UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______ to _______
COMMISSION FILE NUMBER 1-7949
REGENCY AFFILIATES, INC.
(Exact name of registrant as specified in its charter)
Delaware 72-0888772
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(State or other jurisdiction of (IRS Employer Identification Number)
Incorporation or organization)
610 N.E. Jensen Beach Blvd., Jensen Beach, Florida 34957
-------------------------------------------------- -----
(Address of principal executive offices) (Zip Code)
Registrant's Telephone Number, including Area Code (772) 334-8181
--------------
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 |X| No |_|
As of August 9, 2004 there were 3,019,412 shares of the $.01 Par Value Common
Stock outstanding.
Transitional Small Business Disclosure Form (check one): Yes |_| No |X|
Regency Affiliates, Inc. and Subsidiaries
Index to the Financial Statements
Page
Part I - Financial Information (Unaudited)
Item 1. Financial Statements
Condensed Consolidated Balance Sheet..........................3
Condensed Consolidated Statements of Operations...............4
Condensed Consolidated Statements of Cash Flows...............5
Notes to Condensed Consolidated Financial Statements..........6-8
Item 2. Management's Discussion and Analysis or Plan of Operation.....9-14
Item 3. Controls and Procedures.......................................14
Part II - Other Information (Unaudited)
Item 1. Legal Proceedings.............................................15-16
Item 2. Changes in Securities and Small Business Issuer Purchases
of Equity Securities..........................................16
Item 3. Defaults Upon Senior Securities...............................16
Item 4. Submission of Matters to a Vote of Security Holders...........17
Item 5. Other Information.............................................17
Item 6. Exhibits and Reports on Form 8-K..............................17-19
Signatures......................................................................20
Regency Affiliates, Inc. and Subsidiaries
Condensed Consolidated Balance Sheet
June 30, 2004
Assets
Current Assets
Cash and cash equivalents $ 1,594,584
Marketable securities 8,997,870
Accrued receivables 289,659
Other current assets 96
------------
Total Current Assets 10,882,209
Property and equipment, net 4,228
Investment in partnerships 8,124,553
Other Assets
Aggregate inventory 832,413
Deferred costs 250,000
Other 1,300
------------
Total Other Assets 1,083,713
------------
Total Assets $ 20,094,703
============
Liabilities and Shareholders' Equity
Current Liabilities
Accounts payable $ 156,666
Accrued expenses 318,858
------------
Total Current Liabilities 475,524
Deferred credit 1,164,530
------------
Total Liabilities 1,640,054
------------
Commitments and contingencies
Shareholders' Equity
Serial preferred stock not subject to mandatory redemption
(Maximum liquidation preference $24,975,312) 1,052,988
Common stock, par value $.01; authorized 8,000,000 shares;
issued 4,179,145 shares; outstanding 3,018,912 shares 37,739
Additional paid-in capital 8,183,664
Readjustment resulting from quasi-reorganization at December 31, 1987 (1,670,596)
Retained earnings 13,309,097
Note receivable - sale of stock (2,440,000)
Treasury stock, 1,160,233 shares (18,243)
------------
Total Shareholders' Equity 18,454,649
------------
Total Liabilities and Shareholders' Equity $ 20,094,703
============
3
Regency Affiliates, Inc. and Subsidiaries
Condensed Consolidated Statements of Operations
Three Months Ended June 30, Six Months Ended June 30,
----------------------------- -----------------------------
2004 2003 2004 2003
----------- ----------- ----------- -----------
Net Sales $ -- $ -- $ -- $ --
Costs and expenses
Costs of goods sold -- -- -- --
Selling, general and administrative expenses 790,377 1,189,235 2,650,521 1,536,148
----------- ----------- ----------- -----------
790,377 1,189,235 2,650,521 1,536,148
----------- ----------- ----------- -----------
Loss from operations (790,377) (1,189,235) (2,650,521) (1,536,148)
Income from equity investment in partnerships 463,191 1,439,961 862,657 3,010,516
Rental income -- 24,096 4,599 47,992
Interest and dividend income 29,861 43,879 70,718 85,091
Other income, net 21,836 -- 57,784 1,492
Interest expense -- (326,971) -- (712,715)
----------- ----------- ----------- -----------
Income from operations before income tax provision (275,489) (8,270) (1,654,763) 896,228
Provision for income taxes -- 68,824 -- 68,824
----------- ----------- ----------- -----------
Net Income (Loss) (275,489) (77,094) (1,654,763) 827,404
=========== =========== =========== ===========
Net income (loss) per common share:
Basic $ (0.09) $ (0.04) $ (0.55) $ 0.41
=========== =========== =========== ===========
Diluted $ (0.09) $ (0.02) $ (0.55) $ 0.26
=========== =========== =========== ===========
Weighted average number of common shares outstanding
Basic 3,018,912 1,995,771 3,018,662 1,995,771
=========== =========== =========== ===========
Diluted 3,018,912 3,144,520 3,018,662 3,130,827
=========== =========== =========== ===========
4
Regency Affiliates, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
Six Months Ended June 30,
-------------------------------
2004 2003
------------ ------------
Cash Flows from operating activities
Net income (loss) $ (1,654,763) $ 827,404
Adjustments to reconcile net income (loss) to net cash
used in operating activities
Depreciation and amortization 2,329 238,877
Stock-based compensation 3,125 --
Income from equity investment in LLC/partnerships (862,657) (3,010,516)
Impairment of notes, accrued interest receivable 1,182,626 --
Distribution of earnings from partnership -- 41,119,881
Interest accretion on long-term debt -- 474,674
Unrealized gain on marketable securities (57,084) --
Changes in operating assets and liabilities
Restricted cash 80,783 --
Accounts receivable 3,077 225
Loan receivable -- 250,000
Accrued receivables -- (12,999)
Income taxes receivable -- 11,149
Accrued interest receivable - related party (45,253) (81,774)
