited to an amount equal to, net of certain concentration
limitations set forth in the Trust II Credit Agreement, (a) the lesser of (1) the
product of 85% and the purchase price being paid for eligible receivables with
a credit score greater than or equal to 650 (
Class A
Receivables
) or (2) the product of 80% and the then-current
aggregate balance of principal and accrued and unpaid interest outstanding for Class A
Receivables plus (b) the lesser of (1) the product of 75% and the
purchase price being paid for eligible receivables with a credit score less
than 650 (
Class B Receivables
)
or (2) the product of 50% and the then-current aggregate balance of
principal and accrued and unpaid interest outstanding for Class B
Receivables (
Maximum Advance
).
The revolver
matures on September 28, 2010. The revolver bears interest at an annual
rate of 4.5% over the LIBOR Rate (as defined in the
Trust II Credit Agreement
). The Trust II pays an additional fee to
the co-borrowers equal to an annual rate of 0.5% for loans attributable to the
Trust II equal to or below $10 million and an annual rate of 1.5% for loans
attributable to the Trust II in excess of $10 million. In addition, a
commitment fee is due to the lender equal to an annual rate of 0.25% of the
unused portion of the maximum committed amount. The obligations under the
Trust II Credit
Agreement
are secured
by a first priority security interest in substantially all of the assets of the
Trust II and the co-borrowers, including portfolio collections.
The
Trust II Credit
Agreement
provides
the material terms and conditions for the services to be performed by the
servicer. In return, the Trust II pays the servicer a monthly servicing fee
equal to an annual rate of 1.5% of the then aggregate outstanding principal
balance of the receivables and a 2% loan origination fee on each new loan
originated.
11
Table of
Contents
Portfolio
collections are distributed on a monthly basis. Absent an event of default,
after payment of the servicing fee and other amounts, fees and expenses due
under the
Trust II Credit Agreement
and the required principal, interest, unused
commitment fee payments to the lenders under the
Trust II Credit Agreement
and fees due to the co-borrowers under
the Letter Agreement, all remaining amounts from portfolio collections are paid
to the Trust II and are available for distribution to CLST Asset II and
subsequently to Financo.
Principal payments
on the revolver are due monthly to the extent that the aggregate principal
amount of the loan outstanding exceeds the lesser of (1) $50 million or (2) the
Maximum Advance plus the amount on deposit in the collection account net of any
accrued and unpaid interest on the loan and fees due to the lenders, the
servicer, the backup servicer, the collateral custodian and the owner trustee
(the
Maximum Outstanding Loan Amount
).
The borrowers are also required to either make principal payments or add
additional eligible receivables as collateral within 5 business days of any
time that the aggregate principal amount of the revolver exceeds the Maximum
Outstanding Loan Amount. The remaining outstanding principal amount of the loan
plus all accrued interest, fees and expenses is due on the maturity date. The
Trust II may, at its option, repay in whole or in part borrowings under the
revolver but prepayments made before September 28, 2010 are subject to a
prepayment premium equal to 2.0%. Interest payments on the term loan are due
monthly.
The Trust II Credit Agreement contains customary covenants for
facilities of its type, including among other things maintenance of the Trust
IIs special purpose vehicle status and covenants that restrict the Trust IIs
ability to incur indebtedness, grant liens, dispose of property, pay dividends,
and make certain acquisitions. Generally, these covenants do not impact the
activities that may be undertaken by the Company. The Trust II Credit Agreement
contains various events of default, including failure to pay principal and
interest when due, breach of covenants, materially incorrect representations,
default under certain other agreements of the Trust II, bankruptcy or
insolvency of the Trust II, the occurrence of an event which causes a material
adverse effect on the Trust II, the occurrence of certain defaults by the
servicer, entry of certain material judgments against the Trust II, and the
occurrence of a change of control or certain material events and the issuance
of a qualified audit opinion with respect to the Trust IIs financials. In
addition, an event of default occurs if the three-month rolling average
delinquent accounts rate exceeds 15.0% for Class A Receivables or 30.0%
for Class B Receivables, or the three-month rolling average annualized
default rate exceeds 5.0% for Class A Receivables or 12.0% for Class B
Receivables. If an event of default occurs, all of the Trust IIs obligations
under the Trust II Credit Agreement could be accelerated by the lender, causing
the entire remaining outstanding principal balance plus accrued and unpaid
interest and fees to be declared immediately due and payable.
During the nine
months ended August 31, 2009, Trust II purchased $9.6 million of
receivables with an aggregate purchase discount of $0.8 million. These
receivables represent primarily home improvement loans originated through FCC
Finance, LLC
(
FCC
),
the service provider of CLST Asset I.
Trust II borrowed $6.4 million utilizing the revolving facility.
(c)
CLST Asset III
Effective February 13,
2009, we, through CLST Asset III, LLC (
CLST
Asset III
), a newly formed, wholly owned subsidiary of Financo,
which is one of our direct, wholly owned subsidiaries, purchased certain
receivables, installment sales contracts and related assets owned by Fair,
James F. Cochran, Chairman and Director of Fair, and by Timothy S. Durham,
Chief Executive Officer and Director of Fair and an officer, director and
stockholder of our Company (the
Fair
Purchase Agreement
). Messrs. Durham
and Cochran own all of the outstanding equity of Fair. In return for assets
acquired under the Fair Purchase Agreement, CLST Asset III paid the sellers
total consideration of $3,594,354 as follows:
(1)
cash in the amount of $1,797,178 of which
$1,417,737 was paid to Fair, $325,440 was paid to Mr. Durham and $54,000
was paid to Mr. Cochran,
(2)
2,496,077 newly issued shares of our
common stock, par value $.01 per share (
Common
Stock
) at a price of $0.36 per share, of which 1,969,077 shares of
Common Stock were issued to Fair, 452,000 shares of Common Stock were issued to
Mr. Durham and 75,000 shares of Common Stock were issued to Mr. Cochran
and
(3)
six promissory notes (the
Notes
) issued by CLST Asset III in an
aggregate original stated principal amount of $898,588, of which two promissory
notes in an aggregate original principal amount of $708,868 were issued to
Fair, two promissory notes in an aggregate original principal amount of
$162,720 were issued to Mr. Durham and two promissory notes in an
aggregate original principal amount of $27,000 were issued to Mr. Cochran.
We received a
fairness opinion of Business Valuation Advisors (
BVA
) stating that BVA is of the opinion that the
consideration paid by us pursuant to the Fair Purchase Agreement is fair, from
a financial point of view, to our nonaffiliated stockholders. A copy of
the fairness opinion was filed as an exhibit to our Current Report on Form 8-K
filed with the SEC on February 20, 2009. The shares of Common Stock
were issued by us in a transaction exempt from registration pursuant to
12
Table
of Contents
Section 4(2) of
the Securities Act of 1933, as amended. As additional inducement for CLST
Asset III to enter into the Fair Purchase Agreement, Fair agreed to use its
best efforts to facilitate negotiations to add CLST Asset III or one of its
affiliates as a co-borrower under one of Fairs existing lines of credit with
access to at least $15,000,000 of credit for our own purposes. To date we have
not been added as a co-borrower.
Substantially all
of the assets acquired by CLST Asset III are in one of two portfolios.
Portfolio A is a mixed pool of receivables from several asset classes, including
health and fitness club memberships, membership resort memberships, receivables
associated with campgrounds and timeshares, in-home food sales and services,
buyers clubs, delivered products and home improvement and tuitions.
Portfolio B is made up entirely of receivables related to the sale of tanning
bed products. At least initially, Fair will continue to act as servicer
for these receivables. Fair will receive no additional consideration for
acting as servicer.
As of February 13,
2009, the portfolios of receivables acquired pursuant to the Fair Purchase
Agreement collectively consisted of approximately 3,000 accounts with an
aggregate outstanding balance of approximately $3,709,500 and an average
outstanding balance per account of approximately $1,015 for Portfolio A and
approximately $5,740 for Portfolio B. As of February 13, 2009, the
weighted average interest rate of the portfolios exceeded 18%. The
sellers are required to repurchase any accounts, for the outstanding balance
(at the time of repurchase) of such account plus interest accrued thereon, that
do not satisfy certain specified eligibility requirements set out in the Fair
Purchase Agreement. Additionally, each of the sellers is required to
jointly and severally pay CLST Asset III, up to the aggregate stated principal
amount of the Notes issued to such seller, the outstanding balance of any
receivable that becomes a defaulted receivable within the parameters of the
Fair Purchase Agreement. For the nine months ended August 31, 2009, $170,000
of defaulted receivables has been applied to the sellers note.
The Notes issued
by CLST Asset III in favor of the sellers are full-recourse with respect to
CLST Asset III and are unsecured. The three Notes relating to Portfolio A
(the
Portfolio A Notes
) are
payable in 11 quarterly installments, each consisting of equal principal
payments, plus all interest accrued through such payment date at a rate of 4.0%
plus the LIBOR Rate (as defined in the Portfolio A Notes). The three
Notes relating to Portfolio B (the
Portfolio
B Notes
) are payable in 21 quarterly installments, each consisting
of equal principal payments, plus all interest accrued through such payment
date at a rate of 4.0% plus the LIBOR Rate (as defined in the Portfolio B
Notes).
(5) Net Loss Per Share
Options to
purchase 0.1 million shares of Common Stock for the three and nine months ended
August 31, 2009 and 2008, were not included in the computation of diluted
earnings per share because the exercise price was higher than the average
market price. Restricted Stock of 0.6
million shares were not included in the computation of diluted earnings per
share for the three and nine months ended August 31, 2009, because their
inclusion would have been anti-dilutive as the Company had a net loss.
(6)
Fair Value Measurements
In April 2009,
the Financial Accounting Standards Board (the FASB) issued FASB Staff
Position No. FAS 107-1 and APB 28-1,
Interim
Disclosures about Fair Value of Financial Instruments
(
Staff Position
).
The Staff Position requires disclosures about the fair value of financial
instruments whenever a public company issues financial information for interim
reporting periods. The Staff Position is effective for interim reporting
periods ending after June 15, 2009.
The carrying amounts of accounts receivable, accounts payable and accrued
liabilities as of August 31, 2009 and 2008 approximate fair value due to
the short maturity of these instruments. The carrying value of notes receivable and
notes payable also approximate fair value since these instruments bear market
rates of interest.
(7) Commitments
and Contingencies
On
February 13, 2009, we filed a lawsuit in the United States District Court
for the Northern District of Texas against Red Oak Fund, L.P., Red Oak
Partners, LLC, and David Sandberg (the
Federal Court Action
). Our Original Complaint and Application for
Injunctive Relief alleges that Red Oak Fund, L.P., Red Oak Partners, LLC, and
David Sandberg have engaged in numerous violations of federal securities laws
in making purchases of our common stock and sought to enjoin any future
unlawful purchases of our stock by them, their agents, and persons or entities
acting in concert with them. We believe the Red Oak Group violated federal
securities laws as follows:
(i)
violating Rule 14(e)-5 of the Exchange Act by
not truly abandoning its tender offer and instead directly or indirectly
purchasing or arranging to purchase shares not in connection with its tender
offer and without complying with the
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procedural,
disclosure and anti-fraud requirements applicable to tender offers regulated
under Section 14 of the Exchange Act;
(ii)
violating Exchange Act Rule 14d-5(f) by
failing to return the Companys stockholder list, which we provided to Red Oak
upon its request, and by using such list for a purpose other than in connection
with the dissemination of tender offer materials in connection with its tender
offer;
(iii)
violating Exchange Act Rule 14(d)-10 by
purchasing shares pursuant to its tender offer at varying prices rather than
paying consideration for securities tendered in the tender offer at the highest
consideration paid to any stockholder for securities tendered; and
(iv)
violating Section 13(d) of the Exchange
Act by not timely filing a Schedule 13D and disclosing the information required
therein.
According to a Schedule
13D filed by David Sandberg, Red Oak Partners, LLC and certain other reporting
persons on August 24, 2009, Red Oak Partners beneficially owns 4,561,554
shares of the Companys Common Stock representing approximately 19.05% of the
Companys outstanding Common Stock.
On
March 2, 2009, certain members of the Red Oak Group and Jeffrey S. Jones (
Jones
) filed a derivative lawsuit
against Robert A. Kaiser, Timothy S. Durham and David Tornek in the 134th
District Court of Dallas County, Texas (the
State
Court Action
). The petition alleges that Messrs. Kaiser,
Durham, and Tornek entered into self-dealing transactions at the expense of the
Company and its stockholders and violated their fiduciary duties of loyalty,
independence, due care, good faith, and fair dealing. The petition asks
the Court to order, among other things, a rescission of the alleged
self-interested transactions by Messrs. Kaiser, Durham, and Tornek; an
award of compensatory and punitive damages; the removal of Messrs. Kaiser,
Durham and Tornek from the Board; and that the Company hold an Annual Meeting
of stockholders, or that the Company appoint a conservator to oversee and
implement the dissolution plan approved by stockholders in 2007.
