Item 1. Business
General
Spurlock Industries, Inc. ("Spurlock Industries", the "Company" or the "Registrant") is a Virginia corporation organized in 1996. The Company is the successor to Air Resources Corporation ("Air Resources"), a Colorado corporation organized in 1986. At a special meeting of the shareholders of Air Resources held on June 11, 1996, the shareholders of Air Resources approved the merger of Air Resources into the Registrant, in order, among other things, to change the domicile of Air Resources from Colorado to Virginia. Such merger was consummated on July 26, 1996. References herein to the "Company" or the "Registrant" shall include Air Resources as predecessor to Spurlock Industries.
Through its wholly owned subsidiary, Spurlock Adhesives, Inc. ("Spurlock Adhesives"), the Company develops, manufactures and markets specialty thermo-setting resins and formaldehyde for the forest products, building products and furniture industries. The Company also produces, on a limited basis, fertilizer products for the agricultural and lawn and garden supply industries. It operates two manufacturing facilities in the southeastern United States, one in Waverly, Virginia and the other in Malvern, Arkansas. Products of Spurlock Adhesives are sold throughout the east, southeast and midwest regions of the United States.
Spurlock Industries' principal executive offices are located at 209 West Main Street, Waverly, Virginia 23890, and its telephone number is (804) 834-8980.
Operating History and Acquisition Strategy
Development of Gas Technology Businesses. Air Resources formed Landfill Energy Systems, Inc. and ARC Engineering Fabrications, Inc. in 1991 for the purpose of developing the equipment and technology necessary to pursue certain contracts relating to landfill gas recovery that were acquired from Phillip D. Tracy, a shareholder and former director of Air Resources. The equipment and technology to be developed by Air Resources was intended to collect raw gases at landfill sites and process them into commercially usable natural gas for resale. Air Resources entered into production agreements with two landfill sites in 1991 and conducted feasibility tests in 1992 and 1993. After sustaining substantial expenses and operating losses associated with the development of this technology during the period from August 1991 through 1993, Air Resources discontinued certain of its gas recovery development operations in 1993 and the remainder in March, 1994.
Acquisition of Spurlock Adhesives. On August 5, 1992, Air Resources acquired Spurlock Adhesives, a Virginia corporation, as a wholly-owned subsidiary. Spurlock Adhesives was founded in 1973 by Harold N. Spurlock, as sole proprietor, and was incorporated in the Commonwealth of Virginia in 1989. The early years of operation consisted solely of the production of urea resins and liquid fertilizer products. The business evolved primarily around the needs of the growing composite wood products industry. Mr. Spurlock developed a number of innovative products for the particleboard and medium
density fiberboard industries, including the first single component resin. This new resin replaced an expensive four component system that was being used in the medium density fiberboard industry. Also, Spurlock Adhesives developed one of the first lower formaldehyde resins for the particleboard industry in response to concerns expressed by the environmental community in the early 1980's. The process for producing this product was one of the first processes patented in this area. See "Patents and Trademarks" below. The Company has maintained its market leadership in the development of resins with lower levels of formaldehyde for the particleboard and medium density fiberboard industries.
Over the years, Spurlock Adhesives has continued to diversify its customer and market base as well as upgrade its manufacturing facilities. In 1980, Spurlock Adhesives serviced less than ten (10) customers and produced approximately seventy (70) million pounds of resins at its Waverly plant, as compared to fifty-five (55) customers and 248 million pounds of resins and formaldehyde in 1996. In 1987, Spurlock Adhesives built a new resin production plant adjacent to its existing one in Waverly, which increased its resin capacity four hundred percent (400%). In a move to vertically integrate the Waverly facility, Spurlock Adhesives built its first formaldehyde production plant in Waverly in 1988. This plant allowed Spurlock Adhesives to internally supply approximately eighty percent (80%) of its formaldehyde needs for resin production, thus enabling it to become less dependent on outside supply and to better control its raw material costs. In 1992, Spurlock Adhesives acquired a resin and formaldehyde production facility in Malvern, Arkansas from BTL Specialty Resins Corp. of Toronto, Ontario (Canada) ("BTL") at the time that it became a wholly owned subsidiary of Air Resources. This acquisition gave Spurlock Adhesives a larger distribution area, thus allowing it to compete for business in the midwest region of the United States. In 1993, Spurlock Adhesives completed a state-of-the-art formaldehyde plant in Waverly, which it leased from D.B. Western, Inc., until July 1996, when Spurlock Adhesives purchased the plant. This plant fulfills all of the current formaldehyde needs of the Waverly resin operations, and offers Spurlock Adhesives the flexibility of being able to produce additional marketable product. Additional information regarding Spurlock Adhesives' two manufacturing facilities is set forth under Item 2.

Item 2. Properties
Air Resources conducts its business operations primarily from two manufacturing facilities located in Waverly, Virginia and Malvern, Arkansas. The Company's headquarters and chief executive offices are located in leased office space in Waverly, Virginia. Management of Air Resources believes the properties are in good condition and suitable for the Company's purposes. The Company's two manufacturing facilities are encumbered under existing credit arrangements.
Executive Offices. Spurlock Adhesives is leasing on a month to month basis office space in the James River Bank building in the Town of Waverly. This space consists of 5 offices and a reception area and is approximately 2,000 square feet.
Waverly Facility. Spurlock Adhesives owns and operates a facility on a 13 acre industrial site located about 3 miles northwest of the intersection of state highways 40 and 460 near Waverly, Virginia. The facility consists of two resin plants and two formaldehyde plants. The plants produce Urea Resins, Phenolic Resins and formaldehyde. In 1996, the resin plants were operated at approximately 55% of capacity and the formaldehyde plants were operated at approximately 83% of capacity.
Malvern Facility. The Company owns and operates a facility on 67 acres of land in Gillford, Arkansas, approximately five miles northeast of Malvern, Arkansas. The facility consists of a resin plant, a formaldehyde plant, two administrative offices and a research facility. The plants produce Urea Resins, Phenolic Resins and formaldehyde. In 1996, the resin plant was operated at approximately 65% of capacity and the formaldehyde plant was operated at approximately 84% of capacity. The Company's major research activities are conducted at the Malvern facility.
Formaldehyde Plant Lease. On December 19, 1991, Spurlock Adhesives entered into a Formaldehyde Plant Lease with D.B. Western, Inc., of North Bend, Oregon, whereby D.B. Western, Inc. agreed to construct a fully operational formaldehyde plant at Waverly, Virginia and lease the facility to Spurlock Adhesives for ten years at $55,000 per month, commencing at such time as the plant became mechanically complete and ready for start up. The lease commenced in February, 1993. The proposed plant was to meet the requirements of the Occupational Safety and Health Act of 1970, the National Fire Protection Association, the National Electric Code for Class 1, Division II, the Uniform Building Code, and the rules and regulations which have been adopted by the Environmental Protection Agency.
D.B. Western, Inc. guaranteed in the Formaldehyde Plant Lease that the plant would produce formaldehyde at specified daily rates based upon certain conditions. During the fourth quarter of 1993, Spurlock Adhesives began deferring certain payments on the plant lease due to operational problems with the plant. Spurlock Adhesives maintained that the plant did not produce the quantities of formaldehyde specified in the lease. The amounts deferred through the fiscal years ended December 31, 1995 and 1994 were $510,070 and $480,000, respectively. However, beginning in August 1994, Spurlock Adhesives paid for plant usage at the rate of $15,000 per week, or approximately $5,000 per month more than the lease rate. The $5,000 per month increase in payments represented an informal settlement between the parties that served to reduce the amount of deferred rent until a formal and more permanent settlement could be achieved. The increase in the amount of deferred rent between December 31, 1994 and December 31, 1995 reflected the booking of certain costs associated with recatalization of the plant as deferred rent.
