UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For quarterly period ending JuneSeptember 30, 1999
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or
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ______________________ to _____________________________________________
Commission file number: 1-7945
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DELUXE CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
MINNESOTA 41-0216800
- ------------------------------------ ----------------------------------------------------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
3680 Victoria St., N. St. Paul, Minnesota 55126-2966
- ----------------------------------------- ---------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(651) 483-7111
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes __X___X_ No ________
The number of shares outstanding of registrant's common stock, par value $1.00
per share, at August 6,November 5, 1999 was 75,817,472.73,402,534.
1
ITEM I. FINANCIAL STATEMENTS PART I. FINANCIAL INFORMATION
DELUXE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands)
JuneSeptember 30, 1999 December 31,
(Unaudited) 1998
------------- ----------------------- -----------
CURRENT ASSETS
Cash and cash equivalents $ 87,35574,501 $ 268,934
Marketable securities 41,21738,864 41,133
Trade accounts receivable 127,567138,373 145,079
Inventories:
Raw material 1,8952,051 2,619
Semi-finished goods 6,2086,101 7,401
Finished goods 1,1441,290 1,981
Supplies 16,28415,582 17,400
Deferred advertising 9,13811,981 7,939
Deferred income taxes 64,032 63,78556,819 56,554
Prepaid expenses and other current assets 34,51273,357 62,961
------------ ----------------------- -----------
Total current assets 389,352 619,232
------------ ------------418,919 612,001
----------- -----------
LONG-TERM INVESTMENTS 43,49141,938 45,208
PROPERTY, PLANT, AND EQUIPMENT
Land and land improvements 46,80941,566 46,826
Buildings and building improvements 210,323168,602 209,416
Machinery and equipment 521,535 512,683
------------ ------------521,436 507,680
----------- -----------
Total 778,667 768,925731,604 763,922
Less accumulated depreciation 437,617 424,365
------------ ------------415,219 423,845
----------- -----------
Property, plant, and equipment - net 341,050 344,560316,385 340,077
INTANGIBLES
Cost in excess of net assets acquired - net 81,31780,240 42,836
Internal use software - net 134,228 118,417137,563 116,734
Other intangible assets - net 27,244 32,781
------------ ------------14,868 14,663
----------- -----------
Total intangibles 242,789 194,034
------------ ------------232,671 174,233
----------- -----------
TOTAL ASSETS $ 1,016,6821,009,913 $ 1,203,034
============ ============1,171,519
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 49,81857,425 $ 53,555
Accrued liabilities:
Wages, including vacation pay 51,31451,321 60,540
Employee profit sharing and pension 18,61726,484 41,762
Accrued income taxes 68,605 33,08765,787 33,075
Accrued rebates 27,35929,593 34,712
Accrued contract/relationship losses 28,533 35,35613,013 14,697
Other 140,597129,539 185,022
Short-term debt 26,448
Long-term debt due within one year 2,2762,900 7,332
------------ ----------------------- -----------
Total current liabilities 413,567 451,366
------------ ------------376,062 430,695
----------- -----------
LONG-TERM DEBT 105,163119,856 106,321
DEFERRED INCOME TAXES 33,322 36,01824,797 27,519
OTHER LONG-TERM LIABILITIES 4499,312 419
SHAREHOLDERS' EQUITY
Common shares - $1 par value (authorized 500,000,000 shares; issued: 1999 - 75,53275,390 80,481
75,531,50275,389,569 shares; 1998 - 80,480,526 shares)
Additional paid-in capital 6,822
Retained earnings 390,341 522,087405,631 519,742
Unearned compensation (129)(92) (238)
Accumulated other comprehensive income (1,563)(1,043) (242)
------------ ----------------------- -----------
Shareholders' equity 464,181 608,910
------------ ------------479,886 606,565
----------- -----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 1,016,6821,009,913 $ 1,203,034
============ ============1,171,519
=========== ===========
See Notes to Unaudited Consolidated Financial Statements
2
DELUXE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(Dollars in Thousands, Except per Share Amounts)
(Unaudited)
QUARTERS ENDED JUNE 30, SIXNINE MONTHS ENDED
JUNESEPTEMBER 30, ------------------------- -------------------------SEPTEMBER 30,
------------- -------------
1999 1998 1999 1998
---- ---- ---- ----
NET SALES $ 407,841417,114 $ 474,791469,770 $ 821,9181,239,033 $ 963,7611,433,531
OPERATING EXPENSES
Cost of sales 180,035 219,571 360,520 443,183182,718 259,188 541,901 702,371
Selling, general and administrative 151,630 187,194 307,575 381,035
---------- ---------- ---------- ----------161,031 210,898 468,608 591,933
----------- ----------- ----------- -----------
Total 331,665 406,765 668,095 824,218