On
April 6, 2009, we filed our First Amended Complaint and Application for
Injunctive Relief in the Federal Court Action against defendants Red Oak Fund,
L.P., Red Oak Partners, LLC, David Sandberg, Pinnacle Partners, LLC, Pinnacle
Fund LLLP, and Bear Market Opportunity Fund, L.P. alleging the same and other
violations of federal securities laws, including:
(i)
filing a materially false and misleading Schedule
13D and failing to amend the same after delivering to the Company a Notice of
Director Nominations and proposal for business at the Annual Meeting;
(ii)
violating Section 14(d) of the Exchange
Act by engaging in fraudulent, deceptive and manipulative acts in connection
with its tender offer by failing to abide by Section 14(d)s timing
requirements and by failing to make required filings with the SEC; and
(iii)
that any attempt to solicit proxies from our
stockholders with respect to director nominations or notice of business would
be misleading in light of the defendants illegal activities in accumulating
Company stock.
Through
this lawsuit, we seek to obtain various declaratory judgments that the
defendants have failed to comply with federal securities laws and to enjoin the
defendants from, among other things, further violating federal securities laws
and from voting any and all shares or proxies acquired in violation of such
laws. Also on April 6, 2009,
because, among other reasons, we do not expect the litigation, which bears
directly upon our Annual Meeting of stockholders, to be resolved for some
months, our Board postponed the Annual Meeting of stockholders previously
scheduled for May 22, 2009 until September 25, 2009. On August 14,
2009, our Board again postponed the Annual Meeting of stockholders from September 25,
2009 to October 27, 2009.
On
April 30, 2009, the Red Oak Group and Jones amended their petition in the
State Court Action. In addition to the
relief already requested, the petition seeks to compel the Company to hold its
2008 and 2009 annual stockholders meetings within sixty days; to enjoin Messrs. Kaiser,
Durham, and Tornek from any interference or hindrance of such meetings or the
election of directors; to enjoin Messrs. Kaiser, Durham, and Tornek from
voting any shares of stock acquired in the alleged self-interested
transactions; and to appoint a special master.
On June 3, 2009 and again on June 12, 2009, pursuant to court
order, Red Oak Partners, LLC, Pinnacle Fund, LLLP, Red Oak Fund, LP, and
Jeffrey S. Jones amended their petition in the State Court Action to, among
other things, remove Bear Market Opportunity Fund, L.P. as a plaintiff and add
Red Oak Fund, L.P. as a plaintiff.
Discovery is ongoing in both the Federal Court Action and State Court
Action.
On
May 5, 2009, the Red Oak Group and Jones filed a motion in the State Court
Action seeking to compel the Company to hold its 2008 and 2009 stockholders
meetings on June 30, 2009 and to appoint a special master and requested an
expedited hearing on both. Hearings were
held on May 8, 2009 and May 29, 2009, but no ruling was reached.
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On July 24, 2009, we
filed our Brief in Support of Application for Preliminary Injunction in the
Federal Court Action. The Red Oak Group
filed its Opposition on August 7, 2009, and we filed our Reply Brief in
Support on August 14, 2009.
On August 25, 2009, the Court in the State Court
Action set an evidentiary hearing on the plaintiffs Application for Temporary
Injunction, which had yet to be filed, for October 7 and 8, 2009. The
plaintiffs request for injunctive relief concerns Messrs. Kaiser, Durham,
and Tornek voting any shares of stock acquired in the alleged self-interested
transactions. The plaintiffs Motion and Memorandum for Injunctive Relief was
filed on September 15, 2009; the defendants response was filed on September 29,
2009; and the plaintiffs reply was filed on October 2, 2009.
On
August 28, 2009, the parties to the State Court Action executed a
Stipulation Regarding the Companys Annual Meeting of Stockholders (
Stipulation
). The Court approved the Stipulation the same
day and entered an Order identical to the Stipulations terms. Pursuant to the Stipulation, absent a
determination by the Court of good cause shown, the Company must hold its
annual stockholders meeting for the election of one Class I director and
one Class II director and consideration of any properly submitted
proposals that are proper subjects for consideration at an annual meeting of a
Delaware corporation on October 27, 2009, with a record date for that
meeting of September 25, 2009. Good
cause for delaying the Annual Meeting beyond October 27, 2009 and
correspondingly amending the September 25, 2009 record date, includes
among other things, situations where reasonable delay is necessary: (1) for
the Board to avoid breaching any of their fiduciary duties to the Company or
the Companys stockholders; (2) to assure compliance with the Companys
certificate of incorporation and bylaws; (3) for the Company or the Board
to comply with state or federal law; or (4) to assure compliance with any
order of any court or regulatory authority having jurisdiction over the Company
or members of its Board.
We received a letter dated September 22, 2009
from the Red Oak Group seeking, pursuant to Section 220 of the Delaware
General Corporation Law, to inspect the books and records of the Company,
including among other things a stockholder list as of the record date. The
letter states that the purpose of such request is to enable the Red Oak Group
to solicit proxies to elect directors at the 2009 Annual Meeting and to
communicate with stockholders. Our counsel responded by letter dated September 30,
2009 that the Company was aware of its obligations under Section 220 of
the Delaware General Corporation Law but believed that the demand letter did
not comply with the inspection requirements under Section 220. We received
another letter dated September 29, 2009 from the Red Oak Group pursuant to
Section 220 of the Delaware General Corporation Law in which the Red Oak
Group requests to inspect the books and records of the Company pertaining to,
among other things, all analyses performed with respect to our net operating
losses and a list of all business ventures and dealings Messrs. Tornek and
Durham have evaluated or commenced in the past ten years and a list of all
investments they currently share. Our counsel responded by letter dated October 6,
2009 that (i) the commencement of the Red Oak Groups derivative action
bars it from using a Section 220 demand as a substitute for discovery
permissible in litigation; (ii) the stated purposes of the demand letter
do not constitute proper purposes under Section 220; and (iii) the
scope of information requested in the demand letter is overly broad and not
limited to books and records that are essential and sufficient to accomplish
the Red Oak Groups stated purposes.
The evidentiary hearing for the State Court Action was
held October 7 and 8, 2009. On October 9,
2009, the Court denied the plaintiffs Application for Temporary Injunction. In
addition, the Court dismissed the derivative claims asserted by the plaintiffs
and granted the defendants Motion to Stay on all remaining non-derivative
claims the plaintiffs asserted against Messrs. Kaiser, Tornek and Durham.
On October 14, 2009, the
court denied the Companys application for preliminary injunction in the
Federal Court Action. The Federal Court Action remains pending.
The Company has expended a
significant amount of management time and resources in connection with Federal
Court Action and the State Court Action. The Company has had settlement
discussions with certain of the plaintiffs regarding the Federal Court Action
and the State Court Action. The Company may have further settlement
discussions in the future. No assurance can be given that any settlement
agreement could be reached if the Company undertakes further discussions or if
a settlement agreement is entered into that the terms of any such settlement
would not have a material adverse effect on the Company, its financial position
or its results of operations.
(8) New Accounting Pronouncements
In December 2007, the FASB released Statement No. 141
R, Business Combinations (
SFAS 141R
),
which establishes principles for how the acquirer shall recognize acquired assets,
assumed liabilities and any non-controlling interest in the acquiree, recognize
and measure the acquired goodwill in the business combination, or gain from a
bargain purchase, and determines disclosures associated with financial
statements. This statement replaces SFAS 141 but retains the fundamental
requirements in SFAS 141 that the acquisition method of accounting (which SFAS
141called the purchase method) be used for all business combinations and for an
acquirer to be identified for each business combination. The requirements of
SFAS 141R apply to business combinations for which the acquisition date is on
or after the beginning of the first annual reporting period beginning on or
after December 15, 2008. Early application is not permitted.
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In
February 2008, the FASB issued FASB Staff Position FSP 157-2,
Effective Date of FASB Statement No. 157
(FSP
157-2). FSP 157-2 delayed the effective date of SFAS 157 for all nonfinancial
assets and nonfinancial liabilities, except for items recognized or disclosed
at fair value in the financial statements on a recurring basis (at least
annually), until the beginning of the first quarter 2009. Application of SFAS
157 did not have a material impact on our results of operations and financial
position upon adoption on January 1, 2009.
In
April 2009, the Financial Accounting Standards Board (the FASB) issued
FASB Staff Position No. FAS 107-1 and APB 28-1,
Interim Disclosures about Fair Value of Financial
Instruments
(FSP FAS 107-1). FSP FAS 107-1 requires disclosures
about the fair value of financial instruments whenever a public company issues
financial information for interim reporting periods. FSP FAS 107-1 is effective
for interim reporting periods ending after June 15, 2009. The Company
adopted this staff position upon its issuance, and it had no material impact on
its consolidated financial statements. See Note 6 Fair Value Measurements
for these disclosures.
In May 2009, the FASB issued SFAS No. 165, Subsequent
Events (
SFAS 165
), which establishes general
standards of accounting for, and requires disclosure of, events that occur
after the balance sheet date but before financial statements are issued or are
available to be issued. The Company adopted the provisions of SFAS 165 as of August 31,
2009. The adoption of these provisions did not have a significant impact on the
Companys consolidated financial statements.
In
June 2009, the FASB issued SFAS 168,
The
FASB Accounting Standards Codification and the Hierarchy of Generally Accepted
Accounting Principles.
SFAS 168 identifies the FASB Accounting
Standards Codification as the authoritative source of
generally accepted accounting principles (GAAP) in the
United States. Rules and interpretive releases of the Securities and
Exchange Commission (SEC) under federal
securities laws are also sources of authoritative GAAP for SEC registrants.
SFAS 168 is
effective for
financial statements issued for interim and annual periods ending after September 15,
2009. We do not expect adoption to
have
a material impact on our consolidated financial statements.
From
time to time, new accounting pronouncements are issued by the FASB or other
standards setting bodies which we adopt as of the specified effective date.
Unless otherwise discussed, our management believes the impact of recently
issued standards which are not yet effective will not have a material impact on
our consolidated financial statements upon adoption.
(9) Subsequent
Events.
Management performed an
evaluation of the Companys activity through October 14, 2009, and has
concluded there are no other significant subsequent events requiring disclosure
through the date these financial statements were issued.
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Item 2. Managements Discussion
and Analysis of Financial Condition and Results of Operations
The following
discussion and analysis should be read in conjunction with the Managements
Discussion and Analysis of Financial Condition and Results of Operations
section and audited consolidated financial statements and related notes thereto
included in our Annual Report on Form 10-K filed with the Securities and
Exchange Commission (the
SEC
) on March 2,
2009 and with the unaudited consolidated financial statements and related notes
thereto presented in this Quarterly Report on Form 10-Q.
Cautionary
Statement Regarding Forward-Looking Statements
Certain of the matters discussed in this Quarterly Report on Form 10-Q
may constitute forward-looking statements for purposes of the Securities Act
of 1933, as amended (the
Securities Act
),
and the Securities Exchange Act of 1934, as amended (the
Exchange Act
),
and, as such, may involve known and unknown risks, uncertainties and other
factors that may cause the actual results, performance or achievements of the
Company to be materially different from future results, performance or
achievements expressed or implied by such forward-looking statements. When used
in this report, the words anticipates, estimates, believes, continues, expects,
intends, may, might, could, should, likely, and similar expressions
are intended to be among the statements that identify forward-looking
statements. When we make forward-looking statements, we are basing them on our
managements beliefs and assumptions, using information currently available to
us. Although we believe that the expectations reflected in the forward-looking
statements are reasonable, these forward-looking statements are subject to
risks, uncertainties and assumptions. Statements of various factors that could
cause the actual results, performance or achievements of the Company to differ
materially from the Companys expectations (
Cautionary
Statements
) are disclosed in this report, including, without
limitation, those statements discussed in the Item 1A, Risk Factors of
our
Annual Report on Form 10-K
filed with the SEC on March 2, 2009
, those statements made in
conjunction with the forward-looking statements and otherwise herein. All
forward-looking statements attributable to the Company are expressly qualified
in their entirety by the Cautionary Statements. We have no intention, and
disclaim any obligation, to update or revise any forward-looking statements,
whether as a result of new information, future results or otherwise.
Overview
Sales Transactions
On December 18, 2006,
we entered into a definitive agreement (the
U.S. Sale
Agreement
) with a wholly owned subsidiary of Brightpoint, Inc.,
an Indiana corporation (
Brightpoint
),
providing for the sale of substantially all of our United States and
Miami-based Latin American operations (the
U.S. Sale
)
and for the buyer to assume certain liabilities related to those operations.
Our operations in Mexico and Chile and other businesses or obligations of the
Company were excluded from the transaction.
Our Board of Directors (the
Board
) and Brightpoint unanimously approved the proposed
transaction set forth in the U.S. Sale Agreement. The purchase price was
$88 million in cash, subject to adjustment based on changes in net assets
from December 18, 2006 to the closing date. The U.S. Sale Agreement also
required the buyers to deposit $8.8 million of the purchase price into an
escrow account for a period of six months from the closing date.