In July, 1996, the Company consummated an agreement with D. B. Western, Inc., whereby the Company purchased the plant, terminated the lease and settled all claims with respect to the facility for $3,675,000.
Item 3.

Item 3. Legal Proceedings
There are no material pending legal proceedings, other than ordinary routine litigation incidental to the business, or any proceedings known to be contemplated by governmental authorities, to which Spurlock Industries or Spurlock Adhesives is a party or of which any of their property is the subject.
Item 4.

Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this report.
PART II
Item 5.

Item 5. Market for Registrant's Common Equity and Related Shareholder Matters
The Registrant sold no equity securities of the Registrant, which were not registered under the Securities Act of 1933, as amended, during the period covered by this report.
Item 6.

Item 6. Selected Financial Data
The information set forth below should be read in conjunction with Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements and Notes thereto.
The selected consolidated financial information presented below for, and as of the end of, each of the years in the five-year period ended December 31, 1996, is derived from the consolidated financial statements of Spurlock Industries. The financial statements as of December 31, 1996, and for the five years ended December 31, 1996, have been audited by Winter, Schiefley & Associates, P.C., independent auditors.
(1) The 1992 increases in sales, assets and equity reflect the acquisition of Spurlock Adhesives on August 5, 1992.
(2) Assumes the conversion of 1,200,000 preferred shares into 2,400,000 common shares, which conversion was subsequently effected on January 5, 1996. Absent the pro forma addition of 2,400,000 common shares, the historical number of weighted average shares outstanding for the fiscal year ended December 31, 1995 was 4,317,667. (3) For the four fiscal years ended December 31, 1995, stockholders equity included 1,200,000 shares of preferred stock, par value $2 per share, totalling $2,400,000. (4) Assuming the conversion of 1,200,000 preferred shares into 2,400,000 common shares, which conversion was subsequently effected on January 5, 1996, the weighted average shares outstanding for the five fiscal years ending December 31, 1996 were: 6,678,983, 6,717,667, 6,626,066, 6,399,566 and 4,519,369.
Item 7.

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis provides information which management believes is relevant to understanding Spurlock Industries' operations and financial condition. This discussion should be read in conjunction with the financial statements and accompanying notes. The financial statements of the Company have been prepared in conformity with generally accepted accounting principles.
Forward-Looking Statements
The following discussion contains certain forward-looking statements, generally identified by phrases such as "the Company expects" or "Management believes" or words of similar effect. The Company wishes to caution readers that certain important factors set forth within such discussion, among others, in some cases have affected, and in the future could affect, the Company's actual results and could cause the Company's actual results for 1997 and beyond to differ materially from those expressed in any forward-looking statements made herein. For a further discussion of such factors and forward-looking statements, please see "Forward-Looking and Cautionary Statements" below.
General
Overview. The Company's operating results have shown substantial improvement in the fiscal years ended December 31, 1996, 1995 and 1994. The Company achieved nearly break-even results in 1994, reported record profits of $2,480,998 in 1995 and reported profits of $1,435,176 in 1996. Management attributes this improvement to the refocusing of the Company on its core resin/adhesives business and the termination of non-profitable gas generation operations, the implementation of a cost reduction program in early 1994, increased control over raw materials prices and improved product margins. The lower net profit in 1996 is due mainly to the effect of income taxes, as loss carryforwards were substantially utilized in 1995.
Discontinued Operations. In the first quarter of 1994, the Board of Directors of the Company decided to discontinue its Colorado gas recovery engineering and consulting business and to close its Denver office. Such actions were completed by the end of the year. Operating results for 1995 and 1996 reflect only those of the Company's primary subsidiary, Spurlock Adhesives.
Dependence on Construction and Related Industries. Demand for Spurlock Industries' products and the Company's financial performance are closely tied to the fortunes of the construction, forest
products and related industries. See "Item 1. Business - Seasonality and Backlog." Accordingly, the recent period of relatively low interest rates (including mortgage loan rates) and the stability of the housing, construction and related industries, have favorably impacted the Company's recent financial performance.
Gross Margins and Commodity Prices. Raw materials costs comprised approximately 57%, 62% and 68% of net sales in 1996, 1995, and 1994, respectively. Raw materials are by far the largest component of cost of goods sold. Therefore, the Company's operating performance is sensitive to price movements in its basic raw materials, particularly methanol and urea. Management strives to ameliorate these commodity risks by maintaining diverse supply relationships and by closely matching increases and decreases in product prices to increases and decreases in raw material costs. During the first part of 1996, the Company was able to pass on increases or decreases in raw material prices, which was the primary reason for the improved margins in fiscal 1996. Margins were squeezed during the last quarter of that year due to competition and excess capacity in certain markets. See "Item 1. Business - Raw Materials and Suppliers."
Freight Costs. A substantial portion of Spurlock Industries' products are priced on an "as delivered basis". For 1996, 1995, and 1994, freight costs relating to delivery of the Company's products comprised approximately 3.9%, 4.2%, and 4.5%, respectively, of net sales. Accordingly, the Company's operating performance is sensitive to movements in freight costs. In a June 1994 cost-reduction move, the Company discontinued the majority of its own trucking operations and began contracting with third parties for most of these services. As a result, combined savings of approximately $117,000 or 0.4% of sales were achieved in the salary and wages component of cost of goods sold and in insurance expenses in 1995. The further decrease of $276,028 in 1996 is attributable to changes in customer processes that decreased shipments, as well as one customer changing terms to freight collect.
New Credit Facilities. In July 1996, in order to reduce interest costs and increase credit availability, the Company terminated a $3,500,000 line of credit with its primary working capital lender and obtained a $3,500,000 line of credit with a new lender. Such new credit facility is secured by accounts receivable and inventory, among other assets, and provides for credit availability based upon the level of accounts receivable and inventory. In conjunction with this new line of credit, the Company borrowed an additional $3,600,000 under a term loan to purchase the leased formaldehyde plant, which term loan is secured by all assets.
Purchase of Waverly Formaldehyde Plant. On December 19, 1991, Spurlock Adhesives entered into a Formaldehyde Plant Lease with D. B. Western, Inc. of Northbend, Oregon, whereby D. B. Western, Inc. agreed to construct a fully operational formaldehyde plant at Waverly, Virginia and lease the facility to Spurlock Adhesives for ten (10) years at $55,000 per month, commencing at such time as the plant became mechanically complete and ready for startup. The lease commenced in February, 1993. Because of a dispute relating to the operational performance of the plant, during the fourth quarter of 1993, the Company began deferring certain payments on the plant lease. The amounts deferred through the fiscal years ended December 31, 1995 and 1994 were $510,070 and $480,000 respectively. Beginning in August 1994, the Company paid for plant usage at the rate of $15,000 per week, or approximately $5,000 per month more than the lease rate as part of an informal accommodation of such dispute.
In July 1996, the Company consummated an agreement with D. B. Western, Inc. whereby the Company purchased the plant, terminated the lease and settled all claims with respect to the facility for $3,675,000.
Compliance with Environmental Regulations. Environmental costs charged to operations aggregated $202,076, $277,349 and $261,932 for the years ended December 31, 1996, 1995 and 1994, respectively. As a percentage of net sales, such expenditures totaled .71%, .83% and .86%, respectively over such three years. In all three years, over 80% of such expenditures related to testing at the Company's manufacturing facilities to ensure compliance with environmental laws and regulations. Other expenditures included obtaining required permits, purchase and maintenance of safety equipment, trash and waste removal and training. All such expenses are viewed by the Company as customary, recurring costs of doing business in its industry. No capital expenditures for environmental control facilities are anticipated for 1997 other than $860,000 for remediation in connection with its planned acquisition of property and industrial facilities near Albany, NY, as described under "Liquidity and Capital Resources" below.