---------- ---------- ---------- ----------343,749 470,086 1,010,509 1,294,304
----------- ----------- ----------- -----------
INCOME (LOSS) FROM OPERATIONS 76,176 68,026 153,823 139,54373,365 (316) 228,524 139,227
OTHER INCOME (EXPENSE)
Other income 2,518 4,880 4,121 8,1926,483 5,433 10,606 13,626
Interest expense (1,677) (1,935) (3,458) (4,158)
---------- ---------- ---------- ----------(2,164) (2,135) (5,623) (6,293)
----------- ----------- ----------- -----------
INCOME BEFORE INCOME TAXES 77,017 70,971 154,486 143,57777,684 2,982 233,507 146,560
PROVISION FOR INCOME TAXES 29,631 28,716 59,487 57,751
---------- ---------- ---------- ----------28,627 3,097 88,638 60,849
----------- ----------- ----------- -----------
NET INCOME (LOSS) $ 47,38649,057 $ 42,255(115) $ 94,999144,869 $ 85,826
========== ========== ========== ==========85,711
=========== =========== =========== ===========
NET INCOME PER COMMON SHARE - Basic $ 0.610.65 $ 0.520.00 $ 1.211.86 $ 1.06
NET INCOME PER COMMON SHARE - Diluted $ 0.610.65 $ 0.520.00 $ 1.201.85 $ 1.06
CASH DIVIDENDS PER COMMON SHARE $ 0.37 $ 0.37 $ 0.741.11 $ 0.741.11
See Notes to Unaudited Consolidated Financial Statements
3
DELUXE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(Unaudited)
SIXNINE MONTHS ENDED
JUNESEPTEMBER 30,
--------------------------------------
1999 1998
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES $ 94,999144,869 $ 85,82685,711
Net income
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation 28,154 28,86041,026 43,263
Asset impairment charge 925 26,252
Amortization of intangibles 13,325 10,78020,785 18,385
Stock purchase discount 2,481 3,0743,640 4,514
Net lossgain on sales of businesses 1,964(3,383)
Changes in assets and liabilities, net of effects from
acquisitions and sales of businesses:
Trade accounts receivable 21,127 (4,285)10,321 (9,958)
Inventories 2,754 (1,261)2,559 240
Accounts payable (4,850) (3,263)2,757 (2,901)
Other assets and liabilities (49,413) (21,620)
---------- ----------(67,948) 15,936
--------- ---------
Net cash provided by operating activities 108,577 100,075158,934 178,059
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of marketable securities with maturities of more than 3 months 17,438 8,00019,763 12,198
Purchases of marketable securities with maturities of more than 3 months (17,915) (18,374)(21,374)
Purchases of capital assets (51,592) (60,117)(78,722) (88,496)
Payments for acquisitions, net of cash acquired (35,666)
Net proceeds from sales of businesses, net of cash sold 23,809 1,78412,319
Proceeds from sales of capital assets 52 11,57050,824 20,500
Loans to others (32,500)
Other (104) (1,404)
---------- ----------2,636 349
--------- ---------
Net cash used in investing activities (63,978) (58,541)(67,771) (64,504)
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds frompayments on short-term debt 25,065(1,394)
Proceeds from long-term debt 2,770
Payments on long-term debt (8,038) (3,190)(9,554) (5,210)
Payments to retire common stock (199,853) (36,743)(216,745) (60,260)
Proceeds from issuing stock under employee plans 16,020 13,61925,712 20,634
Cash dividends paid to shareholders (59,372) (60,051)
---------- ----------(86,385) (89,939)
--------- ---------
Net cash used in financing activities (226,178) (86,365)
---------- ----------(285,596) (134,775)
--------- ---------
NET DECREASE IN CASH AND CASH EQUIVALENTS (181,579) (44,831)(194,433) (21,220)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 268,934 171,438
---------- ------------------- ---------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 87,35574,501 $ 126,607
========== ==========150,218
========= =========
See Notes to Unaudited Consolidated Financial Statements
4
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. The consolidated balance sheet as of JuneSeptember 30, 1999, the
consolidated statements of income for the quarters and sixnine months ended
JuneSeptember 30, 1999 and 1998, and the consolidated statements of cash flows for
the sixnine months ended JuneSeptember 30, 1999 and 1998 are unaudited. In the opinion
of management, all adjustments necessary for a fair presentation of such
financial statements are included. Other than those discussed in the notes
below, such adjustments consist only of normal recurring items. Interim results
are not necessarily indicative of results for a full year. The consolidated
financial statements and notes are presented in accordance with instructions for
Form 10-Q, and do not contain certain information included in the Company's
consolidated annual financial statements and notes. The consolidated financial
statements and notes appearing in this Report should be read in conjunction with
the Company's consolidated audited financial statements and related notes
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1998 (the(as amended by Amendment No. 1 filed on Form 10-K/A, the "1998
10-K"10-K/A").