Other current assets 64,212 6,309
Accounts payable (444,284) 11,881
Accrued expenses 212,935 (150,345)
------------ ------------
Net cash provided by (used in) operating activities (1,514,954) 39,684,766
------------ ------------
Cash flows from investing activities
Cash investments in MESC Capital, LLC (7,300,145) --
Payments received on notes receivable 1,563 --
Proceeds from sales of marketable securities 94,500,000 --
Purchases of marketable securities (84,945,761) --
Net proceeds from sale of property and equipment 402,632 --
------------ ------------
Net cash provided by investing activities 2,658,289 --
------------ ------------
Cash flows from financing activities
Net long-term payments -- (14,564,851)
Net short-term payments -- (1,174,034)
------------ ------------
Net cash used in financing activities $ -- $(15,738,885)
============ ============
Increase in cash and cash equivalents $ 1,143,335 $ 23,945,881
Cash and cash equivalents - beginning 451,249 101,041
------------ ------------
Cash and cash equivalents - ending $ 1,594,584 $ 24,046,922
============ ============
Six Months Ended June 30,
-------------------------------
2004 2003
------------ ------------
Supplemental disclosures of cash flow information:
Cash paid during the year for
Interest $ -- $ 4,300,013
Income taxes -- 251,502
5
Regency Affiliates, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
Note 1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions to
Item 310 of Regulation S-B. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the three and six month periods ended June 30, 2004 are not
necessarily indicative of the results that may be expected for the year
ended December 31, 2004. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's annual report on Form 10-KSB for the year ended December 31,
2003.
Principles of Consolidation - The consolidated financial statements
include the accounts of Regency Affiliates, Inc. (the "Company"), its
wholly owned subsidiaries, Regency Power Corporation ("Regency Power") and
Rustic Crafts International, Inc. ("Rustic Crafts") (through September 20,
2002 the date that Rustic Crafts' operating assets were disposed of), its
75% owned subsidiary, Iron Mountain Resources, Inc. ("IMR"), and its 80%
owned subsidiary, National Resource Development Corporation ("NRDC"). All
significant intercompany balances and transactions have been eliminated in
consolidation.
Note 2. Earnings Per Share
Basic earnings per share are computed by dividing net income attributable
to common shareholders (net income less preferred stock dividend
requirements and periodic accretion if applicable) by the weighted average
number of common shares outstanding during the year. Diluted per share
computations assume conversion of convertible debt and stock options
outstanding that are "in the money".
Note 3. Property and Equipment
On January 12, 2004, the Company sold its rental property located in
Scranton, PA for $531,500, less costs to sell of approximately $48,000. No
gain or loss was recognized on the transaction as the property was written
down to fair value at December 31, 2003. Property and equipment at June
30, 2004 was as follows:
Machinery and equipment $ 43,708
Less: Accumulated depreciation (39,480)
--------
$ 4,228
========
Depreciation expense for the three months ended June 30, 2004 and 2003 was
$1,164 and $158,820, respectively. Depreciation expense for the six months
ended June 30, 2004 and 2003 was $2,329 and $238,877, respectively.
Note 4. Notes Receivable
At March 31, 2004, the Company held notes receivable totaling $1,127,708,
which were deemed uncollectible due to lack of cash flows generated and
continual default on payment terms by the issuer. Management determined to
record full impairment of the notes and any accrued interest thereon,
resulting in an impairment charge of $1,182,626, which is included in the
Selling, General & Administrative caption of the accompanying Condensed
Consolidated Statements of Operations for the six months ended June 30,
2004.
6
Regency Affiliates, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
Note 5. Litigation
On January 20, 2004, a purported derivative and class action lawsuit was filed
by two individual shareholders of the Company in the New Castle County Court of
Chancery, Delaware, naming as defendants certain current and former directors of
the Company, Royalty Holdings LLC and certain of its affiliates, Statesman
Group, Inc. and, nominally, the Company. The complaint alleges, among other
things, breaches of fiduciary duties by the former director defendants and
Statesman Group, Inc. in connection with (i) the exercise by Statesman Group,
Inc. in 2001 of an option to acquire shares of common stock of the Company, (ii)
the 2001 sale of rock aggregate by the Company to Iron Mountain Resources, Inc.
and (iii) the October 2002 recapitalization of the Company. The complaint also
alleges breaches of fiduciary duties by the current director defendants in
connection with the payment by the Company in 2003 of accrued compensation owed
to William R. Ponsoldt, Sr. for periods prior to the October 2002
recapitalization of the Company. The complaint also alleges that Royalty
Holdings LLC and its affiliates knowingly participated in the breaches of
fiduciary duties by the former director defendants relating to the October 2002
recapitalization of the Company.
In addition to other damages, plaintiffs seek unspecified compensatory and/or
rescissory damages against all defendants, a declaration that all Company stock
issued to Statesman Group, Inc., William R. Ponsoldt, Sr., Royalty Holdings LLC
and any person affiliated with the foregoing is void, an order rescinding any
payments in any form made by the Company to William R. Ponsoldt, Sr. or any of
his affiliates or family members, an order rescinding the October 2002
recapitalization of the Company, and an order rescinding Statesman Group, Inc.'s
2001 option exercise and rescinding the option itself. The Company, as a nominal
defendant, has not taken any position with respect to the merits of the lawsuit.