Capacity Utilization. In 1996, the Waverly, Virginia formaldehyde plant ran at approximately 83% of capacity as compared to 85% in 1995. The decrease was due to lower volumes of resin being produced. The Malvern, Arkansas formaldehyde plant ran at approximately 84% in 1996 as compared to 90% in 1995. The decrease was due to excess capacity in that market area. In 1996, resin capacity utilization at the Waverly facility was 55% compared to 60% in 1995. This change was due to a customer's order patterns and process changes to better utilize the products. The Malvern facility maintained its resin capacity utilization at 65% for 1996 and 1995. In the future, management intends to continue to adjust the Company's production and product mix to meet market conditions in order to maximize profits.
New York Facility. In the fourth quarter of 1996, the Company entered a contract of sale with Niagara Mohawk Power Company for the purchase of certain real property and facilities near Albany, New York, to construct thereon certain manufacturing facilities for the production of formaldehyde and resins. The total estimated cost of such proposed New York facility is $8,300,000, including environmental remediation costs estimated by an outside consultant at approximately $860,000. Management believes that financing for the project, adequate in amount and on reasonable terms, can be obtained by the Company, via a conventional loan or funding from industrial revenue bonds.
The Company is unable to predict at this time, when and if, the necessary permits for the New York project can be obtained. It continues to examine alternative sites for the proposed project.
Conversion of Convertible Preferred Stock. In January, 1996, the holder of 1,200,000 convertible preferred shares, Harold N. Spurlock, Chairman, President and Chief Executive Officer of the Company, converted these shares pursuant to their terms into 2,400,000 shares of the Company's common stock. For the fiscal years ended December 31, 1995 and 1994, the Company had outstanding 1,200,000 shares of convertible preferred stock, $2.00 par value per share, aggregating $2,400,000. In "Results of Operations" below, earnings per share ratios assume the conversion of all such preferred shares except in 1994 when the effect was anti-dilutive.
Inflation. Although Spurlock Industries' operations are influenced by general economic trends, the Company does not believe that inflation had a material impact on its operations during the three-year period ended December 31, 1996.
Results of Operations
Fiscal 1996 Compared to 1995. Spurlock Industries' net sales for the year ended December 31, 1996 were $28,643,415, a decrease of 13.8% compared to $33,243,677 in 1995. This decrease resulted from lower average selling prices on all of Spurlock Adhesives' resin and formaldehyde products due to: (i) lower prices for raw materials, and (ii) several customers' decreased demand for the Company's products due to a change to a more efficient manufacturing process. Shipments of resin/adhesive products - which comprised approximately 67% of all 1996 shipments - declined by 4.3% from 1995. All sales in 1996 were generated by Spurlock Adhesives.
Cost of goods sold for 1996 totaled $21,129,265 or 73.8% of net sales versus $26,092,053 or 78.5% in 1995. The decrease was mainly in raw material costs which represented 57.1% of net sales in 1996 versus 62.36% in 1995. Management was successful in holding most categories of other costs of goods sold to 1995 levels. Accordingly, the gross margin improved in 1996 to 26.2% from 21.5% in 1995, on gross profit of $7,514,150 versus $7,151,624 in 1995.
Selling, general and administrative expenses totalled $4,429,906 or 15.47% of net sales in 1996 as compared to $3,903,371 or 11.74% of sales in 1995. The dollar increase in this category in 1996 resulted from salary and wage increases to middle management and increased professional fees associated with the merger that took place July 26, 1996. The lower volume of net sales significantly contributed to the increase as a percentage of net sales.
Interest expense in 1996, although increasing as a percentage of net sales to 2.33% from 2.00% in 1995, increased only .6% in absolute terms to $667,942 from $663,662 in 1995. This increase resulted from the term loan borrowing for the purchase of the leased formaldehyde plant and lower interest rates on the line of credit.
Pretax earnings in 1996 of $2,488,506 substantially mirrored the $2,596,598 reported in 1995, despite lower sales. This was due to an improvement in the pretax margin, which was 8.7% in 1996 versus 7.8% in 1995.
The provision for income taxes totalled $1,021,487 for 1996 as compared to $115,600 for 1995. The provision for income tax in 1996 consisted of $149,415 in state income tax and $846,091 in federal income tax, as compared to $104,000 and $11,400, respectively, for 1995. The 1995 figures are net of loss carryforwards aggregating $801,532. Absent such carryforwards in 1996, net earnings after taxes for 1996 of $1,467,019 or $.22 per share of common stock (on a fully diluted basis) declined from $2,480,998 or $.37 per share in 1995.
Fiscal 1995 Compared to 1994. For the year ended December 31, 1995, the Company reported net sales of $33,243,677, an increase of 8.95% compared to net sales of $30,512,704 for 1994. All sales related to sales of resin, formaldehyde and fertilizer materials by the Company's wholly owed subsidiary,
Spurlock Adhesives. Shipments of resin/adhesive products - which comprised 68.3% of all shipments in 1995 - declined 18.1% from 1994. This drop in volume - due to the concerted effort by management to adjust the product sales mix to take full advantage of superior margins realizable in the formaldehyde markets - was effectively offset by a 74.8% increase in formaldehyde shipments owing largely to sales to a new customer procured in 1994. Overall product shipments dropped approximately 3.3% from 1994. Accordingly, the increase in net sales for 1995 resulted from increased average selling prices for the entire year for Spurlock Industries' products.
Cost of goods sold totaled $26,092,053 or 78.49% of net sales, compared to $26,269,016 or 86.09% of net sales for 1994. The decrease in costs of goods sold as a percentage of net sales resulted from the Company's success in holding both raw material costs and other costs of goods sold (such as freight and energy costs) to 1994 levels while simultaneously increasing net sales. The Company's gross profit and gross margin improved substantially in 1995 to $7,151,624 and 21.51%, respectively, from $4,243,688 and 13.91%, respectively, in 1994. The improved gross margin was primarily the result of improved mark-ups in selling prices, due in large part to the success of the Company in passing raw material costs along to its customers.
Selling, general and administrative expenses for 1995 were $3,903,371 or 11.74% of net sales, compared to $3,456,356 or 11.33% of net sales for the same period in 1994. The increase in operating expenses resulted primarily from an increase of $536,568 or 35.1% in human resources expense, owing largely to increases in salaries for key executive and middle management personnel. The salaries of such personnel had been frozen for the previous three years.
Interest expense in 1995 totaled $663,662 or 2.00% of net sales, versus $828,261 or 2.71% of net sales in 1994. The decrease was due to a reduction in average outstandings of interest accruing debt of approximately $250,000 or 6.8% from the prior year, and reduced borrowing costs attributable to the more attractive rates offered under the previous working capital facility entered into in February 1995.
The provisions for income taxes totaled $115,600 for 1995, consisting of $104,000 in state income tax and $11,600 in federal income tax, the latter of which largely resulted from to the utilization of loss carry-forwards in the amount of $801,532. Due to a net loss, no federal or state income taxes were accrued for 1994. Net earnings after taxes for 1995 increased dramatically over the prior year, totaling $2,480,998 or $.37 per share of common stock (on a fully diluted basis) compared to a loss of ($38,416) or ($.01) per share in 1994.
Liquidity and Capital Resources
General. In fiscal 1996, 1995 and 1994, the Company relied heavily on its institutional working capital lenders and its trade creditors to finance its working capital requirements. The Company traditionally has operated, and continues to operate, with a negative working capital position, as Spurlock Industries takes advantage of supplier payment terms which exceed those granted to the Company's customers. Although the Company continued to rely on these funds sources in 1996 and 1995, strong earnings and cash flow allowed it to substantially reduce its dependence on accounts payable and to strengthen its working capital and cash positions.
