SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
For the quarterly period ended March 31, 2005
OR
For the transition period from to
Commission File Number 0-14665
DAILY JOURNAL CORPORATION
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
915 East First Street
Los Angeles, California
Registrant’s telephone number, including area code: (213) 229-5300
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: ¨
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act.) Yes: ¨ No: x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.
Class
Outstanding at April 30, 2005
Common Stock, par value $ .01 per share
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INDEX
PART I Financial Information
Item 1.
Consolidated Balance Sheets - March 31, 2005 and September 30, 2004
Consolidated Statements of Income - Three months ended March 31, 2005 and 2004
Consolidated Statements of Income - Six months ended March 31, 2005 and 2004
Consolidated Statements of Cash Flows - Six months ended March 31, 2005 and 2004
Notes to Consolidated Financial Statements
Item 2.
Item 3.
Item 4.
Part II Other Information
Item 6.
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PART I
CONSOLIDATED BALANCE SHEETS
ASSETS
Current assets
Cash and cash equivalents
U.S. Treasury Notes and Bills, at cost plus discount earned
Accounts receivable, less allowance for doubtful accounts of $300,000 at March 31, 2005 and September 30, 2004
Inventories
Prepaid expenses and other assets
Income taxes receivable
Deferred income taxes
Total current assets
Property, plant and equipment, at cost
Land, buildings and improvements
Furniture, office equipment and computer software
Machinery and equipment
Less accumulated depreciation
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities
Accounts payable
Accrued liabilities
Notes payable – current portion
Deferred subscription revenues and other revenues
Total current liabilities
Long term liabilities
Notes payable – long term
Total long term liabilities
Commitments and contingencies (Notes 7 and 8)
Shareholders’ equity
Preferred stock, $.01 par value, 5,000,000 shares authorized and no shares issued
Common stock, $.01 par value, 5,000,000 shares authorized; 1,500,748 shares, at March 31, 2005 and 1,501,810 at September 30, 2004, respectively, outstanding
Other paid-in capital
Retained earnings
Less 47,445 treasury shares, at March 31, 2005 and September 30, 2004, at cost
Total shareholders’ equity
See accompanying Notes to Consolidated Financial Statements.
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CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
Revenues
Advertising
Circulation
Information systems and services
Advertising service fees and other
Costs and expenses
Salaries and employee benefits
Commissions and other outside services
Newsprint and printing expenses
Postage and delivery expenses
Depreciation and amortization
Other general and administrative expenses
Income from operations
Other income and (expense)
Interest income
Interest expense
Income before taxes
Provision for income taxes
Net income
Weighted average number of common shares outstanding - basic and diluted
Basic and diluted net income per share
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CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash flows from operating activities
Adjustments to reconcile net income to net cash provided by operations
Discount earned on U.S. Treasury Bills
Changes in assets and liabilities(Increase) decrease in current assets
Accounts receivable, net
Increase (decrease) in current liabilities
Income taxes payable
Deferred subscription and other revenues
Cash provided by operating activities
Cash flows from investing activities
Purchases of U.S. Treasury Notes and Bills
Sales of U.S. Treasury Bills
Purchases of property, plant and equipment, net
Cash used for investing activities
Cash flows from financing activities
Payment of loan principals
Purchase of common and treasury stock
Cash used for financing activities
Increase (decrease) in cash and cash equivalents
Beginning of period
End of period
Interest paid during period
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 - The Corporation and Operations
The Daily Journal Corporation (the “Company”) publishes newspapers and web sites covering California, Arizona and Nevada, as well as the California Lawyer magazine, and produces several specialized information services. Sustain Technologies, Inc. (“Sustain”), a 93% owned subsidiary as of March 31, 2005, has been consolidated since it was acquired in January 1999. Sustain supplies case management software systems and related products to courts and other justice agencies, including district attorney offices and administrative law organizations. These courts and agencies use the Sustain family of products to help manage cases and information electronically and to interface with other critical justice partners. Sustain’s products are designed to help users manage electronic case files from inception to disposition, including all aspects of calendaring and accounting, report and notice generation, the implementation of standards and business rules and other corollary functions. Essentially all of the Company’s operations are based in California, Arizona, Colorado and Nevada.