However, the Company understands that the other defendants in the lawsuit
believe that the claims raised by the plaintiffs are without merit, and that
such defendants intend to defend the claims vigorously.
The defendants in the lawsuit other than Statesman Group, Inc. are entitled to
be indemnified by the Company for damages, if any, and expenses, including legal
fees, they may incur as a result of the lawsuit, subject to certain
circumstances under which such indemnification is not available. In addition,
other than with respect to the claims against the current director defendants in
their capacities as such, the claims contained in the lawsuit are not covered by
insurance, as the Company's carrier has declined coverage on the basis of the
"insured vs. insured" exclusion since one of the named plaintiffs, Donald D.
Graham, was previously a director of the Company. The Company had submitted a
claim to its carrier with respect to the claims in the lawsuit against the
current director defendants and the insurance carrier has denied the Company's
claim.
On May 10, 2004, Gary Nuttall, a former President of the Company, commenced an
arbitration against the Company with respect to certain claims allegedly arising
under his 1995 Employment Agreement with the Company. He is seeking severance
and all other compensation and benefits due him under the 1995 Employment
Agreement in an amount in excess of approximately $1,650,000 ($1,400,000 of
which is a financing bonus), 466,667 unrestricted shares of the Company
(pre-split), options to purchase additional stock of the Company, punitive
damages, interest, fees and costs associated with the arbitration. The Company
believes the claims are without merit and intends to defend them vigorously.
Note 6. Commitments and Contingencies
Pursuant to the Regency Power's acquisition of a 50% membership interest in MESC
Capital, LLC (see Note 7), the Company contracted with an unaffiliated
investment consulting firm to provide advisory services in connection with
negotiation of the acquisition. Under the contract, the Company incurred success
fees of $350,000, of which $150,000 was paid during the three months ended June
30, 2004. The balance of these fees of $200,000 are due and payable on March 31,
2005, provided, however, that such $200,000 installment shall no longer be due
and payable if, on or prior to March 31, 2005, the Energy Services Agreement
between Mobile Energy Services Company, LLC and Kimberly-Clark shall have been
terminated for any reason. In accordance with Statement of Financial Accounting
Standards No. 5, the amount of the gain, if any, that may be ultimately realized
from reversal of this provision has not been reflected in the accompanying
financial statements.
7
Regency Affiliates, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
Note 7. Investment in LLC
On April 30, 2004, the Company, through a newly-formed, wholly-owned subsidiary
called Regency Power Corporation, a Delaware corporation, acquired a 50%
membership interest in MESC Capital, LLC, a Delaware limited liability company
("MESC Capital"), from DTE Mobile, LLC ("DTE Mobile"), pursuant to an Assignment
and Assumption Agreement dated as of April 30, 2004. The purchase price for the
50% membership interest was $3,000,000 and was funded from Regency's working
capital. The terms of the Assignment and Assumption Agreement were negotiated on
an arms'-length basis between Regency and DTE Mobile. DTE Mobile, which is owned
by an unregulated subsidiary of a large energy company that has significant
experience in owning, managing and operating electric generation and on-site
energy facilities, owns the other 50% membership interest in MESC Capital.
MESC Capital was formed to acquire all of the membership interests in Mobile
Energy Services Company, LLC ("Mobile Energy"), an Alabama limited liability
company. Mobile Energy owns an on-site energy facility that supplies steam and
electricity to a Kimberly-Clark tissue mill in Mobile, Alabama. The acquisition
of Mobile Energy was also consummated on April 30, 2004 pursuant to a Membership
Interest Purchase Agreement, dated as of January 30, 2004, between MESC Capital
and Mobile Energy Services Holdings, Inc. The purchase price under the
Membership Interest Purchase Agreement, after certain pre-closing adjustments,
was $33,600,000, and is subject to certain post-closing adjustments. The
purchase price and working capital reserves were funded by the issuance of
$28,500,000 of non-recourse debt, a total equity contribution by MESC Capital of
$8,600,290, $4,300,145 of which was funded by Regency Power and $4,300,145 of
which was funded by DTE Mobile, and a credit of $1,000,000 on account of
existing and continuing tax-exempt indebtedness of Mobile Energy. The terms of
the Membership Interest Purchase Agreement were negotiated on an arms'-length
basis between MESC Capital and Mobile Energy Services Holdings, Inc. The Company
did not participate in negotiations with respect to the Membership Interest
Purchase Agreement.
The $28,500,000 acquisition indebtedness was obtained from Allied Irish Banks,
P.L.C., which may assign or participate the loan in accordance with the terms of
the loan agreement. The loan will be amortized over the fifteen year term. In
connection with the acquisition of the 50% membership interest in MESC Capital,
Regency Power and DTE Mobile entered into an Operating Agreement, dated April
30, 2004, which sets forth their respective rights and obligations as members of
MESC Capital as well as the duties and authority of DTE Mobile as the managing
member of MESC Capital. Under the Operating Agreement, Regency Power will
receive 50% of all distributions. Neither Regency Power nor DTE Mobile is
obligated to contribute additional capital, or loan or otherwise advance funds,
to MESC Capital, and neither member can sell or transfer its interest in MESC
Capital without the consent of the other and without first complying with a
right of first offer in favor of the non-selling member.
