Form 10-K
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-K

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2003

 

Commission File Number 000-32983

 


 

CB RICHARD ELLIS GROUP, INC.

(Exact name of registrant as specified in its charter)

 


 

Delaware   94-3391143

(State or other jurisdiction

of incorporation or organization)

  (I.R.S. Employer Identification Number)

865 South Figueroa Street, Suite 3400

Los Angeles, California

  90017
(Address of principal executive offices)   (Zip Code)

 

(213) 613-3226

(Registrant’s telephone number, including area code)

 


 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class


 

Name of Each Exchange on Which Registered


N.A.   N.A.

 

Securities registered pursuant to Section 12(g) of the Act:

N.A.

 


 

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 ¨     No x

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to the Form 10-K.    ¨

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes ¨    No x

 

As of June 30, 2003, the aggregate market value of Class A and Class B common stock held by non-affiliates of the registrant was $43.8 million based upon per share price of $16.00, which was determined to be the fair market value of the Class A and Class B common stock by the Board of Directors on September 16, 2003. Neither the registrant’s Class A common stock nor its Class B common stock is publicly traded.

 

As of March 1, 2004 the number of shares of Class A and Class B common stock outstanding was 2,582,039 and 19,271,948, respectively.

 



Table of Contents

Item 1. Business

 

Overview

 

CB Richard Ellis Group, Inc. (which may be referred to in this Form 10-K as “we”, “us” and “our”) is the largest global commercial real estate services firm, based on 2003 revenue, offering a full range of services to occupiers, owners, lenders and investors in office, retail, industrial, multi-family and other commercial real estate assets. As of December 31, 2003, we operate in 48 countries with over 13,500 employees in 220 offices providing commercial real estate services under the “CB Richard Ellis” brand name. Our business is focused on several service competencies, including strategic advice and execution assistance for property leasing and sales, forecasting, valuations, origination and servicing of commercial mortgage loans, facilities and project management and real estate investment management. We generate revenues both on a per project or transaction basis and from annual management fees.

 

We have a well-balanced, highly diversified base of clients that includes more than 60% of the Fortune 100. Many of our clients are consolidating their commercial real estate-related expenditures with fewer providers and, as a result, awarding their business to those providers that have a strong presence in important markets and the ability to provide a complete range of services worldwide. As a result of this trend and our ability to deliver comprehensive solutions for our clients’ needs across a wide range of markets, we believe we are well positioned to capture a growing percentage of our clients’ commercial real estate services expenditures.

 

Unless the context indicates otherwise, references in this Form 10-K to information presented “on a pro forma basis” give effect to the following transactions, as if they had occurred on January 1, 2003:

 

  the acquisition of Insignia Financial Group, Inc. by our wholly owned subsidiary, CB Richard Ellis Services, Inc., which occurred pursuant to the merger of Apple Acquisition Corp., a wholly owned subsidiary of CB Richard Ellis Services, with and into Insignia Financial Group on July 23, 2003;

 

  the receipt of an aggregate of $120.0 million of equity contributions by CB Richard Ellis Group on July 23, 2003 from some of its existing stockholders;

 

  the issuance on May 22, 2003 by CBRE Escrow, Inc., a wholly owned subsidiary of CB Richard Ellis Services, of $200.0 million aggregate principal amount of 9¾% senior notes due 2010, which notes were assumed by CB Richard Ellis Services on July 23, 2003 in connection with the merger of CBRE Escrow with and into CB Richard Ellis Services on the same day;

 

  the term loan borrowing by CB Richard Ellis Services of $75.0 million on July 23, 2003, pursuant to our amended and restated credit agreement dated May 22, 2003;

 

  the disposition by Insignia Financial Group to Island Fund I LLC immediately prior to the completion of such merger on July 23, 2003 and for aggregate cash consideration of $36.9 million, of Insignia’s real estate investment assets, which consisted of Insignia subsidiaries and joint ventures that held (1) minority investments in office, retail, industrial, apartment and hotel properties, (2) minority investments in office development projects and a related undeveloped parcel of land, (3) wholly owned or consolidated investments in Norman, Oklahoma, New York City and the U.S. Virgin Islands and (4) investments in private equity funds that invest in mortgage-backed debt securities and other real estate-related assets;

 

  the redemptions on October 27, 2003 and December 29, 2003 of $20.0 million and $10.0 million, respectively, in aggregate principal amount of our 16% senior notes due 2011 and related fees and expenses; and

 

  fees and expenses related to each of the transactions and financings described in the bullet points above.

 

The unaudited pro forma financial information is presented for informational purposes only and does not purport to represent what our results of operations or financial position actually would have been had the Insignia acquisition and related transactions in fact occurred on the date specified, nor does the information purport to project our results of operations for any future period or at any future date.

 

All pro forma adjustments with respect to the Insignia acquisition and related transactions are based on preliminary estimates and assumptions and are subject to revision upon finalization of purchase accounting. Once we have completed the valuation studies necessary to finalize the required purchase price allocations in connection with the Insignia acquisition and related transactions, the unaudited pro forma financial information will be subject to adjustment and there can be no assurance that such adjustments will not be material.

 

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Our History

 

We trace our roots to a San Francisco-based firm formed in 1906 that grew to become one of the largest commercial real estate services firms in the western United States during the 1940s. In the 1960s and 70s, the company expanded both its service portfolio and geographic coverage to become a full-service provider with a growing presence throughout the United States.

 

In 1989, employees and third-party investors acquired the company’s operations to form CB Commercial. Throughout the 1990s, CB Commercial moved aggressively to accelerate growth and cultivate global capabilities to meet client demands. The company acquired leading firms in investment management (Westmark Realty Advisors – now CB Richard Ellis Investors, in 1995), mortgage banking (L.J. Melody & Company, in 1996) and property and corporate facilities management, as well as capital markets and investment management (Koll Real Estate Services, in 1997).

 

In 1998, the company, then known as CB Commercial Real Estate Services Group, achieved significant global expansion with the acquisition of REI Limited. REI Limited, which traces its roots to London in 1773, was the holding company for all “Richard Ellis” operations outside of the United Kingdom. Following the REI Limited acquisition, the company changed its name to CB Richard Ellis Services, Inc. and, later in 1998, acquired the London-based firm of Hillier Parker May & Rowden, one of the top property services firms operating in the United Kingdom. With these acquisitions, we believe we became the first real estate services firm with a platform to deliver integrated real estate services across the world’s major business capitals through one commonly-owned, commonly-managed company.

 

In July 2001, CB Richard Ellis Group, Inc., then known as CBRE Holding Inc., acquired all of the outstanding stock of CB Richard Ellis Services in a transaction involving our senior management and affiliates of Blum Capital Partners, L.P. and affiliates of Freeman Spogli & Co. Incorporated. In July 2003, our global position was further solidified as CB Richard Ellis Services and Insignia Financial Group, Inc. were brought together to form a premier, worldwide, full-service real estate company. As a result of the Insignia acquisition, we now operate globally under the “CB Richard Ellis” brand name, which we believe is a well-recognized brand in virtually all of the world’s key business centers.

 

Industry Overview

 

We estimate the U.S. commercial real estate services market generated approximately $27 billion in revenue in 2003, representing approximately one-third of the total global market for commercial real estate services. We also estimate that the U.S. commercial real estate services market grew at a compound annual growth rate of 3.4% from 1991 through 2003, and we expect this market to grow to approximately $32 billion in revenue by 2006, representing a compound annual growth rate of 5.8%.

 

During the next few years, we believe the key drivers of revenue growth for the largest commercial real estate services companies will be (1) the continued outsourcing of commercial real estate services, (2) the consolidation of clients’ activities with fewer providers and (3) the increasing institutional ownership of commercial real estate.

 

Outsourcing

 

Motivated by reduced costs, lower overhead, improved execution across markets, increased operational efficiency and a desire to focus on their core competencies, property owners and occupiers have increasingly contracted out for their commercial real estate services, including transaction management, lease administration, portfolio management, property accounting and facilities management. According to an Ernst & Young study of major corporations published in the Fall of 2002, 57% of the subject corporations retained third-party service providers for transaction management services, 46% outsourced their lease administration functions and 37% outsourced their facilities management functions. We believe this represents an increase from historical outsourcing of these functions, and we expect this outsourcing trend to continue.

 

Consolidation

 

Despite recent consolidation, the commercial real estate services industry remains highly fragmented. Other than the limited number of national and international real estate services firms with whom we compete in a number of service competencies, most firms within the industry are local or regional firms that are substantially smaller than us on an overall basis, although in some cases have a larger local presence in certain competencies. We believe that major property owners and corporate users are motivated to consolidate their service provider relationships on a regional, national and global basis for a number of reasons, including obtaining more consistent execution across markets, achieving economies of scale and enhanced purchasing power and benefiting from streamlined management oversight and the efficiency of “single point of contact” service delivery. As a result, we believe large owners and occupiers are awarding a disproportionate share of this business to the larger real estate services providers, particularly those that provide a full suite of services across geographical boundaries.

 

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Institutional Ownership of Commercial Real Estate

 

Institutional owners, such as REITs, pension funds, foreign institutions and other financial entities, are increasingly acquiring real estate assets and financing them in the capital markets. Total U.S. real estate assets held by institutional owners increased to $423 billion in 2003 from $223 billion in 1994. REITs were the main drivers of this growth, with a portfolio increase of more than 400% over this time period. Pension fund assets also grew by 48% and foreign institutions augmented their U.S. real estate investments by 77%. We believe it is likely that institutional owners of commercial real estate assets will consolidate their use of commercial real estate services vendors and outsource management of their portfolios.

 

Our Regions of Operation and Principal Services

 

We report through three geographically organized segments: (1) Americas, (2) Europe, Middle East and Africa, or EMEA, and (3) Asia Pacific. Within our Americas segment, we further organize our full range of services into the following business areas in order to maximize synergies and cross-selling opportunities among our clients: (a) advisory services, (b) outsourcing services and (c) investment management services.

 

Information regarding revenue and operating income or loss attributable to each of our segments is included in “Segment Operations” within the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section and within Note 21 of our Notes to Consolidated Financial Statements, which are incorporated herein by reference. Information concerning the identifiable assets of each of our business segments is set forth in Note 21 of our Notes to Consolidated Financial Statements, which is incorporated herein by reference.

 

Americas

 

Our Americas segment is our largest segment of operations and provides a comprehensive range of services throughout the United States and in the largest metropolitan regions in Canada, Mexico and other selected parts of Latin America. Our Americas division accounted for 73.5% of our 2003 revenue, 76.6% of our 2002 revenue and 79.3% of our 2001 revenue.

 

Advisory Services

 

Corporations, institutions and other users of real estate services have been increasingly consolidating their relationships with fewer service providers that have depth of resources, full array of services and broad geographic reach. We believe our advisory services businesses have been at the vanguard of this trend, offering occupier/tenant and investor/owner services that meet the full spectrum of marketplace needs, including (1) real estate services, (2) mortgage loan origination and servicing and (3) valuation. Our advisory services business line accounted for 59.7% of our 2003 revenue, 60.5% of our 2002 revenue and 61.3% of our 2001 revenue.

 

Within advisory services, our major business lines are the following:

 

  Real Estate Services. We provide strategic advice and execution assistance to owners, investors and occupiers of real estate in connection with leasing, disposition and acquisition of property and related activities. These businesses are built upon strong client relationships that frequently lead to recurring revenue opportunities over many years. Our real estate services professionals are particularly adept at aligning real estate strategies with client business objectives, serving as an advisor as well as transaction executor. During 2003, on a pro forma basis, we advised on nearly 23,000 lease transactions involving aggregate rents of approximately $27.3 billion and more than 4,700 real estate sales transactions with an aggregate value of approximately $27.5 billion. We believe we have especially strong market positions in the major U.S. business centers, with leading commercial real estate services market positions in nine of the top ten metropolitan statistical areas in the United States, including New York, Los Angeles, Chicago, Atlanta and Washington D.C.

 

Our advice and execution assistance professionals are compensated primarily through commission-based programs, which are payable upon completion of the assignment. Therefore, as compensation is one of our largest expenses, this flexible cost structure permits us to mitigate the negative effect on our operating margins during difficult market conditions. Due to the low barriers to entry and significant competition for quality employees, we strive to retain top professionals through an attractive compensation program tied to productivity.

 

We further strengthen our relationships with our real estate services clients by offering proprietary research to clients through our Torto Wheaton Research unit, a leading provider of commercial real estate market information, forecasting and consulting services. Torto Wheaton Research provides data and analysis to its clients in various formats, including TWR Outlook reports for office, industrial, hotel, retail and multi-housing sectors covering 53 U.S. metropolitan areas and TWR Select office and industrial database access including 245,000 commercial properties.

 

 

Mortgage Loan Origination and Servicing. Our L.J. Melody & Company subsidiary originates and services commercial mortgage loans, without incurring principal risk. As part of its activities, L.J. Melody has established

 

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relationships with investment banking firms, national banks, credit companies, insurance companies, pension funds and government agencies. During 2003, L.J. Melody originated approximately $11. 0 billion in mortgage loans and serviced approximately $61.0 billion in mortgage loans.

 

  Valuation. We provide valuation services that include market value appraisals, litigation support, discounted cash flow analyses and feasibility and fairness opinions. Our valuation business has developed proprietary technology for preparing and delivering valuation reports to its clients, which we believe provides it with a competitive advantage over its rivals. We believe that our valuation business is one of the largest in our industry. During 2003, on a pro forma basis, we completed over 11,500 valuation, appraisal and advisory assignments.

 

Outsourcing Services

 

Outsourcing is a long-term trend in commercial real estate, with corporations, institutions and others seeking to achieve improved efficiency, better execution and lower costs by relying on the expertise of third-party real estate specialists. Our outsourcing services business includes two business lines that seek to capitalize on this trend: (1) asset services and (2) corporate services. As of December 31, 2003, we managed approximately 422.8 million square feet of commercial space for property owners and occupiers, which we believe represents one of the largest portfolios in the Americas. Our outsourcing services business line accounted for 11.2% of our 2003 revenue, 13.1% of our 2002 revenue and 14.7% of our 2001 revenue.

 

  Asset Services. We provide property management, construction management, marketing, leasing, accounting and financial services on a contractual basis for income-producing office, industrial and retail properties owned by local, regional and institutional investors. We believe our contractual relationships with these clients put us in an advantageous position to provide other services for them, including refinancing, disposition and appraisal.

 

  Corporate Services. We provide a comprehensive set of portfolio management, transaction management, project management, strategic consulting, facilities management and other corporate real estate services to leading global organizations. Corporate facilities under management in the Americas region include headquarters buildings, regional offices, administrative offices and manufacturing and distribution facilities. Corporate services’ clients are typically companies or public sector institutions with large, distributed real estate portfolios. We enter into long-term, contractual relationships with these organizations with the goal of ensuring that our clients’ real estate strategies support their overall business strategies.

 

Investment Management Services

 

Our wholly owned subsidiary, CB Richard Ellis Investors, L.L.C., provides investment management services to clients that include pension plans, investment funds, insurance companies and other organizations seeking to generate returns and diversification through investment in real estate. CBRE Investors also sponsors funds and investment programs that span the risk/return spectrum. In higher yield strategies, CBRE Investors “co-invests” with its clients/partners. Our investment management business line accounted for 2.6% of our 2003 revenue, 3.0% of our 2002 revenue and 3.3% of our 2001 revenue .

 

CBRE Investors is organized into three general client-focused groups according to investment strategy, which include managed accounts group (low risk), strategic partners (value added funds) and special situations (higher yield and highly focused strategies). Operationally, a dedicated investment team with the requisite skill sets executes each investment strategy, with the team’s compensation being driven largely by the investment performance of its particular strategy/fund. This organizational structure is designed to align the interests of team members with those of the firm and its investor clients/partners and to enhance accountability and performance. Dedicated teams share resources such as accounting, financial controls, information technology, investor services and research. In addition to the research provided by our advisory services group, which focuses primarily on market conditions and forecasts, CBRE Investors has an in-house team of research professionals who focus on investment strategy and underwriting.

 

CBRE Investors closed over $1.2 billion of new acquisitions in the Americas in each of 2002 and 2003, and it has increased its assets under management in the Americas from $3.5 billion in 1998 to $5.7 billion in 2003, representing a 10.2% compound annual growth rate.

 

Europe, Middle East and Africa

 

Our EMEA segment has offices in 28 countries, with its largest operations located in the United Kingdom, France, Spain, The Netherlands and Germany. Operations within the EMEA countries generally include brokerage, investment properties, corporate services, valuation/appraisal services, asset management services, facilities management and other services similar to our Americas segment. The EMEA segment accounted for 19.2% of our 2003 revenue, 15.6% of our 2002 revenue and 13.8% of our 2001 revenue.

 

We are one of the leading commercial real estate services companies in the United Kingdom. We hold the leading market position in London and provide a broad range of commercial property real estate services to investment, commercial and corporate clients located in London. We also have eight regional offices in Birmingham, Bristol, Jersey, Leeds, Liverpool,

 

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Manchester, Edinburgh and Glasgow. In France, we are a market leader in Paris, including holding what we believe to be the market leading position in central Paris, and provide a complete range of services to the commercial property sector, as well as some services to the residential property market. In Spain, we believe we hold the leading market position in Madrid, as well as provide expansive coverage operating through our other offices in Barcelona, Valencia, Malaga, Marbella and Palma de Mallorca. Our business in The Netherlands is based in Amsterdam, while our German operations are located in Frankfurt, Munich, Berlin and Hamburg. Our operations in these countries generally provide a full range of services to the commercial property sector, along with some residential property services.

 

Asia Pacific

 

Our Asia Pacific division has offices located in 11 countries. We believe that we are one of only a few companies that can provide a full range of real estate services to large corporations throughout the region, including the similar broad range of services provided by our Americas and EMEA segments. Our principal operations in Asia are located in China (including Hong Kong), Singapore, South Korea and Japan. The Pacific region includes Australia and New Zealand, with principal offices located in Brisbane, Melbourne, Sydney, Perth, Auckland and Wellington. The Asia Pacific segment accounted for 7.3% of our 2003 revenue, 7.8% of our 2002 revenue and 6.9% of our 2001 revenue.

 

Our Competitive Strengths

 

We believe we possess several competitive strengths that position us to capitalize on the positive outsourcing, consolidation and globalization trends in the commercial real estate services industry. Our strengths include the following:

 

  Global Brand and Market Leading Positions. For nearly a century, we and our predecessors have built the CB Richard Ellis brand into the largest commercial real estate services provider in the world, based on 2003 revenue, and one of only two commercial real estate services companies with a global brand. As a result of our global brand recognition and geographic reach, large corporations, institutional owners and users of real estate recognize us as a leading provider of world-class, comprehensive real estate services. Operating under the global CB Richard Ellis brand name, we are the leader in many of the local markets in which we operate, including New York, Los Angeles, Chicago and London.

 

  Full Service Capabilities. We provide a full range of commercial real estate services to meet the needs of our clients, and we believe this suite of services represents a broader range globally than those of many of our competitors. When combined with our extensive global reach and localized knowledge, this full range of real estate services enables us to provide world-class service to our multi-regional and multi-national clients, as well as to maximize our revenue per client.

 

  Strong Client Relationships and Client-tailored Service. We have forged long-term relationships with many of our clients. Our clients include more than 60% of the Fortune 100, with nearly half of these clients purchasing more than one service from us. In order to better satisfy the needs of our largest clients and to capture cross-selling opportunities, we have organized fully-integrated client coverage teams comprised of senior management, a global relationship manager and regional and product specialists. We believe that this client-tailored approach contributed significantly to our 38.6% increase in revenues from the 50 largest clients of our U.S. investment sales group within our real estate services line of business during the period from 1999 to 2003.

 

  Attractive Business Model. Our business model features a diversified client base, recurring revenue streams, a variable cost structure, low capital requirements and strong cash flow generation.

 

  Diversified Client Base. Our global operations, multiple service lines and extensive client relationships provide us with a diversified revenue base. For 2003, on a pro forma basis, we estimate that corporations accounted for 25% of our global revenues, insurance companies and banks accounted for 23% of revenues, pension funds and their advisors accounted for 14% of revenues, individuals and partnerships accounted for 11% of revenues, REITs accounted for 10% of revenues and other types of clients accounted for the remainder of our revenues.

 

  Recurring Revenue Streams. Our years of strong local market presence have allowed us to develop significant repeat client relationships, which are responsible for a large part of our business. We also generate recurring revenue through the turnover of leases and properties for which we have previously acted as transaction manager, as well as from our contractual, annual fee-for-services businesses.

 

  Variable Cost Structure. Compensation is one of our largest expenses, and our sales and leasing professionals are generally paid on a commission and bonus basis, which correlates with our revenue performance. This flexible cost structure mitigates the negative effect on our operating margins during difficult market conditions.

 

 

Low Capital Requirements. Our business model is structured to provide value-added services with low

 

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capital intensity. During 2003, our net capital expenditures were 1.7% of our revenue.

 

  Strong Cash Flow Generation. Our strong brand name, full-service capabilities, and global presence enable us to generate significant revenues which, when combined with our flexible cost structure and low capital requirements, have allowed us historically to generate significant cash flow in a variety of economic conditions.

 

  Strong Senior Management Team and Workforce. Our most important asset is our people. We have recruited a talented and motivated work force of over 13,500 employees worldwide. Our employees are supported by a strong and deep senior management team consisting of a number of highly-respected executives, most of whom have over 20 years of broad experience in the real estate industry. In addition, we use equity compensation to align the interests of our senior management team with the interests of our stockholders. Our senior management team beneficially owned approximately 3.9% of our common stock as of March 1, 2004, and our employees, as a group, owned 8.0% of our common stock on the same date.

 

Our Growth Strategy

 

We believe we have built the premier integrated global services platform in our industry. In developing this integrated global platform, we acquired such entities as The Koll Company, Westmark Realty Advisors, L.J. Melody, Richard Ellis International and Hillier Parker May & Rowden during the 1990s and, in 2003, we acquired Insignia Financial Group. Today, we believe we offer the commercial real estate services industry’s most complete suite of service offerings and the leadership position in most of the top 25 business centers around the world. Our primary business objective is to leverage this platform in order to garner an increasing share of industry revenues relative to our competitors. We believe this will enable us to maximize and sustain our long-term cash flow and increase long-term stockholder value. Our strategy to achieve these business objectives consists of several elements:

 

  Increase Revenue from Large Clients. We plan to capitalize on our client management strategy for our large clients, which is designed to provide them with a full range of services globally while maximizing revenue per client. We deliver these services through relationship management teams that are charged with thoroughly understanding our customers’ business and real estate strategies and matching our services to the customers’ requirements. The global relationship manager is a highly seasoned professional who is focused on maximizing revenue per client and compensated with a salary and a performance-based bonus and is supported by salaried professionals with specialized expertise, such as marketing, financial analysis and construction. The team leader also taps into our field-level transaction professionals, as necessary, for execution of client strategies. We believe this approach to client management will lead to stronger client relationships and enable us to maximize cross-selling opportunities and capture a larger share of our clients’ commercial real estate services expenditures. For example:

 

  we generated repeat business in 2003 from approximately 60% of our U.S. real estate sales and leasing clients;

 

  more than 40% of our corporate services clients today purchase more than one service and, in many cases, more than two;

 

  the square footage we manage for our 15 largest asset services clients has grown by 55% in three years; and

 

  the 50 largest clients of the investment sales group within our real estate services line of business generated $52.6 million in revenues in 2003—up 38.6% from $37.9 million for these same 50 clients four years earlier.