Also on December 18,
2006, we entered into a definitive agreement (the
Mexico Sale
Agreement
) with Soluciones Inalámbricas, S.A. de C.V. (
Wireless Solutions
) and Prestadora de Servicios en
Administración y Recursos Humanos, S.A. de C.V. (
Prestadora
),
two affiliated Mexican companies, providing for the sale of all of the Companys
Mexico operations (the
Mexico Sale
).
The Mexico Sale was structured as the sale of all of the outstanding shares of
our Mexican subsidiaries, and included our interest in
Comunicación Inalámbrica
Inteligente, S.A. de C.V.
(
CII
),
our joint venture with Wireless Solutions. Under the terms of the transaction,
we received $20 million in cash, and were entitled to receive our pro rata
share of CII profits for the first quarter 2007 and up to the consummation of
the transaction, within 150 days from the closing date. Our Board
unanimously approved the proposed transaction set forth in the Mexico Sale
Agreement. We had not received any pro rata share of the CII profits and other
terms required as of 150 days from the closing date. A demand for payment
of up to $1.7 million, the amount we believe is our pro rata share of CII
profits for such period, was sent to the purchasers on September 11, 2007,
as well as a demand that the sellers comply with other required terms of the
agreement. While we believe that CII was profitable and therefore the
purchasers owe the Company its pro rata share, the purchasers are disputing
this claim.
Therefore,
we are pursuing claims against the buyers from the Mexico Sale in an ICC
arbitration proceeding, which is currently scheduled for October 21 and
22, 2009.
We cannot make
any estimates regarding future amounts that we may be able to collect or the
timing of any collections on this matter.
We filed a proxy statement
with the SEC on February 20, 2007, which more fully describes the U.S. and
Mexico Sale transactions. Both of the transactions were subject to customary
closing conditions and the approval of our stockholders, and the transactions
were not dependent upon each other. The proxy statement also included a plan of
dissolution, which provides for the complete liquidation and dissolution of the
Company after the completion of the U.S. Sale, and a proposal to change the
name of the Company from CellStar Corporation to CLST Holdings, Inc.
On March 28, 2007, our stockholders approved the U.S. Sale, the
Mexico Sale, the plan of dissolution, and a name change from CellStar
Corporation to CLST Holdings, Inc. We continue to follow the plan of
dissolution. Consistent with the plan of
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dissolution
and its fiduciary duties, our Board will continue to consider the proper
implementation of the plan of dissolution and the exercise of the authority
granted to it thereunder, including the authority to abandon the plan of dissolution.
The U.S. Sale closed on March 30,
2007. At closing we received cash of approximately $53.6 million and
$4.5 million was included in Accounts ReceivableOther in the
accompanying balance sheet for November 30, 2007. We recorded a pre-tax
gain of $52.7 million on the transaction during the twelve months ended November 30,
2007. The buyer of our U.S. business previously asserted total claims for
indemnity against the escrow of approximately $1.4 million, and the
remainder, approximately $7.6 million, including accrued interest, was
distributed to the Company on October 4, 2007. On December 21, 2007,
the Company and Brightpoint entered into a Letter Agreement which settled the
dispute concerning the additional escrow amount. All currently outstanding disputes
between the parties regarding the determination of the purchase price under the
U.S. Sale Agreement have been resolved, and payments of funds have been made in
accordance with the terms described in the Letter Agreement. In January 2008
the Company received approximately $3.2 million from Brightpoint plus
accrued interest and less transition expenses, and approximately
$1.4 million from the escrow agent. These are the final amounts to be
received under the U.S. Sale Agreement.
The Mexico Sale closed on April 12,
2007, and we recorded a loss on the transaction of $7.0 million primarily
due to accumulated foreign currency translation adjustments as well as expenses
related to the transaction. We had approximately $9.1 million of
accumulated foreign currency translation adjustments related to Mexico. As the
proposed sale did not meet the criteria to classify the operations as held for
sale under SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, as of February 28, 2007, we recognized the
$9.1 million as a charge upon the closing of the Mexico Sale. As disclosed
above, we have not received any pro-rata share of profits and other terms
required as of 150 days from the closing date under the Mexico Sale.
On March 22, 2007, we signed
a letter of intent to sell our operations in Chile (the
Chile Sale
)
to a group that included local management for approximately book value. On June 11,
2007, we completed the Chile Sale. The purchase price and cash transferred from
the operations in Chile prior to closing totaled $2.5 million, and we
recorded a pre-tax gain of $0.6 million on the transaction during the
quarter ended August 31, 2007. With the completion of the Chile Sale, we
no longer have any operating locations outside of the U.S. Currently only a
small administrative staff remains to wind up our business.
Plan of Dissolution
As we have
previously disclosed, the proxy statement we filed with the SEC on February 20,
2007 describes a proposal for a plan of dissolution, which provides for the
complete liquidation and dissolution of the Company after the completion of the
U.S. Sale (subject to abandonment by the Board in the exercise of their
fiduciary duties). On March 28,
2007, our stockholders approved the plan of dissolution in addition to the U.S.
Sale and the Mexico Sale. In the plan of
dissolution approved by our stockholders, we stated that no distribution of
proceeds from the U.S. Sale and Mexico Sale would be made until the investigation
by the SEC was resolved. On June 26, 2007, we received a letter from the
staff of the SEC giving notice of the completion of their investigation with no
enforcement action recommended to the SEC. Therefore, on June 27, 2007,
our Board declared a cash distribution of $1.50 per share on Common Stock to
stockholders of record as of July 9, 2007. On July 19, 2007, we
issued the $1.50 per share dividend in the total amount of $30.8 million.
Then, on November 1, 2007 we paid an additional $0.60 per share dividend
to stockholders which brings the cumulative dividends paid to stockholders to
$2.10 per share or approximately $43.2 million. The amount and timing of
any additional distributions paid to stockholders in connection with the
liquidation and dissolution of the Company are subject to uncertainties and
depend on the resolution of certain contingencies more fully described in this
quarterly report on Form 10-Q, in the proxy statement and elsewhere in our
Annual Report on Form 10-K filed with the SEC on March 2, 2009.
We have continued
to wind up aspects of our businesses, including dissolving some of our
subsidiaries and continuing to try to collect our remaining non-cash
assets. In addition, we have continued
to review our liabilities and seek to satisfy or resolve those that we can in a
favorable manner. See Recent
Developments below and Item 1 Business 2008 Business of our Annual Report
on Form 10-K filed with the SEC on March 2, 2009 for further
discussion with respect to our activities in this regard. We expect that it will take several years to
implement the plan of dissolution because of the lengthy process of dissolving
our foreign subsidiaries and obtaining sufficient information regarding all of
the Companys existing liabilities and liabilities which may be expected to
arise in the future and to pay or appropriately provide for them as required
under the plan of dissolution and applicable law
.
As a result, our Board determined that filing
a certificate of dissolution in the past was not in the best interest of the
Company and our stockholders. When we sold all of our operations in 2007, we
were left with the cash proceeds from the divestitures, some of which was paid
out as dividends to stockholders and the remaining proceeds are being held by
the Company pending completion or abandonment of the plan of dissolution. Some or all of these proceeds may be required
to fund our operations pending dissolution and to pay or provide for the
Companys liabilities as required by the plan of dissolution and applicable
law. Given the time necessary to complete the legal and domestic and foreign
governmental and other requirements for dissolution, our Board focused on ways
to preserve the value of the Companys cash and other assets pursuant to the
plan of dissolution. As discussed in our
Form 10-K for the fiscal year ended November 30, 2008, due to bank
failures and declining interest rates we pursued various alternatives to
safeguard the Companys cash while still earning a reasonable return for
investors during the process of winding up the remaining corporate matters.
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We determined to
acquire several portfolios of receivables with the intention of generating a
higher rate of return on the Companys assets than we were receiving on our
cash and cash equivalent balances, which were held in money market accounts or
short term certificates of deposit, earning approximately 1% (current interest
rates are now close to 0%). Our Board
believed that, when compared to the low interest rates now available on cash
assets and other investment alternatives, each of these acquisitions would be a
better investment return for our stockholders and better preserve the value of
the Companys assets. At the time we began looking at purchasing these
portfolios during the second and third quarters of 2008, the credit markets
became significantly impaired and the viability of many banks and other
financial institutions was in question.
The Companys cash was held in one bank subject to the limited
protection of FDIC coverage and spreading the Companys cash among many
different banks was not considered practical.
By investing our cash resources in relatively high
yielding assets, we are also able to take advantage of the favorable tax
treatment provided by our net operating losses. Our net operating losses may
offer significant value to us, if they can be utilized to reduce tax
liabilities prior to the termination of our corporate status. Our ability to
use our net operating losses depends upon a number of factors, including our
ability to generate taxable income. No assurances can be given that we will be
able to do so. Although we have
purchased these various portfolio assets and are now engaged in the business of
holding and collecting consumer notes receivable, we have not abandoned our
plan of dissolution.
We
believe that the market conditions have changed for our CLST Asset I
portfolio. When we purchased CLST Asset
I, the historical default rate for the
previous three years for our portfolio was approximately 4%. Our recent experience has seen the default
rate increase to the 67% range, and, accordingly, we have been increasing our
allowances to reflect this change. Upon
examination of CLST Asset II and CLST III, management believes that their
circumstances are different. CLST Asset
II reflects new originations with higher and more stringent credit requirements
and therefore has a very different risk profile when compared to CLST Asset
I. CLST Asset III is protected from
default risk by the terms of the purchase agreement in which the sellers bear
the majority of the default risk. Management
believes that the various measures being taken by the federal government and
the Federal Reserve will have a positive impact on the credit markets and the
economy in general. And we continue to
believe that, if needed, our portfolio assets could be sold, if properly
marketed, within the timeframe necessary to complete the winding down of our
Company, which will likely take the Company two, three or more years in order
to resolve all outstanding issues, including the dissolution of foreign
subsidiaries, tax audits and outstanding liabilities. However, due to the
lengthy process that will be necessary to complete the plan of dissolution, and
due to the state of the credit markets at this time, our Board believes that
sales of the Companys portfolio assets at this time would not be in the best
interest of our Company or our stockholders.
Consistent with the plan
of dissolution and their fiduciary duties,
our Board and Executive
Committee continue to consider both the timing of a filing of a certificate of
dissolution and whether amending, modifying or abandoning the
plan of dissolution
and continuing to do business in one or
more of our historical lines of business or related businesses or in a new line
of business
is in the best interests of the Company and its stockholders. Our
Board has been reviewing potential acquisitions and the value of the Companys
tax assets. It is possible that our Board of Directors will, in the exercise of
its fiduciary duties, elect to abandon the
plan of dissolution
for a strategic alternative
that it believes will maximize stockholder value. If our Board determines that
it is in the best interest of the Company to pursue an acquisition, it will
likely pursue a debt financing or equity issuance in order to finance such
acquisition. It is unlikely our Board will make any further distributions to
the Companys stockholders under the
plan of dissolution
while it considers the
strategic alternatives available to the Company.
Our Board has in the past
year additionally considered, and is currently considering, whether it is
possible, and if it would be in the best interest of the Company and its
stockholders, to de-register its common stock under Section 12(g) of
the Exchange Act and thereby suspend the Companys responsibilities to file
reports, including Forms 10-K, 10-Q and 8-K, with the SEC under Section 13(a) and
15(d) of the Exchange Act. We believe that given the limited time and
resources available to our management, the high cost of compliance with the
Sarbanes-Oxley Act of 2002 and other public company reporting requirements may
no longer outweigh the benefits to the Company and its stockholders of being a
reporting company. If the Company does
decide to deregister, the Companys common stock would cease to be eligible to
be traded on the OTC Bulletin Board. Our
common stock would continue to be quoted on the Pink Sheets, but no assurance
could be given that any broker would continue to make a market in our common
stock. Neither our Board nor our
Executive Committee has made a final decision to de-register with the SEC, but
it will continue to consider whether de-registering would be in the best
interests of the Company and its stockholders.
Any determination by the Board in the future to take any of the
foregoing actions, will require that the Board, in fulfilling its fiduciary
obligations, perform such analysis and consider such information, as provided
by management and external consultants, as its deems reasonable and necessary
to come to a determination that is in the best interests of the Company and its
stockholders. It is unlikely that our Board
or the Executive Committee of our Board will make any further distributions to
the Companys stockholders under the plan of dissolution while it considers the
strategic alternatives available to the Company.
19
Table of Contents
Discussion of Critical Accounting Policies and Estimates
Our
discussion and analysis of our financial condition and results of operations is
based upon our consolidated financial statements, which have been prepared in
accordance with accounting policies that are described in the notes to the
consolidated financial statements. The preparation of the consolidated
financial statements requires management to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenues and expenses, and
related disclosure of contingent assets and liabilities. We continually
evaluate our judgments and estimates in determination of our financial
condition and operating results. Estimates are based on information available
as of the date of the financial statements and, accordingly, actual results
could differ from these estimates, sometimes materially. Critical accounting
policies and estimates are defined as those that are both most important to the
portrayal of our financial condition and operating results and require
managements most subjective judgments. The most critical accounting policies
and estimates are described below.