Note 2 - Basis of Presentation
In the opinion of the Company, the accompanying interim unaudited consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary for a fair statement of its financial position as of March 31, 2005, the results of operations for the three- and six-month periods ended March 31, 2005 and 2004 and its cash flows for the six months ended March 31, 2005 and 2004. The results of operations for the three- and six-months ended March 31, 2005 are not necessarily indicative of the results to be expected for the full year.
The consolidated financial statements included herein have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. These financial statements should be read in conjunction with the financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2004.
Certain reclassifications of previously reported amounts have been made to conform to the current year’s presentation.
Note 3 - Basic and Diluted Income Per Share
The Company does not have any common stock equivalents, and therefore the basic and diluted income per share are the same.
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Note 4 - Operating Segments
Summarized financial information concerning the Company’s reportable segments is shown in the following table:
Six months ended March 31, 2005
Total assets
Capital expenditures
Six months ended March 31, 2004
Income (loss) before taxes
Provision for (benefit from) income taxes
Three months ended March 31, 2005
Net income (loss)
Three months ended March 31, 2004
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Note 5 - Revenue Recognition
Proceeds from the sale of subscriptions for newspapers, court rule books and other publications and other services are recorded as deferred revenue and are included in earned revenue only when the services are provided, generally over the subscription term. Revenues from leases of software products are recognized over the life of the lease while revenues from software product sales are recognized normally upon delivery, installation or acceptance pursuant to a signed agreement. Revenues from annual maintenance contracts generally call for the Company to provide software updates and upgrades to customers and are recognized ratably over the maintenance period. Consulting and other services are recognized as performed or when accepted by the customers pursuant to a signed agreement.
Note 6 - Income Tax Accounting
The Company recorded a tax provision of $85,000 for the six months ended March 31, 2004 because the remaining federal tax benefits, for financial statement purposes, from operating loss carry-forwards attributed to Sustain-segment losses in prior years were not sufficient to offset all of the Company’s taxes which otherwise would have been payable in fiscal 2004. During the six months ended March 31, 2005, the Company recorded a tax provision of $450,000 which is lower than the amount computed under statutory rates because it is now able to utilize the state tax benefits, for financial statement purposes, from Sustain-segment operating loss carry-forwards and federal research and development tax credits.
Note 7 - Debt and Other Commitments
The Company owns its facilities in Los Angeles and leases space for its other offices under operating leases which expire at various dates through 2009. The Company is responsible for a portion of maintenance, insurance and property tax expenses relating to certain leased property. Rental expenses for comparable six-month periods ended March 31, 2005 and 2004 were $312,000 and $431,000, respectively.
As of March 31, 2005, the Company has two real estate loans: one of $1,656,000, which bears interest at 6.84%, is repayable in equal monthly installments of about $18,000 through 2016, and another, obtained in June of 2004, of $2,806,000, bears interest at the same rate of 6.84% and is repayable in equal monthly installments of about $22,000 through 2024. Each loan is secured by one of our two buildings in Los Angeles.
Note 8 - Contingencies
Management has received information furnished by legal counsel on the current stage of all outstanding legal proceedings and the development of these matters to date. There has never been a resolution of the payment dispute between Sustain and a terminated outside service provider whose software development work was terminated by Sustain in April 2001 as a result of serious flaws and long delays. The terminated outside service provider filed for bankruptcy in December 2001 and stated in its filings with the U.S. Bankruptcy Court that it was considering bringing a collection action against Sustain. If it does, Sustain will assert counter-claims that completely offset the terminated outside provider’s claims. Sustain will vigorously defend any litigation or action brought by the terminated outside service provider, although no assurances can be made as to the ultimate outcome of the dispute. It is the opinion of management that adequate provision has been made for any amounts that may become due as a result of the dispute.