Pursuant to APB No. 18, the Company is accounting for this investment under the
equity method of accounting. The accompanying statements of operations include
the equity income from operations of MESC Capital for the period from April 30,
2004 (date of acquisition) through June 30, 2004.
The following summarized income statement information is presented for MESC
Capital for the period from April 30, 2004 (date of acquisition) and its
predecessor, Mobile Energy Services Holdings, Inc. ("MESH"), for the period from
January 1, 2004 to April 29, 2004:
Three Months Ended Six Months Ended
June 30, 2004 June 30, 2004
------------------ ----------------
Sales $2,806,547 $9,672,994
Gross profit $2,179,262 $4,258,726
Income from continuing operations $ 375,420 $ 63,814
Net Income $ 375,420 $ 63,814
8
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Forward-Looking Statements and Associated Risk
Certain statements contained in this Quarterly Report on Form
10-QSB, including, but not limited to those regarding the Company's
financial position, business strategy, acquisition strategy and
other plans and objectives for future operations and any other
statements that are not historical facts constitute "forward-looking
statements" within the meaning of federal securities laws and the
Private Securities Litigation Reform Act of 1995. Such
forward-looking statements involve known and unknown risks,
uncertainties and other important factors that could cause the
actual results, performance or achievements expressed or implied by
such forward-looking statements to differ materially from any future
results, performance or achievements expressed or implied by such
forward-looking statements. Although the Company believes that the
expectations reflected in these forward-looking statements are
reasonable, there can be no assurance that the actual results or
developments anticipated by the Company will be realized or, even if
substantially realized, that they will have the expected effect on
its business or operations. These forward-looking statements are
made based on management's expectations and beliefs concerning
future events impacting the Company and are subject to uncertainties
and factors (including, but not limited to, those specified below)
which are difficult to predict and, in many instances, are beyond
the control of the Company. Such factors include:
- A default in the lease or sudden catastrophe to the property
owned by Security Land and Development Company Limited Partnership
("Security") or the operating facilities owned by Mobile Energy
Services Company, LLC ("Mobile Energy") from uninsured acts of God
or war could have a materially adverse impact upon our investment in
Security or Mobile Energy, respectively, and therefore our financial
position and results of operations;
- Our subsidiaries currently lack the necessary infrastructure
at the site of the Groveland mine in order to permit them to make
more than casual sales of the Aggregate;
- We have had significant tax loss and credit carryforwards
and no assurance can be provided that the Internal Revenue Service
would not attempt to limit or disallow altogether our use,
retroactively and/or prospectively, of such carryforwards, due to
ownership changes or any other reason. The disallowance of the
utilization or our net operating loss would severely impact or
financial position and results of operations due to the significant
amounts of taxable income that has been, and may in the future be,
offset by our net operating loss carryforwards;
- Royalty, an affiliate of the Company's management,
beneficially owns approximately 60% of our common stock. As a
result, Royalty has the ability to control the outcome of all
matters requiring shareholder approval, including the election and
removal of directors and any merger, consolidation or sale of all or
substantially all of our assets; and
- Regency does not expect to pay dividends in the foreseeable
future.
The following discussion and analysis of the financial condition and
results of operations of Regency should be read in conjunction with
the accompanying financial statements and related notes included in
Item 1 of this report.
9
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. (continued)
General.
The Company is committed to enhancing the value of the Company's
Common Stock by seeking opportunities to monetize certain existing
assets and by seeking new business opportunities on an opportunistic
basis.
Liquidity and Capital Resources.
On June 30, 2004, Regency had current assets of $10,882,209 and
Shareholders' Equity of $18,454,649. On June 30, 2004, Regency had
$10,592,454 in cash and marketable securities, total assets of
$20,094,703 and total current liabilities of $475,524.
On April 30, 2004, the Company through a newly-formed, wholly-owned
subsidiary called Regency Power Corporation, a Delaware corporation,
acquired a 50% membership interest in MESC Capital, LLC, a Delaware
limited liability company ("MESC Capital"), from DTE Mobile, LLC
("DTE Mobile"), pursuant to an Assignment and Assumption Agreement
dated as of April 30, 2004. The purchase price for the 50%
membership interest was $3,000,000 and was funded from Regency's
working capital. DTE Mobile, which is owned by an unregulated
subsidiary of a large energy company that has significant experience
in owning, managing and operating electric generation and on-site
energy facilities, owns the other 50% membership interest in MESC
Capital.
MESC Capital was formed to acquire all of the membership interests
in Mobile Energy Services Company, LLC, an Alabama limited liability
company. Mobile Energy owns an on-site energy facility that supplies
steam and electricity to a Kimberly-Clark tissue mill in Mobile,
Alabama. The acquisition of Mobile Energy was also consummated on
April 30, 2004 pursuant to a Membership Interest Purchase Agreement,
dated as of January 30, 2004, between MESC Capital and Mobile Energy
Services Holdings, Inc. The purchase price under the Membership
Interest Purchase Agreement, after certain pre-closing adjustments,
was $33,600,000, and is subject to certain post-closing adjustments.
The purchase price and working capital reserves were funded by the
issuance of $28,500,000 of non-recourse debt, a total equity
contribution by MESC Capital of $8,600,290, $4,300,145 of which was
funded by Regency Power and $4,300,145 of which was funded by DTE
Mobile, and a credit of $1,000,000 on account of existing and
continuing tax-exempt indebtedness of Mobile Energy. The $28,500,000
acquisition indebtedness will be fully amortized over the fifteen
year term. Neither Regency Power nor DTE Mobile is obligated to
contribute additional capital, or loan or otherwise advance funds,
to MESC Capital.