Revenue Recognition
Revenues are recorded as
earned from notes receivable. Revenues
consist of interest earned, late fees and other miscellaneous charges. Revenues are not accrued on accounts over 120
days without payment activity, unless payment activity resumes.
Notes Receivable
Notes receivable are
recorded at the acquisition date at the historical cost paid for the notes
receivable. Notes receivable reflects
the principal amount due from the customer reduced by any purchase discounts
recorded at acquisition. Subsequent to
the date of acquisition, notes receivable are reduced by any principal payments
made by the customer. An allowance for
doubtful accounts is increased by the defaulted receivables for which customers
have not made a payment for the most recent 120 day period, which reduces the
net notes receivable. Purchase discounts
are amortized as principal amounts are collected.
An allowance is recorded
on any receivable that is in default. In
determining the adequacy of the allowance for doubtful accounts, management
considers a number of factors, including the aging of the receivable portfolio,
customer payment trends, financial condition of the customer, economic
conditions, and industry conditions. Actual results could differ from those
estimates. We will establish an allowance for doubtful accounts for all
receivables. The allowance will be based
on defaulted receivables as defined in our financing arrangements. Under those arrangements, a defaulted
receivable is one where the customer has not made a payment for the most recent
120 day period. Under such
circumstances, the remaining balance will not be allowed in the borrowing base
which helps determine the amount of allowed borrowings. Since these defaulted
receivables are not allowed in the borrowing base to determine the amount of
allowed borrowings, these are the only defaulted receivables that an allowance
is made for at this time. All
receivables are domestic. On a quarterly basis, we will adjust the allowance
for doubtful accounts to a minimum amount equal to the defaulted
receivables. We may from time to time
make additional increases to the allowance based on business circumstances.
Stock-Based Compensation
On December 1, 2008, our Board approved the Companys 2008 Long
Term Incentive Plan (the
2008 Plan
).
Effective September 11, 2009, the Board amended and restated the 2008 Plan
to decrease the number of shares of common stock of the Company that may be
issued under the 2008 Plan from 20,000,000 to 2,000,000. We intend to seek
stockholder ratification of the 2008 Plan, as amended, at our upcoming annual
meeting on October 27, 2009. The 2008 Plan, which is administered by the
Board, permits the grant of restricted stock, stock options and other
stock-based awards to employees, officers, directors, consultants and advisors
of the Company and its subsidiaries. The 2008 Plan provides that the
administrator of the plan may determine the terms and conditions applicable to
each award, and each award will be evidenced by a stock option agreement or
restricted stock agreement.
The
2008 Plan
will terminate on December 1, 2018.
In
addition, on December 1, 2008 our
Board
approved the grant of 300,000 shares of
restricted stock to each of Timothy S. Durham, Robert A. Kaiser and Manoj
Rajegowda. On February 24, 2009, Mr. Rajegowda forfeited all
stock issuances provided to him during the course of his Board membership in
connection with his resignation from the Board. On
March 5, 2009, our
Board approved the grant of 300,000 shares of restricted stock to David Tornek,
our director who was appointed to fill the vacancy on the Board
.
Of each restricted stock grant, 100,000 shares issued
vested on the date of grant, and the remaining 200,000 of the shares issued
vest in two equal annual installments on each anniversary of the date of
grant.
The restricted stock becomes 100% vested if any of
the following occurs: (i) the participants death or (ii) the
disability of the participant while employed or engaged as a director or
consultant by the Company. The total value of the awards using a grant date
price of $0.22 per share for 600,000 shares and $0.16 for 300,000 shares is
$180,000, of which $100,000 was expensed in the nine months ended August 31,
2009, and the rest is being
20
Table of
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expensed
over a two year vesting period. The 2008 Plan permits withholding of shares by
the Company upon vesting to pay withholding tax. These withheld shares are
considered as treasury stock and are available to be re-issued under the 2008
Plan.
Recent
Developments
CLST
Asset I
On November 10, 2008,
our Board unanimously approved the
acquisition of
all of the outstanding equity interest of the
FCC Investment Trust I (the
Trust
) from Drawbridge Special
Opportunities Fund LP through CLST Asset I, LLC (
CLST Asset I
),
a wholly owned subsidiary of CLST Financo, Inc. (
Financo
), which is one of our direct,
wholly owned subsidiaries
.
The purchase price was approximately
$41.0 million, which was financed by $6.1 million of cash on hand and by a
$34.9 million non-recourse term loan from Fortress Credit Co LLC (
Fortress
), an affiliate of the seller.
The primary
business of the Trust is to hold and collect certain receivables.
The approximate 6,000
receivables included in CLST Asset I are primarily home improvement loans to
individual homeowners. All loans represent loans to single family dwellings. As
of the purchase date, a majority of the loans were secured through a second
lien on the property. The loans are primarily in the Northeastern part of the
United States, and at the time of purchase of the portfolio, the remaining time
to maturity was in a range of 8-10 years, not including prepayments, if any.
The following table
reflects the loan origination year as of the purchase date:
Year of origination
|
|
% of CLST Asset I
|
|
2000
2004
|
|
8.4
|
%
|
2005
|
|
8.1
|
%
|
2006
|
|
17.3
|
%
|
2007
|
|
36.4
|
%
|
2008
|
|
29.8
|
%
|
Total
|
|
100.0
|
%
|
For CLST Asset I, there were no loans originated in
2009, as this was the purchase of a historical portfolio.
CLST
Asset II
On December 12, 2008,
we, through
CLST
Asset Trust II (the
Trust II
), a
newly formed trust wholly owned by CLST Asset II, LLC (
CLST Asset
II
), a wholly owned subsidiary of Financo
, entered into
a purchase agreement, effective as of December 10, 2008, to acquire from
time to time certain receivables, installment sales contracts and related
assets owned by
SSPE
Investment Trust I (the
SSPE
Trust
) and SSPE, LLC (
SSPE
)
.
The Board unanimously approved the
establishment of the Trust II and the purchase agreement.
Under the terms of a non-recourse,
revolving loan, which Trust II entered into with Summit Consumer Receivables
Fund, L.P. (
Summit
), as
originator, and SSPE, LLC and SSPE Investment Trust I, as co-borrowers, Summit
and Eric J. Gangloff, as Guarantors, Fortress Credit Corp. (
Fortress Corp
.), as the lender, Summit Alternative
Investments, LLC, as the initial servicer, and various other parties (
Trust II Credit Agreement
), Trust II committed to purchase
receivables of at least $2.0 million. In
conjunction with this agreement, Trust II became a co-borrower under a $50
million credit agreement that permits Trust II to use more than $15 million of
the aggregate availability under the revolving facility. Trust IIs commitment to purchase $2.0
million of receivables was fulfilled in the first quarter of 2009, when Trust
II purchased $5.8 million of receivables with an aggregate purchase discount of
$0.5 million that are secured by a second mortgage or the personal property
itself. These receivables represent primarily home improvement loans originated
through FCC Finance, LLC
(
FCC
), the service provider of CLST Asset I.
The loans
represent new originations with an average term of 9 years and a current
average interest rate of 14.7%.
Since these are new loans, the
Company has managed the originations such that almost 65% of the new loans have
credit scores higher than 680, with a portfolio average of 676. As of June 2009,
the Company is no longer originating new loans under the credit agreement.
During the second quarter of 2009 we were notified by
Summit that the credit facility we entered into with Trust II, Summit and
various other parties had been reduced. We believe our $15 million aggregate
availability under the revolving facility is not impacted. However, since the
credit facility term ends in 2010, there can be no assurance that it will be
renewed. During the third quarter of this fiscal year, we ceased all purchasing
of new receivables under the facility and are
no longer originating new
loans under the credit agreement.
As a result, FCC is no longer providing origination
services to the Company.
The origination services performed by FCC
included loan documentation, collateral documentation where applicable, credit
verification, and other required activities to secure loan approval per the
Companys standards. FCC was paid a
one-time fee of 2% of the original principal amount of loans originated for
performing these services. Once a loan
was approved, FCC would perform the monthly servicing activities, which would
include collections, reporting, lock box services, customer service, and other
related services. FCC was paid 1.5%, per annum, of the outstanding principal
balance for these services.
21
Table of
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CLST
Asset III
Effective February 13,
2009, we, through CLST Asset III, LLC (the
CLST Asset
III
), a newly formed, wholly owned subsidiary of Financo, purchased
certain receivables, installment sales contracts and related assets owned by
Fair Finance Company, an Ohio corporation (
Fair
),
James F. Cochran, Chairman and Director of Fair, and Timothy S. Durham, Chief
Executive Officer and Director of Fair and an officer, director and stockholder
of our Company (the
Fair
Purchase Agreement
). Messrs. Durham
and Cochran own all of the outstanding equity of Fair. In return for assets
acquired under the Fair Purchase Agreement, CLST Asset III paid the sellers
total consideration of $3,594,354, consisting of cash, common stock of the
Company and six promissory notes. Additionally, Fair agreed to use its best
efforts to facilitate negotiations to add CLST Asset III or one of its
affiliates as a co-borrower under one of Fairs existing lines of credit with
access to at least $15,000,000 of credit for our own purposes.
To date, we
have not been added as a co-borrower.
Substantially all of the assets acquired by CLST Asset
III are in one of two portfolios. Portfolio A is a mixed pool of receivables
from several asset classes, including health and fitness club memberships,
resort memberships, receivables associated with campgrounds and timeshares,
in-home food sales and services, buyers clubs, delivered products and home
improvement and tuitions. Portfolio B is made up entirely of receivables
related to the sale of tanning bed products. The receivables were recorded at
the fair value based on an evaluation prepared by Business Valuation Advisors
upon which we relied. All the loans were
originated by Fair between November 1998 and August 2009 and are unsecured
loans. None of the loans purchased were
in default. The loans have remaining
terms of between 30 and 48 months and have an average interest rate of 14.4%.
During the second
quarter of 2009 we began implementing the servicing, collection and other
procedures relating to management of CLST Asset III contemplated by the agreements
between us and the servicer of the portfolio. The implementation of the
procedures required several meetings with the servicer and were implemented
during the third quarter of 2009 with the exception of securing a lock box to
receive payments, which we expect to have in place during the fourth quarter of
2009. Fair is the servicer of the CLST Asset III portfolio and is an affiliate
of Mr. Durham.
Now that the Company has acquired these receivable portfolios, most of
the activities of the Company with respect to the portfolios are conducted on
its behalf by the servicers of these portfolios. The servicers, on behalf of the Company,
receive payments from account debtors and pursue other collection activities
with respect to the receivables, monitor collection disputes with individual
account debtors, prepare and submit claims to the account debtors, maintain
servicing documents, books and records relating to the receivables and prepare
and provide reports to the lenders and the Company with respect to the
receivables and related activity, maintain the security interest of the lenders
in the receivables, and direct the collateral custodian to make payments out of
the proceeds of the portfolios to, among others, the Company, the lenders, the
servicers and/or backup servicers, and the collateral custodians pursuant to
the terms of the relevant servicing agreements.
Subsidiaries
We
are working steadily to complete a long list of actions necessary to complete
the wind down of our historical business in an orderly fashion. Completing the wind down is a cumbersome task
that requires many steps and may take a significant amount of time. These steps
include dissolving numerous subsidiaries, resolving pending litigation and
completing various regulatory filings and other requirements. We cannot predict
how long, how time-consuming or how costly resolution of the litigation matters
will be. To date, we have completed and filed final sales tax returns and
franchise tax returns for most of our entities. We have also completed the
requirements to withdraw most of our entities from doing business in multiple
state jurisdictions in the U.S. Furthermore, we are continuing to dissolve our
foreign and domestic subsidiaries pursuant to the plan of dissolution. However,
in order to protect the Companys cash and other assets from any actual or
potential liabilities of the Companys direct and indirect subsidiaries, we
will not dissolve our inactive direct or indirect domestic or foreign
subsidiaries until the actual and contingent liabilities of each such
subsidiary have been resolved or contingency reserves have been set aside
sufficient to pay or make reasonable provision to pay all such subsidiarys
claims and obligations in accordance with applicable law. Specifically, we will
not dissolve
Audiomex
Export Corp., National Auto Center, Inc. and CLST-NAC, Ltd., which are
direct parties to, and NAC Holdings, Inc., which is an indirect party to,
the arbitration proceeding for our claim in Mexico against the purchasers of
the Mexico Sale, which is currently scheduled for October 21 and
22, 2009, until resolution of that claim.
In addition, in certain jurisdictions, the dissolution process is an
extended one.
We
completed the dissolution of our subsidiaries in the United Kingdom and
Guatemala in February 2008 and March 2009, respectively, and of
CLST-NAC Fulfillment, Ltd., a Texas limited partnership and indirect subsidiary
of the Company, in September 2009.