 

  Capitalize on Cross-selling Opportunities. Because we believe cross-selling represents a large growth opportunity within the commercial real estate services industry, we are committed to emphasizing this opportunity across all of our clients, services and regions. We have dedicated substantial resources and implemented several management initiatives to better enable our workforce to capitalize on these opportunities among our various lines of business, including our “ESG University” outside Chicago that provides intensive training for sales and management professionals, a customer relationship management database and sales management principles and incentives designed to improve individual productivity. We believe the combination of these initiatives will enable us to further penetrate local markets and better capitalize on our worldwide platform.

 

 

Continue to Grow our Investment Management Business. Our growing investment management business provides us with an attractive revenue source through fees on assets under management and gains on the sales of assets. We also expect to achieve strong growth in this business by continuing to harness the vast resources of the entire CB Richard Ellis organization for the benefit of our investment management clients. CBRE Investors’ independent structure creates an alignment of interests with its investors, while permitting its portfolio companies to use the broad range of services provided by our other business lines. As a result, we historically have received

 

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significant revenue from the provision of services on an arm’s length basis to these portfolio companies, and we believe this will continue in the future.

 

  Focus on Best Practices to Improve Operating Efficiency. In 2001, we launched a best practices initiative branded “People, Platform & Performance,” and we believe the process and operational improvements associated with this initiative contributed to operating cost reductions. We believe our focus on best practices has enabled us to generate industry-leading operating margins. We remain keenly focused on this strategic initiative and continue to strive for efficiency improvements and cost savings in order to maximize our operating margins and cash flow.

 

Competition

 

We compete across a variety of business disciplines within the commercial real estate services industry, including investment management, tenant representation, corporate services, construction and development management, property management, agency leasing, valuation and mortgage banking. Each of the business disciplines in which we compete is highly competitive on an international, national, regional and local level. Although we are the largest commercial real estate services firm in the world in terms of 2003 revenue, our relative competitive position varies significantly across product and service categories and geographic areas. Depending on the product or service, we face competition from other commercial real estate service providers, institutional lenders, insurance companies, investment banking firms, investment managers and accounting firms, some of which may have greater financial resources than we do. Many of our competitors are local or regional firms. Although substantially smaller than we are, some of these competitors are larger on a local or regional basis. We are also subject to competition from other large national and multi-national firms that have similar service competencies to ours, including Cushman & Wakefield, Grubb & Ellis, Jones Lang LaSalle and Trammell Crow.

 

Seasonality

 

A significant portion of our revenue is seasonal. Historically, this seasonality has caused our revenue, operating income, net income and cash flow from operating activities to be lower in the first two calendar quarters and higher in the third and fourth calendar quarters of each year. The concentration of earnings and cash flow in the fourth quarter is due to an industry-wide focus on completing transactions by year-end.

 

Employees

 

At December 31, 2003, we had approximately 13,500 employees worldwide. At March 1, 2004, approximately 245 of our employees were subject to collective bargaining agreements, the substantial majority of whom are employees in our asset services business in the New York/New Jersey area. We believe that relations with our employees are satisfactory.

 

Risks Related to Our Business

 

The success of our business is significantly related to general economic conditions and, accordingly, our business could be harmed in the event of an economic slowdown or recession.

 

Periods of economic slowdown or recession, rising interest rates, a declining demand for real estate or the public perception that any of these events may occur, can harm many of our business lines. These economic conditions could result in a general decline in rents, which in turn would reduce revenue from property management fees and brokerage commissions derived from property sales and leases. In addition, these conditions could lead to a decline in sales prices as well as a decline in demand for funds invested in commercial real estate and related assets. An economic downturn or a significant increase in interest rates also may reduce the amount of loan originations and related servicing by the commercial mortgage banking business. If the brokerage and mortgage banking businesses are negatively impacted, it is likely that the other lines of business would also suffer due to the relationship among the various business lines. Further, as a result of our debt level and the terms of our existing debt instruments, our exposure to adverse general economic conditions is heightened.

 

As an example of this risk, during 2002 and 2001, we were adversely affected by the slowdown in the global economy, which negatively impacted the commercial real estate market. This caused a decline in our leasing activities within the United States, which was only partially offset by improved overall revenues in Europe and Asia. Moreover, in part because of the terrorist attacks on September 11, 2001 and the subsequent outbreak of hostilities, as well as the conflict with Iraq, the economic climate in the United States became very uncertain, which had an adverse effect on commercial real estate market conditions and, in turn, our operating results.

 

If the properties that we manage fail to perform, then our financial condition and results of operations could be harmed.

 

The revenue we generate from our asset services and facilities management lines of business is generally a percentage of aggregate rent collections from properties, although many management agreements provide for a specified minimum management fee. Accordingly, our success partially depends upon the performance of the properties we manage. The

 

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performance of these properties will depend upon the following factors, among others, many of which are partially or completely outside of our control:

 

  our ability to attract and retain creditworthy tenants;

 

  the magnitude of defaults by tenants under their respective leases;

 

  our ability to control operating expenses;

 

  governmental regulations, local rent control or stabilization ordinances which are in, or may be put into, effect;

 

  various uninsurable risks;

 

  financial conditions prevailing generally and in the areas in which these properties are located;

 

  the nature and extent of competitive properties; and

 

  the real estate market generally.

 

We have numerous significant competitors, some of which may have greater financial resources than we do.

 

We compete across a variety of business disciplines within the commercial real estate industry, including investment management, tenant representation, corporate services, construction and development management, property management, agency leasing, valuation and mortgage banking. In general, with respect to each of our business disciplines, we cannot give assurance that we will be able to continue to compete effectively or maintain our current fee arrangements or margin levels or that we will not encounter increased competition. Each of the business disciplines in which we compete is highly competitive on an international, national, regional and local level. Although we are the largest commercial real estate services firm in the world in terms of 2003 revenue, our relative competitive position varies significantly across product and service categories and geographic areas. Depending on the product or service, we face competition from other real estate service providers, institutional lenders, insurance companies, investment banking firms, investment managers and accounting firms, some of which may have greater financial resources than we do. Many of our competitors are local or regional firms. Although substantially smaller than we are, some of these competitors are larger on a local or regional basis. We are also subject to competition from other large national and multi-national firms that have similar service competencies to ours.

 

Our international operations subject us to social, political and economic risks of doing business in foreign countries.

 

We conduct a significant portion of our business and employ a substantial number of people outside of the United States. During 2003, we generated approximately 30.2% of our revenue from operations outside the United States. Circumstances and developments related to international operations that could negatively affect our business, financial condition or results of operations include, but are not limited to, the following factors:

 

  difficulties and costs of staffing and managing international operations;

 

  currency restrictions, which may prevent the transfer of capital and profits to the United States;

 

  unexpected changes in regulatory requirements;

 

  potentially adverse tax consequences;

 

  the responsibility of complying with multiple and potentially conflicting laws;

 

  the impact of regional or country-specific business cycles and economic instability;

 

  the geographic, time zone, language and cultural differences among personnel in different areas of the world;

 

  greater difficulty in collecting accounts receivable in some geographic regions such as Asia, where many countries have underdeveloped insolvency laws and clients are often slow to pay, and in some European countries, where clients also tend to delay payments;

 

  political instability; and

 

  foreign ownership restrictions with respect to operations in countries such as China.

 

We have committed additional resources to expand our worldwide sales and marketing activities, to globalize our service offerings and products in selected markets and to develop local sales and support channels. If we are unable to successfully

 

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implement these plans, to maintain adequate long-term strategies that successfully manage the risks associated with our global business or to adequately manage operational fluctuations, our business, financial condition or results of operations could be harmed.

 

In addition, our international operations and, specifically, the ability of our non-U.S. subsidiaries to dividend or otherwise transfer cash among our subsidiaries, including transfers of cash to pay interest and principal on our debt, may be affected by limitations on imports, currency exchange control regulations, transfer pricing regulations and potentially adverse tax consequences, among other things.

 

Our revenue and earnings may be adversely affected by foreign currency fluctuations.

 

Our revenue from non-U.S. operations has been denominated primarily in the local currency where the associated revenue was earned. During 2003, approximately 30.2% of our business was transacted in currencies of foreign countries, the majority of which included the Euro, the British Pound Sterling, the Hong Kong dollar, the Singapore dollar and the Australian dollar. Thus, we may experience fluctuations in revenues and earnings because of corresponding fluctuations in foreign currency exchange rates. For example, during 2003, the U.S. dollar dropped against many of the currencies in which we conduct business.

 

We have made significant acquisitions of non-U.S. companies and may acquire additional foreign companies in the future. As we increase our foreign operations, fluctuations in the value of the U.S. dollar relative to the other currencies in which we may generate earnings could adversely affect our business, financial condition and operating results. Due to the constantly changing currency exposures to which we will be subject and the volatility of currency exchange rates, we cannot predict the effect of exchange rate fluctuations upon future operating results. In addition, fluctuations in currencies relative to the U.S. dollar may make it more difficult to perform period-to-period comparisons of our reported results of operations.

 

From time to time, our management uses currency hedging instruments, including foreign currency forward and option contracts and borrows in foreign currencies. Economic risks associated with these hedging instruments include unexpected fluctuations in inflation rates, which impact cash flow relative to paying down debt, and unexpected changes in the underlying net asset position. These hedging activities also may not be effective.

 

Our growth has depended significantly upon acquisitions, which may not be available in the future.

 

A significant component of our growth has occurred through acquisitions, including the acquisition of Insignia Financial Group on July 23, 2003. Although we currently have no specific acquisition plans, any future growth through acquisitions will be partially dependent upon the continued availability of suitable acquisition candidates at favorable prices and upon advantageous terms and conditions. However, future acquisitions may not be available at advantageous prices or upon favorable terms and conditions. In addition, acquisitions involve risks that the businesses acquired will not perform in accordance with expectations and that business judgments concerning the value, strengths and weaknesses of businesses acquired will prove incorrect.

 

If we make future acquisitions, we may experience integration problems and the acquired business may not perform as we expect.

 

We have had, and may continue to experience, difficulties in integrating operations and accounting systems acquired from other companies. These difficulties include the diversion of management’s attention from other business concerns and the potential loss of our key employees or those of the acquired operations. We believe that most acquisitions will initially have an adverse impact on operating and net income. For example, in 2003 we incurred costs associated with integrating Insignia Financial Group’s business into our existing business lines. Acquisitions also frequently involve significant costs related to integrating information technology, accounting and management services and rationalizing personnel levels. In connection with the Insignia acquisition, we recorded significant charges during 2003 relating to integration costs.

 

In addition, we have several different accounting systems as a result of acquisitions we have made, including the accounting systems of Insignia Financial Group. If we are unable to fully integrate the accounting and other systems of the businesses we own, we may not be able to effectively manage our acquired businesses. Moreover, the integration process itself may be disruptive to our business as it requires coordination of geographically diverse organizations and implementation of new accounting and information technology systems.

 

A significant portion of our operations are concentrated in California and New York, and our business could be harmed if the economic downturn continues in the California or New York real estate markets.

 

During 2003, a significant amount of our revenue was generated from transactions originating in California and the greater New York metropolitan area. As a result of the geographic concentrations in California and New York, any future economic downturn in the California and New York commercial real estate markets and in the local economies in San Diego, Los Angeles, Orange County or the greater New York metropolitan area could further harm our results of operations.

 

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Our results of operations vary significantly among quarters, which makes comparison of our quarterly results difficult.

 

A significant portion of our revenue is seasonal. Historically, this seasonality has caused our revenue, operating income, net income and cash flow from operating activities to be lower in the first two quarters and higher in the third and fourth quarters of each year. The concentration of earnings and cash flow in the fourth quarter is due to an industry-wide focus on completing transactions toward the fiscal year-end. This has historically resulted in lower profits or a loss in the first and second quarters, with profits growing (or losses decreasing) in each subsequent quarter.

 

Our substantial leverage and debt service obligations could harm our ability to operate our business, remain in compliance with debt covenants and make payments on our debt.

 

We are highly leveraged and have significant debt service obligations. For 2003, on a pro forma basis, our interest expense was $99.5 million. Our substantial level of indebtedness increases the possibility that we may be unable to generate cash sufficient to pay when due the principal of, interest on or other amounts due in respect of our indebtedness. In addition, we may incur additional debt from time to time to finance strategic acquisitions, investments, joint ventures or for other purposes, subject to the restrictions contained in the documents governing our indebtedness. If we incur additional debt, the risks associated with our substantial leverage, including our ability to service our debt, would increase.

 

Our substantial debt could have other important consequences, which include, but are not limited to, the following:

 

  we could be required to use a substantial portion, if not all, of our cash flow from operations to pay principal and interest on our debt;

 

  our level of debt may restrict us from raising additional financing on satisfactory terms to fund working capital, strategic acquisitions, investments, joint ventures and other general corporate requirements;

 

  our interest expense could increase if interest rates increase because all of our debt under the amended and restated credit agreement governing our senior secured credit facilities, including $300.0 million in term loans and a revolving credit facility of up to $90.0 million, bears interest at floating rates, generally between LIBOR plus 3.00% to 3.75% or the alternate base rate plus 2.00% to 2.75%. The alternate base rate is the higher of (1) Credit Suisse First Boston’s prime rate and (2) the federal funds effective rate plus 0.50%;

 

  our substantial leverage could increase our vulnerability to general economic downturns and adverse competitive and industry conditions, placing us at a disadvantage compared to those of our competitors that are less leveraged;

 

  our debt service obligations could limit our flexibility in planning for, or reacting to, changes in our business and in the real estate services industry; and

 

  our failure to comply with the financial and other restrictive covenants in the documents governing our indebtedness, which, among others, require us to maintain specified financial ratios and limit our ability to incur additional debt and sell assets, could result in an event of default that, if not cured or waived, could harm our business or prospects and could result in our filing for bankruptcy.

 

We cannot be certain that our earnings will be sufficient to allow us to pay principal and interest on our debt and meet our other obligations. If we do not have sufficient earnings, we may be required to refinance all or part of our existing debt, sell assets, borrow more money or sell more securities, none of which we can guarantee we will be able to do.

 

We will be able to incur more indebtedness, which may intensify the risks associated with our substantial leverage, including our ability to service our indebtedness.

 

The amended and restated credit agreement governing our senior secured credit facilities and the indentures relating to our 9¾% senior notes due 2010 and our 11¼% senior subordinated notes due 2011 permit us, subject to specified conditions, to incur a significant amount of additional indebtedness, including additional indebtedness under our $90.0 million revolving credit facility. If we incur additional debt, the risks associated with our substantial leverage, including our ability to service our debt, would increase.

 

Our debt instruments impose significant operating and financial restrictions on us, and in the event of a default, all of our borrowings would become immediately due and payable.

 

The indentures governing our 9¾% senior notes due 2010 and our 11¼% senior subordinated notes due 2011 impose, and the terms of any future debt may impose, operating and other restrictions on us and many of our subsidiaries. These restrictions will affect, and in many respects will limit or prohibit, our ability and our restricted subsidiaries’ abilities to:

 

  incur or guarantee additional indebtedness;

 

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  pay dividends or make distributions on capital stock or redeem or repurchase capital stock;

 

  repurchase equity interests;

 

  make investments;

 

  create restrictions on the payment of dividends or other amounts to us;

 

  sell stock of subsidiaries;

 

  transfer or sell assets;

 

  create liens;

 

  enter into transactions with affiliates;

 

  enter into sale/leaseback transactions; and

 

  enter into mergers or consolidations.

 

In addition, the amended and restated credit agreement governing our senior secured credit facilities includes other and more restrictive covenants and prohibits us from prepaying most of our other debt while debt under our senior secured credit facilities is outstanding. The amended and restated credit agreement governing our senior secured credit facilities also requires us to maintain compliance with specified financial ratios. Our ability to comply with these ratios may be affected by events beyond our control.

 

The restrictions contained in our debt instruments could:

 

  limit our ability to plan for or react to market conditions or meet capital needs or otherwise restrict our activities or business plans; and

 

  adversely affect our ability to finance ongoing operations, strategic acquisitions, investments or other capital needs or to engage in other business activities that would be in our interest.

 

A breach of any of these restrictive covenants or the inability to comply with the required financial ratios could result in a default under our debt instruments. If any such default occurs, the lenders under the senior secured credit facilities and the holders of our 9¾% senior notes due 2010 and our 11¼% senior subordinated notes due 2011, pursuant to the respective indentures, may elect to declare all outstanding borrowings, together with accrued interest and other fees, to be immediately due and payable. The lenders under our senior secured credit facilities also have the right in these circumstances to terminate any commitments they have to provide further borrowings. If we are unable to repay outstanding borrowings when due, the lenders under the senior secured credit facilities will have the right to proceed against the collateral granted to them to secure the debt, which includes our available cash. If the debt under the senior secured credit facilities, our 9¾% senior notes due 2010 and our 11¼% senior subordinated notes due 2011 were to be accelerated, we cannot give assurance that our assets would be sufficient to repay our debt.

 

If we fail to meet our payment or other obligations under the senior secured credit facilities, the lenders under the senior secured credit facilities could foreclose on, and acquire control of, substantially all of our assets.

 

In connection with the incurrence of indebtedness under our senior secured credit facilities and the completion of our acquisition of Insignia Financial Group, Inc., the lenders under our senior secured credit facilities received a pledge of all of our equity interests in our significant domestic subsidiaries, including CB Richard Ellis Services, Inc., CB Richard Ellis Investors, L.L.C., L.J. Melody & Company, Insignia Financial Group and Insignia/ESG, Inc., which was subsequently renamed CB Richard Ellis Real Estate Services, Inc., and 65% of the voting stock of our foreign subsidiaries that is held directly by us or our domestic subsidiaries. Additionally, these lenders generally have a lien on substantially all of our accounts receivable, cash, general intangibles, investment property and future acquired material property. As a result of these pledges and liens, if we fail to meet our payment or other obligations under the senior secured credit facilities, the lenders under the senior secured credit facilities will be entitled to foreclose on substantially all of our assets and liquidate these assets.

 

Our co-investment activities subject us to real estate investment risks which could cause fluctuations in earnings and cash flow.

 

An important part of the strategy for our investment management business involves investing our capital in certain real estate investments with our clients. As of December 31, 2003, we had committed $26.6 million to fund future co-investments. We expect that approximately $23 million of these commitments will be funded during 2004. In addition to required future capital contributions, some of the co-investment entities may request additional capital from us and our subsidiaries holding investments in those assets, and the failure to provide these contributions could have adverse

 

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consequences to our interests in these investments. Although our debt instruments contain restrictions that will limit our ability to provide capital to the entities holding direct or indirect interests in co-investments, we may provide this capital in some instances.

 

Participation in real estate transactions through co-investment activity could increase fluctuations in earnings and cash flow. Other risks associated with these activities include, but are not limited to, the following:

 

  losses from investments;

 

  difficulties associated with international co-investments described in “—Our international operations subject us to social, political and economic risks of doing business in foreign countries” and “—Our revenue and earnings may be adversely affected by foreign currency fluctuations;” and

 

  potential lack of control over the disposition of any co-investments and the timing of the recognition of gains, losses or potential incentive participation fees.

 

Our joint venture activities involve unique risks that are often outside of our control which, if realized, could harm our business.

 

We have utilized joint ventures for commercial investments and local brokerage and other partnerships both in the United States and internationally, and we may acquire minority interests in other joint ventures in the future. In many of these joint ventures, we may not have the right or power to direct the management and policies of the joint ventures and other participants may take action contrary to our instructions or requests and against our policies and objectives. In addition, the other participants may become bankrupt or have economic or other business interests or goals that are inconsistent with ours. If a joint venture participant acts contrary to our interest, it could harm our business, results of operations and financial condition.

 

Our success depends upon the retention of our senior management, as well as our ability to attract and retain qualified and experienced employees.

 

Our continued success is highly dependent upon the efforts of our executive officers and other key employees, including Ray Wirta, our Chief Executive Officer; Brett White, our President; Kenneth J. Kay, our Chief Financial Officer; Stephen Siegel, our Chairman, Global Brokerage; Mitchell Rudin, our President, U.S. Brokerage Services; and Alan Froggatt, our Chief Executive Officer, EMEA. In addition, Messrs. Wirta and White currently are not parties to employment agreements with us. If any of our key employees leave and we are unable to quickly hire and integrate a qualified replacement, our business, financial condition and results of operations may suffer. In addition, the growth of our business is largely dependent upon our ability to attract and retain qualified personnel in all areas of our business, including brokerage and property management personnel. If we are unable to attract and retain these qualified personnel, our growth may be limited and our business and operating results could suffer.

 

If we fail to comply with laws and regulations applicable to real estate brokerage and mortgage transactions and other business lines, we may incur significant financial penalties.

 

Due to the broad geographic scope of our operations and the numerous forms of real estate services performed, we are subject to numerous federal, state and local laws and regulations specific to the services performed. For example, the brokerage of real estate sales and leasing transactions requires us to maintain brokerage licenses in each state in which we operate. If we fail to maintain our licenses or conduct brokerage activities without a license, we may be required to pay fines or return commissions received or have licenses suspended. In addition, because the size and scope of real estate sales transactions have increased significantly during the past several years, both the difficulty of ensuring compliance with the numerous state licensing regimes and the possible loss resulting from non-compliance have increased. Furthermore, the laws and regulations applicable to our business, both in the United States and in foreign countries, also may change in ways that materially increase the costs of compliance.

 

We may have liabilities in connection with real estate brokerage and property management activities.

 

As a licensed real estate broker, we and our licensed employees are subject to statutory due diligence, disclosure and standard-of-care obligations. Failure to fulfill these obligations could subject us or our employees to litigation from parties who purchased, sold or leased properties we or they brokered or managed. We could become subject to claims by participants in real estate sales claiming that we did not fulfill our statutory obligations as a broker.

 

In addition, in our property management business, we hire and supervise third-party contractors to provide construction and engineering services for our managed properties. While our role is limited to that of a supervisor, we may be subjected to claims for construction defects or other similar actions. Adverse outcomes of property management litigation could negatively impact our business, financial condition or results of operations.

 

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We agreed to retain contingent liabilities in connection with Insignia’s sale of substantially all of its real estate investment assets in 2003.