10
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. (continued)
At March 31, 2004, the Company held notes receivable totaling
$1,127,708, which were deemed uncollectible due to lack of cash
flows generated and continual default on payment terms by the
issuer. Management determined to record full impairment of the notes
and any accrued interest thereon, resulting in an impairment charge
of $1,182,626, which is included in the Selling, General &
Administrative caption of the accompanying Statements of Operations.
Management intends however, to continue to pursue options available
to receive payment on the obligations from debtor.
On June 24, 2003, US SSA LLC, a single purpose entity owned by
Security, borrowed $98,500,000 through a public debt issue
underwritten by CTL Capital, LLC. Proceeds of the refinancing were
used to repay the outstanding balance of Security's 1994
indebtedness, to establish reserves to make capital improvements to
the property, to provide reserves required by the new debt, to pay
costs and expenses related to issuing the debt, to pay fees related
to the lease extension with the GSA and the financing, and to make a
distribution to the partners of Security. The debt is for a term of
15.3 years maturing October 31, 2018 at which time the loan will
have been paid down to a balance of $10,000,000.
11
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. (continued)
Security also successfully obtained residual value insurance for
approximately $10,000,000. The interest cost of the financing is
4.63%. The financing is non-recourse to the Company. The Company
received approximately $41,000,000 from the Security distribution.
In addition, under the terms of the Security partnership agreement,
the Company is entitled to (i) 95% of Security's distributions of
cash flow until it has received $2,000,000 of such distributions,
and thereafter 50% of such distributions and (ii) once it has
received $2,000,000 of cash flow distributions, a $180,000 annual
management fee from Security. The foregoing percentages are
inclusive of the Company's interest as a limited partner in 1500
Woodlawn, the general partner of Security. In connection with the
Security refinancing and distribution, the Company was required to
repay its KBC Bank loan. The payoff amount was approximately
$14,125,000, which included a release fee and make-whole premium.
In order to satisfy the Company's working capital needs, in April
2003 the Company obtained a loan facility from Royalty Holdings LLC
("Royalty"), an affiliate of Messrs. Levy and Hasson, pursuant to
which the Company could have borrowed up to an aggregate of $300,000
from Royalty. Amounts borrowed were evidenced by a demand note
bearing interest of 8% per annum. On July 3, 2003, the Company
repaid all amounts outstanding under the $300,000 working capital
loan facility from Royalty, and terminated the facility. The payment
amount consisted of $180,000 of principal and $2,910 of accrued and
unpaid interest.
On October 16, 2002, the Company redeemed all the shares of Common
Stock owned by Statesman Group, Inc. ("Statesman"), a former
shareholder of the Company. The Company funded the redemption from
the proceeds of an aggregate of $4,750,000 borrowed from Royalty, an
affiliate of current management, in exchange for two notes - a
$3,500,000 5% Convertible Promissory Note due October 16, 2012 and a
$1,250,000 9% Promissory Note due October 16, 2007. Both notes
allowed interest to accrue without current payment. The principal
and interest under the Convertible Promissory Note could be
converted into Common Stock at a conversion rate of $2.00 per
shares.
On November 7, 2002, Royalty converted $1,495,902 of the principal
amount of the Convertible Note plus accrued interest into 750,000
shares of Common Stock and on July 3, 2003, Royalty converted the
remaining $2,004,098 outstanding principal amount of the Convertible
Note and the $71,378 of accrued and unpaid interest thereon into
1,037,738 shares of the Company's Common Stock. The 9% Promissory
Note was required to be prepaid upon our receipt of sufficient
proceeds from the Company's investment in Security after discharging
certain other indebtedness. Accordingly, on July 3, 2003, the
Company repaid the full $1,250,000 principal amount of, and all
accrued and unpaid interest under, the 9% Promissory Note.
On September 30, 2002, our subsidiary, Rustic Crafts International,
Inc. ("Rustic Crafts") sold all of its operating assets subject to
the assumption of certain of its liabilities. Prior to the sale,
Rustic Crafts had established a $1,000,000 line of credit with PNC
Bank which was guaranteed by the Company and expired on May 18,
2002. In conjunction with the Rustic Crafts asset sale, Rustic
Crafts' indebtedness under the line of credit together with its
$960,000 mortgage loan from PNC Bank and certain other indebtedness
to PNC Bank was restructured to replace such indebtedness with five
notes totaling $2,432,782 and have a ten year amortization schedule.
The notes bear interest at the blended rate of 10.8% per annum. As
part of the PNC Bank debt restructuring, Rustic Crafts was
12
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. (continued)
required to pay down the outstanding loan balance with $200,000 of
the purchase price in the Rustic Crafts asset sale, and was required
to make a $540,000 payment in December 2002. A $40,000 payment was
made to PNC Bank in December 2002, but Rustic Crafts and Regency
failed to make the balance of the December 2002 payment.
Accordingly, the PNC Bank debt was subsequently modified to provide
for the payment of the remaining $500,000 payment on or before June
30, 2003. On June 30, 2003, the Company paid all outstanding
principal and interest due to PNC Bank, in satisfaction of the above
described obligations.
Management believes that the Company's cash balance and anticipated
cash flows from operations will be adequate to fund our cash
requirements for at least the next twelve months.
Results of Operations.
2004 Compared to 2003
For the three months ended June 30, 2004:
No revenue was generated by the Company in this period.