Furthermore, we completed the merger of CLST Fulfillment, Inc., a
Delaware corporation, into its parent, National Auto Center, Inc., a
Delaware corporation and our wholly owned subsidiary, effective September 10,
2009. In addition we have made demands on the purchaser of our former Colombian
subsidiary for the documents needed to divest our remaining minority interest
in that subsidiary. Further, we have
submitted documents to several governmental authorities in El Salvador as
required to dissolve our
22
Table of
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dormant
entity in El Salvador. For our Netherlands subsidiary, we have collected VAT
tax refunds and are in the process of preparing tax returns that are required
to complete the dissolution process.
There
are a number of actions required by governmental regulations in order to
dissolve our Philippines subsidiary, and we have made substantial progress
toward its dissolution. We obtained a Formal Entry of Judgment in two
longstanding lawsuits. We have also
settled a claim for 1999 withholding tax and obtained a determination from the
Bureau of Internal Revenue that no taxes are owed on a 2004 transaction. We are now completing audits that are
required to be submitted for regulatory approval prior to dissolution, and have
taken various other actions required by the Bureau of Internal Revenue and the
Philippines Securities and Exchange Commission.
Colombia
During
the second quarter of 2009 we completed the collection of the previously
written-off receivable from the 2004 sale of our Colombia operations. During the previous quarter we collected
$61,000, representing the final payment of the original note amount of
$720,869. The note had been fully reserved and the payment received was recorded
in general and administrative expenses. We are now in the process of releasing
the 19% interest that we retained in the Colombia operation, per the terms of
the purchase agreement.
Results of Operations
The Company
reported a net loss of $1.2 million or $0.05 per basic and diluted share, for
the third quarter of 2009, compared to a net loss of $0.3 million, or $0.02 per
basic and diluted share for the same quarter last year. The increase is
primarily attributable to the costs of the actions taken by Red Oak, which has
led to the costs incurred in connection with the Federal Court Action and State
Court Action, offset slightly by the income (net of expenses) generated by our
portfolios.
The
following table shows certain information for the three and nine months ended August 31,
2009 for each of CLST Asset I, CLST Asset II and CLST Asset III. A more
detailed description of the results for each of these entities is provided
below.
|
|
CLST
Asset I
|
|
CLST
Asset II
|
|
CLST
Asset III
|
|
|
|
|
|
|
|
|
|
Aggregate Outstanding
Principal Balance of Receivables
|
|
$
|
35.9 million
|
|
$
|
7.7 million
|
|
$
|
2.3 million
|
|
|
|
|
|
|
|
|
|
Reserves
|
|
$
|
2.1 million
|
|
$
|
million
|
|
$
|
0.2 million
|
|
|
|
|
|
|
|
|
|
Unamortized Purchase
Discounts
|
|
$
|
0.6 million
|
|
$
|
0.7 million
|
|
$
|
0.1 million
|
|
|
|
|
|
|
|
|
|
Deferred Acquisition Costs
|
|
$
|
0.1 million
|
|
$
|
million
|
|
$
|
0.3 million
|
|
|
|
|
|
|
|
|
|
Net Receivables
|
|
$
|
33.3 million
|
|
$
|
7.0 million
|
|
$
|
2.3 million
|
|
|
|
|
|
|
|
|
|
Notes Payable and Loans
Outstanding
|
|
$
|
28.7 million
|
|
$
|
5.2 million
|
|
$
|
0.7 million
|
|
|
|
|
|
|
|
|
|
Approximate Number of Customer
Accounts
|
|
5,295
|
|
1,015
|
|
1,911
|
|
|
|
|
|
|
|
|
|
Average Outstanding
Principal Balance per Account
|
|
$
|
6,787
|
|
$
|
7,561
|
|
$
|
1,088
|
|
Three Months Ended May 31, 2009, Compared to Three Months Ended May 31,
2008
Consolidated
Revenues
.
Revenues for the third quarter of 2009
were $1.8 million compared to zero in 2008.
The third quarter of 2009 results reflected interest and other charges
from CLST Asset I of $1.3 million, CLST Asset II of $0.4 million and CLST Asset
III of $0.1 million. There were no revenues
recorded in the third quarter of 2008.
Loan
Servicing Fees.
Loan servicing fees for the third quarter of 2009 were $231,000. There were no loan servicing fees recorded in
the third quarter of 2008. We do not incur additional servicing fees with respect
to CLST Asset III other than the initial cost of acquiring the portfolio.
23
Table of
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Provision
for Doubtful Accounts.
Provision for doubtful accounts for the third quarter of 2009 were
$654,000, reflecting accounts greater than 120 days past due in CLST Asset I of
$634,000 and CLST Asset II of $20,000.
CLST Asset III had no provision for doubtful accounts and any defaulted
receivables under CLST Asset III were offset per the requirement that the
sellers must jointly and severally pay CLST Asset III the outstanding balance
of any defaulted receivable, within the parameters of the Fair Purchase
Agreement. We did not make a provision
for doubtful accounts in the third quarter of 2008.
Interest
Expense.
Interest
expense for the second quarter of 2009 was $508,000 under the credit facilities
of CLST Asset I and CLST Asset II and the notes issued in connection with the
CLST Asset III acquisition. We had no
interest expense in the second quarter of 2008.
General and Administrative Expenses
.
Our general and administrative expenses were $1.5 million for the third quarter
of 2009 compared to $0.4 million for the third quarter of 2008. This increase
is the result of increased legal and professional fees offset in part by
decreases in operating expenses, resulting from managements successful cost
cutting efforts.
Our legal and professional expenses during the third
quarter of 2009 were $1.3 million. Those
fees relate primarily to defending against claims brought by the Red Oak Group
against us and our directors in the State Court Action. We also incurred substantial professional
fees in the third quarter relating to the Federal Court Action and to our
arbitration claims against Wireless Solutions for monies we believe are due us
from the Mexico Sale. We have made a
claim under our directors and officers liability insurance policy for reimbursement
of amounts we are obligated under our certificate of incorporation and bylaws
to advance to our directors for their defense costs in the State Court
Action. Our carrier has agreed to
reimburse us for those expenses in excess of our $1 million self retention
under the policy, subject to certain reservations of rights. We expect to exceed our self retention amount
in the fourth quarter, after which point the carrier should begin to reimburse
us for amounts advanced to Messrs. Durham, Kaiser and Tornek in connection
with their defense against claims brought by the Red Oak Group. Any reimbursements received will offset the
legal expenses incurred in general and administrative expenses.
With respect to the Mexico Sale, we believe
that Wireless Solutions owes us amounts relating to the sale of our interest in
CII. Therefore, we are pursuing claims
against the buyers from the Mexico Sale in an ICC arbitration proceeding, which
is currently scheduled for
October 21 and 22, 2009
. We believe we are owed up to $1.7 million
from the Mexico Sale. In addition, the lower expenses we experienced
during the third quarter 2008 were a result of reduced staff, relocation of our
headquarters, the elimination of our 401K and benefits plans, and reduced
expenses in general.
Net
Operating Loss.
The net operating loss for the third quarter
of 2009 was a loss of $1.2 million compared to $433,000 for the third quarter
of 2008. The third quarter of 2009
includes $1.3 million of legal and professional fees, primarily due to legal
and professional fees related to the Federal Court Action and the State Court
Action, including amounts paid on behalf of our directors, and the pursuit of
claims against Wireless Solutions in connection with the Mexico Sale.
Total Other Income
. Our
total other income for the third quarter of 2009 was $1,000, compared to
$110,000 for the third quarter 2008. Virtually all of our other income is
interest earned on our cash balance, and the decrease is a result of lower
interest rates due to the current U.S. economic crisis and lower cash balances.
Income taxes
. The Company recorded tax expense of $9,000 for
the third quarter of 2009 compared to zero for 2008, which includes the impact
of continuing and discontinued operations.
Net Loss.
Net loss for the third quarter of 2009 was $1.2 million compared to $0.3
million for the same quarter in 2008, as interest earned on our cash last year
generated $107,000 of interest income.
The increase in net loss is primarily attributable to the costs of the
actions taken by Red Oak, which has led to the costs of approximately $1.3
million incurred in connection with the Federal Court Action and State Court
Action, offset slightly by the income (net of expenses) generated by our
portfolios.
CLST
Asset I
The
Trusts collections for the third quarter of 2009 were approximately $2.9
million, representing $1.6 million of principal payments and $1.3 million of
interest and other charges. As of August 31,
2009, the aggregate outstanding principal balance of the notes receivables net
of reserves was $33.9 million, which represents 82.7% of the original purchase
price of $41.0 million. The ending
balance consists of approximately 5,295 customer accounts, with an average
outstanding principal balance per account of approximately $6,787. The average interest rate for these accounts
was 14.3%. Total assets of the Trust at
the end of the quarter net of reserves were $33.9 million, excluding certain
accrued interest and deferred costs.
Total
revenues for the third quarter of 2009 were approximately $1.3 million and
primarily consisted of interest income collected from the notes
receivable. Operating expenses for the
quarter were $1.3 million, which included $0.6 million provision for doubtful
accounts, $0.4 million of interest expense to Fortress, our lender, and $0.2
million of servicing expense to FCC.
24
Table of
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As of August 31, 2009, the Trust owed $28.7
million to Fortress, representing 81.5% of the original loan amount.
CLST
Asset II
Trust II had collections
of approximately $0.9 million
during the
third quarter of 2009, reflecting principal payments of $608,000 and interest
and other fees of $304,000. For the quarter,
revenues were $356,000. The results
include $20,000 of provision for doubtful accounts. Interest expense under the credit facility
was $74,000 while our servicing costs were $37,000.
Trust II did not purchase
any receivables during the third quarter of 2009.
During the quarter, Trust
II paid down the credit facility by $488,000.
As of August 31, 2009, Trust II had $7.7 million of receivables and
an outstanding balance on the credit line of over $5.3 million.
CLST
Asset III
Collections for the third
quarter of 2009 were $441,000, representing $347,000 of principal and $94,000
of interest and fees. For the quarter,
CLST Asset III also recorded revenues of $96,000, reflecting interest and other
fees collected from customers. Defaults of $46,000 during the quarter were
applied to the notes payable to the seller per our purchase agreement.
As of August 31,
2009, our outstanding balance of receivables was $2.1 million, representing in
excess of 1,900 accounts. The average
principal balance per account was approximately $1,088.
Nine Months Ended August 31,
2009, Compared to Nine Months Ended August 31, 2008
Consolidated
Revenues
.
Our revenues for the nine months ended August 31,
2009 were $5.2 million compared to zero in 2008. The results for 2009 reflected
interest and other charges from CLST Asset I of $4.2 million, CLST Asset II of
$0.8 million and CLST Asset III of $0.2 million. There were no revenues recorded in the first
nine months of 2008.
Loan
Servicing Fees.
Loan servicing fees for the nine months ended August 31, 2009 were
$613,000. There were no loan servicing fees recorded in the first nine months
of 2008. We do not incur additional servicing fees with respect to CLST Asset
III other than the initial cost of acquiring the portfolio.
Provision
for Doubtful Accounts.
Provision for doubtful accounts for the nine months ended August 31,
2009 were $2.0 million, all of which was attributable to CLST Asset I and CLST
Asset II.
CLST
Asset III had no provision for doubtful accounts, and any defaulted receivables
under CLST Asset III were offset per the requirement that the sellers must
jointly and severally pay CLST Asset III the outstanding balance of any
defaulted receivable, within the parameters of the Fair Purchase Agreement. We had no provision for doubtful accounts for
the same period of 2008.
Interest
Expense.
Interest
expense for the nine months ended August 31, 2009 was $1.6 million under
the credit facilities of CLST Asset I and CLST Asset II and the notes issued in
connection with the CLST Asset III acquisition. We had no interest expense for
the same period of 2008.
General
and Administrative Expenses
. Our general and administrative expenses
were $3.8 million for the nine months ended August 31, 2009 compared to
$1.4 million for the nine months ended August 31, 2008.
This increase is the result of increased
legal and professional fees offset in part by decreases in operating expenses,
resulting from managements successful cost cutting efforts.
See also the discussion above under Three Months Ended August 31, 2009,
Compared to Three Months Ended August 31, 2008 General and
Administrative Expenses.
Total Other Income
. Our
total other income for the nine months ended August 31, 2009 was $10,000,
compared to $331,000 for the same period in 2008. Virtually all of our other
income is interest earned on our cash balance, and the decrease is a result of
lower interest rates due to the current U.S. economic crisis and lower cash
balances.
Income taxes
. The Company recorded a tax expense of $17,000
for the nine months ended August 31, 2009 compared to a benefit of $5,000
for 2008, which includes the impact of continuing and discontinued operations.
Discontinued Operations
. We had no income from discontinued operations
for the nine months ended August 31, 2009 and $10,000, net of taxes, in
2008. As discussed in Note 2 to the Consolidated Financial Statements and
Item 2. Managements
25
Table of
Contents
Discussion
and Analysis of Financial Condition and Results of Operations Overview
,
we sold our operations in the U.S., Miami, Mexico and Chile
.
CLST
Asset I
For
the nine months ended August 31, 2009, collections for Trust I were $9.0
million, representing $5.0 million of principal payments and $4.0 million of
interest and payments and other charges.