 

Immediately prior to the completion of our acquisition of Insignia Financial Group on July 23, 2003, Insignia completed the sale of substantially all of its real estate investment assets to Island Fund. Under the terms of the purchase agreement, we agreed to retain some contingent liabilities related to these real estate investment assets, including approximately $10.2 million of letters of credit support and a guarantee of approximately a $1.3 million repayment obligation. Island Fund is obligated to reimburse us for only 50% of any future draws against these letters of credit or the repayment guarantee, and there can be no assurance that Island Fund will be able to satisfy any future requests for reimbursement.

 

Also in connection with the sale to Island Fund, we agreed to indemnify Island Fund against any losses resulting from the ownership, use or operation of the real estate investment assets prior to the closing of the sale. Although this indemnification obligation to Island Fund is subject to a number of exceptions and limitations, future claims against us pursuant to this indemnification obligation may be material.

 

In addition, a number of the real estate investment assets that we agreed to sell to Island Fund required the consent of one or more third parties in order to transfer such assets to Island Fund, and some of these third party consents were not obtained prior to or since the closing. As a result, we continue to hold these real estate investment assets pending the receipt of these third party consents. While we continue to hold these assets, we generally have agreed to provide Island Fund with the economic benefits from these assets, and Island Fund generally has agreed to indemnify us with respect to any losses incurred in connection with our continuing to hold these assets. There can be no assurance, however, that Island Fund actually will be able to provide such indemnification if required to do so at any future date.

 

Item 2. Properties

 

We occupied the following offices as of December 31, 2003:

 

Location


   Sales Offices

   Corporate Offices

   Total

Americas

   139    2    141

Europe, Middle East and Africa

     52    1    53

Asia Pacific

     25    1    26
    
  
  

Total

   216    4    220
    
  
  

 

We do not own any offices, which is consistent with our strategy to lease instead of own. In general, these leased offices are fully utilized. In addition, we believe there is adequate alternative office space available at acceptable rental rates to meet our needs, although rental rates in some markets may negatively affect our profits in those markets.

 

Item 3. Legal Proceedings

 

We are party to a number of pending or threatened lawsuits arising out of, or incident to, our ordinary course of business. Our management believes that any liability imposed on us that may result from disposition of these lawsuits will not have a material effect on our consolidated financial position or results of operations.

 

Item 4. Submission of Matters to a Vote of Security Holders

 

There were no matters submitted to a vote of security holders during the fourth quarter of 2003.

 

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PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

Neither our Class A common stock nor our Class B common stock is publicly traded on any exchange or in any market. At March 1, 2004, we had 84 record holders of our Class A common stock and 12 record holders of our Class B common stock.

 

We have not declared or paid any dividends on any class of our common stock since our inception on February 20, 2001, and we do not anticipate declaring or paying any dividends on our common stock for the foreseeable future. We currently intend to retain any future earnings to finance future growth. Any future determination to pay dividends will be at the discretion of our board of directors and will depend on our financial condition, results of operations, capital requirements and other factors the board of directors deems relevant. In addition, our ability to declare and pay dividends is restricted by the amended and restated credit agreement governing our senior secured credit facilities and the indentures relating to our 16% senior notes due 2011, our 9 ¾% senior notes due 2010 and our 11¼% senior subordinated notes due 2011.

 

During 2003, in recruiting various key employees, we offered such employees the right to purchase shares of our Class A common stock, in each case at $16.00 per share, in the following transactions:

 

Number of Shares


  

Date of Purchase


  

Total Consideration


10,000

   January 15, 2003    $  80,000 cash
          $  80,000 note

25,000

   January 31, 2003    $400,000 cash

  3,125

   February 10, 2003    $  50,000 cash

  3,125

   February 10, 2003    $  50,000 cash

25,000

   October 3, 2003    $400,000 cash

 

Such stock was issued pursuant to our 2001 Stock Incentive Plan in transactions exempt from registration under Rule 701 promulgated pursuant to the Securities Act of 1933, as amended.

 

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Item 6. Selected Financial Data

 

The following table sets forth our selected historical consolidated financial information for each of the five years in the period ended December 31, 2003. On July 20, 2001, we acquired CB Richard Ellis Services, Inc. Except as otherwise indicated below, the selected historical financial data for the dates and periods ended prior to July 20, 2001 are derived from the consolidated financial statements of CB Richard Ellis Services, our “predecessor company.” The statement of operations and other data for the twelve months ended December 31, 2003 and 2002, for the period from February 20 to December 31, 2001 and for the period from January 1 to July 20, 2001 and the balance sheet data as of December 31, 2003 and 2002 were derived from our or our predecessor’s audited consolidated financial statements included elsewhere in this Form 10-K. The statement of operations and other data for the twelve months ended December 31, 2000 and 1999 and the balance sheet data as of December 31, 2001, 2000 and1999 were derived from our or our predecessor’s audited consolidated financial statements that are not included in this Form 10-K.

 

The selected financial data presented below are not necessarily indicative of results of future operations and should be read in conjunction with our consolidated financial statements and the information included under the headings “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Form 10-K.

 

SELECTED CONSOLIDATED FINANCIAL INFORMATION

(Dollars in thousands, except share data)

 

    CB Richard Ellis Group

    Predecessor Company

 
    Year Ended December 31,

   

Period From
February 20

(inception)

to

December 31,


   

Period From
January 1

to July 20,


   

Year Ended December 31,


 
    2003 (1)

    2002

    2001 (2)

    2001

    2000

    1999

 

STATEMENTS OF OPERATIONS DATA:

                                               

Revenue

  $ 1,630,074     $ 1,170,277     $ 562,828     $ 607,934     $ 1,323,604     $ 1,213,039  

Operating income (loss)

    40,195       106,062       62,732       (14,174 )     107,285       76,899  

Interest expense, net

    81,175       57,229       27,290       18,736       39,146       37,438  

Net income (loss)

    (34,704 )     18,727       17,426       (34,020 )     33,388       23,282  

EPS (3):

                                               

Basic

    (1.89 )     1.25       2.22       (1.60 )     1.60       1.11  

Diluted

    (1.89 )     1.23       2.20       (1.60 )     1.58       1.10  

Weighted average shares (4):

                                               

Basic

    18,373,118       15,025,308       7,845,004       21,306,584       20,931,111       20,998,097  

Diluted

    18,373,118       15,222,111       7,909,797       21,306,584       21,097,240       21,072,436  

STATEMENTS OF CASH FLOWS DATA:

                                               

Net cash provided by (used in) operating activities

  $ 63,941     $ 64,882     $ 91,334     $ (120,230 )   $ 80,859     $ 70,340  

Net cash used in investing activities

    (284,795 )     (24,130 )     (261,393 )     (12,139 )     (32,469 )     (23,096 )

Net cash provided by (used in) financing activities

    303,664       (17,838 )     213,881       126,230       (53,523 )     (37,721 )

OTHER DATA:

                                               

EBITDA (5)

  $ 132,817     $ 130,676     $ 74,930     $ 11,482     $ 150,484     $ 117,369  

 

     CB Richard Ellis Group

   Predecessor Company

     As of December 31,

     2003

   2002

   2001

   2000

   1999

BALANCE SHEET DATA:

                                  

Cash and cash equivalents

   $ 163,881    $ 79,701    $ 57,450    $ 20,854    $ 27,844

Total assets

     2,213,481      1,324,876      1,354,512      963,105      929,483

Long-term debt, including current portion

     802,705      509,715      532,286      304,949      364,637

Total liabilities

     1,873,896      1,067,920      1,097,693      724,018      715,874

Total stockholders’ equity

     332,929      251,341      252,523      235,339      209,737

Note: We and our predecessor have not declared any cash dividends on common stock for the periods shown.

 

(1) The results for the year ended December 31, 2003 include the operations of Insignia Financial Group, Inc. from July 23, 2003, the date Insignia was acquired by our wholly owned subsidiary, CB Richard Ellis Services.

 

(2) The results for the period from February 20 (inception) to December 31, 2001 include the activities of CB Richard Ellis Services from July 20, 2001, the date we acquired CB Richard Ellis Services.

 

(3) EPS represents (loss) earnings per share. See (loss) Earnings Per Share Information in Note 16 of our Notes to Consolidated Financial Statements.

 

(4) For the period from February 20 (inception) to December 31, 2001, the 7,845,004 and the 7,909,797 represent the weighted average shares outstanding for basic and diluted earnings per share, respectively. These balances take into consideration the lower number of shares outstanding prior to July 20, 2001, the date we acquired CB Richard Ellis Services.

 

(5) EBITDA represents earnings before net interest expense, income taxes, depreciation and amortization. We believe that the presentation of EBITDA will enhance a reader’s understanding of our operating performance. EBITDA is also a measure used by our senior management to evaluate the performance of our various lines of business and for other required or discretionary purposes, such as the use of EBITDA as a significant component when measuring performance under our employee incentive programs. EBITDA should not be considered as an alternative to (a) operating income determined in accordance with accounting principles generally accepted in the United States or (b) operating cash flow determined in accordance with accounting principles generally accepted in the United States. Our calculation of EBITDA may not be comparable to similarly titled measures reported by other companies.

 

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EBITDA is calculated as follows:

 

     CB Richard Ellis Group

   Predecessor Company

    

Year Ended
December 31,


  

Period From
February 20

(inception) to

December 31,


  

Period From

January 1

to July 20,


   

Year Ended
December 31,


     2003

   2002

   2001

   2001

    2000

   1999

     (Dollars in thousands)

Operating income (loss)

   $ 40,195    $ 106,062    $ 62,732    $ (14,174 )   $ 107,285    $ 76,899

Add:

                                          

Depreciation and amortization

     92,622      24,614      12,198      25,656       43,199      40,470
    

  

  

  


 

  

EBITDA

   $ 132,817    $ 130,676    $ 74,930    $ 11,482     $ 150,484    $ 117,369
    

  

  

  


 

  

 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

This Form 10-K contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in forward-looking statements for many reasons, including the risks described under the heading “Risks Related to Our Business” and elsewhere in this Form 10-K. You should read the following discussion in conjunction with the information included under the headings “Selected Financial Data” and the financial statements and related notes included elsewhere in this Form 10-K.

 

Overview

 

We are the largest global commercial real estate services firm, based on 2003 revenue, offering a full range of services to occupiers, owners, lenders and investors in office, retail, industrial, multi-family and other commercial real estate assets. As of December 31, 2003, we operate in 48 countries with over 13,500 employees in 220 offices providing commercial real estate services under the “CB Richard Ellis” brand name. Our business is focused on several service competencies, including strategic advice and execution assistance for property leasing and sales, forecasting, valuations, origination and servicing of commercial mortgage loans, facilities and project management and real estate investment management. We generate revenues both on a per project or transaction basis and from annual management fees.

 

When you read our financial statements and the information included in this section, you should consider that we have experienced, and continue to experience, several material trends and uncertainties that have affected our financial condition and results of operations and make it challenging to predict our future performance based on our historical results. We believe that the following material trends and uncertainties are most crucial to an understanding of the variability in our historical earnings and cash flows and the potential for such variances in the future:

 

Macroeconomic Conditions

 

Our operations are directly affected by actual and perceived trends in various national and economic conditions that affect global and regional markets for commercial real estate services, including interest rates, the availability of credit to finance commercial real estate transactions and the impact of tax laws affecting real estate. Periods of economic slowdown or recession, rising interest rates, a declining demand for real estate or the public perception that any of these events may occur, can harm many of our business lines. These economic conditions could result in a general decline in rents, which in turn would reduce revenue from property management fees and brokerage commissions derived from property sales and leases. In addition, these conditions could lead to a decline in sales prices as well as a decline in demand for funds invested in commercial real estate and related assets. An economic downturn or a significant increase in interest rates also could reduce the amount of loan originations and related servicing by the commercial mortgage banking business. If the brokerage and mortgage banking businesses are negatively impacted, it is likely that our other lines of business would also suffer due to the relationship among the various business lines. Further, as a result of our debt level and the terms of our existing debt instruments, our exposure to adverse general economic conditions is heightened.

 

During 2002 and 2001, we were adversely affected by the slowdown in the global economy, which negatively impacted the commercial real estate market generally. This caused a decline in our leasing activities within the United States, which was

 

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only partially offset by improved overall revenues in Europe and Asia. Moreover, in part because of the terrorist attacks on September 11, 2001 and the subsequent conflict with Iraq, the economic climate in the United States became very uncertain, which had an adverse effect on commercial real estate market conditions and, in turn, affected our operating results for 2002 and 2001. During 2003, economic conditions in the United States improved, which positively impacted the commercial real estate market generally. This caused an improvement in our Americas sales and leasing activities. We expect this trend to continue in the near term.

 

Effects of Prior Acquisitions

 

A significant component of our historical revenue growth has occurred through acquisitions, including our acquisition of Insignia Financial Group, Inc. on July 23, 2003. Our management believes that most acquisitions will initially have an adverse impact on our operating and net income, both as a result of transaction-related expenses and charges and the difficulties of integrating the acquired business and its financial and accounting systems into our own. For example, we experienced a significant number of transaction-related expenses in connection with both our acquisition of Insignia in 2003 and our acquisition of CB Richard Ellis Services, Inc. in 2001 and we have incurred costs in connection with the integration of Insignia’s business lines, as well as accounting and other systems, into our own.

 

International Operations

 

We have made significant acquisitions of non-U.S. companies and may acquire additional foreign companies in the future. As we increase our foreign operations, fluctuations in the value of the U.S. dollar relative to the other currencies in which we may generate earnings could adversely affect our business, financial condition and operating results. Due to the constantly changing currency exposures to which we will be subject and the volatility of currency exchange rates, we cannot predict the effect of exchange rate fluctuations upon future operating results. In addition, fluctuations in currencies relative to the U.S. dollar may make it more difficult to perform period-to-period comparisons of our reported results of operations. Lastly, our international operations are subject to, among other things, political instability and changing regulatory environments, which may adversely affect our future financial condition and results of operations.

 

Basis of Presentation

 

Recent Significant Acquisitions and Dispositions

 

On July 20, 2001, we acquired CB Richard Ellis Services, Inc. pursuant to an amended and restated agreement and plan of merger, dated as of May 31, 2001, among CB Richard Ellis Group (formerly known as CBRE Holding, Inc.), CB Richard Ellis Services and Blum CB Corp., a wholly owned subsidiary of CB Richard Ellis Group. Blum CB was merged with and into CB Richard Ellis Services, with CB Richard Ellis Services being the surviving corporation. At the effective time of such merger, CB Richard Ellis Services became a wholly owned subsidiary of CB Richard Ellis Group.

 

Our results of operations, including our segment operations and cash flows, for the year ended December 31, 2001 have been derived by combining the results of operations and cash flows of CB Richard Ellis Group for the period from February 20 (inception) to December 31, 2001 with the results of operations and cash flows of CBRE, our “predecessor,” from January 1 to July 20, 2001, the date of the merger. The results of operations and cash flows of our predecessor prior to the merger incorporated in the following discussion are the historical results and cash flows of our predecessor. These results of our predecessor do not reflect any purchase accounting adjustments, which are included in our results subsequent to the merger. Due to the effects of purchase accounting applied as a result of the merger and the additional interest expense associated with the debt incurred to finance the merger, our results of operations may not be comparable in all respects to the results of operations for our predecessor prior to the merger. However, our management believes a discussion of our 2001 operations is more meaningful by combining our results with the results of our predecessor.

 

On July 23, 2003, pursuant to an amended and restated agreement and plan of merger, dated as of May 28, 2003, by and among CB Richard Ellis Services, CB Richard Ellis Group, Apple Acquisition Corp., a Delaware corporation and wholly owned subsidiary of CB Richard Ellis Services, and Insignia Financial Group, Inc., Apple Acquisition was merged with and into Insignia Financial Group. Insignia Financial Group was the surviving corporation in the merger and at the effective time of the merger became a wholly owned subsidiary of CB Richard Ellis Services. Also on July 23, 2003, immediately prior to the completion of the merger, Insignia Financial Group completed the sale of its real estate investment assets to Island Fund I LLC for cash consideration of $36.9 million pursuant to a purchase agreement, dated as of May 28, 2003, among CB Richard Ellis Group, CB Richard Ellis Services, Apple Acquisition, Insignia Financial Group and Island Fund. These real estate investment assets consisted of Insignia subsidiaries and joint ventures that held (1) minority investments in office, retail, industrial, apartment and hotel properties, (2) minority investments in office development projects and a related undeveloped parcel of land, (3) wholly owned or consolidated investments in Norman, Oklahoma, New York City and the U.S. Virgin Islands and (4) investments in private equity funds that invest in mortgage-backed debt securities and other real estate-related assets.

 

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Segment Reporting

 

We report our operations through three geographically organized segments: (1) Americas, (2) Europe, the Middle East and Africa, or EMEA, and (3) Asia Pacific. The Americas consists of operations located in the United States, Canada, Mexico and South America. EMEA mainly consists of operations in Europe, while Asia Pacific includes operations in Asia, Australia and New Zealand.

 

Results of Operations

 

The following table sets forth items derived from the consolidated statements of operations for the years ended December 31, 2003, 2002 and 2001:

 

     Year Ended December 31,

 
     2003

    2002

    2001

 
     (Dollars in thousands)  

Revenue

   $ 1,630,074     100.0 %   $ 1,170,277     100.0 %   $ 1,170,762     100.0 %

Costs and expenses:

                                          

Cost of services

     796,408     48.8       547,093     46.7       542,804     46.4  

Operating, administrative and other

     678,397     41.6       501,798     42.9       517,405     44.2  

Depreciation and amortization

     92,622     5.7       24,614     2.1       37,854     3.2  

Equity income from unconsolidated subsidiaries

     (14,365 )   (0.9 )     (9,326 )   (0.8 )     (4,428 )   (0.4 )

Merger-related and other nonrecurring charges

     36,817     2.3       36     —         28,569     2.5  
    


 

 


 

 


 

Operating income

     40,195     2.5       106,062     9.1       48,558     4.1  

Interest income

     6,041     0.4       3,272     0.3       3,994     0.4  

Interest expense

     87,216     5.4       60,501     5.2       50,020     4.3  
    


 

 


 

 


 

(Loss) income before (benefit) provision for income taxes

     (40,980 )   (2.5 )     48,833     4.2       2,532     0.2  

(Benefit) provision for income taxes

     (6,276 )   (0.4 )     30,106     2.6       19,126     1.6  
    


 

 


 

 


 

Net (loss) income

   $ (34,704 )   (2.1 )%   $ 18,727     1.6 %   $ (16,594 )   (1.4 )%
    


 

 


 

 


 

EBITDA

   $ 132,817     8.1 %   $ 130,676     11.2 %   $ 86,412     7.4 %
    


 

 


 

 


 

 

EBITDA represents earnings before net interest expense, income taxes, depreciation and amortization. We believe that the presentation of EBITDA will enhance a reader’s understanding of our operating performance. EBITDA is also a measure used by our senior management to evaluate the performance of our various lines of business and for other required or discretionary purposes, such as the use of EBITDA as a significant component when measuring performance under our employee incentive programs. EBITDA should not be considered as an alternative to (1) operating income determined in accordance with accounting principles generally accepted in the United States or (2) operating cash flow determined in accordance with accounting principles generally accepted in the United States. Our calculation of EBITDA may not be comparable to similarly titled measures reported by other companies.

 

EBITDA is calculated as follows:

 

     Year Ended December 31,

     2003

   2002

   2001

     (Dollars in thousands)

Operating income

   $ 40,195    $ 106,062    $ 48,558

Add:

                    

Depreciation and amortization

     92,622      24,614      37,854
    

  

  

EBITDA

   $ 132,817    $ 130,676    $ 86,412
    

  

  

 

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Year Ended December 31, 2003 Compared to the Year Ended December 31, 2002

 

We reported a consolidated net loss of $34.7 million for the year ended December 31, 2003 on revenue of $1.6 billion as compared to consolidated net income of $18.7 million on revenue of $1.2 billion for the year ended December 31, 2002.

 

Our revenue on a consolidated basis increased $459.8 million, or 39.3%, during the year ended December 31, 2003 as compared to the year ended December 31, 2002. The increase was driven by higher revenue as a result of our acquisition of Insignia, significantly higher worldwide sales and lease transaction revenue as well as increased worldwide consultation and appraisal fees. Additionally, foreign currency translation had a $54.4 million positive impact on total revenue during the year ended December 31, 2003.

 

Our cost of services on a consolidated basis totaled $796.4 million, an increase of $249.3 million, or 45.6%, from the year ended December 31, 2002. This increase was mainly due to higher commission expense, bonus accruals and producer retention expense as a result of the Insignia acquisition as well as increased worldwide sales and lease transaction revenue. Increased worldwide payroll related costs, including worldwide insurance and pension expense in the United Kingdom, contributed to the disproportionate cost of services variance as compared to the revenue variance between years. Additionally, foreign currency translation had a $23.9 million negative impact on cost of services during the current year period.

 

Our operating, administrative and other expenses on a consolidated basis were $678.4 million, an increase of $176.6 million, or 35.2 %, for the year ended December 31, 2003 as compared to the year ended December 31, 2002. The increase was primarily driven by higher costs as a result of the Insignia acquisition, including $10.9 million of integration costs, as well as increased worldwide bonuses and payroll related expenses, principally in the Americas and Europe. Included in the 2003 bonus amount was an accrual for a one-time performance award of approximately $6.9 million. Also contributing to the variance was a legal settlement in the United States in 2003 as well as higher occupancy expense in the United Kingdom as a result of our relocation to a new facility in 2003. Lastly, foreign currency translation had a $23.4 million negative impact on total operating expenses during the year ended December 31, 2003. These increases were partially offset by net foreign currency transaction gains resulting from the weaker U.S. dollar.

 

Our depreciation and amortization expense on a consolidated basis increased by $68.0 million, or 276.3%, mainly due to an increase in amortization expense as a result of net revenue backlog acquired as part of the Insignia acquisition (See Note 8 of the Notes to Consolidated Financial Statements). The increase was also due to a one-time reduction of amortization expense recorded in the prior year related to the adjustment of certain intangible assets to their estimated fair values as of their acquisition date in connection with our acquisition of CB Richard Ellis Services in 2001.

 

Our equity income from unconsolidated subsidiaries on a consolidated basis increased $5.0 million, or 54.0%, for the year ended December 31, 2003 as compared to the year ended December 31, 2002 primarily due to a gain on sale of owned units in an investment fund.

 

Our merger-related charges on a consolidated basis were $36.8 million for the year ended December 31, 2003. These charges primarily consisted of lease termination costs associated with vacated spaces, change of control payments, consulting costs and severance costs, all of which were attributable to the Insignia acquisition.

 

Our consolidated interest expense was $87.2 million for the year ended December 31, 2003, an increase of $26.7 million, or 44.2%, as compared to the year ended December 31, 2002. This increase was primarily driven by a $6.8 million write-off of unamortized deferred financing fees associated with our prior credit facility and $6.6 million of charges associated with $30.0 million of redemptions of our 16% senior notes in the fourth quarter of 2003, including the write-offs of related unamortized deferred financing fees and unamortized discount, as well as premiums paid as a result of the early redemptions. Additionally, interest expense was higher in 2003 as a result of the new debt issued in connection with the Insignia acquisition.