Fiscal 1996 Compared to 1995. In 1996, Spurlock Industries reported a cash flow from net income and depreciation and amortization of $2,225,384 compared to the $3,181,238 reported in 1995. This cash flow, supplemented by reductions in receivables and inventory of $366,845 and $54,133, respectively, permitted the Company to reduce accounts payable by $380,584, fund fixed asset additions of $1,184,369 and reduce notes and loans by $1,351,511. Working capital increased $130,948 or approximately 5.9% to ($2,099,946) from ($2,230,894) in 1995.
As described above, in July 1996 the Company entered into a new $3,500,000 revolving credit facility with a new lender, which facility matures in July 1999. On December 31, 1996, outstanding loans under the facility totaled $1,420,801, which was the total amount available at such time based on levels of accounts receivable and inventory on which borrowing availability is based. Borrowings during the entire fiscal year averaged approximately $1,450,000. The new credit facility provides the Company with an important source of liquidity in addition to its cash account and cash generated from operations. Management believes that cash generated from operations, together with amounts available under the Company's revolving credit facility, will be sufficient to meet the Company's anticipated working capital and liquidity requirements during 1997 and 1998.
In addition to borrowings under its revolving credit facility, the Company had outstanding at year end 1996 long term debt totaling $4,431,711, including current maturities of $1,029,090. Such debt extends through 2004, with current maturities thereof dropping to $996,087 in 1998 and significantly thereafter. In 1995, long term debt totaled $1,977,242 with current maturities of $993,590. The increase in long term debt is attributable to the new borrowings to purchase the formerly leased formaldehyde plant. The total term facility is $3,639,000, with $3,436,832 outstanding at year end.
The 1996 net earnings strengthened the Company's capital position, as its retained earnings deficit was reduced by $1,467,019 from year end 1995, and total equity increased 46.1% to $4,266,127 from $2,919,108 at year end 1995. Because the equity increase outpaced the increase in total liabilities, the ratio of total liabilities to total net worth, a measure of leverage, improved to 1.87 at year end 1996 from 2.2 at year end 1995.
As described in "General - New York Facility" above, the Company has plans to construct manufacturing facilities for the production of formaldehyde and resins in the State of New York. The estimated cost of such proposed facility would approximate $8,300,000, including environmental remediation costs estimated by an outside consultant at approximately $860,000. Management believes that financing for the project, adequate in amount and on reasonable terms, can be obtained by the Company via a conventional loan or funding from industrial revenue bonds.
Fiscal 1995 Compared to 1994. In 1995, the Company reported a strong cash flow from net income and depreciation and amortization of $3,181,238, an improvement of $2,659,055 or 509% over the $522,183 reported in 1994. This strong cash flow, supplemented by significant reductions in receivables and inventory of $546,277 and $566,152, respectively, permitted the Company to reduce accounts payable by $3,063,008, fund fixed asset additions of $425,769 and reduce notes and loans by $1,012,309.
Working capital increased $2,186,393 or approximately 49% to ($2,230,894) from ($4,417,287) in 1994, as the Company drastically reduced its level of payables, cut payment time to trade creditors by approximately half and began paying within standard thirty (30) day terms. Despite an increase in cash and trading securities of $373,767 to $450,751, current assets actually fell by 16.6%. This drop was due in large part to the lofty levels of product sales prices and accordingly trading assets at December 31, 1994. In addition, the Company was able to quicken collection of its accounts receivable.
In February 1995 the Company entered into a $3,500,000 revolving credit facility with a new lender. On December 31, 1995, outstanding loans under the facility, which has now been replaced, totaled $1,329,096, leaving $109,000 in unused loan availability at such time based on levels of accounts receivable and inventory on which borrowing availability is based. Borrowings during the entire fiscal year averaged approximately $1,600,000.
The 1995 revolving credit facility contained a number of financial and restrictive covenants limiting, among other things, the redemption of capital stock, the payment of dividends, the incurrence of additional indebtedness, certain mergers and acquisitions, and the acquisition of fixed assets. During 1995, technical violations of certain such covenants resulted, for which the Company received a waiver from the lender.
In addition to borrowings under its 1995 revolving credit facility, the Company had outstanding at year end 1995 "notes payable-other" of $82,447 due in 1996, which represented the remaining obligations under various private placement notes to investors. Principal payments of $423,218 were made on such notes in 1995. The Company also had $1,977,242 in long term debt at year end 1995, including current maturities of $993,590. Approximately half of total long term debt consisted of notes payable to two former vendors and suppliers.
Deferred rent increased to $510,070 from $480,000 at year end 1994, and related to the lease for a formaldehyde plant located in Waverly, Virginia from D.B. Western, which lease was then in dispute. Such dispute was settled and the plant was purchased by the Company in July 1996. See "General - Purchase of Waverly Formaldahyde Plant" above. Lease payments of $15,000 a week - which approximated $5,000 per month more than the required monthly rental of $55,000 - -would have served to repay most of such deferred rent by the expiration of the lease in February 2003. Such additional rental payments paid during 1995 would have actually reduced deferred rent from the 1994 level to $360,000 but for the addition to deferred rent of $120,000 relating to an account payable to D.B. Western, Inc. for catalyst relating to the operation of the leased facility.
The strong 1995 net earnings strengthened the Company's capital position, as its retained earnings deficit was reduced by $2,480,998 from year end 1994, and total equity increased 473% to $2,919,108 from $509,110 at year end 1994. Because of the equity increase and substantially reduced total liabilities, the ratio of total liabilities to total net worth, a measure of leverage, decreased significantly to 2.2 from 18.6 at year end 1994.
Forward-Looking And Cautionary Statements
The Company and its representatives may from time to time make written or oral forward-looking statements, including statements contained in the Company's filings with the Securities and
Exchange Commission in its reports to shareholders. In connection with the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, the Company is hereby identifying important factors that could cause actual results to differ materially from those contained in any forward-looking statement made by or on behalf of the Company. Any such statement is qualified by reference to the following cautionary statements.
The Company's formaldehyde and resin business is closely tied to the construction and forest products industries, and is influenced by housing starts and construction activity generally. The Company's operating performance is sensitive to price movements in its basic raw materials, particularly methanol and urea. The Company's operating performance is also sensitive to movements in freight costs. The Company's raw materials, products and manufacturing processes are subject to environmental laws and regulations and the costs associated therewith. The availability of credit from institutional asset based lenders and suppliers is very important to the Company. Developments in any of these areas, which are more fully described elsewhere in Parts I and II hereof, each of which is incorporated into this section by reference, could cause the Company's results to differ materially from the results that have been or may be projected by or on behalf of the Company. The Company cautions that the foregoing list of important factors is not exclusive. The Company does not undertake to update any forward-looking statement that may be made from time to time by or on behalf of the Company.
Item 8.

Item 8. Financial Statements and Supplementary Data
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders Spurlock Industries, Inc.
We have audited the accompanying consolidated balance sheets of Spurlock Industries, Inc. (formerly Air Resources Corporation) as of December 31, 1996, and 1995, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audits in accordance with generally accepted auditing standards. 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 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 Spurlock Industries, Inc. (formerly Air Resources Corporation) as of December 31, 1996, and 1995, and the results of its operations, and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles.
Winter, Scheifley & Associates, P.C. Certified Public Accountants
Englewood, Colorado January 17, 1997
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Balance Sheets As of December 31, 1996 and 1995
The accompanying notes are an integral part of the financial statements.
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Balance Sheets As of December 31, 1996 and 1995 (Continued)
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Statements of Operations For the Years Ended December 31, 1996, 1995 and 1994
The accompanying notes are an integral part of the financial statements.
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Statements of Cash Flows For the Years Ended December 31, 1996, 1995 and 1994
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Statements of Cash Flows For the Years Ended December 31, 1996, 1995 and 1994 (Continued)
The accompanying notes are an integral part of the financial statements.
Spurlock Industries, Inc. (Formerly Air Resources Corporation) Consolidated Statement of Stockholders' Equity For the Years Ended December 31, 1996, 1995 and 1994
The accompanying notes are an integral part of the financial statements.