As of August 31, 2009, the aggregate outstanding principal balance
of the notes receivables net of reserves was $33.9 million, which represents
82.7% of the original purchase price of $41.0 million. The ending balance consists of approximately
5,295 customer accounts, with an average outstanding principal balance per account
of approximately $6,787
and an average FICO score of 654. The average interest rate for these accounts
was 14.3%. Total assets of the Trust at August 31,
2009 net of reserves were $34.0 million, excluding certain accrued interest and
deferred cost.
Total
revenues for the period were approximately $4.1 million and primarily consisted
of interest income collected from the notes receivable. Operating expenses for the period were $3.8
million, which included $1.9 million provision for doubtful accounts, $1.4
million of interest expense to Fortress, our lender, and $0.5 million of
servicing expense to FCC.
As of August 31, 2009, the Trust owed $28.7
million to Fortress, representing 81.5% of the original loan amount.
CLST
Asset II
Year to date collections
for Trust II were $2.5 million representing $1.9 million of principal payments
and $0.6 million of interest and other charges.
Revenues for Trust II were $0.8 million for the year to date. Allowance for doubtful accounts was $20,000
for past due accounts greater than 120 days.
Interest expense under the credit facility was $184,000 and loan
servicing fees were $122,000 year to date.
For the year, Trust II
has purchased $9.6 million of customer receivables at purchase discounts
averaging 8.7%. The highest discount has
been 14.5% and the lowest has been 6.0%.
The purchases have been financed with borrowings under the credit
facility of $6.4 million, purchase discounts of $0.8 million and the balance
from Company cash. The average interest
rate to date is 14.7% and the calculated leveraged yield when the purchase
discount is taken into effect is greater than 19.0%.
CLST
Asset III
For the nine months ended
August 31, 2009, collections for CLST Asset III were $1.6 million,
representing $1.4 million of principal and $0.3 million of interest and other
fees. Total revenue for the year was
$244,000. We incurred $19,000 of
interest expense related to the sellers notes delivered as part of the purchase
price. Year to date past-due accounts
greater than 120 days of $170,000 have been applied to the sellers notes per
our agreement, reducing the principal owed under those notes.
Liquidity
and Capital Resources
As of August 31,
2009, we had cash and cash equivalents of approximately $5.7 million, down from
$9.8 million at November 30, 2008. Historically, we have invested our cash
and cash equivalents in either money market accounts or short term Certificate
of Deposits. All of our cash deposits
are in accounts that are federally insured. To date, we have financed our
acquisitions of our receivables portfolios with cash, non-recourse debt, and
the issuance of shares of our Common Stock, and we expect that any future
portfolio acquisition would be financed with cash on hand and cash from
operations, non-recourse debt and additional issuance of our Common Stock.
26
Table of
Contents
Operating Activities
. The net cash used in
operating activities for the nine months ended August 31, 2009 was $1.2
million compared to cash received of $4.4 million for the same period in 2008.
The primary reason for this decrease was the collection of $4.7 million of
accounts receivable from Brightpoint (the purchaser of our U.S. and Miami
operations) in 2008 and increased operating expenses in 2009 related to the
cost incurred in connection with the actions of Red Oak for the Federal Court
Action and State Court Action offset slightly by the income (net of expenses)
generated by our portfolios.
Our legal and professional expenses for the
nine months ended August 31, 2009 were $3.3 million. Those fees relate primarily to defending
against claims brought by the Red Oak Group against us and our directors in the
State Court Action. We also incurred
substantial professional fees in the third quarter relating to the Federal
Court Action and to our arbitration claims against Wireless Solutions for
monies we believe are due us from the Mexico Sale. We have made a claim under our directors and
officers liability insurance policy for reimbursement of amounts we are obligated
under our certificate of incorporation and bylaws to advance to our directors
for their defense costs in the State Court Action. Our carrier has agreed to reimburse us for
those expenses in excess of our $1 million self retention under the policy,
subject to certain reservations of rights.
We expect to exceed our self retention amount in the fourth quarter,
after which point the carrier should begin to reimburse us for amounts advanced
to Messrs. Durham, Kaiser and Tornek in connection with their defense
against claims brought by the Red Oak Group.
The Company has expended a significant amount of management time and
resources in connection with Federal Court Action and the State Court Action.
The Company has had settlement discussions with certain of the plaintiffs
regarding the Federal Court Action and the State Court Action. The
Company may have further settlement discussions in the future. No
assurance can be given that any settlement agreement could be reached if the
Company undertakes further discussions or if a settlement agreement is entered
into that the terms of any such settlement would not have a material adverse
effect on the Company, its financial position or its results of operations.
Investing Activities
.
The net cash provided by investing activities
for the nine months ended August 31, 2009 was $
4.0
million compared to cash used in 2008 of $
10,000
. The increase from 2008 to
2009 is primarily a result of the collection of portfolio principal of $
8.1
million during the nine
months ended August 31, 2009 offset in part by (i) cash of $
4.0
million used to fund the
acquisitions of
CLST
Asset II and
CLST
Asset III portfolios and (ii) $
155,000
million in acquisition costs
during the nine months ended August 31, 2009
.
Financing Activities
. The net cash used in financing activities for the
nine months ended August 31, 2009 was $6.8 million compared to zero for
the same period in 2008. The cash used
in financing activities in 2009 was used to reduce the outstanding debt
principal balance under both the Trust Credit Agreement and Trust II Credit
Agreement.
Liquidity Sources
.
CLST Asset I
.
Our acquisition of the Trust was financed by approximately $6.1 million
of cash on hand and by a non-recourse, term loan of approximately $34.9 million to the Trust by an affiliate of the
seller of the Trust, pursuant to the terms and conditions set forth in the
credit agreement, dated November 10, 2008, among the Trust, Fortress, as
the lender, FCC, as the initial servicer, Lyon Financial Services, Inc.
(d/b/a U.S. Bank Portfolio Services), as the backup servicer, and U.S. Bank
National Association, as the collateral custodian (the
Trust
Credit Agreement
). As provided in
the Trust Credit Agreement, Fair may become the servicer if and only if there
occurs an event of default by the then current servicer and only if Fair is not
then in default either as a borrower or as a servicer under any credit facility
to which Fortress or any of its affiliates is a party and no change of control
of Fair has occurred. The loan matures on November 10, 2013 and bears
interest at an annual rate of 5.0% over the LIBOR Rate (as defined in the Trust
Credit Agreement). The obligations under the Trust Credit Agreement are secured
by a first priority security interest in substantially all of the assets of the
Trust, including portfolio collections.
An
event of default occurs under the Trust Credit Agreement if the three-month
rolling average delinquent accounts rate exceeds 10.0% or the three-month
rolling average annualized default rate exceeds 7.0%. For the third quarter of
2009, these default rates were 6.36% and 6.99%, respectively.
As
of August 31, 2009, the outstanding balance of our term loan was $28.7
million, representing 82.2% of our original balance. We have retired approximately
$6.2 million of our obligation to Fortress, and we have paid $1.5 million in
interest expense, all from customer collections. Total liabilities of the Trust
as of August 31, 2009 were $28.7 million and deferred revenue of $0.6
million, representing the remaining purchase discount from the original
principal.
Under
the terms of the Trust Credit Agreement, the net cash proceeds in any
particular month are remitted to the Company on or about the 20
th
day of the following month.
27
Table of
Contents
CLST
Asset II
.
The
Trust II
has become a
co-borrower under a $50 million credit
agreement that permits Trust II to use more than $15 million of the aggregate
availability under the revolving facility to purchase receivables. The Trust II
Credit Agreement is effective as of December 10, 2008, and was entered
into among the Trust II, FCC, the originator, SSPE Investment Trust I and SSPE,
LLC, the co-borrowers (who are the sellers under the Trust II Purchase
Agreement), Fortress Credit Corp., the lender, FCC, the initial servicer, Lyons
Financial Services, Inc., the backup servicer, Eric J. Gangloff, the
guarantor, and U.S. Bank National Association, the collateral custodian.
The
non-recourse revolving facility was initially established by Summit, an
affiliate of the sellers under the
Trust II Purchase Agreement
.
The revolver matures on September 28,
2010. The revolver bears interest at an annual rate of 4.5% over the LIBOR Rate
(as defined in the
Trust II Credit Agreement
). The Trust II pays an additional fee to the
co-borrowers equal to an annual rate of 0.5% for loans attributable to the
Trust II equal to or below $10 million and an annual rate of 1.5% for loans
attributable to the Trust II in excess of $10 million. In addition, a
commitment fee is due to the lender equal to an annual rate of 0.25% of the
unused portion of the maximum committed amount. The obligations under the
Trust II Credit
Agreement
are secured
by a first priority security interest in substantially all of the assets of the
Trust II and the co-borrowers, including portfolio collections.
An event of default occurs under the Trust II Credit
Agreement if the three-month rolling average delinquent accounts rate exceeds
15.0% for Class A Receivables or 30.0% for Class B Receivables, or
the three-month rolling average annualized default rate exceeds 5.0% for Class A
Receivables or 12.0% for Class B Receivables. As of August 31, 2009,
there was a provision of $20,000 for customer accounts greater than 120 days
past due.
As of August 31,
2009, Trust II had an outstanding loan to Fortress Credit Corp. in the amount
of $5.3 million. Deferred revenue as of the end of the quarter was $0.7
million, representing the purchase discounts related to the purchased
receivables.
CLST Asset III
. The consideration paid by CLST Asset
III in return for assets acquired under the Fair Purchase Agreement, was
financed in part by the issuance of common stock and promissory notes to the
sellers. We issued
2,496,077 shares of our common stock at a
price of $0.36 per share. In addition,
we issued the sellers six promissory notes with an aggregate original stated
principal amount of $898,588 (the
Notes
), of
which two promissory notes in an aggregate original principal amount of
$708,868 were issued to Fair, two promissory notes in an aggregate original
principal amount of $162,720 were issued to Mr. Durham and two promissory
notes in an aggregate original principal amount of $27,000 were issued to Mr. Cochran.
The Notes are full-recourse with respect
to CLST Asset III and are unsecured. The three Notes relating to
Portfolio A (the
Portfolio A Notes
) are payable in 11 quarterly installments,
each consisting of equal principal payments, plus all interest accrued through
such payment date at a rate of 4.0% plus the LIBOR Rate (as defined in the
Portfolio A Notes). The three Notes relating to Portfolio B (the
Portfolio B Notes
) are payable in 21 quarterly
installments, each consisting of equal principal payments, plus all interest
accrued through such payment date at a rate of 4.0% plus the LIBOR Rate (as
defined in the Portfolio B Notes).
The
remaining obligation to the sellers, as of August 31, 2009, was $676,000
after interest was accrued and defaulted receivables were recorded.
Asset
Quality
. Our
delinquency rates reflect, among other factors, the credit risk of our
receivables, the average age of our receivables, the success of our collection
and recovery efforts, and general economic conditions. The average age of our receivables affects
the stability of delinquency and loss rates of the portfolio. The following
table presents, as of August 31, 2009, an aging of each of our three
portfolios:
|
|
CLST
Asset I
|
|
CLST
Asset II
|
|
CLST
Asset III
|
|
|
|
Principal
Balance
|
|
% of
Total
|
|
Principal
Balance
|
|
% of
Total
|
|
Principal
Balance
|
|
% of
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Receivables Aging
(Principal)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current 0-30 Days
|
|
$
|
31,683,282
|
|
94.7
|
%
|
$
|
7,616,190
|
|
108.3
|
%
|
$
|
1,961,055
|
|
93.3
|
%
|
31 - 60 Days
|
|
1,175,113
|
|
3.5
|
%
|
39,435
|
|
0.6
|
%
|
40,745
|
|
1.9
|
%
|
61 - 90 Days
|
|
642,203
|
|
1.9
|
%
|
18,957
|
|
0.3
|
%
|
73,741
|
|
3.5
|
%
|
91 + Days
|
|
356,116
|
|
1.1
|
%
|
|
|
0.0
|
%
|
42,518
|
|
2.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchase Discount
|
|
(583,714
|
)
|
-1.7
|
%
|
(665,312
|
)
|
-9.5
|
%
|
(65,759
|
)
|
-3.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred Acquisition Costs
|
|
183,057
|
|
0.5
|
%
|
26,203
|
|
0.4
|
%
|
48,492
|
|
2.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
33,456,057
|
|
100.0
|
%
|
$
|
7,035,473
|
|
100.0
|
%
|
$
|
2,100,792
|
|
100.0
|
%
|
An account is contractually delinquent if we do not
receive the monthly payment by the specified due date. After 120 days,
delinquent accounts are treated as defaults and a provision (reserve) is made
for the account balance. For the nine
months ended
28
August 31, 2009, the allowance for doubtful
accounts recorded for CLST Asset I, CLST Asset II and CLST Asset III is $2.0
million, $20,000 and $170,000, respectively. The allowance for CLST Asset I and CLST Asset
II is expensed in provision for doubtful accounts. The allowance for CLST Asset III is recorded
against the sellers notes.