Selling and administrative expenses decreased by $398,858 or 33.5%
in 2004 compared to 2003 primarily due to cost of settlement of the
KBC debt incurred in the second quarter of 2003.
Income from equity investment in Security decreased by $976,770,
67.8% less than 2003 due to an increase in interest expense relating
to increased debt financing of Security, partially offset by equity
income from MESC Capital.
Interest expense decreased by $326,971 or 100% in 2004 over 2003 as
a result of elimination of long term loan balances.
Net Loss increased by $198,395 in 2004 over 2003 or 257.3%. The
increase was primarily due to the income from equity investment
offset by decreased interest expense and selling and administrative
expenses.
The Company's Shareholders' Equity at June 30, 2004 was $18,454,649
as compared to $21,216,695 on June 30, 2003, a decrease of
$2,762,046.
For the six months ended June 30, 2004:
No revenue was generated by the Company in this period.
13
Regency Affiliates, Inc. and Subsidiaries
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION. (continued)
Selling and administrative expenses increased by $1,114,373 or 72.5%
in 2004 compared to 2003 due primarily to the full impairment of the
Rustic Craft notes and any accrued interest thereon, resulting in an
impairment charge of $1,182,626 as well as increased professional
fees relating to continuing litigation defense, offset by the cost
of settlement of the KBC debt incurred in the second quarter of
2003.
Income from equity investment in Security decreased by $2,147,859 or
71.3% less than 2003 due to an increase in interest expense relating
to increased debt financing of Security, partially offset by equity
income from MESC Capital.
Interest expense decreased by $712,715 or 100% in 2004 over 2003 as
a result of elimination of long term loan balances.
Net income decreased by $2,482,167 in 2004 over 2003 or 300.0%. The
decrease was primarily due to the increased selling and
administrative expenses and the impairment of the Rustic Craft notes
(described above) as well as decreased income from equity
investment, offset by decreased interest expense.
The Company's Shareholders' Equity at June 30, 2004 was $18,454,649
as compared to $21,216,695 on June 30, 2003, a decrease of $
2,762,046.
Impact of Inflation.
Although the Company has not attempted to calculate the effect of
inflation, management does not believe inflation has had a material
effect on its results of operations.
ITEM 3. CONTROLS AND PROCEDURES
The Company's management, with the participation of the Company's
Chief Executive Officer and Chief Financial Officer, has evaluated
the effectiveness of the Company's disclosure controls and
procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e)
under the Securities Exchange Act of 1934, as amended) as of the end
of the period covered by this report. Based on such evaluation, the
Company's Chief Executive Officer and Chief Financial Officer have
concluded that, as of the end of such period, the Company's
disclosure controls and procedures are effective.
In connection with the evaluation of the Company's internal controls
during the Company's last fiscal quarter, the Company's Chief
Executive Officer and Chief Financial Officer have determined that
there are no changes to the Company's internal controls over
financial reporting that has materially affected, or is reasonably
likely to materially effect, the Company's internal controls over
financial reporting.
14
Regency Affiliates, Inc. and Subsidiaries
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On December 14, 2001, we initiated a proceeding in The Circuit Court
of the Nineteenth Judicial Circuit in and for Martin County,
Florida, case number 01-1087-CA against Larry J. Horbach,
individually and L.J. Horbach & Associates. Larry Horbach was a
former interim CFO and Board member. We claim that Larry Horbach,
without appropriate authority, borrowed $100,050 from Mid City Bank
in the name of Regency. We further claim that Horbach converted all
or part of the proceeds from the loan for his benefit and breached
his fiduciary duties as an officer and director. Horbach filed a
Motion for the Court to determine whether the claims asserted
against him were properly brought in Florida, or whether they should
have been filed in Nebraska. The matter was fully briefed, and the
Florida Court took the matter under advisement. The Florida Court
has not yet rendered its decision on this jurisdictional issue.
On February 7, 2002, a complaint naming Regency as defendant was
filed in the District Court of Douglas County, Nebraska, case number
1012. The Plaintiffs are Larry J. Horbach, individually and L.J.
Horbach & Associates and they are demanding payment on a loan they
purchased from Mid City Bank. The plaintiffs are requesting payment
of $82,512.57 plus accrued interest, costs and attorney fees. We are
vigorously defending this litigation.
On May 2, 2002, a lawsuit (the "Federal Action") was filed in the
Federal District Court for the District of Nebraska (the "Nebraska
Court") by two dissident Company shareholders, Edward E. Gatz and
Donald D. Graham, captioned Gatz et al. v. Ponsoldt, Sr., et al,
against the former officers and directors of the Company, Statesman
and, as a nominal defendant only, the Company. In December 2002,
plaintiffs filed a seven-count Amended Complaint to add claims
against Royalty and Royalty's control persons. All Defendants moved
to dismiss all claims against them on jurisdictional and substantive
grounds. On July 7, 2003, the Nebraska Court ruled that venue in the
District of Nebraska was improper and granted defendants' motions to
transfer the case to the District of Delaware. In connection with
the transfer of the case to Delaware, the Court denied as moot the
other motions pending before it without prejudice to their
reassertion in the United States District Court for the District of
Delaware (the "Delaware Federal Court").