Spurlock Industries, Inc. (formerly Air Resources Corporation) Notes to Consolidated Financial Statements
Note 1. Summary of Significant Accounting Policies
A. Organization and Operations
Spurlock Industries, Inc. (formerly Air Resources Corporation) was originally incorporated on March 17, 1986 in Colorado. On January 27, 1996, Spurlock Industries, Inc. was formed in Virginia. A merger of the two corporations was completed on July 26, 1996. The merger was accounted for as a recapitalization and no adjustments were made to the carrying amounts of assets and liabilities of the combined companies. Shares of the combining companies were exchanged on a one for one basis. The Company is engaged in the development, production, and distribution of resins, liquid fertilizers and formaldehyde.
B. Principles of Consolidation
The Company engages in the development, production, and distribution of resins, liquid fertilizers and formaldehyde through its wholly owned subsidiary Spurlock Adhesives, Inc. All inter-company transactions have been eliminated. Substantially all of the Company's revenues have been derived from the operations of Spurlock Adhesives.
C. Inventories
Inventory is stated at the lower of cost or market using the first in, first out method. Finished goods include raw materials, direct labor and overhead. Raw materials include purchase and delivery costs. Inventory consists of the following at December 31,
1996 1995
Raw materials $397,511 $403,273 Work in process 9,493 8,677 Finished goods 134,628 183,815 -------- -------- $541,632 $595,765 ======== ========
D. Property and Equipment
Property and equipment are carried at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. When assets are retired or otherwise disposed of, the cost and the related accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized in operations for the period. The cost of repairs and maintenance is charged to operations as incurred and significant renewals or betterments are capitalized.
Useful lives for property and equipment are as follows:
Buildings 20 - 30 years Machinery and equipment 5 - 25 years Office equipment 7 years Vehicles 4 - 8 years
E. Intangible Assets
The cost of intangible assets are amortized using the straight-line method over their estimated useful economic lives. They are stated at cost less accumulated amortization. The Company reviews for the impairment of long-lived assets and certain identifiable intangibles whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Under FAS 121, an impairment loss would be recognized when estimated future cash flows expected to result from the use of the asset and its eventual disposition is less than its carrying amount. No such impairment losses have been identified by the Company for the 1996 and 1995 fiscal years. During 1994 $23,372, of intangibles considered to be non-recoverable were charged to operations.
F. Revenue Recognition
The Company recognizes revenue on the sales of its products at the time of shipment.
G. Cash
Cash and cash equivalents, consist of deposits and highly liquid debt instruments with original maturities of less than 90 days.
H. Environmental Costs
The Company's business activities are monitored by state and federal environmental agencies and the Company is required to obtain permits for the operation of its facilities. Environmental expenditures that relate to current operations are expensed or capitalized as appropriate. Liabilities are recorded when environmental assessments and or remedial efforts are probable, and the costs can be reasonably estimated. Generally, the timing of these accruals coincides with the completion of a feasibility study or commitment to a formal plan of action. Environmental costs charged to operations aggregated $202,076, $277,349 and $261,932 for the years ended December 31, 1996, 1995 and 1994.
I. Advertising
Advertising expenses are charged to expense upon first showing. Amounts charged to expense were $28,101, $27,880 and $648 for the years ended December 31, 1996, 1995 and 1994, respectively.
J. Estimates
The preparation of the Company's financial statements requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates.
K. Earnings Per Share
Earnings per share for periods presented has been computed using the weighted average number of shares of common stock outstanding during the periods presented. Common stock equivalents, as determined using the treasury stock method, are excluded from the computation during loss years as their effect would be anti-dilutive.
L. Concentration of Credit Risk
The Company's short-term financial instruments consist of cash and cash equivalents, accounts and loans receivable, and payables and accruals. The carrying amounts of these financial instruments approximates fair value because of their short-term maturities. Financial instruments that potentially subject the Company to a concentration of credit risk consist principally of cash and accounts receivable, trade. During the year the Company did not maintain cash deposits at financial institutions in excess of the $100,000 limit covered by the Federal Deposit Insurance Corporation. The Company has several major customers, (see Note 12) the loss of any one of which could have a material negative impact upon the Company. Additionally, the Company maintains a line of credit and a significant portion of its long-term debt with one financial institution. The maintenance of a satisfactory relationship with this institution is of significant importance to the Company. The Company does not hold or issue financial instruments for trading purposes nor does it hold or issue interest rate or leveraged derivative financial instruments
M. Stock-based Compensation
The Company adopted Statement of Financial Accounting Standard No. 123 (FAS 123), Accounting for Stock-Based Compensation beginning with the Company's first quarter of 1996. Upon adoption of FAS 123, the Company continued to measure compensation expense for its stock-based employee compensation plans using the intrinsic value method prescribed by APB No. 25, Accounting for Stock Issued to Employees, and has provided in Note 11 pro forma disclosures of the effect on net income and earnings per share as if the fair value-based method prescribed by FAS 123 had been applied in measuring compensation expense.
N. Recent Pronouncements
In 1996 Financial Accounting Standards No. 125 (FAS 125) Accounting for Transfer and Servicing of Financial Assets and Extinguishments of Liabilities was issued. FAS 125 is effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after December 31, 1996. The Company will adopt FAS 125 in 1997. Adoption of FAS 125 is not expected to have a material effect on the Company's consolidated financial position or operating results.
Note 2. Accounts Receivable
During January, 1994 the Company entered into a factoring agreement with a financial institution whereby the factor agreed to advance the Company up to $1,200,000 with recourse by purchasing accounts receivable less than 90 days old. The advanced amount was computed on 80% of acceptable receivables. The Company
agreed to pay the factor a percentage of the face amount of the receivable for the advances as follows: 2% for items collected within 30 days; 4% for items collected between 31 and 60 days; and 6% for items collected after 61 days. Factoring fees charged to expense pursuant to this arrangement for 1995 and 1994 amounted to $94,156 and $425,684, respectively.
During February, 1995 the Company replaced its accounts receivable factoring agreement with a line of credit. The line of credit is secured by the Company's accounts receivable and inventory. Under the terms of the credit line the Company may borrow up to 85% of accounts receivable up to 90 days old and 50% of inventory up to a maximum of $3,500,000. The line of credit was replaced in July 1996 with a new line of credit (see Note 6).
Note 3. Investments
The Company's securities that are bought and held principally for the purpose of selling them in the near term are classified as trading securities. Trading securities are recorded at fair value as a current asset with the change in fair value during the period included in earnings.
At December 31, 1995 the Company held debt securities bearing interest at 6% with a fair value and cost basis of $200,000. The Company had no sales proceeds from trading securities during the year ended December 31, 1995.
The Company purchased additional trading securities during the year ended December 31, 1996 for cash aggregating $397,500. The Company had sales proceeds from trading securities during the year ended December 31, 1996 amounting to $581,167 and realized a (loss) for this period amounting to $(16,333).
Note 4. Property and Equipment.
Property and equipment consist of the following:
1996 1995
Land $ 69,233 $ 69,233 Buildings 547,041 543,601 Machinery and equipment 12,399,116 8,315,648 Construction in progress 305,913 107,133 Vehicles 285,189 132,437 Furniture and fixtures 150,640 104,269 ----------- ----------- 13,757,132 9,272,321 Accumulated depreciation and amortization 4,313,075 3,559,436 ----------- ----------- $ 9,444,057 $ 5,712,885 =========== ===========
Depreciation charged to operations was $758,365 $700,240 and $560,599 for the years ended December 31, 1996, 1995 and 1994, respectively.
Substantially all of the Company's fixed assets secure debt described in Note 7.
The Company owns vacant land adjacent to its Waverly VA facility which is suitable for plant expansion. The cost of the land $150,000 is included in other investments in the accompanying balance sheet.