Contractual Obligations
. Included in
accounts payable at August 31, 2009, is approximately $14.2 million
associated with liabilities which accrued in periods 2002 and earlier, and
which has been in dispute since 2001. The Company now believes that the statute
of limitations on this trade payable may have expired. The Company is reviewing
these liabilities, and considering appropriate steps to resolve them. In
addition, the Company has contacted the vendor in question several times during
the second quarter of 2009 regarding this matter with no results. The Company
expects that the liabilities may be resolved at less than the book value
thereof, but can not provide assurances as to the amount or timing of any
adjustments. In the event that the Company is able to settle the dispute with
no payment, the settlement would result in $14.2 million of income to the
Company for federal income tax purposes, and therefore the deferred income tax
asset will be realized. If the Company
is able to settle the dispute for any amount between $1 and $14.2 million, the
deferred tax asset will be adjusted accordingly.
New
Accounting Pronouncements
In December 2007, the FASB released Statement No. 141
R, Business Combinations (
SFAS 141R
),
which establishes principles for how the acquirer shall recognize acquired
assets, assumed liabilities and any non-controlling interest in the acquiree,
recognize and measure the acquired goodwill in the business combination, or
gain from a bargain purchase, and determines disclosures associated with
financial statements. This statement replaces SFAS 141 but retains the fundamental
requirements in SFAS 141 that the acquisition method of accounting (which SFAS
141called the purchase method) be used for all business combinations and for an
acquirer to be identified for each business combination. The requirements of
SFAS 141R apply to business combinations for which the acquisition date is on
or after the beginning of the first annual reporting period beginning on or
after December 15, 2008. Early application is not permitted.
In
February 2008, the FASB issued FASB Staff Position FSP 157-2,
Effective Date of FASB Statement No. 157
(FSP
157-2). FSP 157-2 delayed the effective date of SFAS 157 for all nonfinancial
assets and nonfinancial liabilities, except for items recognized or disclosed
at fair value in the financial statements on a recurring basis (at least
annually), until the beginning of the first quarter 2009. Application of SFAS
157 did not have a material impact on our results of operations and financial
position upon adoption on January 1, 2009.
In
April 2009, the Financial Accounting Standards Board (the FASB) issued
FASB Staff Position No. FAS 107-1 and APB 28-1,
Interim Disclosures about Fair Value of Financial
Instruments
(FSP FAS 107-1). FSP FAS 107-1 requires disclosures
about the fair value of financial instruments whenever a public company issues
financial information for interim reporting periods. FSP FAS 107-1 is effective
for interim reporting periods ending after June 15, 2009.
In May 2009, the FASB issued SFAS No. 165, Subsequent
Events (
SFAS 165
), which establishes general
standards of accounting for, and requires disclosure of, events that occur
after the balance sheet date but before financial statements are issued or are
available to be issued. The Company adopted the provisions of SFAS 165 as of August 31,
2009. The adoption of these provisions did not have a significant impact on the
Companys consolidated financial statements.
In
June 2009, the FASB issued SFAS 168,
The
FASB Accounting Standards Codification and the Hierarchy of Generally Accepted
Accounting Principles.
SFAS 168 identifies the FASB Accounting
Standards Codification as the authoritative source of
generally accepted accounting principles (GAAP) in the
United States. Rules and interpretive releases of the Securities and
Exchange Commission (SEC) under federal
securities laws are also sources of authoritative GAAP for SEC registrants.
SFAS 168 is
effective for
financial statements issued for interim and annual periods ending after September 15,
2009. We do not expect adoption to
have
a material impact on our consolidated financial statements.
From
time to time, new accounting pronouncements are issued by the FASB or other
standards setting bodies which we adopt as of the specified effective date.
Unless otherwise discussed, our management believes the impact of recently
issued standards which are not yet effective will not have a material impact on
our consolidated financial statements upon adoption.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
This
information has been omitted as our Company qualifies as a smaller reporting
company.
29
Table of Contents
Item 4T. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our Chief Executive Officer and Chief Financial Officer has evaluated
the effectiveness of the Companys disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e)) as of the end of the period
covered by this report. Based on this evaluation, our Chief Executive Officer
and Chief Financial Officer has concluded that the Companys disclosure
controls and procedures were effective at August 31, 2009.
Changes in Internal Control over Financial Reporting
There have been no
changes in our internal control over financial reporting during the three
months ended
August
31, 2009 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting. The significant deficiencies reported in our Annual Report on Form 10-K
for the fiscal year ended November 30, 2008, filed with the SEC on March 2,
2009, continue to exist. However, in an effort to remedy these deficiencies, we
hired a contract accountant to help with forecasting and accounting duties.
PART II
OTHER INFORMATION
Item 1. Legal Proceedings
On
February 13, 2009, we filed a lawsuit in the United States District Court
for the Northern District of Texas against Red Oak Fund, L.P., Red Oak
Partners, LLC, and David Sandberg (the
Federal Court Action
). Our Original Complaint and Application for
Injunctive Relief alleges that Red Oak Fund, L.P., Red Oak Partners, LLC, and
David Sandberg have engaged in numerous violations of federal securities laws
in making purchases of our common stock and sought to enjoin any future
unlawful purchases of our stock by them, their agents, and persons or entities
acting in concert with them. We believe the Red Oak Group violated federal securities
laws as follows:
(i)
violating Rule 14(e)-5
of the Exchange Act by not truly abandoning its tender offer and instead
directly or indirectly purchasing or arranging to purchase shares not in
connection with its tender offer and without complying with the procedural,
disclosure and anti-fraud requirements applicable to tender offers regulated
under Section 14 of the Exchange Act;
(ii)
violating
Exchange Act Rule 14d-5(f) by failing to return the Companys
stockholder list, which we provided to Red Oak upon its request, and by using
such list for a purpose other than in connection with the dissemination of
tender offer materials in connection with its tender offer;
(iii)
violating
Exchange Act Rule 14(d)-10 by purchasing shares pursuant to its tender
offer at varying prices rather than paying consideration for securities
tendered in the tender offer at the highest consideration paid to any
stockholder for securities tendered; and
(iv)
violating Section 13(d) of
the Exchange Act by not timely filing a Schedule 13D and disclosing the
information required therein.
According to a Schedule
13D filed by David Sandberg, Red Oak Partners, LLC and certain other reporting
persons on August 24, 2009, Red Oak Partners beneficially owns 4,561,554
shares of the Companys Common Stock representing approximately 19.05% of the
Companys outstanding Common Stock.
On
March 2, 2009, certain members of the Red Oak Group and Jeffrey S. Jones (
Jones
) filed a derivative lawsuit
against Robert A. Kaiser, Timothy S. Durham and David Tornek in the 134th
District Court of Dallas County, Texas (the
State
Court Action
). The petition alleges that Messrs. Kaiser,
Durham, and Tornek entered into self-dealing transactions at the expense of the
Company and its stockholders and violated their fiduciary duties of loyalty,
independence, due care, good faith, and fair dealing. The petition asks
the Court to order, among other things, a rescission of the alleged
self-interested transactions by Messrs. Kaiser, Durham, and Tornek; an
award of compensatory and punitive damages; the removal of Messrs. Kaiser,
Durham and Tornek from the Board; and that the Company hold an Annual Meeting
of stockholders, or that the Company appoint a conservator to oversee and
implement the dissolution plan approved by stockholders in 2007.
On
April 6, 2009, we filed our First Amended Complaint and Application for
Injunctive Relief in the Federal Court Action against defendants Red Oak Fund,
L.P., Red Oak Partners, LLC, David Sandberg, Pinnacle Partners, LLC, Pinnacle
Fund LLLP, and Bear Market Opportunity Fund, L.P. alleging the same and other
violations of federal securities laws, including:
30
Table of
Contents
(i)
filing a
materially false and misleading Schedule 13D and failing to amend the same
after delivering to the Company a Notice of Director Nominations and proposal
for business at the Annual Meeting;
(ii)
violating Section 14(d) of
the Exchange Act by engaging in fraudulent, deceptive and manipulative acts in
connection with its tender offer by failing to abide by Section 14(d)s
timing requirements and by failing to make required filings with the SEC; and
(iii)
that any attempt
to solicit proxies from our stockholders with respect to director nominations
or notice of business would be misleading in light of the defendants illegal
activities in accumulating Company stock.
Through
this lawsuit, we seek to obtain various declaratory judgments that the
defendants have failed to comply with federal securities laws and to enjoin the
defendants from, among other things, further violating federal securities laws
and from voting any and all shares or proxies acquired in violation of such
laws. Also on April 6, 2009,
because, among other reasons, we do not expect the litigation, which bears
directly upon our Annual Meeting of stockholders, to be resolved for some
months, our Board postponed the Annual Meeting of stockholders previously scheduled
for May 22, 2009 until September 25, 2009. On August 14, 2009,
our Board again postponed the Annual Meeting of stockholders from September 25,
2009 to October 27, 2009.
On
April 30, 2009, the Red Oak Group and Jones amended their petition in the
State Court Action. In addition to the
relief already requested, the petition seeks to compel the Company to hold its
2008 and 2009 annual stockholders meetings within sixty days; to enjoin Messrs. Kaiser,
Durham, and Tornek from any interference or hindrance of such meetings or the
election of directors; to enjoin Messrs. Kaiser, Durham, and Tornek from
voting any shares of stock acquired in the alleged self-interested
transactions; and to appoint a special master.
On June 3, 2009 and again on June 12, 2009, pursuant to court
order, Red Oak Partners, LLC, Pinnacle Fund, LLLP, Red Oak Fund, LP, and
Jeffrey S. Jones amended their petition in the State Court Action to, among
other things, remove Bear Market Opportunity Fund, L.P. as a plaintiff and add
Red Oak Fund, L.P. as a plaintiff.
Discovery is ongoing in both the Federal Court Action and State Court
Action.
On
May 5, 2009, the Red Oak Group and Jones filed a motion in the State Court
Action seeking to compel the Company to hold its 2008 and 2009 stockholders
meetings on June 30, 2009 and to appoint a special master and requested an
expedited hearing on both. Hearings were
held on May 8, 2009 and May 29, 2009, but no ruling was reached.
On July 24, 2009, we
filed our Brief in Support of Application for Preliminary Injunction in the
Federal Court Action. The Red Oak Group
filed its Opposition on August 7, 2009, and we filed our Reply Brief in
Support on August 14, 2009.
On August 25, 2009, the Court in the State Court
Action set an evidentiary hearing on the plaintiffs Application for Temporary
Injunction, which had yet to be filed, for October 7 and 8, 2009. The
plaintiffs request for injunctive relief concerns Messrs. Kaiser, Durham,
and Tornek voting any shares of stock acquired in the alleged self-interested
transactions. The plaintiffs Motion and Memorandum for Injunctive Relief was
filed on September 15, 2009; the defendants response was filed on September 29,
2009; and the plaintiffs reply was filed on October 2, 2009.
On
August 28, 2009, the parties to the State Court Action executed a
Stipulation Regarding the Companys Annual Meeting of Stockholders (
Stipulation
). The Court approved the Stipulation the same
day and entered an Order identical to the Stipulations terms. Pursuant to the Stipulation, absent a
determination by the Court of good cause shown, the Company must hold its
annual stockholders meeting for the election of one Class I director and
one Class II director and consideration of any properly submitted
proposals that are proper subjects for consideration at an annual meeting of a
Delaware corporation on October 27, 2009, with a record date for that
meeting of September 25, 2009. Good
cause for delaying the Annual Meeting beyond October 27, 2009 and
correspondingly amending the September 25, 2009 record date, includes
among other things, situations where reasonable delay is necessary: (1) for
the Board to avoid breaching any of their fiduciary duties to the Company or
the Companys stockholders; (2) to assure compliance with the Companys
certificate of incorporation and bylaws; (3) for the Company or the Board
to comply with state or federal law; or (4) to assure compliance with any
order of any court or regulatory authority having jurisdiction over the Company
or members of its Board.
We received a letter dated September 22, 2009
from the Red Oak Group seeking, pursuant to Section 220 of the Delaware
General Corporation Law, to inspect the books and records of the Company,
including among other things a stockholder list as of the record date. The
letter states that the purpose of such request is to enable the Red Oak Group
to solicit proxies to elect directors at the 2009 Annual Meeting and to
communicate with stockholders. Our counsel responded by letter dated September 30,
2009 that the Company was aware of its obligations under Section 220 of
the Delaware General Corporation Law but believed that the demand letter did
not comply with the inspection requirements under Section 220. We received
another letter dated September 29, 2009 from the Red Oak Group pursuant to
Section 220 of the Delaware General Corporation Law in which the Red Oak
Group requests to inspect the books and records of the Company pertaining to,
among other things, all analyses performed with respect to our net
31
Table of Contents
operating losses and a list of all business ventures
and dealings Messrs. Tornek and Durham have evaluated or commenced in the
past ten years and a list of all investments they currently share. Our counsel
responded by letter dated October 6, 2009 that (i) the commencement
of the Red Oak Groups derivative action bars it from using a Section 220
demand as a substitute for discovery permissible in litigation; (ii) the
stated purposes of the demand letter do not constitute proper purposes under Section 220;
and (iii) the scope of information requested in the demand letter is
overly broad and not limited to books and records that are essential and
sufficient to accomplish the Red Oak Groups stated purposes.