2. The following is the Company's policy for accounting for long-term
service contracts, which are definitive agreements to provide services over a
period of time in excess of one year and with respect to which the Company has
no contractual right to adjust the prices or terms at or on which its services
are supplied during the term of contract. Revenues are recognized for all
long-term service contracts when the service is performed. Total revenues for
some long-term service contracts may vary based on the demand for services.
Expenses are recognized when incurred, with the exception of installation costs.
Installation costs are capitalized and recognized ratably over the life of the
contract, which approximates the anticipated revenue recognition. Any equipment
and software purchased to support a long-term service contract is capitalized
and depreciated or amortized over the shorter of the life of the related
contract or life of the asset. In determining the profitability of a long-term
service contract, only direct and allocable indirect costs associated with the
contract are included in the calculation. The appropriateness of allocations of
indirect costs depends on the circumstances and involves the judgement of
management, but such costs may include the costs of indirect labor, contract
supervision, tools and equipment, supplies, quality control and inspection,
insurance, repairs and maintenance, depreciation and amortization and, in some
circumstances, support costs. The method of allocating any indirect costs
included in the analysis is also dependant upon the circumstances and the
judgement of management, but the allocation method must be systematic and
rational. General and administrative costs and selling costs are not included in
the analysis. Provisions for estimated losses on long-term service contracts, if
any, are made in the period in which the loss first becomes probable and
reasonably estimable. Projected losses are based on management's best estimates
of a contract's revenue and costs and actual losses on individual long-term
service contracts are compared to the loss projections periodically, with any
changes in the estimated total contract loss recognized as they become probable
and reasonably estimable.
Certain direct costs associated with the electronic benefits transfer contracts
discussed in footnote 11 are common to a number of contracts and are attributed
to each contract based on its use of the services associated with these common
direct costs. Revenues or case counts are used to attribute these costs to
individual contracts.
3. The Company evaluates the recoverability of long-lived assets not held
for sale by measuring the carrying amount of the assets against the estimated
undiscounted future net cash flows associated with them. Should the sum of the
expected future net cash flows be less than the carrying value of the long-lived
asset, an impairment loss would be recognized. The impairment loss would be
calculated as the amount by which the carrying value of the asset exceeds the
fair value of the asset.
The Company evaluates the recoverability of long-lived assets held for disposal
by comparing the asset's carrying amount with its fair value less costs to sell.
Should the fair value less costs to sell be less than the carrying value of the
long-lived asset, an impairment loss would be recognized. The impairment loss
would be calculated as the amount by which the carrying value of the asset
exceeds the fair value of the asset less costs to sell.
When the Company has recorded an estimated loss under a long-term service
contract, the assets relating to that contract are not again analyzed for
impairment under this policy.
4. As of JuneSeptember 30, 1999, the Company had uncommitted bank lines of
credit of $155$115 million available at variable interest rates. The average amount
drawn on these lines during the first sixnine months of 1999 was $9.2$1.5 million at a
weighted average interest rate of 5.01%5.12%. As of JuneSeptember 30, 1999, $25 million of the
Company's $26.4 million of short-term debt related tono amounts
were outstanding under these lines of credit and
was outstanding at an interest rate of 5.07%.credit. No amounts were drawn on these
lines during 1998 and there was no outstanding balance at December 31, 1998. The
Company also had a $150committed lines of credit of $650 million committed line of
5
credit available for
borrowing and as support for commercial paper. As of JuneSeptember 30, 1999 and
December 31, 1998, the Company had no commercial paper outstanding and no
indebtedness outstanding under its committed linelines of credit. Additionally, the
Company had a shelf registration in place to issue up to $300 million in
medium-term notes. Such notes could be used for general corporate purposes,
including working capital, capital expenditures, possible acquisitions and
repayment or repurchase of outstanding indebtedness and other securities of the
Company. As of JuneSeptember 30, 1999 and December 31, 1998, no such notes were
issued or outstanding.