In September and October 2003, all defendants filed motions to
dismiss the Federal Action with the Delaware Federal Court and
plaintiffs filed a motion for permission to file an amended and
supplemental complaint as well as a preliminary injunction or status
quo order seeking, among other things, to prevent the Company from
taking any actions outside the ordinary course of business. On
December 18, 2003, the Delaware Federal Court issued an opinion and
order which, among other things (i) granted defendants' motions to
dismiss the amended complaint with respect to certain claims, (ii)
denied plaintiffs' motion for leave to file a supplemental and
second amended complaint, (iii) denied plaintiffs' request for a
preliminary injunction and a status quo order and (iv) dismissed the
remainder of the amended complaint for lack of subject matter
jurisdiction. As a result of the Delaware Federal Court's opinion
and order, the Federal Action was dismissed in its entirety.
15
Regency Affiliates, Inc. and Subsidiaries
ITEM 1. LEGAL PROCEEDINGS. (continued)
On January 20, 2004, a purported derivative and class action lawsuit
(the "Delaware State Action") was filed by the same two individual
shareholder plaintiffs in the New Castle County Court of Chancery,
Delaware, captioned Gatz et al. v. Ponsoldt, Sr., et al, (C.A. No.
174-N) naming as defendants certain current and former directors of
the Company, Royalty and certain of its affiliates, Statesman and,
nominally, the Company. The complaint alleges, among other things,
breaches of fiduciary duties by the former director defendants and
Statesman in connection with (i) the exercise by Statesman in 2001
of an option to acquire shares of our common stock, (ii) the 2001
sale of Aggregate by NRDC to Iron Mountain and (iii) the October
2002 Restructuring Transactions. The complaint also alleges breaches
of fiduciary duties by the current director defendants in connection
with the payment by the Company in 2003 of accrued compensation owed
to William R. Ponsoldt, Sr. for periods prior to the October 2002
Restructuring Transactions. The complaint also alleges that Royalty
and its affiliates knowingly participated in the breaches of
fiduciary duties by the former director defendants relating to the
October 2002 Restructuring Transactions. In addition to other
damages, plaintiffs seek unspecified compensatory and/or rescissory
damages against all defendants, a declaration that all Company stock
issued to Statesman, William R. Ponsoldt, Sr., Royalty and any
person affiliated with the foregoing is void, an order rescinding
any payments in any form made by the Company to William R. Ponsoldt,
Sr. or any of his affiliates or family members, an order rescinding
the October 2002 Restructuring Transactions, and an order rescinding
Statesman's 2001 option exercise and rescinding the option itself.
The Company, as a nominal defendant, has not taken any position with
respect to the merits of the Delaware State Action. Each of the
other defendants has moved to dismiss the Delaware State Action and
these motions are pending.
The defendants in the Federal Action and the Delaware State Action,
other than Statesman, are entitled to be indemnified by the Company
for damages, if any, and expenses, including legal fees, they may
incur as a result of the lawsuit, subject to certain circumstances
under which such indemnification is not available. In addition,
other than with respect to the claims against the current director
defendants in their capacities as such, the claims contained in the
Delaware State Action are not covered by insurance, as the Company's
carrier has declined coverage on the basis of the "insured vs.
insured" exclusion since one of the named plaintiffs, Donald D.
Graham, was previously a director of the Company. The Company
submitted a claim to its carrier with respect to the claims in the
Delaware State Action against the current director defendants the
carrier has denied the Company's claim.
On May 10, 2004, Gary Nuttall, a former President of the Company,
commenced an arbitration against the Company with respect to certain
claims allegedly arising under his 1995 Employment Agreement with
the Company. He is seeking severance and all other compensation and
benefits due him under the 1995 Employment Agreement in an amount in
excess of approximately $1,650,000 ($1,400,000 of which is a
financing bonus), 466,667 unrestricted shares of the Company
(pre-split), options to purchase additional stock of the Company,
punitive damages, interest, fees and costs associated with the
arbitration. The Company believes the claims are without merit and
intends to defend them vigorously.
ITEM 2. CHANGES IN SECURITIES AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY
SECURITIES.
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
16
Regency Affiliates, Inc. and Subsidiaries
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
EXHIBIT AND REPORT INDEX
(a) Exhibits
Exhibit Number Description of Exhibit
-------------- ----------------------
3.1(i)(a) Restated Certificate of Incorporation of the Company
(filed as Exhibit 3.1(i)(a) to the Company's Quarterly
Report on Form 10-Q for the period ended September 30,
2002, filed on November 19, 2002, and incorporated
herein by reference).
3.1(i)(b) Corrected Certificate of Amendment reflecting amendment
to Restated Certificate of Incorporation of the Company
(filed as Exhibit 3.1(i)(b) to the Company's Quarterly
Report on Form 10-Q for the period ended September 30,
2002, filed on November 19, 2002, and incorporated
herein by reference).
17
3.1(i)(c) Certificate of Amendment of Restated Certificate of
Incorporation of Regency Affiliates, Inc. (filed as
Exhibit A to the Company's Information Statement on
Schedule 14C filed on October 27, 2003 and incorporated
by reference herein).
3.1(i)(d) Certificate of Designation - Series B Preferred Stock,
$10 Stated Value, $.10 par value (filed as Exhibit to
Form 10-K dated June 7, 1993 and incorporated herein by
reference).
3.1(i)(e) Amended and Restated Certificate of Designation, Series
C Preferred Stock, $100 Stated Value, $.10 par value
(filed as Exhibit 99.4 to the Company's Current Report
on Form 8-K filed on October 18, 2002, and incorporated
herein by reference).
3.1(i)(f) Certificate of Designation - Series D Junior Preferred
Stock, $10 Stated Value, $.10 par value (filed as
Exhibit to Form 10-K dated June 7, 1993 and incorporated
herein by reference).