Sustain received a letter in April 2003 from counsel to the Ontario, Canada Ministry of the Solicitor General, Ministry of Public Safety and Security and Ministry of the Attorney General (collectively, the
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“Ministries”). The Ministries had entered into a contract with Sustain, dated as of April 22, 1999 (the “Contract”), pursuant to which the Ministries sought to license the software product that was to be developed by the outside service provider referred to above. The Contract was formally terminated in June 2002. The letter from counsel purported to invoke the dispute resolution process set forth in the Contract and claimed damages in the amount of $20 million. Counsel for Sustain and counsel for the Ministries engaged in preliminary discussions with respect to this matter, and the dispute resolution process set forth in the Contract was not utilized. Counsel for Sustain last communicated with counsel for the Ministries by a letter sent in April 2003. At this point, management is unable to determine whether this matter will have a material adverse effect on Sustain and the Company.
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Revenues were $17,257,000 and $17,430,000 for the six months ended March 31, 2005 and 2004, respectively. This decrease of $173,000 (1%) was primarily attributable to the declines in revenues from classified advertising, trustee foreclosure public notices, circulation and installation and licensing of Sustain software, partially offset by the increased revenues from display, governmental and other public notice advertising. (Revenues were $8,512,000 and $8,785,000 for the three months ended March 31, 2005 and 2004, respectively.)
Display advertising and conference revenues increased by $322,000, while classified advertising revenues decreased by $71,000. Public notice advertising revenues decreased by $53,000 primarily resulting from a decline in notices for trustee foreclosure sales because of a stronger housing market in California, partially offset by the increases in governmental and non-foreclosure public notice advertising. The Company’s smaller newspapers, those other than the Los Angeles and San Francisco Daily Journals (“The Daily Journals”), accounted for about 91% of the total public notice advertising revenues. Public notice advertising revenues and related advertising and other service fees constituted about 26% of the Company’s total revenues. The Daily Journals accounted for about 73% of the Company’s total circulation revenues, and their circulation levels decreased by about 6%, which is consistent with recent circulation trends. The court rule and judicial profile services generated about 17% of the total circulation revenues, with the other newspapers and services accounting for the balance. Total circulation revenues decreased by $338,000. Information system and service revenues decreased by $157,000 primarily because of reduced fees from the licensing of Sustain software. The Company’s revenues derived from Sustain’s operations constituted about 15% and 16% of the Company’s total revenues for the six months ended March 31, 2005 and 2004, respectively.
Costs and expenses decreased by $583,000 (4%) to $14,994,000 from $15,577,000. Newsprint and printing expenses decreased by $75,000 (6%) primarily because the court rules and judicial profiles services are now printed on the Company’s new inhouse digital copiers, partially offset by increased paper prices. Depreciation and amortization expenses decreased by $242,000 (38%) primarily due to more fully depreciated assets and the completion of the amortization of capitalized software acquired upon the purchase of Sustain in 1999. Other general and administrative expenses decreased by $300,000 (14%) primarily because of last year’s additional expenses for repairs and maintenance expenses for the Los Angeles facilities and for the relocation of the San Francisco office. These decreases were partially offset by an increase of personnel costs of $89,000 (for a total of $8,421,000). (Costs and expenses were $7,687,000 and $7,979,000 for the three months ended March 31, 2005 and 2004, respectively.)
The Company’s expenditures for the development of new Sustain software products are highly significant and will materially impact overall results at least through fiscal 2005. These costs are expensed as incurred until technological feasibility of the product has been established, at which time such costs are capitalized, subject to expected recovery. Sustain’s internal development costs, which are primarily incremental costs, aggregated $592,000 and $635,000 for the six months ended March 31, 2005 and 2004, respectively. If Sustain’s internal development programs are not successful, they will significantly and adversely impact the Company’s ability to maximize its existing investment in the Sustain software, to service its existing customers, and to compete for new opportunities in the case management software business.