 

Our benefit for income tax on a consolidated basis was $6.3 million for the year ended December 31, 2003 as compared to a provision for income tax of $30.1 million for the year ended December 31, 2002. The income tax (benefit) provision and effective tax rate were not comparable between periods due to the effects of the Insignia acquisition. Additionally, non-deductible expenses contributed to a lower effective tax benefit rate in the current year as compared to the prior year.

 

Year Ended December 31, 2002 Compared to Year Ended December 31, 2001

 

We reported consolidated net income of $18.7 million for the year ended December 31, 2002 on revenue of $1.2 billion as compared to a consolidated net loss of $16.6 million on revenue of $1.2 billion for the year ended December 31, 2001.

 

Our revenue on a consolidated basis for the year ended December 31, 2002 was comparable to the year ended December 31, 2001. Declines in lease transaction revenue, principally in the Americas and Asia Pacific, combined with a nonrecurring prior year sale of mortgage fund contracts of $5.6 million, was mostly offset by higher worldwide sales transaction revenue, consulting fees, investment management fees and loan fees. Additionally, foreign currency translation had a $10.5 million positive impact on total revenue during the year ended December 31, 2002.

 

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Our cost of services on a consolidated basis totaled $547.1 million for the year ended December 31, 2002, an increase of $4.3 million, or 0.8%, from the year ended December 31, 2001. This increase was primarily due to higher producer compensation within our international operations associated with expanded international activities. These increases were partially offset by lower variable commissions, principally in the Americas, driven by lower lease transaction revenue. Additionally, foreign currency translation had a $4.2 million negative impact on cost of services during the year ended December 31, 2002.

 

Our operating, administrative and other expenses on a consolidated basis were $501.8 million for the year ended December 31, 2002, a decrease of $15.6 million, or 3.0%, as compared to the year ended December 31, 2001. This decrease was primarily driven by cost cutting measures and operational efficiencies from programs initiated in May 2001, as well as foreign currency transaction and settlement gains resulting from the weaker U.S. dollar. These reductions were partially offset by an increase in bonuses and other incentives, primarily within our international operations, due to improved results. Foreign currency translation also had a $4.1 million negative impact on total operating expenses during the year ended December 31, 2002.

 

Our depreciation and amortization expense on a consolidated basis decreased by $13.2 million, or 35.0%, mainly due to the discontinuation of goodwill amortization after our acquisition of CB Richard Ellis Services in 2001 in accordance with Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” or SFAS No. 142, and lower depreciation expense, principally due to lower capital expenditures for the year ended December 31, 2002. The year ended December 31, 2002 also included a one-time reduction of amortization expense of $2.0 million arising from the adjustment of certain intangible assets to their estimated fair values as of July 20, 2001, the date we acquired CB Richard Ellis Services.

 

Our equity income from unconsolidated subsidiaries increased by $4.9 million, or 110.6%, for the year ended December 31, 2002 as compared to the prior year, primarily due to improved performance from several domestic joint ventures.

 

Our merger-related and other nonrecurring charges on a consolidated basis were $28.6 million for the year ended December 31, 2001. These costs primarily consisted of merger-related charges of $18.3 million, the write-off of assets, primarily e-business investments, of $7.2 million as well as severance costs of $3.1 million related to our cost reduction program instituted in May 2001.

 

Our consolidated interest expense was $60.5 million, an increase of $10.5 million, or 21.0%, over the year ended December 31, 2001. This was primarily attributable to our change in debt structure in connection with our acquisition of CB Richard Ellis Services in 2001.

 

Our income tax expense on a consolidated basis was $30.1 million for the year ended December 31, 2002 as compared to $19.1 million for the year ended December 31, 2001. The income tax provision and effective tax rate were not comparable between periods due to effects of our acquisition of CB Richard Ellis Services in 2001 and the adoption of SFAS No. 142, which resulted in the elimination of the amortization of goodwill. In addition, non-deductible losses associated with our deferred compensation plan contributed to an increased effective tax rate.

 

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Segment Operations

 

The following table summarizes our revenue, costs and expenses and operating income (loss) by our Americas, EMEA and Asia Pacific operating segments for the years ended December 31, 2003, 2002 and 2001. Our Americas 2003 results include merger-related charges of $20.4 million attributable to the acquisition of Insignia Financial Group. Our Americas 2001 results include a nonrecurring sale of mortgage fund contracts of $5.6 million as well as merger-related and other nonrecurring charges of $26.9 million attributable to our acquisition of CB Richard Ellis Services in 2001. Our EMEA 2003 results include merger-related charges of $16.0 million attributable to the Insignia acquisition. Our Asia Pacific 2001 results include merger-related and other nonrecurring charges of $1.2 million attributable to our acquisition of CB Richard Ellis Services in 2001.

 

     Year Ended December 31,

 
     2003

    2002

    2001

 
     (Dollars in thousands)  

Americas


                                    

Revenue

   $ 1,197,626     100.0 %   $ 896,064     100.0 %   $ 928,799     100.0 %

Costs and expenses:

                                          

Cost of services

     609,619     50.9       438,842     48.9       448,813     48.4  

Operating, administrative and other

     474,317     39.6       367,360     41.0       388,645     41.8  

Depreciation and amortization

     58,216     4.9       16,958     1.9       27,452     3.0  

Equity income from unconsolidated subsidiaries

     (14,180 )   (1.2 )     (8,425 )   (0.9 )     (3,808 )   (0.4 )

Merger-related and other nonrecurring charges

     20,367     1.7       36     —         26,923     2.8  
    


 

 


 

 


 

Operating income

   $ 49,287     4.1 %   $ 81,293     9.1 %   $ 40,774     4.4 %
    


 

 


 

 


 

EBITDA

   $ 107,503     9.0 %   $ 98,251     11.0 %   $ 68,226     7.3 %
    


 

 


 

 


 

EMEA


                                    

Revenue

   $ 313,686     100.0 %   $ 182,222     100.0 %   $ 161,306     100.0 %

Costs and expenses:

                                          

Cost of services

     135,854     43.3       70,309     38.6       60,309     37.4  

Operating, administrative and other

     151,077     48.2       90,047     49.4       84,762     52.5  

Depreciation and amortization

     31,287     10.0       4,579     2.5       6,492     4.0  

Equity loss (income) from unconsolidated subsidiaries

     188     —         (82 )   —         (2 )   —    

Merger-related and other nonrecurring charges

     15,958     5.1       —       —         451     0.3  
    


 

 


 

 


 

Operating (loss) income

   $ (20,678 )   (6.6 )%   $ 17,369     9.5 %   $ 9,294     5.8 %
    


 

 


 

 


 

EBITDA

   $ 10,609     3.4 %   $ 21,948     12.0 %   $ 15,786     9.8 %
    


 

 


 

 


 

Asia Pacific


                                    

Revenue

   $ 118,762     100.0 %   $ 91,991     100.0 %   $ 80,657     100.0 %

Costs and expenses:

                                          

Cost of services

     50,935     42.9       37,942     41.3       33,682     41.8  

Operating, administrative and other

     53,003     44.6       44,391     48.3       43,998     54.5  

Depreciation and amortization

     3,119     2.6       3,077     3.3       3,910     4.9  

Equity income from unconsolidated subsidiaries

     (373 )   (0.3 )     (819 )   (0.9 )     (618 )   (0.8 )

Merger-related and other nonrecurring charges

     492     0.4       —       —         1,195     1.5  
    


 

 


 

 


 

Operating income (loss)

   $ 11,586     9.8 %   $ 7,400     8.0 %   $ (1,510 )   (1.9 )%
    


 

 


 

 


 

EBITDA

   $ 14,705     12.4 %   $ 10,477     11.4 %   $ 2,400     3.0 %
    


 

 


 

 


 

 

        EBITDA represents earnings before net interest expense, income taxes, depreciation and amortization. We believe that the presentation of EBITDA will enhance a reader’s understanding of our operating performance. EBITDA is also a measure used by our senior management to evaluate the performance of our various lines of business and for other required or discretionary purposes, such as the use of EBITDA as a significant component when measuring performance under our employee incentive programs. EBITDA should not be considered as an alternative to (1) operating income determined in accordance with accounting principles generally accepted in the United States or (2) operating cash flow determined in accordance with accounting principles generally accepted in the United States. Our calculation of EBITDA may not be comparable to similarly titled measures reported by other companies.

 

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EBITDA is calculated as follows:

 

     Year Ended December 31,

 
     2003

    2002

   2001

 
     (Dollars in thousands)  

Americas


                 

Operating income

   $ 49,287     $ 81,293    $ 40,774  

Add: Depreciation and amortization

     58,216       16,958      27,452  
    


 

  


EBITDA

   $ 107,503     $ 98,251    $ 68,226  
    


 

  


EMEA


                 

Operating (loss) income

   $ (20,678 )   $ 17,369    $ 9,294  

Add: Depreciation and amortization

     31,287       4,579      6,492  
    


 

  


EBITDA

   $ 10,609     $ 21,948    $ 15,786  
    


 

  


Asia Pacific


                 

Operating income (loss)

   $ 11,586     $ 7,400    $ (1,510 )

Add: Depreciation and amortization

     3,119       3,077      3,910  
    


 

  


EBITDA

   $ 14,705     $ 10,477    $ 2,400  
    


 

  


 

Year Ended December 31, 2003 Compared to Year Ended December 31, 2002

 

Americas

 

Revenue increased by $301.6 million, or 33.7%, for the year ended December 31, 2003 as compared to the year ended December 31, 2002 primarily driven by our acquisition of Insignia as well as significantly higher sales and lease transaction revenue due to an increased number of transactions and a higher average value per transaction. Cost of services increased by $170.8 million, or 38.9%, for the year ended December 31, 2003 as compared to the year ended December 31, 2002 primarily due to higher commission expense, bonus accruals and producer retention expense as a result of the Insignia acquisition and higher sales and lease transaction revenue. Operating, administrative and other expenses increased $107.0 million, or 29.1%, mainly caused by higher costs as a result of the Insignia acquisition, including integration expenses of $9.1 million, increased bonuses and payroll related costs mainly resulting from improved operating performance, and a legal settlement in the United States. Included in the 2003 bonus was an accrual for a one-time performance award of approximately $6.9 million. These increases were partially offset by net foreign currency transaction gains resulting from the weakened U.S. dollar.

 

EMEA

 

Revenue increased by $131.5 million, or 72.1%, for the year ended December 31, 2003 as compared to the year ended December 31, 2002 primarily driven by increased revenue as a result of the Insignia acquisition as well as higher sales and lease transaction revenue across Europe and higher consultation and appraisal fees in the United Kingdom. Additionally, foreign currency translation had a $35.5 million positive impact on total revenue during the year ended December 31, 2003. Cost of services increased $65.5 million, or 93.2%, as a result of higher producer compensation expense and bonuses as well as increased payroll related costs, including insurance expense throughout Europe and pension expense in the United Kingdom, primarily due to the Insignia acquisition. Additionally, foreign currency translation had a $15.0 million negative impact on cost of services during the current year. Operating, administrative and other expenses increased by $61.0 million, or 67.8%, mainly driven by increased costs as a result of the Insignia acquisition, including integration expenses of $1.8 million, as well as higher bonus, payroll related and consulting expenses. Additionally, occupancy expense was higher in the United Kingdom as a result of our relocation to a new facility. Lastly, foreign currency translation had a $16.4 million negative impact on total operating expenses during the year ended December 31, 2003.

 

Asia Pacific

 

        Revenue increased by $26.8 million, or 29.1%, for the year ended December 31, 2003 as compared to the year ended December 31, 2002. The increase was primarily driven by an overall increase in revenue in Australia and New Zealand. Additionally, foreign currency translation had a $13.8 million positive impact on total revenue during the current year. Cost of services increased by $13.0 million, or 34.2%, mainly attributable to increased transaction revenue as well as higher producer compensation expense due to increased headcount in Australia and New Zealand. Additionally, foreign currency translation had a $6.1 million negative impact on cost of services for the year ended December 31, 2003. Operating, administrative and other expenses increased by $8.6 million, or 19.4%, primarily due to an increased accrual for long-term incentives as well as higher payroll related costs in Australia and New Zealand. Foreign currency translation also had a $5.6 million negative impact on total operating expenses during the year ended December 31, 2003.

 

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Table of Contents

Year Ended December 31, 2002 Compared to Year Ended December 31, 2001

 

Americas

 

Revenue decreased by $32.7 million, or 3.5%, for the year ended December 31, 2002 as compared to the year ended December 31, 2001, primarily driven by lower lease transaction revenue, partially offset by an increase in sales transaction revenue and loan fees. The lease transaction revenue decrease was primarily due to a lower average value per transaction partially offset by a higher number of transactions. The sales transaction revenue increase was driven by a higher number of transactions, as well as a higher average value per transaction. Loan fees also increased compared to the prior year principally due to an increase in the number of transactions. Cost of services decreased by $10.0 million, or 2.2%, for the year ended December 31, 2002 as compared to the year ended December 31, 2001, caused primarily by lower variable commissions due to lower lease transaction revenue. Operating, administrative and other expenses decreased by $21.3 million, or 5.5%, as a result of cost reduction and efficiency measures, the organizational restructure implemented after our acquisition of CB Richard Ellis Services in 2001, and foreign currency transaction and settlement gains resulting from the weaker U.S. dollar.

 

EMEA

 

Revenue increased by $20.9 million, or 13.0%, for the year ended December 31, 2002 as compared to the year ended December 31, 2001. This was mainly driven by higher sales transaction revenue across Europe as well as higher lease transaction revenue and investment management fees in France. Additionally, foreign currency translation had a $8.9 million positive impact on total revenue during the year ended December 31, 2002. Cost of services increased by $10.0 million, or 16.6%, due to higher producer compensation as a result of increased revenue arising from expanded activities in the United Kingdom, France, Germany, Italy and Spain. Additionally, foreign currency translation had a $3.4 million negative impact on cost of services during the year ended December 31, 2002. Operating, administrative and other expenses increased by $5.3 million, or 6.2%, mainly attributable to higher incentives due to increased results, higher occupancy costs and consulting fees. Foreign currency translation also had a $3.7 million negative impact on total operating expenses during the year ended December 31, 2002.

 

Asia Pacific

 

Revenue increased by $11.3 million, or 14.1%, for the year ended December 31, 2002 as compared to the year ended December 31, 2001. This increase was primarily driven by higher investment management fees in Japan and an increase in overall revenue in Australia and New Zealand, partially offset by lower revenues as a result of conversions of small, wholly owned offices to affiliate offices elsewhere in Asia. Additionally, foreign currency translation had a $2.8 million positive impact on total revenue during the year ended December 31, 2002. Cost of services increased by $4.3 million, or 12.6%, primarily driven by higher producer compensation expense due to increased personnel requirements in Australia, China and New Zealand, slightly offset by lower commissions due to conversions to affiliate offices elsewhere in Asia. Additionally, foreign currency translation had a $1.3 million negative impact on cost of services for the year ended December 31, 2002. Operating, administrative and other expenses increased by $0.4 million, or 0.9%, primarily due to increased bonuses as a result of higher results in Australia and New Zealand, partially offset by lower expenses as a result of conversions to affiliate offices in Asia. Foreign currency translation also had a $1.1 million negative impact on total operating expenses during the year ended December 31, 2002.

 

Liquidity and Capital Resources

 

We believe we can satisfy our obligations, as well as our working capital requirements and funding of investments, with internally generated cash flow and borrowings under our revolving credit facility described below. In the near term, further material acquisitions, if any, that necessitate cash will require new sources of capital such as an expansion of our revolving credit facility or the issuance of additional debt or equity. For the year ending December 31, 2004, we anticipate that we will pay approximately $40 million for capital expenditures, net of concessions received. We anticipate that our existing sources of liquidity, including cash flow from operations, will be sufficient to meet our anticipated non-acquisition cash requirements for the foreseeable future, but at a minimum for the next twelve months.

 

Historical Cash Flows

 

Operating Activities

 

Net cash provided by operating activities totaled $63.9 million for the year ended December 31, 2003, a decrease of $0.9 million compared to the year ended December 31, 2002. The acquisition of Insignia Financial Group in July 2003 has impacted substantially all components of cash provided by our operating activities making comparison against the prior year not meaningful.

 

Net cash provided by operating activities totaled $64.9 million for the year ended December 31, 2002, an increase of $93.8 million compared to the year ended December 31, 2001. This increase was primarily due to our improved 2002 earnings, as well as lower payments made in the year ended December 31, 2002 for 2001 bonus and profit sharing as compared to the 2000 bonus and profit sharing payments made in the year ended December 31, 2001.

 

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Investing Activities

 

Net cash used in investing activities totaled $284.8 million for the year ended December 31, 2003, an increase of $260.7 million compared to the same period of the prior year. This increase was primarily due to costs incurred in 2003 associated with the Insignia acquisition. Capital expenditures, net of concessions received, of $27.0 million during the year ended December 31, 2003 were $12.7 million higher than 2002. This increase was mainly driven by net capital expenditures incurred in connection with our relocation to new offices in the United Kingdom in 2003.

 

We utilized $24.1 million in investing activities during the year ended December 31, 2002, a decrease of $249.4 million compared to the year ended December 31, 2001. This decrease was primarily due to the prior year payment of the purchase price and related expenses associated with our acquisition of CB Richard Ellis Services in July 2001. Capital expenditures, net of concession received, of $14.3 million during the year ended December 31, 2002 were $7.0 million lower than 2001, driven primarily by efforts to reduce spending and improve cash flows.

 

Financing Activities

 

Net cash provided by financing activities totaled $303.7 million for the year ended December 31, 2003 compared to net cash used in financing activities of $17.8 million for the year ended December 31, 2002. This increase was mainly attributable to the additional net debt and equity financing resulting from the Insignia acquisition.

 

Net cash used in financing activities totaled $17.8 million for the year ended December 31, 2002 compared to cash provided by financing activities of $340.1 million for the year ended December 31, 2001. This decrease was mainly attributable to the debt and equity financing required for our acquisition of CB Richard Ellis Services in 2001.

 

Summary of Contractual Obligations and Other Commitments

 

The following is a summary of our various contractual obligations and other commitments as of December 31, 2003:

 

Contractual Obligations    Payments Due by Period

     Total

   Less than 1
year


   1-3 years

   4-5 years

   More than
5 years


Total debt (1)

   $ 1,072,842    $ 281,422    $ 20,384    $ 309,287    $ 461,749

Operating leases (2)

     710,262      96,123      167,164      134,094      312,881

Deferred compensation plan liability (3) (4)

     138,037      —        —        —        138,037

Pension liability (3) (4)

     35,998      —        —        —        35,998
    

  

  

  

  

Total Contractual Obligations

   $ 1,957,139    $ 377,545    $ 187,548    $ 443,381    $ 948,665
    

  

  

  

  

Other Commitments    Amount of Commitments Expiration

     Total

   Less than 1
year


   1-3 years

   4-5 years

   More than
5 years


Letters of credit (2)

   $ 22,557    $ 22,557    $ —      $ —      $ —  

Guarantees (2)

     10,558      10,558      —        —        —  

Co-investment commitments (2)

     26,564      22,903      3,661      —        —  
    

  

  

  

  

Total Commitments

   $ 59,679    $ 56,018    $ 3,661    $ —      $ —  
    

  

  

  

  


(1)    Includes capital lease obligations.

(2)    See Note 13 of our Notes to the Consolidated Financial Statements.

(3)    See Note 11 of our Notes to the Consolidated Financial Statements.

(4)    Because these obligations are related, either wholly or partially, to the future retirement of our employees and such retirement dates are not predictable, an undeterminable portion of this amount will be paid in years one through five.

 

Indebtedness

 

Our substantial level of indebtedness increases the possibility that we may be unable to generate cash sufficient to pay when due the principal of, interest on or other amounts due in respect of our indebtedness. In addition, we may incur additional debt from time

to time to finance strategic acquisitions, investments, joint ventures or for other purposes, subject to the restrictions contained in the documents governing our indebtedness. If we incur additional debt, the risks associated with our substantial leverage, including our ability to service our debt, would increase.

 

In connection with our acquisition of Insignia, CB Richard Ellis Services entered into an amended and restated credit agreement with Credit Suisse First Boston, or CSFB, and other lenders. On October 14, 2003, we refinanced all of the outstanding loans under that agreement. As part of this refinancing, we entered into a new amended and restated credit agreement. The existing amended and restated credit agreement includes the following: (1) a term loan facility of $300.0 million, which was fully drawn on October 14, 2003, requires quarterly principal payments of $2.5 million through September 30, 2008 and matures on December 31, 2008; and (2) a $90.0 million revolving credit facility, including revolving credit loans,

 

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letters of credit and a swingline loan facility, maturing on July 20, 2007. The revolving credit facility requires the repayment of any outstanding balance for a period of 45 consecutive days commencing on any day in the month of December of each year as determined by us. We repaid our revolving credit facility as of July 23, 2003 and November 5, 2002, and at December 31, 2003 and 2002, we had no revolving line of credit principal outstanding. At December 31, 2003, we had an aggregate of $10.8 million in letters of credit outstanding under the revolving credit facility, which reduces the amount we may borrow under the revolving credit facility. Borrowings under the term loan facility bear interest at varying rates based, at our option, on either LIBOR plus 3.25% or the alternate base rate plus 2.25%. Borrowings under the revolving credit facility bear interest at varying rates based on our option at either the applicable LIBOR rate plus 3.00% to 3.75% or the alternate base rate plus 2.00% to 2.75%, in both cases as determined by reference to our ratio of total debt less available cash to EBITDA, which are defined in the amended and restated credit agreement. The alternate base rate is the higher of (A) CSFB’s prime rate or (B) the Federal Funds Effective Rate plus one-half of one percent. In addition, we are required to pay a revolving credit facility fee based on the total amount of the unused commitment. The borrowings under the amended and restated credit agreement are jointly and severally guaranteed by us and substantially all of our domestic subsidiaries and are secured by a pledge of substantially all of our assets. The total amount outstanding under the term loan facilities included in senior secured term loans and current maturities of long-term debt in the accompanying consolidated balance sheets was $297.5 million and $221.0 million at December 31, 2003 and 2002, respectively.