Note 5. Accounts and Notes Receivable - Officers
Accounts and notes receivable officers consisted of the following at December 31,
1996 1995 Notes receivable, with interest at 9% due in annual payments of $38,595 through 1999 $139,639 $158,639 Less: current portion 38,595 40,520 -------- -------- $101,044 $118,119 ======== ========
Note 6. Notes Payable.
Notes payable - line of credit at December 31, 1995 consisted of outstanding indebtedness pursuant to an accounts receivable financing agreement as described in Note 2. At December 31, 1995 the outstanding balance was $1,329,096 bearing interest at prime plus 2.5% (11% at December 31, 1995) per annum. The line was repaid in July 1996 pursuant to a new credit facility with a bank which includes an accounts receivable and inventory line of credit and long-term financing secured by plant and equipment. The new credit line is secured by the Company's accounts receivable and inventory and contains certain financial covenants which the Company is currently in compliance with. At December 31, 1996, borrowings outstanding amounted to $1,420,801 at a year end interest rate of 8.25%.
The year end balance is equal to the maximum amount of borrowing based on available accounts receivable and inventory.
Notes payable - other at December 31, 1995 consists of following:
Promissory notes, with interest at 12% per annum, originally due in March, 1993 with a balance due of $82,447 at December 31, 1995, repaid in 1996.
Note 7. Long-term Debt
Long-term debt consists of the following at December 31,
1996 1995
Note payable bank, payable in monthly installments of $8,621 plus interest at 10%, repaid in July 1996 $ -- $ 206,897
Note payable bank, payable in monthly installments of $8,924 with interest at 8%, repaid in June 1996 -- 77,362
Note payable to a bank payable $50,542 monthly including interest at prime + .5% or LIBOR rate + 2.75% (8.25% at December 31, 1996) secured by plant and equipment due July, 2002 3,436,832 509,138
Note payable to a bank with interest at 12% payable $1,832 monthly secured by real property due in August, 2004 109,295 117,583
Note payable vendor, payable in monthly installments of $23,320 with interest at Prime + 1.5% (10% at December 31, 1995) due March, 1998 349,780 629,620
Note payable supplier, payable in monthly installments of $12,861, with interest at 8%, repaid in June 1996 -- 379,831
Note payable supplier, payable in monthly installments of $14,814, with interest at 8.25%, through August 1999 400,504 --
Various notes payable, payable in monthly installments of $4,634 with interest from 8% to 10% due December 1997 to November 1999 secured by personal property 135,300 56,811 --------- --------- 4,431,711 1,977,242 Less: current portion 1,029,090 993,590 --------- --------- $3,402,621 $ 983,652 ========== =========
Maturities of long-term debt are as follows:
December 31, 1997 $1,029,090 December 31, 1998 $ 966,087 December 31, 1999 $ 740,822 December 31, 2000 $ 619,942 December 31, 2001 $ 621,647 Thereafter $ 454,123
Note 8. Related Party Transactions.
Through 1993 certain directors and shareholders made advances to the Company bearing interest at 10% per annum aggregating $195,350. These advances were unpaid at December 31, 1994. During 1995 $99,728 of these advances were repaid and the remaining balance was repaid in full in 1996.
During 1994 the Company purchased raw materials used at the Malvern, AR plant from a company that owned 533,333 shares of the $2 par value preferred stock issued by the Company to effect the purchase of the Malvern facility. The purchases are considered to be at arms length and at prices and terms available from other suppliers of the material. Purchases aggregated $527,073 for the year ended December 31, 1994.
During September, 1994 a shareholder of the Company entered into an agreement to repurchase the 533,333 shares described above for $250,000 payable in quarterly payments through September, 1995. During January, 1996 this shareholder converted these shares and the 666,667 shares of preferred stock which he previously owned into common stock (see Note 12).
In July 1996, the Company entered into an employment contract with its founder and former chief executive officer to serve as its vice president for product development through August 31, 1999. The contract provides for an annual salary of $180,000 during the contract term. The contract also provides for post retirement benefit payments of $100,000 per year for a five year period beginning August 31, 1999. The Company intends to fund the post retirement payments currently by depositing monthly payments of approximately $12,000 into an interest bearing account.
The estimated payment assumes an earned interest rate of 5% per year on the deposit amounts and a discount rate of 8% per year to arrive at the net present value of the annual retirement benefit due at August 31, 1999. The Company has recorded $42,667 of expense for post retirement benefits for the year ended December 31, 1996 and estimates that its net commitment for the period from January 1, 1997 to August 31, 1999 pursuant to this contract will be approximately $864,000 for both salary and post retirement benefits.
Note 9. Description of Leasing Arrangements
The Company leased rail cars, trucking equipment, and a formaldehyde plant under operating leases expiring in various years through 2003. The lease for the formaldehyde plant ($660,000 per year) commenced upon successful start up, which was in February, 1993. The Company had an option to purchase the plant at the expiration of the initial 10 year lease for the greater of fair market value or $3,580,000, or to renew the lease for an additional 10 years. During July 1996, the plant was purchased for $3,200,000.
During the fourth quarter of 1993 the Company began deferring certain payments on the plant lease due to operational problems with the plant. The Company maintained that the plant did not produce the quantities of formaldehyde specified in the lease and that a renegotiation of the lease terms was appropriate. The amount
deferred at December 31, 1995 amounted to $510,070. This amount was converted to a long-term note payable as described above in connection with the purchase of the plant.
The Company has remaining operating leases for trucking and rail car equipment which have fixed annual payments as follows: $100,802 in 1997, $34,824 in 1998, $33,000 in each year thereafter through 2001.
Rent expense was $395,627, $761,997 and $931,242 for the years ended December 31, 1996, 1995 and 1994.
Note 10. Income Taxes
Deferred income taxes arise from temporary differences resulting from income and expense items (principally accelerated depreciation) reported for financial accounting and tax purposes in different periods. Deferred taxes are classified as current or non-current, depending on the classification of assets and liabilities to which they relate. Deferred taxes arising from temporary differences that are not related to an asset or liability are classified as current or non-current depending on the periods in which the temporary differences are expected to reverse.
Deferred tax assets and liabilities at December 31, 1996 and 1995 resulted from the following:
1996 1995 Deferred Tax assets: Operating loss carryforward $ - $ 98,300 Post retirement liability $ 14,507 $ - Deferred tax liabilities: Accelerated depreciation $157,983 $109,900
The provision for income taxes at December 31, 1996 and 1995 consists of the following:
1996 1995
Current $987,910 $81,600 Deferred 26,323 34,000 ---------- -------- $1,021,487 $115,600
A reconciliation of the federal taxes at statutory rates to the tax provision for the year ended December 31, 1996 and 1995 is as follows:
1996 1995
Federal statutory rate $846,091 $882,843 State income taxes 149,415 104,000 Utilization of loss carryforward (13,912) (801,532) Surtax exemption - (11,750 Book/tax depreciation difference (48,083) (34,000) Post retirement benefits 14,507 - Other 73,469 (23,961) ---------- -------- Provision for income taxes $1,021,487 $115,600
The Company did not record income tax expense for the year ended December 31, 1994 due to the loss incurred in that year. The Company has fully utilized its net operating loss carryforward in the current year.
Note 11. Stockholders' Equity
During 1990, the Board authorized 5,000,000 shares of preferred stock. The preferred stock will be callable at the discretion of the Company at par ($2) plus accrued dividends. The stock is convertible into two shares of common stock after one year. The conversion rights will expire after five years. Dividends are payable at 200% of any dividends paid on common stock per annum. The preferred stock has preference in liquidation to the common shares and has two votes per share at shareholder meetings.
During February, 1995 the Company issued 100,000 shares of common stock to certain officers for services valued at $5,000.
