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Business Context and Reporting Period

This Form 10-Q covers Cendant Corporation for the quarterly and nine-month periods ended September 30, 1998. The Company, formed by the December 1997 merger of HFS Incorporated and CUC International Inc., operates in Travel, Real Estate, and Alliance Marketing segments. The filing is heavily impacted by the discovery of accounting irregularities in former CUC business units, leading to restated financial statements for 1997 and 1998, an ongoing SEC investigation, and a strategic shift from acquisitions to divestitures and operational optimization.

Key Financial Metrics

Note: 1997 comparative figures have been restated due to accounting irregularities and a change in revenue recognition policy for membership businesses.

Material Changes vs. Prior Period

• Revenue Growth: Net revenues increased 23% to $3,865.1 million for the nine months ended September 30, 1998, compared to $3,139.8 million in the prior year (restated). This growth was driven by acquisitions (National Parking Corporation, Jackson Hewitt) and organic growth in Travel and Real Estate segments.
• Profitability: Net income turned positive at $436.9 million, compared to a net loss of $47.9 million in the prior year. The prior year loss included a $283.1 million non-cash charge for the cumulative effect of an accounting change.
• Unusual Charges: The Company recorded significant non-recurring charges in 1998, including $81.4 million for investigation-related costs and termination benefits (including a $50.4 million severance package for former Chairman Walter Forbes) and $50.0 million in asset impairments.
• Segment Performance:
  • Travel Services: Operating income increased 38% to $484.4 million.
  • Real Estate Services: Operating income increased 75% to $438.1 million.
  • Alliance Marketing: Operating income declined 125% to a loss of $25.6 million due to increased marketing costs and goodwill impairments.

Guidance, Outlook, Risks, and Unusual Items

• Accounting Irregularities & Litigation: The Company is subject to ongoing investigations by the SEC and the U.S. Attorney's Office regarding accounting irregularities. Over 70 class-action lawsuits have been filed. Management cannot estimate the potential financial impact of these proceedings.
• Divestitures: The Company committed to selling its classified advertising business (Hebdo Mag) and consumer software business (Cendant Software). A definitive agreement to sell Hebdo Mag is expected to close in Q4 1998, with an anticipated gain of approximately $230 million.
• Acquisition Terminations: The Company terminated its agreements to acquire American Bankers Insurance Group (paying a $400 million settlement) and Providian Auto and Home Insurance Company due to uncertainties and unmet conditions.
• Liquidity & Financing: To ensure liquidity amidst market access restrictions, the Company secured a $3.25 billion 364-day term loan facility, which was fully utilized as of September 30, 1998. The Company also authorized a $1 billion share repurchase program in October 1998.
• Year 2000 Compliance: The Company estimates total compliance costs at $53 million, with $19 million incurred through September 30, 1998.

Investor Verification Checklist

• Restatement Accuracy: Verify the impact of the restated 1997 and 1998 financials on historical performance trends.
• Litigation Exposure: Monitor the status of the SEC investigation and the consolidated class-action lawsuits for potential settlement costs or judgments.
• Divestiture Execution: Confirm the closing of the Hebdo Mag and Cendant Software sales and the realization of the projected $230 million+ gains.
• Debt Refinancing: Assess the Company's ability to refinance the $3.25 billion short-term term loan facility before maturity in 1999.
• Segment Margins: Analyze the sustainability of the Alliance Marketing segment's losses following the accounting policy change regarding membership revenue recognition.