 

On May 22, 2003, CBRE Escrow, Inc., a wholly owned subsidiary of CB Richard Ellis Services, issued $200.0 million in aggregate principal amount of 9¾% senior notes due May 15, 2010. The proceeds of this issuance were placed in escrow pending the completion of the Insignia acquisition on July 23, 2003, on which date the proceeds were released from escrow in order to partially fund the acquisition. CBRE Escrow merged with and into CB Richard Ellis Services, and CB Richard Ellis Services assumed all obligations with respect to the 9¾% senior notes. The 9¾% senior notes are unsecured obligations of CB Richard Ellis Services, senior to all of its current and future unsecured indebtedness, but subordinated to all of CB Richard Ellis Services’s current and future secured indebtedness. The 9¾% senior notes are jointly and severally guaranteed on a senior basis by us and substantially all of our domestic subsidiaries. Interest accrues at a rate of 9¾% per year and is payable semi-annually in arrears on May 15 and November 15. The 9¾% senior notes are redeemable at our option, in whole or in part, on or after May 15, 2007 at 104.875% of par on that date and at declining prices thereafter. In addition, before May 15, 2006, we may redeem up to 35.0% of the originally issued amount of the 9¾% senior notes at 109¾% of par, plus accrued and unpaid interest, solely with the net cash proceeds from public equity offerings. In the event of a change of control, we are obligated to make an offer to purchase the 9¾% senior notes at a redemption price of 101.0% of the principal amount, plus accrued and unpaid interest. The amount of the 9¾% senior notes included in the accompanying consolidated balance sheet was $200.0 million as of December 31, 2003.

 

In order to partially finance our acquisition of CB Richard Ellis Services in 2001, Blum CB Corp. issued $229.0 million in aggregate principal amount of 11¼% senior subordinated notes due June 15, 2011 for approximately $225.6 million, net of discount, on June 7, 2001. CB Richard Ellis Services assumed all obligations with respect to the 11¼% senior subordinated notes in connection with the merger of Blum CB with and into CB Richard Ellis Services on July 20, 2001. The 11¼% senior subordinated notes are jointly and severally guaranteed on a senior subordinated basis by us and substantially all of our domestic subsidiaries. The 11¼% senior subordinated notes require semi-annual payments of interest in arrears on June 15 and December 15 and are redeemable in whole or in part on or after June 15, 2006 at 105.625% of par on that date and at declining prices thereafter. In addition, before June 15, 2004, we may redeem up to 35.0% of the originally issued amount of the notes at 111¼% of par, plus accrued and unpaid interest, solely with the net cash proceeds from public equity offerings. In the event of a change of control, we are obligated to make an offer to purchase the 11¼% senior subordinated notes at a redemption price of 101.0% of the principal amount, plus accrued and unpaid interest. The amount of the 11 ¼% senior subordinated notes included in the accompanying consolidated balance sheets, net of unamortized discount, was $226.2 million and $225.9 million as of December 31, 2003 and 2002, respectively.

 

Also in connection with our acquisition of CB Richard Ellis Services in 2001, we issued $65.0 million in aggregate principal amount of 16% senior notes due July 20, 2011. The 16% senior notes are unsecured obligations, senior to all of our current and future unsecured indebtedness but subordinated to all of our current and future secured indebtedness. Interest accrues at a rate of 16.0% per year and is payable quarterly in arrears. Interest may be paid in kind to the extent our ability to pay cash dividends is restricted by the terms of our amended and restated credit agreement. Additionally, interest in excess of 12.0% may, at our option, be paid in kind through July 2006. We elected to pay in kind interest in excess of 12.0%, or 4.0%, that was payable on April 20, 2002, July 20, 2002, October 20, 2002, January 20, 2003 and April 20, 2003. The 16% senior notes are redeemable at our option, in whole or in part, at 116.0% of par commencing on July 20, 2001 and at declining prices thereafter. On October 27, 2003 and December 29, 2003, we redeemed $20.0 million and $10.0 million, respectively, in aggregate principal amount of the 16% senior notes and paid $2.9 million of premiums in connection with these redemptions. In the event of a change in control, we are obligated to make an offer to purchase all of the outstanding 16% senior notes at 101.0% of par. The amount of the 16% senior notes included in the accompanying consolidated balance sheets, net of unamortized discount, was $35.5 million and $61.9 million as of December 31, 2003 and 2002, respectively.

 

Our amended and restated credit agreement and the indentures governing our 16% senior notes, our 9¾% senior notes and our 11¼% senior subordinated notes each contain numerous restrictive covenants that, among other things, limit our ability to incur additional indebtedness, pay dividends or distributions to stockholders, repurchase capital stock or debt, make investments, sell assets or subsidiary stock, engage in transactions with affiliates, enter into sale/leaseback transactions, issue

 

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subsidiary equity and enter into consolidations or mergers. Our amended and restated credit agreement also currently requires us to maintain a minimum coverage ratio of interest and certain fixed charges and a maximum leverage and senior secured leverage ratio of EBITDA to funded debt.

 

From time to time, Moody’s Investor Service and Standard and Poor’s Ratings Service rate our outstanding senior secured term loans, our 9 ¾% senior notes and our 11¼% senior subordinated notes. Although neither the Moody’s nor the Standard and Poor’s ratings impact our ability to borrow or affect our interest rates for our senior secured term loans, they may impact our ability to borrow under new agreements in the future and the interest rates of any such future borrowings.

 

During 2001, a joint venture that we consolidate incurred $37.2 million of non-recourse mortgage debt secured by a real estate investment. During the third quarter of 2003, the maturity date on this debt was extended to July 31, 2008. In our accompanying balance sheets, this debt comprised $41.8 million of our other long-term debt at December 31, 2003 and $40.0 million of our other short-term borrowings at December 31, 2002. Additionally, during the third quarter of 2003, this joint venture incurred an additional $1.9 million of non-recourse mortgage debt with a maturity date of June 15, 2004. At December 31, 2003, $2.0 million of this non-recourse debt is included in short-term borrowings in the accompanying consolidated balance sheet.

 

One of our subsidiaries has a credit agreement with Residential Funding Corporation, or RFC, for the purpose of funding mortgage loans that will be resold. The agreement provides for a revolving warehouse line of credit of up to $200.0 million, bears interest at one-month LIBOR plus 1.0% and expires on August 31, 2004. On June 25, 2003, the agreement was modified to provide a temporary revolving line of credit increase of $200.0 million that resulted in a total line of credit equaling $400.0 million, which expired on August 30, 2003. By amendment on November 14, 2003, the agreement was modified to provide a revolving line of credit increase of $50.0 million that resulted in a total line of credit equaling $250.0 million. During the years ended December 31, 2003 and 2002, respectively, we had a maximum of $272.5 million and $309.0 million revolving line of credit principal outstanding with RFC. At December 31, 2003 and 2002, respectively, we had a $230.8 million and a $63.1 million warehouse line of credit outstanding, which are included in short-term borrowings in the accompanying consolidated balance sheets. Additionally, we had a $230.8 million and a $63.1 million warehouse receivable representing mortgage loans funded through the line of credit that had not been purchased as of December 31, 2003 and 2002 respectively, which are also included in the accompanying consolidated balance sheets.

 

Insignia, which we acquired in July 2003, issued acquisition loan notes in connection with previous acquisitions of businesses in the United Kingdom. The acquisition loan notes are payable to the sellers of the previously acquired U.K. businesses and are secured by restricted cash deposits in approximately the same amount. The acquisition loan notes are redeemable semi-annually at the discretion of the note holder and have a final maturity date of April 2010. At December 31, 2003, $12.2 million of the acquisition loan notes were outstanding, which are included in short-term borrowings in the accompanying consolidated balance sheet.

 

In connection with our acquisition of Westmark Realty Advisors in 1995, one of our subsidiaries issued approximately $20.0 million in aggregate principal amount of senior notes. The Westmark senior notes are secured by letters of credit equal to approximately 50% of the outstanding balance at December 31, 2003. The Westmark senior notes are redeemable at the discretion of the note holders and have final maturity dates of June 30, 2008 and June 30, 2010. During the year ended December 31, 2002, all of the Westmark senior notes bore interest at 9.0%. On January 1, 2003, the interest rate on some of these notes was converted to varying rates equal to the interest rate in effect with respect to amounts outstanding under our credit agreement. On January 1, 2005, the interest rate on all of the other Westmark senior notes will be adjusted to equal the interest rate then in effect with respect to amounts outstanding under our credit agreement. The amount of the Westmark senior notes included in short-term borrowings in the accompanying consolidated balance sheets was $12.1 million as of December 31, 2003 and 2002.

 

Our subsidiaries in Europe have had a Euro cash pool loan since 2001. The Euro cash pool loan is an overdraft line for our European operations issued by HSBC Bank. The Euro cash pool loan has no stated maturity date and bears interest at varying rates based on a base rate as defined by the bank plus 2.5%. The amount of the Euro cash pool loan included in short-term borrowings in the accompanying consolidated balance sheets was $11.5 million and $7.9 million as of December 31, 2003 and 2002, respectively.

 

One of our subsidiaries has a credit agreement with JP Morgan Chase. The credit agreement provides for a revolving line of credit of up to $20.0 million, bears interest at 1.0% in excess of the bank’s cost of funds and expires on May 28, 2004. At December 31, 2003 and 2002, no amounts were outstanding under this line of credit.

 

Deferred Compensation Plan Obligations

 

Each participant in our deferred compensation plan, or DCP, is allowed to defer a portion of his or her compensation for distribution generally either after his or her employment with us ends or on a future date at least three years after the deferral election date. The investment alternatives available to participants include two interest index funds and an insurance fund in which gains and losses on deferrals are measured by one or more of approximately 30 mutual funds. In addition, prior to our acquisition of CB Richard Ellis Services in 2001, participants were entitled to invest their deferrals in stock fund units that

 

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entitled the participants to receive future distributions of shares of CB Richard Ellis Services common stock. Except for the stock funds units, all deferrals under the DCP represent obligations to make future cash payments. Effective January 1, 2004, we closed the DCP to new participants. Currently, the DCP is to accepting compensation deferrals from participants who have a balance, meet the eligibility requirements and elect to participate, up to a maximum annual contribution amount of $250,000 per participant. We are currently reviewing the future status of this plan.

 

Because a substantial majority of the deferrals under the DCP have a distribution date based upon the end of the relevant participant’s employment with us, we have an ongoing obligation to make distributions to these participants as they leave our employment. As the level of employee departures is not predictable, the timing of these obligations also is not predictable. Accordingly, we may face significant unexpected cash funding obligations in the future if a larger number of our employees leave our employment than we expect.

 

Pension Liability

 

Our subsidiaries based in the United Kingdom maintain two defined benefit pension plans to provide retirement benefits to existing and former employees participating in the plans. With respect to these plans, our historical policy has been to contribute annually an amount to fund pension cost as actuarially determined by an independent pension consulting firm and as required by applicable laws and regulations. Our contributions to these plans are invested and, if these investments do not perform in the future as well as we expect, we will be required to provide additional funding to cover the shortfall.

 

Other Obligations and Commitments

 

In connection with the sale of real estate investment assets by Insignia to Island on July 23, 2003, Insignia agreed to maintain letter of credit support for real estate investment assets that were subject to the purchase agreement until the earlier of (1) the third anniversary of the completion of the sale, (2) the date on which the letter of credit is no longer required pursuant to the applicable real estate investment asset agreement or (3) the completion of a sale of the relevant underlying real estate investment asset. As of December 31, 2003, an aggregate of approximately $10.2 million of this letter of credit support remained outstanding under the purchase agreement. Also in connection with the sale, Insignia agreed to maintain a $1.3 million guarantee of a repayment obligation with respect to one of the real estate investment assets. Island Fund agreed to reimburse us for 50% of any draws against these letters of credit or the repayment guarantee while they are outstanding and delivered a letter of credit to us in the amount of approximately $2.9 million as security for Island Fund’s reimbursement obligation. As a result of this reimbursement obligation, we effectively retain potential liability for 50% of any future draws against these letters of credit and the repayment guarantee. However, there can be no assurance that Island Fund will be able to reimburse us in the event of any draws against the letters of credit or the repayment guarantee or that Island Fund’s future reimbursement obligations will not exceed the amount of the letter of credit provided to us by Island Fund.

 

One of our subsidiaries previously executed an agreement with Fannie Mae to initially fund the purchase of a commercial mortgage loan portfolio using proceeds from its RFC line of credit. Subsequently, a 100% participation in the loan portfolio was sold to Fannie Mae and we retained the credit risk on the first 2% of losses incurred on the underlying portfolio of commercial mortgage loans. The current loan portfolio balance is $98.6 million and we have collateralized a portion of our obligations to cover the first 1% of losses through a letter of credit in favor of Fannie Mae for a total of approximately $1.0 million. The other 1% is covered in the form of a guarantee to Fannie Mae.

 

We had outstanding letters of credit totaling $22.6 million as of December 31, 2003, excluding letters of credit related to our outstanding indebtedness. Approximately $10.8 million of these letters of credit secure certain office leases and are outstanding pursuant to the revolving credit facility under our amended and restated credit agreement. An additional $10.8 million of these letters of credit were issued pursuant to the terms of the purchase agreement with Island described above and are outstanding pursuant to a reimbursement agreement with the Bank of Nova Scotia. Under this agreement, we may issue up to a maximum of approximately $11.0 million of letters of credit outstanding at any one time and the outstanding letters of credit are secured by the same assets of ours that secure our amended and restated credit agreement. The remaining outstanding letters of credit have been issued pursuant to a credit agreement with Wells Fargo Bank, which is also secured by the same assets of ours that secured our amended and restated credit agreement for the Fannie Mae letter of credit described above. The outstanding letters of credit as of December 31, 2003 expire at varying dates through August 31, 2004. However, we are obligated to renew the letters of credit related to the revolving credit facility until 2023, the letters of credit related to the Island purchase agreement until as late as July 23, 2006 and the Fannie Mae letters of credit until our obligation to cover potential credit losses is satisfied.

 

We had guarantees totaling $10.6 million as of December 31, 2003, which consisted primarily of guarantees of property debt as well as the obligations to Island and Fannie Mae discussed above. Generally, the guarantees remain outstanding until certain conditions have been satisfied.

 

An important part of the strategy for our investment management business involves investing our capital in certain real estate investments with our clients. As of December 31, 2003, we had committed $26.6 million to fund future co-investments. We expect that approximately $23 million of these commitments will be funded during 2004. In addition to required future capital contributions, some of the co- investment entities may request additional capital from us and our subsidiaries holding investments in those assets and the failure to provide these contributions could have adverse consequences to our interests in these investments.

 

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Seasonality

 

A significant portion of our revenue is seasonal, which affects your ability to compare our financial condition and results of operations on a quarter-by-quarter basis. Historically, this seasonality has caused our revenue, operating income, net income and cash flow from operating activities to be lower in the first two quarters and higher in the third and fourth quarters of each year. The concentration of earnings and cash flow in the fourth quarter is due to an industry-wide focus on completing transactions toward the fiscal year-end. This has historically resulted in lower profits or a loss in the first and second quarters, with profits growing or losses decreasing in each subsequent quarter.

 

Inflation

 

Our revenue, commissions and other variable costs related to revenue are primarily affected by real estate market supply and demand, which may be affected by general economic conditions including inflation. However, to date, we do not believe that general inflation has had a material impact upon our operations.

 

Application of Critical Accounting Policies

 

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States, which require management to make estimates and assumptions that affect reported amounts. The estimates and assumptions are based on historical experience and on other factors that management believes to be reasonable. Actual results may differ from those estimates under different assumptions or conditions. We believe that the following critical accounting policies represent the areas where more significant judgments and estimates are used in the preparation of our consolidated financial statements:

 

Revenue Recognition

 

We record real estate commissions on sales upon close of escrow or upon transfer of title. Real estate commissions on leases are generally recorded as income once we satisfy all obligations under the commission agreement. A typical commission agreement provides that we earn a portion of the lease commission upon the execution of the lease agreement by the tenant, while the remaining portion(s) of the lease commission is earned at a later date, usually upon tenant occupancy. The existence of any significant future contingencies will result in the delay of recognition of revenue until such contingencies are satisfied. For example, if we do not earn all or a portion of the lease commission until the tenant pays its first month’s rent, and the lease agreement provides the tenant with a free rent period, we delay revenue recognition until cash rent is paid by the tenant. Investment management and property management fees are recognized when earned under the provisions of the related agreements. Appraisal fees are recorded after services have been rendered. Loan origination fees are recognized at the time the loan closes and we have no significant remaining obligations for performance in connection with the transaction, while loan servicing fees are recorded to revenue as monthly principal and interest payments are collected from mortgagors. Other commissions, consulting fees and referral fees are recorded as income at the time the related services have been performed unless significant future contingencies exist.

 

In establishing the appropriate provisions for trade receivables, we make assumptions with respect to their future collectibility. Our assumptions are based on an individual assessment of a customer’s credit quality as well as subjective factors and trends, including the aging of receivables balances. In addition to these individual assessments, in general, outstanding trade accounts receivable amounts that are more than 180 days overdue are fully provided for.

 

Principles of Consolidation

 

The accompanying consolidated financial statements include our accounts and those of our majority owned and controlled subsidiaries. Additionally, the consolidated financial statements for the period from January 1 to July 20, 2001 include the accounts of CB Richard Ellis Services prior to our acquisition in 2001, as CB Richard Ellis Services is considered our “predecessor” for purposes of Regulation S-X. The equity attributable to minority shareholders’ interests in subsidiaries is shown separately in our consolidated balance sheets included elsewhere in this filing. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

Our investments in unconsolidated subsidiaries in which we have the ability to exercise significant influence over operating and financial policies, but do not control, are accounted for under the equity method. Accordingly, our share of the earnings of these equity-method basis companies is included in consolidated net income. All other investments held on a long-term basis are valued at cost less any impairment in value.

 

Goodwill and Other Intangible Assets

 

Goodwill mainly represents the excess of the purchase price paid by us over the fair value of the tangible and intangible assets and liabilities acquired in our acquisition of CB Richard Ellis Services in 2001 and our acquisition of Insignia Financial Group in 2003. Other intangible assets include trademarks, which were separately identified as a result of the 2001 acquisition, as well as a trade name separately identified as a result of the Insignia acquisition representing the Richard Ellis trade name in

 

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the United Kingdom that was owned by Insignia prior to the Insignia acquisition. Both the trademarks and the trade name are not being amortized and have indefinite estimated useful lives. Other intangible assets also include backlog, which represents the fair value of Insignia’s net revenue backlog as of July 23, 2003 that was acquired as part of the Insignia acquisition. The net revenue backlog consists of the net commission receivable on Insignia’s revenue producing transactions, which were at various stages of completion prior to the Insignia acquisition. Net revenue backlog is being amortized as cash is received or upon final closing of these pending transactions. The remaining other intangible assets primarily include management contracts, loan servicing rights, franchise agreements and a trade name, which are all being amortized on a straight-line basis over estimated useful lives ranging up to 20 years.

 

We fully adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” effective January 1, 2002. This statement requires us to perform at least annually an assessment of impairment of goodwill and other intangible assets deemed to have indefinite useful lives based on assumptions and estimates of fair value and future cash flow information. We perform an annual assessment of our goodwill and other intangible assets deemed to have indefinite lives for impairment based in part on a third-party valuation as of the beginning of the fourth quarter of each year. We also assess goodwill and other intangible assets deemed to have indefinite useful lives for impairment when events or circumstances indicate that their carrying value may not be recoverable from future cash flows. We completed our required annual impairment tests as of October 1, 2003 and 2002, and determined that no impairment existed as of those dates.

 

New Accounting Pronouncements

 

In January 2003, the Financial Accounting Standards Board issued FASB Interpretation No. 46, or FIN 46, “Consolidation of Variable Interest Entities.” This standard clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” and addresses consolidation by business enterprises of variable interest entities. FIN 46 requires existing unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the entities do not effectively disperse risk among the parties involved. This statement is immediately effective for variable interest entities created or in which an enterprise obtains an interest after January 31, 2003.

 

In December 2003, the FASB issued a revised version of FIN 46, or FIN 46R. Among other things, the revision clarifies the definition of a variable interest entity, exempts most entities that are businesses from the scope of FIN 46R and delays the effective date of the revised standard to no later than the end of the first reporting period ending after December 15, 2003 for special purpose entities and March 15, 2004 for all other types of entities. The adoption of this interpretation has not had, and is not expected to have, a material impact on our financial position or results of operations.

 

In April 2003, the FASB issued SFAS No. 149, “Amendment to Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133. SFAS No. 149 is applied prospectively and is effective for contracts entered into or modified after June 30, 2003, except for SFAS No. 133 implementation issues that have been effective for fiscal quarters that began prior to June 15, 2003 and certain provisions relating to forward purchases and sales on securities that do not yet exist. The adoption of this statement has not had a material impact on our financial position or results of operations.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for the classification and measurement of financial instruments with characteristics of both liabilities and equity. The financial instruments affected include mandatorily redeemable stock, certain financial instruments that require or may require the issuer to buy back some of its shares in exchange for cash or other assets and certain obligations that can be settled with shares of stock. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003 and must be applied to our existing financial instruments effective July 1, 2003. On October 29, 2003, the FASB deferred indefinitely the provisions of paragraphs 9 and 10 and related guidance in the appendices of this pronouncement as they apply to mandatorily redeemable noncontrolling interests. The adoption of the effective provisions of SFAS No. 150 have not had a material impact on our financial position or results of operations.

 

In December 2003, the FASB issued a revised version of SFAS No. 132 “Employers’ Disclosures about Pensions and Other Postretirement Benefits.” The revised statement retains the disclosure requirements contained in SFAS No. 132 and requires additional disclosures about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. We have adopted this statement for the year ended December 31, 2003. In addition, we expect to adopt additional disclosures for our U.K. pension plans during 2004.

 

Forward-Looking Statements

 

This Form 10-K includes forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. The words “anticipate,” “believe,” “could,” “should,” “propose,” “continue,” “estimate,” “expect,” “intend,” “may,” “plan,” “predict,” “project,” “will” and similar terms and phrases are used in this Form 10-K to identify forward-looking statements. These statements relate to analyses and other information based on forecasts of future results and estimates of amounts not yet determinable. These statements also relate to our future prospects, developments and business strategies.

 

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These forward-looking statements are made based on our management’s expectations and beliefs concerning future events affecting us and are subject to uncertainties and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control. These uncertainties and factors could cause our actual results to differ materially from those matters expressed in or implied by these forward-looking statements.

 

The following factors are among those that may cause actual results to differ materially from the forward-looking statements:

 

  changes in general economic and business conditions;

 

  the failure of properties managed by us to perform as anticipated;

 

  competition;

 

  changes in social, political and economic conditions in the foreign countries in which we operate;

 

  foreign currency fluctuations;

 

  future acquisitions;

 

  integration of acquired businesses;

 

  an economic downturn in the California and New York real estate markets;

 

  significant variability in our results of operations among quarters;

 

  our substantial leverage and debt service obligations;

 

  our ability to incur additional indebtedness;

 

  our ability to generate a sufficient amount of cash to service our existing and future indebtedness;

 

  the success of our co-investment and joint venture activities;

 

  our ability to retain our senior management and attract and retain qualified and experienced employees;

 

  our ability to comply with the laws and regulations applicable to real estate brokerage and mortgage transactions;

 

  our exposure to liabilities in connection with real estate brokerage and property management activities;

 

  the significant influence of our largest stockholders; and

 

  the other factors described under the heading “Risks Related to Our Business.”