During 1995 the Company adopted a stock option plan for the benefit of certain employees, officers and directors. The number of restricted common shares reserved under the plan is 500,000. The option price on the grant date shall not be less than the fair market value on such date provided that an owner of more than 10% of the common stock shall not have an option granted at a price less than 110% of the fair market value on the date of the grant. During 1995 the Company issued 210,000 options exercisable at $.50 per share under the plan which expire 100,000 in 2000 and 110,000 in 2005. During June 1996, the Company granted additional options under the plan for 75,000 shares exercisable at $.55 for a ten year period.
Following is a summary of the transactions in the plan:
Weighted Shares Average Price Balance December 31, 1994 - Granted 210,000 $.50 Canceled - Exercised - --------- Balance December 31, 1995 210,000 $.50 Granted 75,000 $.55 Canceled - Exercised - --------- Balance December 31, 1996 285,000 $.51
Options available at December 31, 1996 215,000
At December 31, 1996, the Company also had the following other stock options granted in prior years outstanding:
Description Shares Exercise Price Expiration Date
Shareholder 225,000 $.75 01/21/97 Shareholder 230,000 $1.00 02/28/97
As of the date of the financial statements none of the options had been exercised.
The weighted average fair value at the date of grant for options granted during 1996 was $.25 per option. The fair value of the options at the date of grant was estimated using the Black-Scholes model with assumptions as follows:
Market value $.51 Expected life 10 Interest rate 6.96% Volatility 19.56% Dividend yield 0.00%
No stock based compensation costs would be recorded by the Company as a result of the foregoing.
During January, 1996 the holder of the 1,200,000 preferred shares described in Note 8 converted these shares into 2,400,000 shares of common stock. In connection with the recapitalization described in Note 1, the Company agreed to reacquire 80,000 shares of the Air Resources Corp. common stock from a dissenting shareholder for $120,000 in cash. Also during 1996, the Company acquired 73,000 shares of common stock of Air Resources from a former officer as described in Note 13.
Note 12. Sales to Major Customers and Concentration of Credit Risk
The Company, whose customers produce raw materials used in the construction industry made sales in excess of 10% of its gross revenues for the year ended December 31, 1996, 1995 and 1994 as follows:
Customer Sales/% Receivable at 12/31 1996: International Paper $4,537,102 16% $108,000 Union Camp $3,865,062 13% $162,000 Schenectady $3,521,857 12% $57,000 Willamette $7,478,831 26% $424,000
1995: International Paper $4,964,000 15% $124,000 Union Camp $3,900,000 12% $166,000 Schenectady $5,124,000 15% $41,000 Willamette $7,454,000 22% $636,000
1994: International Paper $5,147,000 17% $156,000 Union Camp $3,759,000 12% $175,000 Norbord $2,233,000 7% $161,000 Willamette $7,198,000 24% $678,000
Note 13. Commitments and Contingencies
On September 16, 1996 the Company contracted to purchase land, plant and equipment owned by Niagara Mohawk Power Corporation (NMPC) located in the Town of Bethlehem, New York. The Company intends to use the site to construct a third processing plant for the manufacture of adhesive resins and formaldehyde. The contract specifies a purchase price of $775,000 for the premises and $65,000 for equipment. The contract also provides that the purchase price for the premises will be reduced to $1 should the Company promise to remediate the premises under the direction of the New York State Department of Environmental Conservation. The Company has placed a $50,000 purchase deposit in escrow which will become the property of NMPC should the Company not use its best efforts to effectuate closing of the purchase by April 1, 1997. The Company has undertaken discussions with the state conservation agency and has prepared an estimate of the remediation costs associated with the project, which estimate projects total costs not in excess of the contract purchase price.
In connection with the plant acquisition described above, the Company has entered into a turnkey plant construction agreement with DB Western, Inc. whereby the Company will pay an aggregate of $6,568,100 of construction costs. The Company paid a deposit of $66,000 at October 1, 1996 to initiate the contract. Construction will not begin until the Company has completed the NMPC purchase or has secured another acceptable plant location.
Should the Company be unable to complete the contract, the deposit would be forfeit and any additional costs incurred by DB Western in connection with the project would become due by the Company.
The Company purchases substantially all of its three raw material components for its resin, formaldehyde, and fertilizer operations from four suppliers. The Company purchased $15,158,111, $19,232,831 and $20,136,843 from these suppliers during 1996, 1995 and 1994 and had a balance due to them of $1,089,433 and $1,522,204 at December 31, 1996 and 1995.
During 1993, the Company was made aware of a claim by two former directors requesting that the Company repurchase 381,000 shares of its common stock from said directors pursuant to a reorganization agreement entered into during 1992. Subsequently, one of these former directors sold his holdings of 233,000 common shares. The purchase agreement set the repurchase price at $2.81 per share or an aggregate of $418,280 after considering the above described disposition of shares by the former director. The Company settled these claims by paying these individuals $84,690 in cash in 1995 and by repurchasing 73,000 common shares from one of the individuals for $75,000 in 1996. The Company had accrued the potential maximum liability of $75,000 at December 31, 1995. In addition, the Company repurchased and retired 1,000 shares of common stock from this individual for $1,000.
Note 14. Pension Plan
The Company has a 401(k) retirement plan for the benefit of eligible employees. Contributions are funded by the Company and established by the Board of directors annually. Contributions for 1996, 1995 and 1994 were $132,476, $113,114 and $128,376, respectively.
Item 9.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Spurlock Industries, and its predecessor, Air Resources, during the three most recent fiscal years or any subsequent interim period, have not dismissed an independent accountant nor has one resigned based on any disagreement regarding accounting and financial disclosure.
PART III
Item 10.

Item 10. Directors and Executive Officers of the Registrant
The information required by this item is incorporated by reference to the Registrant's definitive Proxy Statement for its 1997 Annual Meeting of Shareholders, under the headings "Security Ownership of Certain Beneficial Owners and Management" and "Management" to be filed within 120 days of the end of the 1996 fiscal year.
Item 11.

Item 11. Executive Compensation
The information required by this item is incorporated by reference to the Registrant's definitive Proxy Statement for its 1997 Annual Meeting of Shareholders, under the heading "Management" to be filed within 120 days of the end of the 1996 fiscal year.
Item 12.

Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required by this item is incorporated by reference to the Registrant's definitive Proxy Statement for its 1997 Annual Meeting of Shareholders, under the heading "Security Ownership of Certain Beneficial Owners and Management" to be filed within 120 days of the end of the 1996 fiscal year.
Item 13.

Item 13. Certain Relationships and Related Transactions
The information required by this item is incorporated by reference to the Registrant's definitive Proxy Statement for its 1997 Annual Meeting of Shareholders, under the heading "Management" to be filed within 120 days of the end of the 1996 fiscal year.
PART IV
Item 14.

Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) (1) Financial Statements:
(i) Report of Independent Auditors (ii) Consolidated Balance Sheets as of December 31, 1996 and 1995 (iii) Consolidated Statements of Operations for the years ended December 31, 1996, 1995 and (iv) Consolidated Statements of Stockholders' Equity for the years ended December 31, 1996, 1995 and 1994 (v) Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1995 and (vi) Notes to Consolidated Financial Statements
(2) Financial Statement Schedules: None
(3) Exhibits
Exhibit No. Document 2 Agreement and Plan of Merger dated February 15, 1996, between Air Resources Corporation and Spurlock Industries, Inc., incorporated by reference to Exhibit 2 to the Form S-4 of the Registrant filed with the Securities and Exchange Commission on February 20, 1996, as amended by Amendment No. 1 and No. 2 thereto, Registration No. 33-01448 (as amended, the "Form S-4"). 3.1 Articles of Incorporation of Spurlock Industries, Inc., incorporated by reference to Exhibit 3.1 to the Form S-4. 3.2 Bylaws of Spurlock Industries, Inc., incorporated by reference to Exhibit 3.2 to the Form S-4. 10.1 Agreement and Plan of Reorganization, dated April 22, 1992, between Air Resources Corporation and Spurlock Adhesives, Inc., incorporated by reference to Exhibit 10.1 to the Form S-4. 10.2 Employment and Retirement Benefit Agreement dated August 21, 1996 by and between Spurlock Adhesives, Inc. and Harold N. Spurlock, as amended by First Amendment thereto dated February 24, 1997 by and between such parties. 10.3 Air Resources Corporation 1995 Stock Incentive Plan, incorporated by reference to Exhibit 10.3 to the Form S-4. 10.4 Incentive Stock Option Agreement, dated February 22, 1995, between Air Resources Corporation and Irvine R. Spurlock, incorporated by reference to Exhibit 10.4 to the Form S-4.