The evidentiary hearing for the State Court Action was
held October 7 and 8, 2009. On October 9,
2009, the Court denied the plaintiffs Application for Temporary Injunction. In
addition, the Court dismissed the derivative claims asserted by the plaintiffs
and granted the defendants Motion to Stay on all remaining non-derivative
claims the plaintiffs asserted against Messrs. Kaiser, Tornek and Durham.
On October 14, 2009, the
court denied the Companys application for preliminary injunction in the
Federal Court Action. The Federal Court Action remains pending.
The Company has expended a
significant amount of management time and resources in connection with Federal
Court Action and the State Court Action. The Company has had settlement
discussions with certain of the plaintiffs regarding the Federal Court Action
and the State Court Action. The Company may have further settlement
discussions in the future. No assurance can be given that any settlement
agreement could be reached if the Company undertakes further discussions or if
a settlement agreement is entered into that the terms of any such settlement
would not have a material adverse effect on the Company, its financial position
or its results of operations.
Item 1A. Risk Factors
For
other risk factors, please refer to Item 1A, Risk Factors, of our Annual Report
on Form 10-K for the fiscal year ended November 30, 2008, filed with
the SEC on March 2, 2009.
We
are party to securities and derivative litigation that distracts our
management, is expensive to conduct and seeks damage awards against us.
On
February 13, 2009, we filed a lawsuit, the Federal Court Action, against
the Red Oak Group alleging that the defendants have engaged in numerous
violations of federal securities laws in making purchases of our common stock
and sought to enjoin any future unlawful purchases of our stock by them, their
agents, and persons or entities acting in concert with them.
On March 2, 2009, certain of our
stockholders, including the Red Oak Group, have filed a derivative action, the
State Court Action, alleging that
Messrs. Kaiser, Durham,
and Tornek entered into self-dealing transactions at the expense of the Company
and its stockholders and violated their fiduciary duties of loyalty,
independence, due care, good faith, and fair dealing.
While we have directors and officers
liability insurance, it is uncertain whether the insurance will be sufficient
to cover all damages, if any, that we may be required to pay under the State
Court Action. In addition, both lawsuits have distracted the attention of our
management and are expensive to conduct. Our Board of Directors and management
have expended a substantial amount of time in connection with these matters,
diverting resources and attention that would otherwise have been directed
toward our portfolios of receivables, our plan of dissolution and other
important matters. We have incurred
substantial legal and other professional service costs in connection with these
lawsuits, approximately $2.1 million as of August 31, 2009. We expect to
continue to spend additional time and incur additional professional fees,
expenses and other costs with respect to the Federal Court Action and State
Court Action, all of which could have a material adverse effect on our
business, financial condition and results of operations.
We are subject to certain default provisions under our loan agreements
related to the acquisitions by CLST Asset I and CLST Asset II that may be
triggered by events over which we have no control; furthermore, the credit
facility that CLST Asset II currently has access to has been reduced and will
expire in September 2010.
CLST Asset I
The
loan obligations of the Trust under the Trust Credit Agreement are secured by a
first priority security interest in substantially all of the assets of the
Trust, including portfolio collections. The loan is a non-recourse term
loan. The Trust Credit Agreement
contains customary covenants and events of default for facilities of its type,
including among other things, limitations on the delinquent accounts rate and
default rates of the notes receivable accounts, as more fully described in
Footnote 4 of the notes to the consolidated financial statements. A copy of the Trust Credit Agreement was
filed as an Exhibit to the Companys Current Report on Form 8-K filed
November 17, 2008, as amended to date.
If
an event of default occurs under the Trust Credit Agreement, whether or not the
default is material to the loan as a whole, the lender has various remedies,
including among other things, raising the interest rate payable on the loan and
accelerating all of the Trusts obligations under the Trust Credit Agreement,
which would cause the entire remaining outstanding principal balance plus
accrued and unpaid interest and fees to be declared immediately due and
payable.
32
Table of
Contents
In
addition, the Company has no control over the delinquency or default rates of
the notes receivable accounts now held by the Trust.
An event of default occurs if the
three-month rolling average delinquent accounts rate exceeds 10.0% or the
three-month rolling average annualized default rate exceeds 7.0%. For the
second quarter of 2009, these default rates were 5.14% and 6.34%, respectively.
There can be no assurance that the delinquency or default rates of such
accounts will not result in an event of default for the Trust, which would
allow the lender to, among other things, raise the interest rate payable on the
loan, accelerate all of the Trusts obligations under the Trust Credit
Agreement, and sell all the assets of the Trust to satisfy the amounts due.
CLST
Asset II
Trust
II is a party to a non-recourse, revolving loan agreement between Trust II,
Summit,
SSPE and SSPE
Trust, as co-borrowers, Summit and Eric J. Gangloff, as Guarantors, Fortress
Corp., as the lender, and Summit Alternative Investments, LLC, as the initial
servicer
, pursuant to which Trust II purchased
$9.6 million of receivables with an aggregate purchase
discount of $0.8 million during the six months ended May 31, 2009
. In conjunction with this loan agreement, Trust
II borrowed $3.7 million to purchase the consumer receivables and became a
co-borrower under a $50 million revolving credit agreement (the
Trust II
Credit Agreement
) that permits Trust II to use more than
$15 million of the aggregate availability under the revolving facility. A copy
of the Trust II Credit Agreement was filed as an Exhibit to the Companys
Current Report on Form 8-K filed December 19, 2008, as amended to
date.
Advances
under the revolver are limited to an amount equal to, net of certain
concentration limitations set forth in the Trust II Credit Agreement, (a) the
lesser of (1) the product of 85% and the purchase price being paid for
eligible receivables with a credit score greater than or equal to 650 (
Class A Receivables
) or (2) the
product of 80% and the then-current aggregate balance of principal and accrued
and unpaid interest outstanding for Class A Receivables plus (b) the
lesser of (1) the product of 75% and the purchase price being paid for
eligible receivables with a credit score less than 650 (
Class B Receivables
) or (2) the
product of 50% and the then-current aggregate balance of principal and accrued
and unpaid interest outstanding for Class B Receivables.
During the second quarter of 2009 we were notified by
Summit that the credit facility we entered into with Trust II, Summit and
various other parties had been reduced. We believe our $15 million aggregate
availability under the revolving facility is not impacted. However, since the
credit facility term ends in 2010, there can be no assurance that it will be
renewed. During the third quarter of this fiscal year, we ceased all purchasing
of new receivables under the facility and are
no longer originating new
loans under the credit agreement.
As a result, FCC is no longer providing origination
services to the Company.
The origination services performed by FCC included
loan documentation, collateral documentation where applicable, credit
verification, and other required activities to secure loan approval per the
Companys standards. FCC was paid a
one-time fee of 2% of the original principal amount of loans originated for
performing these services. Once a loan
was approved, FCC would perform the monthly servicing activities, which would
include collections, reporting, lock box services, customer service, and other
related services. FCC was paid 1.5%, per annum, of the outstanding principal
balance for these services. As of August 31, 2009, Trust II had an
outstanding balance of approximately $5.3 million.
The
Trust II Credit Agreement contains customary covenants and events of default
for facilities of its type, including among other things, limitations on the
delinquent accounts rate and default rates of the consumer receivable accounts,
as more fully described in Footnote 4 of the notes to the consolidated
financial statements. If an event of
default occurs, whether or not the default is material to the loan as a whole,
the lender has various remedies, including among other things, raising the
interest rate payable on the loan and accelerating all of Trust IIs
obligations under the Trust II Credit Agreement, which would cause the entire
remaining outstanding principal balance plus accrued and unpaid interest and
fees to be declared immediately due and payable.
Furthermore,
the Company has no control over the delinquency or default rates of the
consumer receivable accounts that the Trust II acquires. An event of default occurs if the three-month
rolling average delinquent accounts rate exceeds 15.0% for Class A
Receivables or 30.0% for Class B Receivables, or the three-month rolling
average annualized default rate exceeds 5.0% for Class A Receivables or
12.0% for Class B Receivables. As of May 31, 2009, there were no
defaulted receivables. There can be no assurance that these delinquency or
default rates will not result in an event of default for Trust II, which would
allow the lender to, among other things, raise the interest rate payable on the
loan, accelerate all of Trust IIs obligations under the Trust II Credit Agreement,
and sell all the assets of Trust II to satisfy the amounts due.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
33
Table of
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Item 3. Defaults Upon Senior Securities
None.
Item 4. Submission of Matters to a Vote of Security Holders
We did
not submit any matters to a vote of security holders in the third quarter of
2009.
Item 5. Other Information
On
July 31, 2009 and October 9, 2009, the Company received comment
letters from the staff of the Division of Corporation Finance of the SEC. The
comments from the staff were issued with respect to its review of our Annual
Report on Form 10-K for the year ended November 30, 2008 and review
of our Quarterly Report on Form 10-Q for the quarterly period ended May 31,
2009. The Company responded to the first SEC comment letter on September 11,
2009 and provided proposed additional disclosures for these comments. The
Company has included its proposed additional disclosures in this Form 10-Q.
The Company is currently preparing its response for the second SEC comment
letter.
34
Table of Contents
Item 6. Exhibits
Exhibit
No.
|
|
Description
|
|
Previously filed as an Exhibit and
Incorporated by Reference From
|
3.1
|
|
Amended and Restated
Certificate of Incorporation of CellStar Corporation (the Certificate of
Incorporation).
|
|
Previously filed as an
exhibit to our companys Quarterly Report on Form 10-Q for the quarter
ended August 31, 1995, and incorporated herein by reference.
|
|
|
|
|
|
3.2
|
|
Certificate of
Amendment to Certificate of Incorporation.
|
|
Previously filed as an
exhibit to our companys Quarterly Report on Form 10-Q for the quarter
ended May 31, 1998, and incorporated herein by reference.
|
|
|
|
|
|
3.3
|
|
Certificate of
Amendment to Certificate of Incorporation dated as of February 20, 2002.
|
|
Previously filed as an
exhibit to our companys Annual Report Form on Form 10-K for the
fiscal year ended November 30, 2002 and incorporated herein by
reference.
|
|
|
|
|
|
3.4
|
|
Certificate of
Amendment to the Amended and Restated Certificate of Incorporation dated as
of March 30, 2007.
|
|
Previously filed as an
exhibit to our companys Quarterly Report on Form 10-Q for the quarter
ended May 31, 2007, and incorporated herein by reference.
|
|
|
|
|
|
3.5
|
|
Amended and Restated
Bylaws of CellStar Corporation, effective as of May 1, 2004.
|
|
Previously filed as an
exhibit to our Quarterly Report on Form 10-Q for the quarter ended
May 31, 2004, and incorporated herein by reference.
|
|
|
|
|
|
4.1
|
|
Rights
Agreement, dated as of February 13, 2009, by and between CLST
Holdings, Inc. and Mellon Investor Services LLC, as rights agent.
|
|
Previously filed as an
exhibit to a
Form 8-A filed with the Securities and
Exchange Commission on February 13, 2009
, and incorporated herein by reference.
|
|
|
|
|
|
4.2
|
|
Certificate
of Designation of Series B Junior Preferred Stock of CLST
Holdings, Inc., dated as of February 5, 2009.
|
|
Previously filed as an
exhibit to a
Current Report on Form 8-K filed with the
Securities and Exchange Commission on February 6, 2009
, and incorporated herein by reference.
|
|
|
|
|
|
10.1
|
|
CLST
Holdings, Inc. Amended and Restated 2008 Long Term Incentive Plan.
|
|
Previously filed as
Annex B to our Preliminary Proxy Statement on Schedule 14A filed with the
Securities and Exchange Commission on September 11, 2009, as amended,
and incorporated herein by reference.
|
|
|
|
|
|
31.1
|
|
Certification of the
Chief Executive Officer and Chief Financial Officer pursuant to
Rule 13a-14(a) promulgated under the Securities Exchange Act of
1934, as amended.
|
|
Filed herewith.
|
|
|
|
|
|
32.1
|
|
Certification of the
Chief Executive Officer pursuant to Rule 13a-14(b) promulgated
under the Securities Exchange Act of 1934, as amended, and 18 U.S.C.
Section 1350.
|
|
Filed herewith.
|
Management
contract, compensatory plan or arrangement.
35
Table of
Contents
Signatures
Pursuant to the
requirements of the Securities Exchange Act of 1934, as amended, the Registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
CLST HOLDINGS, INC.
By:
|
/s/
Robert
A. Kaiser
|
|
|
Robert A. Kaiser
|
|
|
Chief Executive
Officer, President,
|
|
|
Chief Financial
Officer, Treasurer
|
|
|
(Principal
Financial Officer)
|
|
October 14,
2009
36
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