 

Forward-looking statements speak only as of the date the statements are made. You should not put undue reliance on any forward-looking statements. We assume no obligation to update forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking information, except to the extent required by applicable securities laws. If we do update one or more forward-looking statements, no inference should be drawn that we will make additional updates with respect to those or other forward-looking statements.

 

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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

 

Our exposure to market risk consists of foreign currency exchange rate fluctuations related to our international operations and changes in interest rates on debt obligations.

 

Exchange Rates

 

Approximately 30.2% of our business was transacted in local currencies of foreign countries for the year ended December 31, 2003, the majority of which included the Euro, the British Pound Sterling, the Hong Kong dollar, the Singapore dollar and the Australian dollar. During 2003, the U.S. dollar dropped against many of the currencies in which we conduct business. We attempt to manage our exposure primarily by balancing monetary assets and liabilities, and maintaining cash positions in foreign countries only at levels necessary for operating purposes. However, we do not enter into agreements to hedge the risks associated with translation of foreign currencies into U.S. dollars. As a result, fluctuations in foreign currency exchange rates affect reported amounts of our total assets and liabilities, which are reflected in our financial statements as translated into U.S. dollars for each financial reporting period at the exchange rate in effect on the respective balance sheet dates, and our total revenues and expenses, which are reflected in our financial statements as translated into U.S. dollars for each financial reporting period at the monthly average exchange rate. For example, during 2003, foreign currency translation had a $54.4 million positive impact on our total revenue and a $47.3 million negative impact on our total costs of services and operating, administrative and other expenses.

 

We routinely monitor our exposure to currency exchange rate changes in connection with transactions and sometimes enter into foreign currency exchange forward and option contracts to limit our exposure to such transactions, as appropriate. We apply Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS No. 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities,” when accounting for any such contracts. In the normal course of business, we sometimes utilize derivative financial instruments in the form of foreign currency exchange forward contracts to mitigate foreign currency exchange exposure resulting from intercompany loans. We view derivative financial instruments as a risk management tool and, accordingly, do not engage in any speculative activities with respect to foreign currency. At December 31, 2003, we were not a party to any such contracts.

 

Interest Rates

 

We manage our interest expense by using a combination of fixed and variable rate debt. Our fixed and variable rate long-term debt at December 31, 2003 consisted of the following:

 

Year of Maturity


  

Fixed

Rate


   

One-Month

Yen LIBOR

+3.5%


   

One-Month

LIBOR

+1.0%


   

LIBOR

+3.25%


    Interest Rate Range
of 1.0% to 6.25%


    Six-Month Yen
LIBOR + 3.75%


    Six-Month GBP
LIBOR- 2%


    Total

 
     (Dollars in thousands)  

2004

   $ 20,445     $ —       $ 230,790     $ 12,006 (1)   $ 12,663     $ 373     $ 5,145     $ 281,422  

2005

     367       —         —         10,000       —         —         —         10,367  

2006

     17       —         —         10,000       —         —         —         10,017  

2007

     17       —         —         10,000       —         —         —         10,017  

2008

     17       41,753       —         257,500 (2)     —         —         —         299,270  

Thereafter (3)

     461,749       —         —         —         —         —         —         461,749  
    


 


 


 


 


 


 


 


Total

   $ 482,612     $ 41,753     $ 230,790     $ 299,506     $ 12,663     $ 373     $ 5,145     $ 1,072,842  
    


 


 


 


 


 


 


 


Weighted Average Interest Rate

     10.8 %     3.9 %     2.1 %     4.4 %     5.5 %     3.8 %     1.5 %     6.8 %
    


 


 


 


 


 


 


 



(1) Includes $10.0 million relating to our senior secured credit facilities and $2.0 million related to our Westmark senior notes (see Note 12 of our Notes to Consolidated Financial Statements).
(2) Consists of amounts due under our senior secured credit facilities.
(3) Primarily includes our 11¼% senior subordinated notes, our 9¾% senior notes and our 16% senior notes.

 

We utilize sensitivity analyses to assess the potential effect of our variable rate debt. If interest rates were to increase by 35 basis points, approximately 10% of the weighted average variable rate at December 31, 2003, the net impact would be a decrease of $2.1 million on annual pre-tax income and cash provided by operating activities for the twelve months ended December 31, 2003.

 

Based on dealers’ quotes at December 31, 2003, the estimated fair values of our 9¾% senior notes and our 11¼% senior subordinated notes were $222.0 million and $256.5 million, respectively. There was no trading activity for our 16% senior notes due in 2011. The carrying value of our 16% senior notes as of December 31, 2003 totaled $35.5 million. Estimated fair values for the term loans under our senior secured credit facilities and our remaining long-term debt are not presented because we believe that they are not materially different from book value, primarily because the majority of our remaining debt is based

 

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on variable rates that approximate terms that could be obtained at December 31, 2003.

 

We historically have not entered into agreements with third parties for the purpose of hedging our exposure to changes in interest rates. Although we do not have any current intentions to enter into such agreements in the future, we may do so in connection with our on-going assessment of our interest rate exposure. If we do enter into any such agreements, we would do so for risk management purposes only and not to engage in speculative activities with respect to interest rates. We would apply Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS No. 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities, when accounting for any such derivatives.

 

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Table of Contents

Item 8. Financial Statements and Supplementary Data

 

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

AND FINANCIAL STATEMENT SCHEDULE

 

     Page

Independent Auditors’ Report    35
Report of Independent Public Accountants    36
Consolidated Balance Sheets at December 31, 2003 and 2002    37
Consolidated Statements of Operations for the years ended December 31, 2003 and 2002, for the period from February 20 (inception) to December 31, 2001 and for the period from January 1 to July 20, 2001 (Predecessor)    38
Consolidated Statements of Cash Flows for the years ended December 31, 2003 and 2002, for the period from February 20 (inception) to December 31, 2001 and for the period from January 1 to July 20, 2001 (Predecessor)    39
Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2003 and 2002, for the period from February 20 (inception) to December 31, 2001 and for the period from January 1 to July 20, 2001 (Predecessor)    40
Consolidated Statements of Comprehensive (Loss) Income for the years ended December 31, 2003 and 2002, for the period from February 20 (inception) to December 31, 2001 and for the period from January 1 to July 20, 2001 (Predecessor)    41
Notes to Consolidated Financial Statements    42
Quarterly Results of Operations (Unaudited)    81
FINANCIAL STATEMENT SCHEDULE:     
Schedule II—Valuation and Qualifying Accounts    97

 

All other schedules are omitted because they are either not applicable, not required or the information required is included in the Consolidated Financial Statements, including the notes thereto.

 

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INDEPENDENT AUDITORS’ REPORT

 

To the Board of Directors and Stockholders of CB Richard Ellis Group, Inc.:

 

We have audited the accompanying consolidated balance sheets of CB Richard Ellis Group, Inc., a Delaware corporation, and subsidiaries (the “Company”) as of December 31, 2003 and 2002 and the related consolidated statements of operations, cash flows, stockholders’ equity and comprehensive (loss) income for each of the two years in the period ended December 31, 2003. Our audit also included the 2003 and 2002 financial statement schedules listed in the Index to Consolidated Financial Statements and Financial Statement Schedule at Item 8. These financial statements and the financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on the 2003 and 2002 financial statements and the financial statement schedules based on our audits. The consolidated financial statements and the financial statement schedule of the Company for the period from February 20 (inception) to December 31, 2001 and the consolidated financial statements and financial statement schedule of CB Richard Ellis Services, Inc. (the “Predecessor”) for the period from January 1 to July 20, 2001 were audited by other auditors who have ceased operations. Those auditors expressed an unqualified opinion on those financial statements and stated that such 2001 financial statement schedules, when considered in relation to the 2001 basic financial statements taken as a whole, presented fairly, in all material respects, the information set forth therein, in their report dated February 26, 2002.

 

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, such 2003 and 2002 consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2003 and 2002 and the results of their operations and their cash flows for each of the two years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the 2003 and 2002 financial statement schedules, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

 

As discussed in Note 8 to the Consolidated Financial Statements, the Company changed its method of accounting for goodwill and other intangible assets in 2002 to conform to Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets (“SFAS 142”).

 

As discussed above, the consolidated financial statements of the Company for the period from February 20 (inception) to December 31, 2001 and the financial statements of the Predecessor for the period from January 1 to July 20, 2001 were audited by other auditors who have ceased operations. As described in Note 8, these consolidated financial statements have been revised to include the transitional disclosures required by SFAS 142, which was adopted by the Company as of January 1, 2002. Our audit procedures with respect to the disclosures in Note 8 with respect to 2001 included (i) comparing the previously reported net income (loss) to the previously issued consolidated financial statements and the adjustments to reported net income (loss) representing amortization expense (including any related tax effects) recognized in those periods relating to goodwill that is no longer being amortized as a result of initially applying SFAS 142 to the Company’s and the Predecessor’s underlying analysis obtained from management, and (ii) testing the mathematical accuracy of the reconciliation of adjusted net income (loss) to reported net income (loss), and the related earnings (loss)-per-share amounts. In our opinion, the disclosures for 2001 in Note 8 are appropriate. However, we were not engaged to audit, review, or apply any procedures to the 2001 consolidated financial statements of the Company and the Predecessor other than with respect to such disclosures, and accordingly, we do not express an opinion or any other form of assurance on the 2001 consolidated financial statements taken as a whole.

 

DELOITTE & TOUCHE LLP

 

Los Angeles, California

March 30, 2004

 

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REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

 

To the Stockholders and Board of Directors of CBRE Holding, Inc.:

 

We have audited the accompanying consolidated balance sheet of CBRE Holding, Inc., a Delaware corporation, (the Company) as of December 31, 2001 and related consolidated statements of operations, cash flows, stockholders’ equity and comprehensive income for the period from February 20, 2001 (inception) through December 31, 2001. We have also audited the accompanying consolidated balance sheet of CB Richard Ellis Services, Inc. (Predecessor) as of December 31, 2000, and the related consolidated statements of operations, cash flows, stockholders’ equity and comprehensive (loss) income for the period from January 1, 2001 to July 20, 2001, and the twelve months ended December 31, 2000 and 1999. These financial statements and the schedule referred to below are the responsibility of the Company’s and the Predecessor’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

 

We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CBRE Holding, Inc. as of December 31, 2001 and the results of their operations and their cash flows for the period from February 20, 2001 (inception) through December 31, 2001 and the financial position of CB Richard Ellis Services, Inc. (the Predecessor) as of December, 31 2000 and the results of their operations and their cash flows for the period from January 1, 2001 to July 20, 2001, and the twelve months ended December 31, 2000 and 1999, in conformity with accounting principles generally accepted in the United States.

 

Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The schedule listed in the index to consolidated financial statements is presented for purposes of complying with the Securities and Exchange Commission’s rules and is not a required part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in our audits of the basic financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic financial statements taken as a whole.

 

ARTHUR ANDERSEN LLP

 

Los Angeles, California

February 26, 2002

 

NOTE: The report of Arthur Andersen LLP presented above is a copy of a previously issued Arthur Andersen LLP report. This report has not been reissued by Arthur Andersen LLP nor has Arthur Andersen LLP provided a consent to the inclusion of its report in this Form 10-K.

 

NOTE: The consolidated financial statements for the period from February 20 (inception) to December 31, 2001 and for the period from January 1 to July 20, 2001 have been revised to include the transitional disclosures required by Statement of Financial Accounting Standards No. 142. Goodwill and Other Intangible Assets (see Note 8). The report of Arthur Andersen LLP presented above does not extend to these revisions.

 

NOTE: On February 13, 2004, CBRE Holding, Inc. changed its name to CB Richard Ellis Group, Inc.

 

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CB RICHARD ELLIS GROUP, INC.

 

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)

 

     December 31,

 
     2003

    2002

 
ASSETS                 

Current Assets:

                

Cash and cash equivalents

   $ 163,881     $ 79,701  

Restricted cash

     14,899       —    

Receivables, less allowance for doubtful accounts of $16,181 and $10,892 at December 31, 2003 and 2002, respectively

     322,416       166,213  

Warehouse receivable

     230,790       63,140  

Prepaid expenses

     22,854       9,748  

Deferred tax assets, net

     57,681       18,723  

Other current assets

     26,461       8,415  
    


 


Total current assets

     838,982       345,940  

Property and equipment, net

     113,569       66,634  

Goodwill

     819,558       577,137  

Other intangible assets, net of accumulated amortization of $73,449 and $7,739 at December 31, 2003 and 2002, respectively

     131,731       91,082  

Deferred compensation assets

     76,389       63,642  

Investments in and advances to unconsolidated subsidiaries

     68,361       50,208  

Deferred tax assets, net

     32,179       36,376  

Other assets, net

     132,712       93,857  
    


 


Total assets

   $ 2,213,481     $ 1,324,876  
    


 


LIABILITIES AND STOCKHOLDERS’ EQUITY                 

Current Liabilities:

                

Accounts payable and accrued expenses

   $ 189,787     $ 102,415  

Compensation and employee benefits payable

     148,874       63,734  

Accrued bonus and profit sharing

     200,343       103,858  

Income taxes payable

     —         15,451  

Short-term borrowings:

                

Warehouse line of credit

     230,790       63,140  

Other

     39,347       60,054  
    


 


Total short-term borrowings

     270,137       123,194  

Current maturities of long-term debt

     11,285       10,711  

Other current liabilities

     12,991       11,724  
    


 


Total current liabilities

     833,417       431,087  

Long-Term Debt:

                

11¼% senior subordinated notes, net of unamortized discount of $2,827 and $3,057 at December 31, 2003 and 2002, respectively

     226,173       225,943  

Senior secured term loans

     287,500       211,000  

9¾% senior notes

     200,000       —    

16% senior notes, net of unamortized discount of $2,844 and $5,107 at December 31, 2003 and 2002, respectively

     35,472       61,863  

Other long-term debt

     42,275       198  
    


 


Total long-term debt

     791,420       499,004  

Deferred compensation liability

     138,037       106,252  

Pension liability

     35,998       10,766  

Other liabilities

     75,024       20,811  
    


 


Total liabilities

     1,873,896       1,067,920  

Minority interest

     6,656       5,615  

Commitments and contingencies

                

Stockholders’ Equity:

                

Class A common stock; $0.01 par value; 75,000,000 shares authorized; 2,728,441 and 1,793,254 shares issued and outstanding (including treasury shares) at December 31, 2003 and 2002, respectively

     27       17  

Class B common stock; $0.01 par value; 25,000,000 shares authorized; 19,271,948 and 12,624,813 shares issued and outstanding at December 31, 2003 and 2002, respectively

     193       127  

Additional paid-in capital

     361,912       240,574  

Notes receivable from sale of stock

     (4,680 )     (4,800 )

Accumulated earnings

     1,449       36,153  

Accumulated other comprehensive loss

     (23,780 )     (18,998 )

Treasury stock at cost, 138,958 and 110,174 shares at December 31, 2003 and 2002, respectively

     (2,192 )     (1,732 )
    


 


Total stockholders’ equity

     332,929       251,341  
    


 


Total liabilities and stockholders’ equity

   $ 2,213,481     $ 1,324,876  
    


 


 

The accompanying notes are an integral part of these consolidated financial statements.

 

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CB RICHARD ELLIS GROUP, INC.

 

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except share data)

 

     CB Richard Ellis Group

    Predecessor
Company


 
     Year Ended December 31,

   

Period From
February 20

(inception)

to

December 31,


   

Period From
January 1

to July 20,


 
     2003

    2002

    2001

    2001

 

Revenue

   $ 1,630,074     $ 1,170,277     $ 562,828     $ 607,934  

Costs and expenses:

                                

Cost of services

     796,408       547,093       263,601       279,203  

Operating, administrative and other

     678,397       501,798       219,409       297,996  

Depreciation and amortization

     92,622       24,614       12,198       25,656  

Equity income from unconsolidated subsidiaries

     (14,365 )     (9,326 )     (1,554 )     (2,874 )

Merger-related and other nonrecurring charges

     36,817       36       6,442       22,127  
    


 


 


 


Operating income (loss)

     40,195       106,062       62,732       (14,174 )

Interest income

     6,041       3,272       2,427       1,567  

Interest expense

     87,216       60,501       29,717       20,303  
    


 


 


 


(Loss) income before (benefit) provision for income taxes

     (40,980 )     48,833       35,442       (32,910 )

(Benefit) provision for income taxes

     (6,276 )     30,106       18,016       1,110  
    


 


 


 


Net (loss) income

   $ (34,704 )   $ 18,727     $ 17,426     $ (34,020 )
    


 


 


 


Basic (loss) earnings per share

   $ (1.89 )   $ 1.25     $ 2.22     $ (1.60 )
    


 


 


 


Weighted average shares outstanding for basic (loss) earnings per share

     18,373,118       15,025,308       7,845,004       21,306,584  
    


 


 


 


Diluted (loss) earnings per share

   $ (1.89 )   $ 1.23     $ 2.20     $ (1.60 )
    


 


 


 


Weighted average shares outstanding for diluted (loss) earnings per share

     18,373,118       15,222,111       7,909,797       21,306,584  
    


 


 


 


 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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CB RICHARD ELLIS GROUP, INC.

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

 

     CB Richard Ellis Group

    Predecessor
Company


 
     Year Ended
December 31,


   

Period From
February 20

(inception)

to

December 31,


   

Period From
January 1

to July 20,


 
     2003

    2002

    2001

    2001

 

CASH FLOWS FROM OPERATING ACTIVITIES:

                                

Net (loss) income

   $ (34,704 )   $ 18,727     $ 17,426     $ (34,020 )

Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:

                                

Depreciation and amortization

     92,622       24,614       12,198       25,656  

Amortization and write-off of deferred financing costs

     13,276       3,322       1,316       1,152  

Amortization and write-off of long-term debt discount

     2,493       444       201       136  

Deferred compensation deferrals

     13,715       15,925       16,151       16,447  

Gain on sale of properties and servicing rights

     (5,321 )     (6,287 )     (2,868 )     (10,009 )

Equity income from unconsolidated subsidiaries

     (14,365 )     (9,326 )     (1,554 )     (2,874 )

Provision for doubtful accounts

     3,436       3,415       1,317       3,387  

Deferred income tax (benefit) provision

     (12,750 )     5,158       (1,948 )     (1,569 )

(Increase) decrease in receivables

     (43,011 )     (4,770 )     (18,379 )     26,970  

(Increase) decrease in deferred compensation assets

     (12,747 )     5,743       (4,517 )     (11,665 )

Increase (decrease) in accounts payable and accrued expenses

     14,448       7,912       (4,749 )     (5,491 )

Increase (decrease) in compensation and employee benefits payable and accrued bonus and profit sharing

     42,634       17,541       64,677       (101,312 )

(Decrease) increase in income taxes payable

     (15,197 )     3,225       13,578       (16,357 )

Increase (decrease) in other liabilities

     16,021       (15,203 )     (9,260 )     (11,305 )

Other operating activities, net

     3,391       (5,558 )     7,745       624  
    


 


 


 


Net cash provided by (used in) operating activities

     63,941       64,882       91,334       (120,230 )

CASH FLOWS FROM INVESTING ACTIVITIES:

                                

Capital expenditures, net of concessions received

     (26,961 )     (14,266 )     (6,501 )     (14,814 )

Proceeds from sale of properties and servicing rights

     3,949       6,378       2,108       9,544  

Investment in property held for sale

     —         —         (40,174 )     (2,282 )

Acquisition of businesses including net assets acquired, intangibles and goodwill, net of cash acquired

     (263,683 )     (14,811 )     (214,702 )     (1,924 )

Other investing activities, net

     1,900       (1,431 )     (2,124 )     (2,663 )
    


 


 


 


Net cash used in investing activities

     (284,795 )     (24,130 )     (261,393 )     (12,139 )

CASH FLOWS FROM FINANCING ACTIVITIES:

                                

Proceeds from revolver and swingline credit facility

     152,850       238,000       113,750       —    

Repayment of revolver and swingline credit facility

     (152,850 )     (238,000 )     (113,750 )     —    

Proceeds from senior secured term loans

     375,000       —         235,000       —    

Repayment of senior secured term loans

     (298,475 )     (9,351 )     (4,675 )     —    

Proceeds from 9 3/4% senior notes

     200,000       —         —         —    

Repayment of notes payable

     (43,000 )     —         —         —    

Proceeds from 16% senior notes

     —         —         65,000       —    

Repayment of 16% senior notes

     (30,000 )     —         —         —    

Proceeds from (repayment of) senior notes and other loans, net

     3,029       (8,205 )     (1,188 )     446  

Proceeds from 11 1/4% senior subordinated notes

     —         —         225,629       —    

Repayment of 8 7/8% senior subordinated notes

     —         —         (175,000 )     —    

Proceeds from non-recourse debt related to property held for sale

     —         —         37,179       —    

Proceeds from revolving credit facility

     —         —         —         195,000  

Repayment of revolving credit facility

     —         —         (235,000 )     (70,000 )

Payment of deferred financing fees

     (22,707 )     (443 )     (21,750 )     (8 )

Proceeds from issuance of common stock

     120,980       180       92,156       —    

Other financing activities, net

     (1,163 )     (19 )     (3,520 )     792  
    


 


 


 


Net cash provided by (used in) financing activities

     303,664       (17,838 )     213,831       126,230  
    


 


 


 


NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

     82,810       22,914       43,772       (6,139 )

CASH AND CASH EQUIVALENTS, AT BEGINNING OF PERIOD

     79,701       57,450       13,662       20,854  

Effect of currency exchange rate changes on cash

     1,370       (663 )     16       (1,053 )
    


 


 


 


CASH AND CASH EQUIVALENTS, AT END OF PERIOD

   $ 163,881     $ 79,701     $ 57,450     $ 13,662  
    


 


 


 


SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:

                                

Cash paid during the period for:

                                

Interest, net of amount capitalized

   $ 63,718     $ 52,647     $ 26,126     $ 18,457  
    


 


 


 


Income taxes, net of refunds

   $ 17,783     $ 19,142     $ 5,061     $ 19,083  
    


 


 


 


 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

39


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Dollars in thousands, except share data)

 

     CB Richard Ellis Group

 
                                 Accumulated other
comprehensive income
(loss)


             
    

Class A
common

stock


   Class B
common
stock


  

Additional

paid-in

capital


   

Notes

receivable

from sale

of stock


   

Accumulated

earnings


    Minimum
pension
liability


    Foreign
currency
translation


    Treasury
stock


    Total

 

Balance, February 20, 2001

   $ —      $ —      $ —       $ —       $ —       $ —       $ —       $ —       $ —    

Net income

     —        —        —         —         17,426       —         —         —         17,426  

Contribution of deferred compensation plan stock fund units

     —        —        18,771       —         —         —         —         —         18,771  

Contribution of shares by certain shareholders of CB Richard Ellis Services, Inc.