10.5 Incentive Stock Option Agreement, dated February 22, 1995, between Air Resources Corporation and H. Norman Spurlock, Jr. , incorporated by reference to Exhibit 10.5 to the Form S-4. 10.6 Incentive Stock Option Agreement, dated May 15, 1995, between Air Resources Corporation and Warren E. Beam, incorporated by reference to Exhibit 10.6 to the Form S-4. 10.7 Indemnification Agreement, dated January 30, 1997, between Spurlock Industries, Inc. and Phillip S. Sumpter. 10.8 Promissory Note made by H. Norman Spurlock, Jr. in favor of Spurlock Adhesives, Inc. as of January 10, 1996, incorporated by reference to Exhibit 10.8 to the Form S-4. 10.9 Letter Agreement dated September 7, 1993, between Air Resources Corporation and Lloyd B. Putman, incorporated by reference to Exhibit 10.9 to the Form S-4. 10.10 Collateral Promissory Note made by Harold N. Spurlock in favor of Spurlock Adhesives, Inc. as of June 30, 1995, incorporated by reference to Exhibit 10.10 to the Form S-4. 10.11 Indemnification Agreement, dated September 19, 1996, between Spurlock Industries, Inc. and Glen S. Whitwer. 10.12 Indemnification Agreement, dated January 30, 1997 between Spurlock Industries, Inc. and Raymond G. Tuttle. 10.13 Loan and Security Agreement, dated July 1, 1996, between Spurlock Adhesives, Inc. and National Canada Finance Corporation, incorporated by reference to Exhibit 10 to the Registrant's Form 10-Q for the quarter ended June 30, 1996, filed with the Securities and Exchange Commission on August 15, 1996. 10.14 Spurlock Industries, Inc. 1995 Stock Incentive Plan, incorporated by reference to Exhibit 4.3 of the Registrant's Registration Statement on Form S-8, File No. 333-09659. 10.15 Form of Spurlock Industries, Inc., Incentive Stock Option Agreement, incorporated by reference to Exhibit 10.2 to the Registrant's Form 10-Q for the quarter ended September 30, 1996, filed with the Securities and Exchange Commission on November 14, 1996. 10.16 Form of Spurlock Industries, Inc. Non-Qualified Stock Option Agreement, incorporated by reference to Exhibit 10.3 to the Registrant's Form 10-Q for the quarter ended September 30, 1996, filed with the Securities and Exchange Commission on November 14, 1996. 21 Subsidiaries of the Registrant. 23.1 Consent of Winter, Scheifley & Associates, P.C. 27 Financial Data Schedule.
(b) Reports on Form 8-K.
None.
(c) The exhibits required by Item 601 of Regulation S-K are filed as exhibits to this Form 10-K.
(d) There are no financial statements of the Registrant required by Regulation S-X which were excluded from the Annual Report to Shareholders by Rule 14a-3(b).
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SPURLOCK INDUSTRIES, INC.
Date: March 26, 1997 By: /s/ Irvine R. Spurlock ---------------------------------------------- Irvine R. Spurlock Chairman, President and Chief Executive Officer
Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
INDEX TO EXHIBITS
Exhibit No. Document ----------- -------- 2 Agreement and Plan of Merger dated February 15, 1996, between Air Resources Corporation and Spurlock Industries, Inc., incorporated by reference to Exhibit 2 to the Form S-4 of the Registrant filed with the Securities and Exchange Commission on February 20, 1996, as amended by Amendment No. 1 and No. 2 thereto, Registration No. 33-01448 (as amended, the "Form S-4"). 3.1 Articles of Incorporation of Spurlock Industries, Inc., incorporated by reference to Exhibit 3.1 to the Form S-4. 3.2 Bylaws of Spurlock Industries, Inc., incorporated by reference to Exhibit 3.2 to the Form S-4. 10.1 Agreement and Plan of Reorganization, dated April 22, 1992, between Air Resources Corporation and Spurlock Adhesives, Inc., incorporated by reference to Exhibit 10.1 to the Form S-4. 10.2 Employment and Retirement Benefit Agreement dated August 21,1996 by and between Spurlock Adhesives, Inc. and Harold N. Spurlock, as amended by First Amendment thereto dated February 24, 1997 by and between such parties. 10.3 Air Resources Corporation 1995 Stock Incentive Plan, incorporated by reference to Exhibit 10.3 to the Form S-4. 10.4 Incentive Stock Option Agreement, dated February 22, 1995, between Air Resources Corporation and Irvine R. Spurlock, incorporated by reference to Exhibit 10.4 to the Form S-4. 10.5 Incentive Stock Option Agreement, dated February 22, 1995, between Air Resources Corporation and H. Norman Spurlock, Jr., incorporated by reference to Exhibit 10.5 to the Form S-4. 10.6 Incentive Stock Option Agreement, dated May 15, 1995, between Air Resources Corporation and Warren E. Beam, incorporated by reference to Exhibit 10.6 to the Form S-4. 10.7 Indemnification Agreement, dated January 30, 1997 between Spurlock Industries, Inc. and Phillip S. Sumpter. 10.8 Promissory Note made by H. Norman Spurlock, Jr. in favor of Spurlock Adhesives, Inc. as of January 10, 1996, incorporated by reference to Exhibit 10.8 to the Form S-4. 10.9 Letter Agreement dated September 7, 1993, between Air Resources Corporation and Lloyd B. Putman, incorporated by reference to Exhibit 10.9 to the Form S-4. 10.10 Collateral Promissory Note made by Harold N. Spurlock in favor of Spurlock Adhesives, Inc. as of June 30, 1995, incorporated by reference to Exhibit 10.10 to the Form S-4.
Exhibit No. Document ----------- -------- 10.11 Indemnification Agreement, dated September 19, 1996, between Spurlock Industries, Inc. and Glen S. Whitwer. 10.12 Indemnification Agreement, dated January 30, 1997, between Spurlock Industries, Inc. and Raymond G. Tuttle. 10.13 Loan and Security Agreement, dated July 1, 1996, between Spurlock Adhesives, Inc. and National Canada Finance Corporation, incorporated by reference to Exhibit 10 to the Registrant's Form 10-Q for the quarter ended June 30, 1996, filed with the Securities and Exchange Commission on August 15, 1996. 10.14 Spurlock Industries, Inc. 1995 Stock Incentive Plan, incorporated by reference to Exhibit 4.3 of the Registrant's Registration Statement on Form S-8, File No. 333-09659. 10.15 Form of Spurlock Industries, Inc., Incentive Stock Option Agreement, incorporated by reference to Exhibit 10.2 to the Registrant's Form 10-Q for the quarter ended September 30, 1996, filed with the Securities and Exchange Commission on November 14, 1996. 10.16 Form of Spurlock Industries, Inc. Non-Qualified Stock Option Agreement, incorporated by reference to Exhibit 10.3 to the Registrant's Form 10-Q for the quarter ended September 30, 1996, filed with the Securities and Exchange Commission on November 14, 1996. 21 Subsidiaries of the Registrant. 23.1 Consent of Winter, Scheifley & Associates, P.C. 27 Financial Data Schedule.