The Company’s traditional business segment pretax profit increased by $56,000 (3%) to $1,897,000 from $1,841,000 primarily resulting from increased revenues from display, governmental and other public notice advertising, partially offset by decreased revenues from classified and foreclosure public notice advertising and circulation. Sustain’s business segment pretax income increased $345,000 from a
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loss of $25,000 to a profit of $320,000, primarily resulting from reduced personnel costs because of the expiration of two employment agreements in fiscal 2004, which were not renewed, and the completion of the amortization of capitalized software acquired upon the purchase of Sustain in 1999. These savings were partially offset by the decreased revenues associated with the installation and licensing of Sustain software by the courts. While the Company expects to continue receiving license fees as a result of these installations, future revenue from consulting services, which aggregated $1,335,000 during the six months ended March 31, 2005, may not continue at the levels experienced in 2004 and the first six months of 2005.
Consolidated net income was $1,767,000 and $1,731,000 for the six months ended March 31, 2005 and 2004, respectively. (Consolidated net income was $662,000 for the three months ended March 31, 2005 compared to $754,000 in the comparable prior year period.) On a pretax profit of $2,217,000 for the six months ended March 31, 2005, the Company recorded a tax provision of $450,000 which is lower than the amount computed under statutory rates because the Company is now able to use the state tax benefits, for financial statement purposes, from operating loss carry-forwards attributed to Sustain-segment losses in prior years and federal research and development tax credits. The tax provision was only $85,000 on a pretax profit of $1,816,000 for the six months ended March 31, 2004 because the Company was able to utilize in fiscal 2004 all of the remaining federal tax benefits, for financial statement purposes, from operating loss carry-forwards attributed to Sustain-segment losses in prior years. Net income per share increased to $1.22 from $1.18.
Liquidity and Capital Resources
During the six months ended March 31, 2005, the Company’s cash and cash equivalents and U.S. Treasury Note and Bill positions increased by $1,393,000. Cash and cash equivalents were used for the purchase of capital assets of $253,000, primarily for additional facilities and equipment in Los Angeles, and to purchase the Company’s common stock for an aggregate amount of $40,000. The cash provided by operating activities of $1,676,000 included a net decrease in prepayments for subscriptions of $260,000 and a decrease in software licenses and maintenance of $409,000. Proceeds from the sale of subscriptions from newspapers, court rule books and other publications and for software licenses and maintenance and other services are recorded as deferred revenue and are included in earned revenue only when the services are rendered. Cash flows from operating activities decreased by $1,388,000 for the six months ended March 31, 2005 as compared to the comparable prior year period primarily due to changes in current assets and liabilities, including the increases in accounts receivable of $1,652,000 and the decreases in deferred revenues of $1,288,000, partially offset by the increases in accounts payable of $1,449,000 and net income of $36,000. As of March 31, 2005, the Company had working capital of $11,218,000 before deducting the liability for deferred subscription revenues and other revenues of $6,641,000, which are scheduled to be earned within one year.
If the Company requires additional funds, it may, among other things, change Sustain’s development strategy or attempt to secure additional financing, which may or may not be available to the Company on acceptable terms.
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Critical Accounting Policies
The Company’s financial statements and accompanying notes are prepared in accordance with generally accepted accounting principles. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are affected by management’s application of accounting policies. Management believes that revenue recognition, accounting for capitalized software costs and income tax accounting are critical accounting policies.
Pursuant to Statement of Financial Accounting Standards No. 86, Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed, costs related to the research and development of a new software product are to be expensed as incurred until the technological feasibility of the product is established. Accordingly, costs related to the development of new Sustain software products are expensed as incurred until technological feasibility has been established, at which time such costs are capitalized, subject to expected recoverability. In general, “technological feasibility” is achieved when the developer has established the necessary skills, hardware and technology to produce a product and a detailed program design has been (a) completed, (b) traced to the product specifications and (c) reviewed for high-risk development issues.
Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes, establishes financial accounting and reporting standards for the effect of income taxes. The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and the deferred tax liabilities and assets for the future tax consequences of events that have been recognized in the financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in the Company’s financial statements or tax returns. Fluctuations in the actual outcome of these future tax consequences could materially impact the Company’s financial position or its results of operations.
The above discussion and analysis should be read in conjunction with the unaudited consolidated financial statements and the notes thereto included in this report.
Disclosure Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Certain statements contained in this document, including but not limited to those in “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, are “forward-looking” statements that involve risks and uncertainties that may cause actual future events or results to differ materially from those described in the forward-looking statements. Words such as “expects,” “intends,” “anticipates,” “should,” “believes,” “will,” “plans,” “estimates,” “may,” variations of such words and similar expressions are intended to identify such forward-looking statements. We disclaim any intention or obligation to revise any forward-looking statements whether as a result of new
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information, future developments, or otherwise. There are many factors that could cause actual results to differ materially from those contained in the forward-looking statements. These factors include, among others: risks associated with the functionality and resources required for new and existing case management software projects; the success or failure of Sustain’s internal software development efforts; Sustain’s reliance on the time and materials professional services engagement with the California Administrative Office of the Courts for a substantial portion of its consulting revenues; the ultimate resolution, if any, of the disputes with the Ontario, Canada Ministries; material changes in the costs of materials; a further decline in subscriber and classified revenues; an inability to continue borrowing on current terms; possible changes in tax laws; collectibility of accounts receivable; potential increases in employee and consultant costs; attraction, training and retention of employees; changes in accounting guidance; and competitive factors in both the case management software business and the publishing business. In addition, such statements could be affected by general industry and market conditions and growth rates, general economic conditions (particularly in California) and other factors. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from those in the forward-looking statements are disclosed in this Form 10-Q, including without limitation in conjunction with the forward-looking statements themselves. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained from time to time in documents filed by the Company with the Securities and Exchange Commission.
The Company maintains a portfolio of cash equivalents maturing in three months or less as of the date of purchase and of U.S. Treasury Bills and Notes maturing within one year. Given the short-term nature of the investments and the fact that the Company had no outstanding borrowings except for the real estate loans which bear a fixed interest rate, the Company was not subject to material interest rate risk. The real estate loans of $1,656,000 and $2,806,000 each bears interest at approximately 6.84% and are repayable in equal monthly installments of about $18,000 through 2016 and $22,000 through 2024, respectively. Each loan is secured by one of our two buildings in Los Angeles.
An evaluation was performed under the supervision and with the participation of the Company’s management, including Gerald L. Salzman, its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of March 31, 2005. Based on that evaluation, Mr. Salzman concluded that the Company’s disclosure controls and procedures are effective in ensuring that information required to be disclosed by the Company in reports it files or submits under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported as specified in the rules and forms of the Securities Exchange Commission. There have been no material changes in the Company’s internal controls over financial reporting or in other factors reasonably likely to affect the internal controls over financial reporting during the quarter ended March 31, 2005.
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PART II
ISSUER PURCHASES OF EQUITY SECURITIES
The Company’s annual meeting was held on February 2, 2005. The matters submitted to a vote of security holders were the election of directors and the ratification of the appointment of Ernst & Young LLP as independent accountants for the Company for the current fiscal year.
Each of the nominees to the Board of directors was elected. The following votes were received as to the election of the board of directors:
Nominee’s Name
Charles T. Munger
J. P. Guerin
Gerald L. Salzman
Donald W. Killian, Jr.
George C. Good
Ernst & Young LLP was ratified as the Company’s independent accountants with 1,446,050 votes in favor, 7,602 votes against, 752 abstentions and no broker non-votes.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
(Registrant)
/s/ Gerald L. Salzman
Chief Executive Officer
President
Chief Financial Officer
Treasurer
DATE: May 12, 2005
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