     —        80      121,732       —         —         —         —         —         121,812  

Net issuance of Class A common stock

     17      —        27,672       —         —         —         —         —         27,689  

Issuance of Class B common stock

     —        47      72,366       —         —         —         —         —         72,413  

Notes receivable from sale of stock

     —        —        —         (5,884 )     —         —         —         —         (5,884 )

Foreign currency translation gain

     —        —        —         —         —         —         296       —         296  
    

  

  


 


 


 


 


 


 


Balance, December 31, 2001

     17      127      240,541       (5,884 )     17,426       —         296       —         252,523  

Net income

     —        —        —         —         18,727       —         —         —         18,727  

Issuance of Class A common stock

     —        —        460       (180 )     —         —         —         —         280  

Net cancellation of deferred compensation stock fund units

     —        —        (427 )     —         —         —         —         —         (427 )

Net collection on notes receivable from sale of stock

     —        —        —         1,264       —         —         —         —         1,264  

Purchase of common stock

     —        —        —         —         —         —         —         (1,732 )     (1,732 )

Minimum pension liability adjustment, net of tax

     —        —        —         —         —         (17,039 )     —         —         (17,039 )

Foreign currency translation loss

     —        —        —         —         —         —         (2,255 )     —         (2,255 )
    

  

  


 


 


 


 


 


 


Balance, December 31, 2002

     17      127      240,574       (4,800 )     36,153       (17,039 )     (1,959 )     (1,732 )     251,341  

Net loss

     —        —        —         —         (34,704 )     —         —         —         (34,704 )

Issuance of Class A common stock

     10      —        14,697       —         —         —         —         —         14,707  

Issuance of Class B common stock

     —        66      106,287       —         —         —         —         —         106,353  

Issuance of deferred compensation stock fund units, net of cancellations

     —        —        195       —         —         —         —         —         195  

Net collection on notes receivable from sale of stock

     —        —        —         120       —         —         —         —         120  

Purchase of common stock

     —        —        —         —         —         —         —         (460 )     (460 )

Minimum pension liability adjustment, net of tax

     —        —        —         —         —         1,930       —         —         1,930  

Compensation expense for stock options

     —        —        159       —         —         —         —         —         159  

Foreign currency translation loss

     —        —        —         —         —         —         (6,712 )     —         (6,712 )
    

  

  


 


 


 


 


 


 


Balance, December 31, 2003

   $ 27    $ 193    $ 361,912     $ (4,680 )   $ 1,449     $ (15,109 )   $ (8,671 )   $ (2,192 )   $ 332,929  
    

  

  


 


 


 


 


 


 


 

     Predecessor Company

 
    

Common

stock


   

Additional

paid-in

capital


   

Notes

receivable

from sale

of stock


   

Accumulated

deficit


   

Accumulated

other

comprehensive

loss


   

Treasury

stock


    Total

 

Balance, December 31, 2000

   $ 217     $ 364,168     $ (11,847 )   $ (89,097 )   $ (12,258 )   $ (15,844 )   $ 235,339  

Net loss

     —         —         —         (34,020 )     —         —         (34,020 )

Common stock issued for incentive plans

     —         360       —         —         —         —         360  

Contributions, deferred compensation plan

     —         1,004       —         —         —         —         1,004  

Deferred compensation plan co-match

     —         492       —         —         —         —         492  

Net collection on notes receivable from sale of stock

     —         (742 )     1,001       —         —         —         259  

Amortization of cheap and restricted stock

     1       210       —         —         —         —         211  

Tax deduction from issuance of stock

     —         1,479       —         —         —         —         1,479  

Foreign currency translation loss

     —         —         —         —         (7,106 )     —         (7,106 )

Cancellation of common stock

     —         (54 )     —         —         —         —         (54 )

Cancellation of common stock and elimination of historical equity due to the merger

     (218 )     (366,917 )     10,846       123,117       19,364       15,844       (197,964 )
    


 


 


 


 


 


 


Balance, July 20, 2001

   $ —       $ —       $ —       $ —       $ —       $ —       $ —    
    


 


 


 


 


 


 


 

The accompanying notes are an integral part of these consolidated financial statements.

 

40


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME

(Dollars in thousands)

 

     CB Richard Ellis Group

   Predecessor
Company


 
     Year Ended December 31,

   

Period From
February 20

(inception)

to

December 31,


  

Period From
January 1

to July 20,


 
     2003

    2002

    2001

   2001

 

Net (loss) income

   $ (34,704 )   $ 18,727     $ 17,426    $ (34,020 )

Other comprehensive (loss) income:

                               

Foreign currency translation (loss) gain

     (6,712 )     (2,255 )     296      (7,106 )

Minimum pension liability adjustment, net of tax

     1,930       (17,039 )     —        —    
    


 


 

  


Total other comprehensive (loss) income

     (4,782 )     (19,294 )     296      (7,106 )
    


 


 

  


Comprehensive (loss) income

   $ (39,486 )   $ (567 )   $ 17,722    $ (41,126 )
    


 


 

  


 

The accompanying notes are an integral part of these consolidated financial statements.

 

41


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1. Nature of Operations

 

CB Richard Ellis Group, Inc. (formerly known as CBRE Holding, Inc.), a Delaware corporation, was incorporated on February 20, 2001 and was created to acquire all of the outstanding shares of CB Richard Ellis Services, Inc. (CBRE), an international commercial real estate services firm. Prior to July 20, 2001, we were a wholly owned subsidiary of Blum Strategic Partners, L.P. (Blum Strategic), formerly known as RCBA Strategic Partners, L.P., which is an affiliate of Richard C. Blum, a director of CBRE and our company.

 

On July 20, 2001, we acquired all of the outstanding stock of CBRE pursuant to an Amended and Restated Agreement and Plan of Merger, dated May 31, 2001, among CBRE, Blum CB Corp. (Blum CB) and us. Blum CB was merged with and into CBRE with CBRE being the surviving corporation (the 2001 Merger). In July 2003, our global position in the commercial real estate services industry was further solidified as CBRE acquired Insignia Financial Group, Inc. (Insignia Acquisition). We have no substantive operations other than our investment in CBRE.

 

We offer a full range of services to occupiers, owners, lenders and investors in office, retail, industrial, multi-family and other commercial real estate assets globally under the “CB Richard Ellis” brand name. Our business is focused on several service competencies, including strategic advice and execution assistance for property leasing and sales, forecasting, valuations, origination and servicing of commercial mortgage loans, facilities and project management and real estate investment management. We generate revenues both on a per project or transaction basis and from annual management fees.

 

2. Significant Accounting Policies

 

Principles of Consolidation

 

The accompanying consolidated financial statements include our accounts and those of our majority-owned and controlled subsidiaries. Additionally, the consolidated financial statements for the period from January 1 to July 20, 2001 include the accounts of CBRE prior to the 2001 Merger as CBRE is considered our predecessor for purposes of Regulation S-X. The equity attributable to minority shareholders’ interests in subsidiaries is shown separately in the accompanying consolidated balance sheets. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

Our investments in unconsolidated subsidiaries in which we have the ability to exercise significant influence over operating and financial policies, but do not control, are accounted for under the equity method. Accordingly, our share of the earnings of these equity-method basis companies is included in consolidated net income. All other investments held on a long-term basis are valued at cost less any impairment in value.

 

Use of Estimates

 

Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America, which require management to make estimates and assumptions that affect the reported amounts in the financial statements. Actual results may differ from these estimates. Management believes that these estimates provide a reasonable basis for the fair presentation of our financial condition and results of operations.

 

Cash and Cash Equivalents

 

Cash and cash equivalents generally consist of cash and highly liquid investments with an original maturity of less than three months. We control certain cash and cash equivalents as an agent for our investment and property management clients. These amounts are not included in the accompanying consolidated balance sheets (See Note 17).

 

Property and Equipment

 

Property and equipment is stated at cost, net of accumulated depreciation, or in the case of capitalized leases, at the present value of the future minimum lease payments. Depreciation and amortization of property and equipment is computed primarily using the straight-line method over estimated useful lives ranging up to ten years. Leasehold improvements are amortized over the term of the respective leases, excluding options to renew. We capitalize expenditures that materially increase the life of the related assets and expense the costs of maintenance and repairs.

 

We periodically review property and equipment for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If any of the significant assumptions inherent in this assessment materially change due to market, economic, and/or other factors, the recoverability is assessed based on the revised

 

42


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

assumptions. If this analysis indicates that such assets are considered to be impaired, the impairment is recognized in the period the changes occur and represents the amount by which the carrying value exceeds the fair value of the asset.

 

Goodwill and Other Intangible Assets

 

Goodwill mainly represents the excess of the purchase price paid by us over the fair value of the tangible and intangible assets and liabilities acquired in the 2001 Merger and in the Insignia Acquisition. Other intangible assets include trademarks, which were separately identified as a result of the 2001 Merger, as well as a trade name separately identified as a result of the Insignia Acquisition representing the Richard Ellis trade name in the United Kingdom (U.K.) that was owned by Insignia prior to the Insignia Acquisition. Both the trademarks and the trade name are not being amortized and have indefinite estimated useful lives. Other intangible assets also include backlog, which represents the fair value of Insignia’s net revenue backlog as of July 23, 2003 that was acquired as part of the Insignia Acquisition. The backlog consists of the net commission receivable on Insignia’s revenue producing transactions, which were at various stages of completion prior to the Insignia Acquisition. Backlog is being amortized as cash is received or upon final closing of these pending transactions. The remaining other intangible assets primarily include management contracts, loan servicing rights, franchise agreements and a trade name, which are all being amortized on a straight-line basis over estimated useful lives ranging up to 20 years.

 

We fully adopted Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets,” effective January 1, 2002. This statement requires us to perform at least an annual assessment of impairment of goodwill and other intangible assets deemed to have indefinite useful lives based on assumptions and estimates of fair value and future cash flow information. We perform an annual assessment of our goodwill and other intangible assets deemed to have indefinite lives for impairment based in part on a third-party valuation as of the beginning of the fourth quarter of each year. We also assess our goodwill and other intangible assets deemed to have indefinite useful lives for impairment when events or circumstances indicate that our carrying value may not be recoverable from future cash flows. We completed our required annual impairment tests as of October 1, 2003 and 2002, and determined that no impairment existed as of those dates.

 

Deferred Financing Costs

 

Costs incurred in connection with financing activities are deferred and amortized using the straight-line method over the terms of the related debt agreements ranging up to ten years. Amortization of these costs is charged to interest expense in the accompanying consolidated statements of operations. In the third quarter of 2003, in connection with the Insignia Acquisition, we entered into an amended and restated credit facility and wrote off $6.8 million of unamortized deferred financing costs associated with our prior credit facility. In the fourth quarter of 2003, we wrote off $1.8 million of unamortized deferred financing costs associated with the $20.0 million and $10.0 million redemptions of our 16% senior notes on October 27, 2003 and December 29, 2003, respectively. Total deferred costs, net of accumulated amortization, included in other assets in the accompanying consolidated balance sheets were $29.9 million and $20.5 million, as of December 31, 2003 and 2002, respectively.

 

Revenue Recognition

 

Real estate commissions on sales are recorded as income upon close of escrow or upon transfer of title. Real estate commissions on leases are generally recorded as income once we satisfy all obligations under the commission agreement. A typical commission agreement provides that we earn a portion of the lease commission upon the execution of the lease agreement by the tenant, while the remaining portion(s) of the lease commission is earned at a later date, usually upon tenant occupancy. The existence of any significant future contingencies will result in the delay of recognition of revenue until such contingencies are satisfied. For example, if we do not earn all or a portion of the lease commission until the tenant pays their first month’s rent and the lease agreement provides the tenant with a free rent period, we delay revenue recognition until cash rent is paid by the tenant. Investment management and property management fees are recognized when earned under the provisions of the related agreements. Appraisal fees are recorded after services have been rendered. Loan origination fees are recognized at the time the loan closes and we have no significant remaining obligations for performance in connection with the transaction, while loan servicing fees are recorded to revenue as monthly principal and interest payments are collected from mortgagors. Other commissions, consulting fees and referral fees are recorded as income at the time the related services have been performed unless significant future contingencies exist.

 

In establishing the appropriate provisions for trade receivables, we make assumptions with respect to their future collectibility. Our assumptions are based on an individual assessment of a customer’s credit quality as well as subjective factors and trends, including the aging of receivables balances. In addition to these individual assessments, in general, outstanding trade accounts receivable amounts that are greater than 180 days are fully provided for.

 

Business Promotion and Advertising Costs

 

The costs of business promotion and advertising are expensed as incurred in accordance with Statement of Position 93-7,

 

43


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

“Reporting on Advertising Costs.” Business promotion and advertising costs of $23.5 million, $16.8 million, $6.1 million and $12.5 million were included in operating, administrative and other expenses for the years ended December 31, 2003 and 2002, the period from February 20 (inception) to December 31, 2001 and the period from January 1 to July 20, 2001, respectively.

 

Foreign Currencies

 

The financial statements of subsidiaries located outside the United States (U.S.) are generally measured using the local currency as the functional currency. The assets and liabilities of these subsidiaries are translated at the rates of exchange at the balance sheet date, and income and expenses are translated at the average monthly rate. The resulting translation adjustments are included in the accumulated other comprehensive (loss) income component of stockholders’ equity. Gains and losses resulting from foreign currency transactions are included in the results of operations. The aggregate transaction gains and losses included in the accompanying consolidated statements of operations are a $9.8 million gain, a $6.4 million gain, a $0.2 million loss and a $0.3 million gain for the years ended December 31, 2003 and 2002, the period from February 20 (inception) to December 31, 2001 and the period from January 1 to July 20, 2001, respectively.

 

Comprehensive (Loss) Income

 

Comprehensive (loss) income consists of net (loss) income and other comprehensive (loss) income. Accumulated other comprehensive (loss) income consists of foreign currency translation adjustments and minimum pension liability adjustments. Foreign currency translation adjustments exclude income tax expense (benefit) given that earnings of non-U.S. subsidiaries are deemed to be reinvested for an indefinite period of time. The income tax benefit associated with the minimum pension liability adjustments is $6.5 million and $7.3 million as of December 31, 2003 and 2002, respectively.

 

Accounting for Transfers and Servicing

 

We follow SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” in accounting for loan sales and acquisition of servicing rights. SFAS No. 140 provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities. Those standards are based on consistent application of a financial-components approach that focuses on control. Under the approach, after a transfer of financial assets, an entity recognizes the financial and servicing assets it controls and the liabilities it has incurred at fair value. Servicing assets are amortized over the period of estimated servicing income with a write-off required when control is surrendered. Our recording of servicing rights at their fair value resulted in gains, which have been reflected in the accompanying consolidated statements of operations. Corresponding servicing assets of approximately $1.8 million and $2.1 million, for the years ended December 31, 2003 and 2002, respectively, are included in other intangible assets reflected in the accompanying consolidated balance sheets.

 

Stock-Based Compensation

 

Prior to 2003, we accounted for stock-based compensation plans under the recognition and measurement provisions of Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees.” No stock-based employee compensation cost is reflected in net income (loss) for the year ended December 31, 2002, for the period from February 20 (inception) to December 31, 2001 or for the period from January 1 to July 20, 2001, as all options granted during those periods had an exercise price equal to or greater than the market value of the underlying common stock on the date of grant.

 

In the fourth quarter of 2003, we adopted the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation” prospectively to all employee awards granted, modified or settled after January 1, 2003, as permitted by SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – An Amendment of FASB Statement No. 123.” Awards under our stock-based compensation plans vest over five-year periods. Therefore, the cost related to stock-based employee compensation included in the determination of net loss for the year ended December 31, 2003 is less than that which would have been recognized if the fair value based method had been applied to all awards since the original effective date of SFAS No. 123.

 

In accordance with SFAS No. 123, we estimate the value of our options based upon the “Minimum Value” method. Option valuation models require the input of assumptions such as the expected stock price volatility. As our common stock is not freely tradable on a national securities exchange or an over-the-counter market, an effectively zero percent volatility was utilized. The dividend yield is also excluded from the calculation, as it is our present intention to retain all earnings.

 

44


Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

The following table illustrates the effect on net (loss) income and (loss) earnings per share if the minimum value based method had been applied to all outstanding and unvested awards in each period (dollars in thousands, except share data):

 

     CB Richard Ellis Group

    Predecessor
Company


 
    

Year Ended

December 31,


   

Period From
February 20

(inception)

to

December 31,


   

Period From
January 1

to July 20,


 
     2003

    2002

    2001

    2001

 

Net (loss) income as reported

   $ (34,704 )   $ 18,727     $ 17,426     $ (34,020 )

Add: Stock-based employee compensation expense included in reported net (loss) income, net of related tax effect

     98       —         —         —    

Deduct: Total stock-based employee compensation expense determined under the minimum value method for all awards, net of related tax effect

     (648 )     (523 )     (272 )     (2,758 )
    


 


 


 


Pro Forma net (loss) income

   $ (35,254 )   $ 18,204     $ 17,154     $ (36,778 )
    


 


 


 


Basic EPS:

                                

As Reported

   $ (1.89 )   $ 1.25     $ 2.22     $ (1.60 )
    


 


 


 


Pro Forma

   $ (1.92 )   $ 1.21     $ 2.19     $ (1.73 )
    


 


 


 


Diluted EPS:

                                

As Reported

   $ (1.89 )   $ 1.23     $ 2.20     $ (1.60 )
    


 


 


 


Pro Forma

   $ (1.92 )   $ 1.20     $ 2.17     $ (1.73 )
    


 


 


 


 

The weighted average minimum value of options and warrants granted by us was $1.62 for the year ended December 31, 2003, $2.33 for the year ended December 31, 2002 and $1.86 for the period from February 20 (inception) to December 31, 2001. There were no stock options or warrants granted by CBRE for the period from January 1 to July 20, 2001 that remained outstanding as of December 31, 2001.

 

The minimum value of each option grant and warrant is estimated on the date of grant utilizing the following weighted average assumptions:

 

    

Year Ended

December 31,


   

Period From
February 20

(inception)

to

December 31,


 
     2003

    2002

    2001

 

Risk-free interest rate

   3.02 %   4.06 %   4.69 %

Expected volatility

   0.00 %   0.00 %   0.00 %

Expected life

   5 years     5 years     5 years  

 

(Loss) Earnings Per Share

 

Basic (loss) earnings per share is computed by dividing net (loss) income by the weighted average number of common shares outstanding during each period. The computation of diluted earnings per share further assumes the dilutive effect of stock options, stock warrants and contingently issuable shares. Contingently issuable shares represent unvested stock fund units in the deferred compensation plan. In accordance with SFAS No. 128, “Earnings Per Share” these shares are included in the dilutive earnings per share calculation under the treasury stock method (see Note 16).

 

Income Taxes

 

Income taxes are accounted for under the asset and liability method in accordance with SFAS No. 109, “Accounting for Income Taxes.” Deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and the tax basis of assets and liabilities and operating loss and tax credit carry forwards. Deferred tax assets and liabilities are measured by applying enacted tax rates and laws to taxable income in the years in which the temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are provided against deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized.

 

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CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

New Accounting Pronouncements

 

In January 2003, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 46 (FIN 46), “Consolidation of Variable Interest Entities.” This standard clarifies the application of Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” and addresses consolidation by business enterprises of variable interest entities. FIN 46 requires existing unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the entities do not effectively disperse risk among the parties involved. This statement is immediately effective for variable interest entities created or in which an enterprise obtains an interest after January 31, 2003.

 

In December 2003, the FASB issued a revised version of FIN 46 (FIN 46R). Among other things, the revision clarifies the definition of a variable interest entity, exempts most entities that are businesses from the scope of FIN 46R and delays the effective date of the revised standard to no later than the end of the first reporting period ending after December 15, 2003 for special purpose entities and March 15, 2004 for all other types of entities. The adoption of this interpretation has not had, and is not expected to have, a material impact on our financial position or results of operations.

 

In April 2003, the FASB issued SFAS No. 149, “Amendment to Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 amends and clarifies accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133. SFAS No. 149 is applied prospectively and is effective for contracts entered into or modified after June 30, 2003, except for SFAS No. 133 implementation issues that have been effective for fiscal quarters that began prior to June 15, 2003 and certain provisions relating to forward purchases and sales on securities that do not yet exist. The adoption of this statement has not had a material impact on our financial position or results of operations.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS No. 150 establishes standards for the classification and measurement of financial instruments with characteristics of both liabilities and equity. The financial instruments affected include mandatorily redeemable stock, certain financial instruments that require or may require the issuer to buy back some of its shares in exchange for cash or other assets and certain obligations that can be settled with shares of stock. SFAS No. 150 is effective for all financial instruments entered into or modified after May 31, 2003 and must be applied to our existing financial instruments effective July 1, 2003. On October 29, 2003, the FASB deferred indefinitely the provisions of paragraphs 9 and 10 and related guidance in the appendices of this pronouncement as they apply to mandatorily redeemable noncontrolling interests. The adoption of the effective provisions of SFAS No. 150 have not had a material impact on our financial position or results of operations.

 

In December 2003, the FASB issued a revised version of SFAS No. 132, “Employers Disclosures about Pensions and Other Postretirement Benefits.” The revised statement retains the disclosure requirements contained in SFAS No. 132 and requires additional disclosures about the assets, obligations, cash flows and net periodic benefit cost of defined benefit pension plans and other defined benefit postretirement plans. We have adopted this statement for the year ended December 31, 2003. In addition, we expect to adopt additional disclosures for our U.K. pension plans during 2004.

 

Reclassifications

 

Certain reclassifications, which do not have an effect on net income or equity, have been made to the 2002 and 2001 financial statements to conform to the 2003 presentation.

 

3. Insignia Acquisition

 

On July 23, 2003, pursuant to an Amended and Restated Agreement and Plan of Merger, dated May 28, 2003 (the Insignia Acquisition Agreement), by and among us, CBRE, Apple Acquisition Corp. (Apple Acquisition), a Delaware corporation and wholly owned subsidiary of CBRE, and Insignia Financial Group, Inc. (Insignia), Apple Acquisition was merged with and into Insignia (the Insignia Acquisition). Insignia was the surviving corporation in the Insignia Acquisition and at the effective time of the Insignia Acquisition became a wholly owned subsidiary of CBRE. We acquired Insignia to solidify our position as the market leader in the commercial real estate services industry.

 

In conjunction with and immediately prior to the Insignia Acquisition, Island Fund I LLC (Island), a Delaware limited liability company, which is affiliated with Andrew L. Farkas (Insignia’s former Chairman and Chief Executive Officer) and some of Insignia’s other former officers, completed the purchase of specified real estate investment assets of Insignia, pursuant to a Purchase Agreement, dated May 28, 2003 (the Island Purchase Agreement), by and among Insignia, us, CBRE, Apple Acquisition and Island. A number of the real estate investment assets that were sold to Island required the consent of one or more third parties in order to transfer such assets. Some of these third party consents were not obtained prior to or since the

 

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Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

closing of the Insignia Acquisition. As a result, we continue to hold these real estate investment assets pending the receipt of these third party consents. While we hold these assets, we have generally agreed to provide Island with the economic benefits from these assets and Island generally has agreed to indemnify us with respect to any losses incurred in connection with continuing to hold these assets.