3.1(i)(g) Certificate of Designation - Series E Preferred Stock,
$100 Stated Value, $.10 par value (filed as Exhibit 4.1
to the Company's Annual Report on Form 10-K for the year
ended December 31, 1995 at page E-1, and incorporated
herein by reference).
3.1(ii)(a) By-laws of the Company (filed as Exhibit 3.4 to the
Company's Registration Statement on Form S-1,
Registration Number 2-86906, and incorporated herein by
reference).
3.1(ii)(b) Amendment No. 1 to By-Laws of the Company (filed as
Exhibit 3.1(ii)(b) to the Company's Quarterly Report on
Form 10-Q for the period ended September 30, 2002, filed
on November 19, 2002, and incorporated herein by
reference).
10.1 Amendment No. 2 to 2003 Stock Incentive Plan, as
amended.*
10.2 Stock Option Agreement, dated as of August 13, 2004
between the Company and Laurence S. Levy.*
10.3 Stock Option Agreement, dated as of August 13, 2004
between the Company and Neil Hasson.*
31.1 Chief Executive Officer's Certificate, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.*
18
31.2 Chief Financial Officer's Certificate, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.*
32.1 Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002. *
32.2 Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.*
99.1 Report of the Special Committee of the Company's Board
of Directors, dated May 10, 2003, and adopting
resolutions (filed as Exhibit 99.2 to Company's
Quarterly Report on Form 10-Q for the period ended March
31, 2003, and incorporated by reference herein).
* Filed herewith
(b) Reports on Form 8-K
Date Items Reported Financial Statements
---- -------------- --------------------
May 11, 2004, as amended by 2 None
Amendment No. 1 thereto dated
July 16, 2004, and further
amended by Amendment No. 2
thereto dated August 13, 2004
19
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
REGENCY AFFILIATES, INC.
(Registrant)
Date: August 23, 2004 /s/ Laurence S. Levy
--------------------- ---------------------------------------
(President and Chief Executive Officer)
Date: August 23, 2004 /s/ Neil N. Hasson
--------------------- ---------------------------------------
(Chief Financial Officer)
20
EXHIBIT AND REPORT INDEX
(a) Exhibits
Exhibit Number Description of Exhibit
3.1(i)(a) Restated Certificate of Incorporation of the Company
(filed as Exhibit 3.1(i)(a) to the Company's Quarterly
Report on Form 10-Q for the period ended September 30,
2002, filed on November 19, 2002, and incorporated
herein by reference).
3.1(i)(b) Corrected Certificate of Amendment reflecting amendment
to Restated Certificate of Incorporation of the Company
(filed as Exhibit 3.1(i)(b) to the Company's Quarterly
Report on Form 10-Q for the period ended September 30,
2002, filed on November 19, 2002, and incorporated
herein by reference).
3.1(i)(c) Certificate of Amendment of Restated Certificate of
Incorporation of Regency Affiliates, Inc. (filed as
Exhibit A to the Company's Information Statement on
Schedule 14C filed on October 27, 2003 and incorporated
by reference herein).
3.1(i)(d) Certificate of Designation - Series B Preferred Stock,
$10 Stated Value, $.10 par value (filed as Exhibit to
Form 10-K dated June 7, 1993 and incorporated herein by
reference).
3.1(i)(e) Amended and Restated Certificate of Designation, Series
C Preferred Stock, $100 Stated Value, $.10 par value
(filed as Exhibit 99.4 to the Company's Current Report
on Form 8-K filed on October 18, 2002, and incorporated
herein by reference).
3.1(i)(f) Certificate of Designation - Series D Junior Preferred
Stock, $10 Stated Value, $.10 par value (filed as
Exhibit to Form 10-K dated June 7, 1993 and incorporated
herein by reference).
3.1(i)(g) Certificate of Designation - Series E Preferred Stock,
$100 Stated Value, $.10 par value (filed as Exhibit 4.1
to the Company's Annual Report on Form 10-K for the year
ended December 31, 1995 at page E-1, and incorporated
herein by reference).
3.1(ii)(a) By-laws of the Company (filed as Exhibit 3.4 to the
Company's Registration Statement on Form S-1,
Registration Number 2-86906, and incorporated herein by
reference).
3.1(ii)(b) Amendment No. 1 to By-Laws of the Company (filed as
Exhibit 3.1(ii)(b) to the Company's Quarterly Report on
Form 10-Q for the period ended September 30, 2002, filed
on November 19, 2002, and incorporated herein by
reference)
21
10.1 Amendment No. 2 to 2003 Stock Incentive Plan, as
amended.*
10.2 Stock Option Agreement, dated as of August 13, 2004
between the Company and Laurence S. Levy.*
10.3 Stock Option Agreement, dated as of August 13, 2004
between the Company and Neil Hasson.*
31.1 Chief Executive Officer's Certificate, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.*
31.2 Chief Financial Officer's Certificate, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.*
32.1 Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.*
32.2 Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.*
99.1 Report of the Special Committee of the Company's Board
of Directors, dated May 10, 2003, and adopting
resolutions (filed as Exhibit 99.2 to Company's
Quarterly Report on Form 10-Q for the period ended March
31, 2003, and incorporated by reference herein).
* Filed herewith
(b) Reports on Form 8-K
Date Item Reported Financial Statement
---- ------------- -------------------
May 11, 2004, as amended by 2 None
Amendment No. 1 thereto dated
July 16, 2004, and further
amended by Amendment No. 2
thereto dated August 13, 2004
22