 

Pursuant to the terms of the Insignia Acquisition Agreement, (1) each issued and outstanding share of Insignia Common Stock (other than treasury shares), par value $0.01 per share, was converted into the right to receive $11.156 in cash, without interest (the Insignia Common Stock Merger Consideration), (2) each issued and outstanding share of Insignia’s Series A Preferred Stock, par value $0.01 per share, and Series B Preferred Stock, par value $0.01 per share, was converted into the right to receive $100.00 per share, plus accrued and unpaid dividends, (3) all outstanding warrants and options to acquire Insignia common stock other than as described below, whether vested or unvested, were canceled and represented the right to receive a cash payment, without interest, equal to the excess, if any, of the Insignia Common Stock Merger Consideration over the per share exercise price of the option or warrant, multiplied by the number of shares of Insignia Common Stock subject to the option or warrant less any applicable withholding taxes and (4) outstanding options to purchase Insignia Common Stock granted pursuant to Insignia’s 1998 Stock Investment Plan, whether vested or unvested, were canceled and represented the right to receive a cash payment, without interest, equal to the excess, if any, of (a) the higher of (x) the Insignia Common Stock Merger Consideration, or (y) the highest final sale price per share of the Insignia Common Stock as reported on the New York Stock Exchange (NYSE) at any time during the 60-day period preceding the closing of the Insignia Acquisition (which was $11.20), over (b) the exercise price of the options, multiplied by the number of shares of Insignia Common Stock subject to the options, less any applicable withholding taxes. Following the Insignia Acquisition, the Insignia Common Stock was delisted from the NYSE and deregistered under the Securities Exchange Act of 1934.

 

The funding to complete the Insignia Acquisition, as well as the refinancing of substantially all of the outstanding indebtedness of Insignia, was obtained through (a) the sale of 6,587,135 shares of our Class B Common Stock, par value $0.01 per share, to Blum Strategic, a Delaware limited partnership, Blum Strategic Partners II, L.P., a Delaware limited partnership and Blum Strategic Partners II GmbH & Co. KG, a German limited partnership, for an aggregate cash purchase price of $105,394,160; (b) the sale of 227,865 shares of our Class A Common Stock, par value $.01 per share, to DLJ Investment Partners, L.P., a Delaware limited partnership, DLJ Investment Partners II, L.P., a Delaware limited partnership and DLJIP II Holdings, L.P., a Delaware limited partnership, for an aggregate cash purchase price of $3,645,840; (c) the sale of 625,000 shares of our Class A Common Stock to California Public Employees’ Retirement System (CalPERS) for an aggregate cash purchase price of $10,000,000; (d) the sale of 60,000 shares of our Class B Common Stock to Frederic V. Malek, a director of our company, for an aggregate cash purchase price of $960,000; (e) the release from escrow of the net proceeds from the offering by CBRE Escrow, Inc. (CBRE Escrow), a wholly owned subsidiary of CBRE that merged with and into CBRE in connection with the Insignia Acquisition, of $200.0 million of the 9¾% Senior Notes due May 15, 2010 (see Note 12), issued and sold by CBRE Escrow on May 22, 2003; (f) $75.0 million of term loan borrowings under the Amended and Restated Credit Agreement (see Note 12), dated as of May 22, 2003, by and among CBRE, Credit Suisse First Boston (CSFB) as Administrative Agent and Collateral Agent, the other lenders named in the credit agreement, us and the guarantors named in the credit agreement and (g) $36,870,230 of cash proceeds from the completion of the sale to Island.

 

The aggregate preliminary purchase price for the Insignia Acquisition was approximately $328.0 million, which includes: (1) $267.9 million in cash paid for shares of Insignia’s outstanding common stock, valued at $11.156 per share, (2) $100.00 per share plus accrued and unpaid dividends paid to the owners of Insignia’s outstanding Series A preferred stock and Series B preferred stock totaling $38.2 million, (3) cash payments of $7.9 million to holders of Insignia’s vested and unvested warrants and options and (4) $14.0 million of direct costs incurred in connection with the acquisition, consisting mostly of legal and accounting fees.

 

The preliminary purchase accounting adjustments related to the Insignia Acquisition have been recorded in the accompanying consolidated financial statements as of, and for periods subsequent to, July 23, 2003. The final valuation of the net assets acquired is expected to be completed as soon as practicable, but no later than one year from the acquisition date. Given the size and complexity of the acquisition, the fair valuation of certain assets acquired, primarily net deferred tax assets, is still preliminary. Additionally, adjustments to the estimated liabilities assumed in connection with the Insignia Acquisition may still be required. The following table summarizes the estimated fair values of the assets acquired and the liabilities assumed at the date of acquisition (in thousands):

 

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Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Fair Value of Assets Acquired and Liabilities Assumed

At July 23, 2003

 

Current assets

   $ 270,641

Property and equipment, net

     32,532

Goodwill

     237,569

Other intangible assets, net

     102,748

Other assets

     30,776
    

Total assets acquired

     674,266
    

Current liabilities

     168,574

Liabilities assumed in connection with the Insignia Acquisition

     87,739

Notes payable

     43,000

Other liabilities

     46,994
    

Total liabilities assumed

     346,307
    

Net assets acquired

   $ 327,959
    

 

The following is a summary of the intangible assets acquired in connection with the Insignia Acquisition (dollars in thousands):

 

     Weighted
Average
Amortization
Period


    July 23, 2003

   December 31, 2003

       Gross Carrying
Amount


   Accumulated
Amortization


    Net Carrying
Amount


Backlog

   (1 )   $ 72,503    $ (59,108 )   $ 13,395

Trade name

   n/a       19,826      —         19,826

Management contracts

   5 years       4,611      (490 )     4,121

Other

   6 years       5,808      (821 )     4,987
 
  (1) Weighted average amortization period is not determinable. See Note 8 for additional information.

 

The Insignia Acquisition gave rise to the consolidation and elimination of some Insignia duplicate facilities and Insignia redundant employees as well as the termination of certain contracts as a result of a change of control of Insignia. As a result, we have accrued certain liabilities in accordance with Emerging Issues Task Force Issue No. 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination.” These liabilities assumed in connection with the Insignia Acquisition consist of the following (dollars in thousands):

 

     2003 Charge
to Goodwill


   Utilized to
Date


   To be
Utilized


Severance

   $ 30,706    $ 13,676    $ 17,030

Lease termination costs

     28,922      3,065      25,857

Change of control payments

     10,451      10,451      —  

Costs associated with exiting contracts

     8,921      7,632      1,289

Legal settlements anticipated

     8,739      2,900      5,839
    

  

  

     $ 87,739    $ 37,724    $ 50,015
    

  

  

 

        The liability for severance covers approximately 450 employees with the bulk of the terminations occurring in the U.S. A majority of the amount unpaid as of December 31, 2003 represents future payments required as per severance agreements for the top six former senior executives of Insignia. These amounts will be paid as required by their severance agreements up through their expiration dates of December 31, 2004 and December 31, 2005. All other outstanding liabilities for severance are expected to be paid in 2004. We identified approximately 50 redundant facilities consisting of both sales and corporate offices. A total accrual for lease termination costs of $28.9 million was established for office closures, the majority of which were located in the U.S. The liability for lease termination costs will be paid over the remaining contract periods through 2012. The change of control payments represented amounts paid to the top six former senior executives of Insignia as a direct result of the Insignia Acquisition as stipulated in their employment contracts. In connection with the Insignia Acquisition, we incurred costs associated with the termination of contracts that Insignia entered into prior to the Insignia Acquisition. We expect to pay all remaining costs relating to exiting these contracts in 2004. We have accrued approximately $8.7 million to cover our exposure in various lawsuits involving Insignia that were pending prior to the Insignia Acquisition. These liabilities will be paid as each case is settled.

 

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CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

4. 2001 Merger

 

On July 20, 2001, we acquired CBRE pursuant to an Amended and Restated Agreement and Plan of Merger dated May 31, 2001 (the 2001 Merger Agreement) among us, CBRE and Blum CB. At the effective time of the 2001 Merger, CBRE became our wholly owned subsidiary. Pursuant to the terms of the 2001 Merger Agreement, each issued and outstanding share of common stock of CBRE was converted into the right to receive $16.00 in cash, except for: (i) shares of common stock of CBRE owned by us and Blum CB immediately prior to the 2001 Merger, totaling 7,967,774 shares, which were cancelled, (ii) treasury shares and shares of common stock of CBRE owned by any of its subsidiaries, which were cancelled and (iii) shares of CBRE held by stockholders who perfected appraisal rights for such shares in accordance with Delaware law. All shares of common stock of CBRE outstanding prior to the 2001 Merger were acquired by us and subsequently cancelled. Immediately prior to the 2001 Merger, the following, collectively referred to as the buying group, contributed to us all the shares of CBRE’s common stock that he or it directly owned in exchange for an equal number of shares of our Class B common stock: Blum Strategic, FS Equity Partners III, L.P. (FSEP III), a Delaware limited partnership, FS Equity Partners International, L.P. (FSEP International), a Delaware limited partnership, The Koll Holding Company, a California corporation, Frederic V. Malek, a director of our company and CBRE, Raymond E. Wirta, the Chief Executive Officer and a director of our company and CBRE, and Brett White, the President and a director of our company and CBRE. Such shares of common stock of CBRE, which totaled 7,967,774 shares of common stock, were then cancelled. In addition, we offered to purchase for cash, options outstanding to acquire common stock of CBRE at a purchase price per option equal to the greater of the amount by which $16.00 exceeded the exercise price of the option, if at all, or $1.00. In connection with the 2001 Merger, CBRE purchased its outstanding options on our behalf, which were recorded as merger-related and other nonrecurring charges by CBRE in the period from January 1 to July 20, 2001.

 

The funding to complete the 2001 Merger, as well as the refinancing of substantially all of the outstanding indebtedness of CBRE, was obtained through: (i) a cash contribution of $74.8 million from the sale of our Class B common stock for $16.00 per share, (ii) sale of shares of our Class A common stock for $16.00 per share to employees and independent contractors of CBRE, (iii) sale of 625,000 shares of our Class A common stock to CalPERS for $16.00 per share, (iv) issuance and sale of 65,000 units for $65.0 million to DLJ Investment Funding, Inc. and other purchasers, which units consisted of $65.0 million in aggregate principal amount of 16% Senior Notes due July 20, 2011 and 339,820 shares of our Class A common stock, (v) issuance and sale by Blum CB of $229.0 million in aggregate principal amount of 11¼% Senior Subordinated Notes due June 15, 2011 for $225.6 million (which were assumed by CBRE in connection with the 2001 Merger) and (vi) borrowings by CBRE under a new $325.0 million senior credit facility with CSFB and other lenders.

 

Following the 2001 Merger, the common stock of CBRE was delisted from the NYSE. CBRE also successfully completed a tender offer and consent solicitation for all of the outstanding principal amount of its 8 7/8% Senior Subordinated Notes due 2006 (the Subordinated Notes). The Subordinated Notes were purchased at $1,079.14 for each $1,000 principal amount of Subordinated Notes, which included a consent payment of $30.00 per $1,000 principal amount of Subordinated Notes. We also repaid the outstanding balance of CBRE’s existing revolving credit facility. We entered into the 2001 Merger in order to enhance the flexibility to operate CBRE’s existing businesses and to develop new ones.

 

5. Basis of Preparation

 

The accompanying consolidated balance sheets as of December 31, 2003 and 2002, and the consolidated statements of operations, cash flows and stockholders’ equity for the years ended December 31, 2003 and 2002 and for the period from February 20 (inception) to December 31, 2001, reflect our consolidated balance sheets, results of operations, cash flows and stockholders’ equity from our company’s inception and also include the consolidated financial statements of CBRE from the date of the 2001 Merger, including all material adjustments required under the purchase method of accounting. For purposes of Regulation S-X, CBRE is considered our predecessor. As such, the historical financial statements of CBRE prior to the 2001 Merger are included in the accompanying consolidated financial statements, including the consolidated statements of operations, cash flows and stockholders’ equity for the period from January 1 to July 20, 2001 (the Predecessor financial statements). The Predecessor financial statements have not been adjusted to reflect our acquisition of CBRE. As such, our consolidated financial statements after the 2001 Merger are not directly comparable to the Predecessor financial statements prior to the 2001 Merger. Additionally, the accompanying consolidated balance sheet as of December 31, 2003 and the consolidated statements of operations and cash flows for the year ended December 31, 2003 include the consolidated financial statements of Insignia from July 23, 2003, the date of the Insignia Acquisition, including all material adjustments required under the purchase method of accounting. As such, our consolidated financial statements after the Insignia Acquisition are not directly comparable to our financial statements prior to the Insignia Acquisition.

 

Unaudited pro forma results, assuming the Insignia Acquisition had occurred as of January 1, 2003 and 2002 for purposes of the 2003 and 2002 pro forma disclosures, respectively, are presented below. These unaudited pro forma results have been prepared for comparative purposes only and include certain adjustments, such as increased amortization expense as a result of intangible assets acquired in the Insignia Acquisition as well as higher interest expense as a result of debt incurred to finance the Insignia Acquisition. These unaudited pro forma results do not purport to be indicative of what operating results

 

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Table of Contents

CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

would have been had the Insignia Acquisition occurred on January 1, 2003 or 2002, respectively, and may not be indicative of future operating results (dollars in thousands, except share data):

 

     Year Ended December 31,

 
     2003

    2002

 
     (Unaudited)  

Revenue

   $ 1,948,827     $ 1,744,162  

Operating income

   $ 33,217     $ 69,436  

Net loss

   $ (47,438 )   $ (19,713 )

Basic and diluted loss per share

   $ (2.10 )   $ (0.88 )

Weighted average shares outstanding for basic and diluted loss per share

     22,544,351       22,525,308  

 

6. Restricted Cash

 

Included in the accompanying consolidated balance sheet as of December 31, 2003 is restricted cash of $14.9 million, which primarily consists of cash pledged to secure the guarantee of notes issued in connection with previous acquisitions by Insignia in the U.K. The acquisitions include the 1999 acquisition of St. Quintin Holdings Limited and the 1998 acquisition of Richard Ellis Group Limited.

 

7. Property and Equipment

 

Property and equipment consists of the following (dollars in thousands):

 

     December 31,

 
     2003

    2002

 

Leasehold improvements

   $ 48,741     $ 20,000  

Furniture and equipment

     162,157       116,268  

Equipment under capital leases

     12,820       13,925  
    


 


       223,718       150,193  

Accumulated depreciation

     (110,149 )     (83,559 )
    


 


Property and equipment, net

   $ 113,569     $ 66,634  
    


 


 

Depreciation expense was $28.3 million for the year ended December 31, 2003, $20.8 million for the year ended December 31, 2002, $9.1 million for the period from February 20 (inception) to December 31, 2001 and $12.6 million for the period from January 1 to July 20, 2001.

 

8. Goodwill and Other Intangible Assets

 

In June 2001, the FASB issued SFAS No. 142, “Goodwill and Other Intangible Assets.” Under SFAS No. 142, goodwill and other intangible assets deemed to have indefinite useful lives are no longer amortized but are subject to impairment tests on an annual basis, at a minimum, or whenever events or circumstances occur indicating that those assets might be impaired. We adopted the non-amortization provisions of SFAS No. 142 on July 20, 2001, the effective date of the 2001 Merger. The following table presents the impact of SFAS No. 142 on, our net (loss) income and net (loss) earnings per share had the standard been in effect for the period from January 1 to July 20, 2001 (dollars in thousands, except share data):

 

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CB RICHARD ELLIS GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

     CB Richard Ellis Group

   Predecessor
Company


 
     Year Ended December 31,

  

Period From
February 20

(inception)

to

December 31,


  

Period From
January 1

to July 20,


 
     2003

    2002

   2001

   2001

 

Reported net (loss) income

   $ (34,704 )   $ 18,727    $ 17,426    $ (34,020 )

Add back amortization of goodwill, net of taxes

     —         —        —        7,701  
    


 

  

  


Adjusted net (loss) income

   $ (34,704 )   $ 18,727    $ 17,426    $ (26,319 )
    


 

  

  


Basic (loss) earnings per share:

                              

Reported (loss) earnings per share

   $ (1.89 )   $ 1.25    $ 2.22    $ (1.60 )

Add back goodwill amortization per share

     —         —        —        0.36  
    


 

  

  


Adjusted basic (loss) earnings per share

   $ (1.89 )   $ 1.25    $ 2.22    $ (1.24 )
    


 

  

  


Diluted (loss) earnings per share:

                              

Reported (loss) earnings per share

   $ (1.89 )   $ 1.23    $ 2.20    $ (1.60 )

Add back goodwill amortization per share

     —         —        —        0.36  
    


 

  

  


Adjusted diluted (loss) earnings per share

   $ (1.89 )   $ 1.23    $ 2.20    $ (1.24 )
    


 

  

  


 

The preliminary purchase accounting adjustments associated with the Insignia Acquisition have been recorded in the accompanying consolidated financial statements. We are in the process of finalizing the fair value of all assets acquired and liabilities assumed as of July 23, 2003, the effective date of the Insignia Acquisition (See Note 3 for additional information). The following table summarizes the estimated goodwill allocated to our operating segments in connection with the Insignia Acquisition as well as other changes in the carrying amount of goodwill for the years ended December 31, 2003 and 2002 (dollars in thousands):

 

     Americas

    EMEA

   Asia Pacific

   Total

 

Balance at January 1, 2002

   $ 510,188     $ 96,637    $ 2,718    $ 609,543  

Purchase accounting adjustments related to acquisitions

     15,321       5,809      688      21,818  

Reclassed (to)from intangibles assets

     (57,841 )     3,617      —        (54,224 )
    


 

  

  


Balance at December 31, 2002

     467,668       106,063      3,406      577,137  

Purchase accounting adjustments related to acquisitions

     130,771       111,043      607      242,421  
    


 

  

  


Balance at December 31, 2003

   $ 598,439     $ 217,106    $ 4,013    $ 819,558  
    


 

  

  


 

Other intangible assets totaled $131.7 million and $91.1 million, net of accumulated amortization of $73.5 million and $7.7 million, as of December 31, 2003 and 2002, respectively, and are comprised of the following (dollars in thousands):

 

     December 31,

 
     2003

    2002

 
     Gross Carrying
Amount


   Accumulated
Amortization


    Gross Carrying
Amount


   Accumulated
Amortization


 

Unamortizable intangible assets

                              

Trademarks

   $ 63,700            $ 63,700         

Trade name

     19,826              —           
    

          

        

Total

   $ 83,526            $ 63,700         
    

          

        

Amortizable intangible assets

                              

Backlog

   $ 72,503    $ (59,108 )   $ —      $ —    

Management contracts

     25,649      (9,708 )     18,887      (5,605 )

Loan servicing rights

     17,694      (3,812 )     16,234      (2,134 )

Other

     5,808      (821 )     —        —    
    

  


 

  


Total

   $ 121,654    $ (73,449 )   $ 35,121    $ (7,739 )
    

  


 

  


 

In accordance with SFAS No. 141, “Business Combinations,” trademarks of $63.7 million were separately identified as a result of the 2001 Merger. As a result of the Insignia Acquisition, a $19.8 million trade name was separately identified, which represents the Richard Ellis trade name in the U.K. that was owned by Insignia prior to the Insignia Acquisition. Both the trademarks and the trade name have indefinite useful lives and accordingly are not being amortized.

 

Backlog represents the fair value of Insignia’s net revenue backlog as of July 23, 2003, which was acquired as part of the Insignia Acquisition. The backlog consists of the net commissions receivable on Insignia’s revenue producing transactions,

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

which were at various stages of completion prior to the Insignia Acquisition. This intangible asset is being amortized as cash is received or upon final closing of these pending transactions.

 

Management contracts are primarily comprised of property management contracts in the U.S., the U.K., France and other European operations, as well as valuation services and fund management contracts in the U.K. These management contracts are being amortized over estimated useful lives of up to ten years.

 

Loan servicing rights represent the fair value of servicing assets in our mortgage banking line of business in the U.S., the majority of which were acquired as part of the 2001 Merger. The loan servicing rights are being amortized over estimated useful lives of up to ten years.

 

Other amortizable intangible assets represent other intangible assets acquired as a result of the Insignia Acquisition, including an intangible asset recognized for other non-contractual revenue acquired in the U.S. as well as franchise agreements and a trade name in France. These other intangible assets are being amortized over estimated useful lives of up to 20 years.

 

Amortization expense related to intangible assets was $64.3 million for the year ended December 31, 2003, $3.8 million for the year ended December 31, 2002, $3.1 million for the period from February 20 (inception) to December 31, 2001 and $13.1 million for the period from January 1 to July 20, 2001. The estimated amortization expense for the five years ending December 31, 2008 approximates $20.3 million, $6.5 million, $5.1 million, $4.2 million and $3.4 million, respectively.

 

9. Investments in and Advances to Unconsolidated Subsidiaries

 

Combined condensed financial information for the entities accounted for using the equity method is as follows (dollars in thousands):

 

Condensed Balance Sheets Information:

 

     December 31,

     2003

   2002

Current assets

   $ 208,743    $ 127,635

Noncurrent assets

   $ 2,040,138    $ 1,552,546

Current liabilities

   $ 154,778    $ 108,463

Noncurrent liabilities

   $ 969,993    $ 664,241

Minority interest

   $ 4,600    $ 3,938

 

Condensed Statements of Operations Information:

 

     Year Ended December 31,

     2003

   2002

   2001

Net revenue

   $ 450,542    $ 349,121    $ 286,138

Income from operations

   $ 111,585    $ 78,171    $ 60,259

Net income

   $ 174,629    $ 81,498    $ 30,098

 

Included in other current assets in the accompanying consolidated balance sheet was a note receivable from our equity investment in Investor 1031, L.L.C. in the amount of $1.2 million as of December 31, 2002. This note was issued on June 20, 2002, bore interest at 20.0% per annum and was due for repayment on July 15, 2003. This note and related interest were paid in full during the second quarter of 2003.

 

Our investment management business involves investing our own capital in certain real estate investments with clients. We have provided investment management, property management, brokerage, appraisal and other professional services to these equity investees and earned revenues from these co-investments of $21.6 million, $22.4 million and $15.4 million during the years ended December 31, 2003, 2002 and 2001, respectively.

 

In March 2001, our wholly owned subsidiary, CB Richard Ellis Investors, L.L.C. (CBRE Investors), entered into a joint venture, Global Innovation Partners, with CalPERS. This joint venture targets real estate and private equity investments and expected opportunities created by the convergence of technology and real estate. The managing member of the joint venture is 50% owned by one of our subsidiaries. In connection with formation of the joint venture, CBRE Investors, CalPERS and some of our employees entered into an aggregate of $526.0 million of capital commitments to Global Innovations Partners, of which CalPERS committed an aggregate of $500.0 million.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

10. Other Assets

 

The following table summarizes the items included in other assets (dollars in thousands):

 

     December 31,

     2003

   2002