5.3. The Company's total comprehensive income for the quarters ended
JuneSeptember 30, 1999 and 1998 was $46.2$49.6 million and $42.4$.1 million, respectively.
Total comprehensive income for the first sixnine months of 1999 and 1998 was $93.7$144.1
million and $86.1$86.2 million, respectively. The Company's total comprehensive
income consists of net income, unrealized holding gains and losses on securities
and foreign currency translation adjustments.
6.4. The following table reflects the calculation of basic and diluted
earnings per share (dollars and shares outstanding in thousands, except per
share amounts).
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Quarters Ended June 30, SixNine Months Ended
JuneSeptember 30, September 30,
1999 1998 1999 1998
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Net income per share-basic:
Net income (loss) $ 47,38649,057 $ 42,255(115) $144,869 $ 94,999 $ 85,82685,711
Weighted average shares outstanding 77,776 80,668 78,790 80,84775,588 80,498 77,835 80,721
Net income per share-basic $ 0.610.65 $ 0.520.00 $ 1.211.86 $ 1.06
================================================================================================================================================================================================================================
Net income per share-diluted:
Net income (loss) $ 47,38649,057 $ 42,255(115) $144,869 $ 94,999 $ 85,82685,711
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Weighted average shares outstanding 77,776 80,668 78,790 80,84775,588 80,498 77,835 80,721
Dilutive impact of options 312 184 275 188398 316 176
Shares contingently issuable 27 19 11 14 710
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Weighted average shares and potential
dilutive shares outstanding 78,107 80,863 79,079 81,04276,013 80,498 78,170 80,907
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Net income per share-diluted $ 0.610.65 $ 0.520.00 $ 1.201.85 $ 1.06
================================================================================================================================================================================================================================
7.5
5. During 1997, a judgment was entered against Deluxe Electronic Payment
Systems, Inc. (DEPS) in the U.S. District Court for the Western District of
Pennsylvania. The case was brought against DEPS by Mellon Bank (Mellon) in
connection with a potential bid to provide electronic benefit transfer services
for the Southern Alliance of States. In September 1997, the Company recorded a
pretax charge of $40 million to reserve for this judgment and other related
costs. In the third quarter of 1998, Mellon's motion for prejudgment interest
was denied by the District Court and the Company reversed $4.2 million of the
$40 million liability. At December 31, 1998, the remaining liability of $34.4
million was classified as other accrued liabilities in the consolidated balance
sheet.
In January 1999, the Company's appeal of this judgment was denied by the Third
Circuit Court of Appeals and the Company paid $32.2 million to Mellon in
February 1999. The portion of the reserve remaining after the payment of this
judgement ($2.1 million) was reversed in the first quarter of 1999 and is
reflected in other income in the consolidated statement of income for the sixnine
months ended JuneSeptember 30, 1999. The Company's petition for a further review of
this judgment was denied by the United States Supreme Court in June 1999.
8.6. In February 1999, the Company acquired all of the outstanding shares of
eFunds Corporation of Tustin, California (eFunds Tustin) for $13 million. eFunds
provides electronic check conversion and electronic funds transfer solutions for
financial services companies and retailers. This acquisition was accounted for
under the purchase method of accounting. Accordingly, the consolidated financial
statements of the Company include the results of this business subsequent to its
acquisition date. This business is included in the Deluxe Payment Protection
Systems segment in footnote 12 below. The purchase price was allocated to the
assets acquired and liabilities assumed based on their fair values on the date
of purchase. The total cost in excess of net assets acquired of $15.7 million is
reflected as goodwill and is being amortized over 10 years. The effect of this
acquisition was not material to the operations or financial position of the
Company.
6
9.7. In April 1999, the Company acquired the remaining 50% ownership
interest in HCL-Deluxe, N.V., the joint venture which the Company entered into
with HCL Corporation of India in 1996, for $23.4 million. This company provides
information technology development and support services and business process
outsourcing services to financial services companies and to all the Company's
businesses. This acquisition was accounted for under the purchase method of
accounting. Accordingly, the consolidated financial statements of the Company
include the results of this business subsequent to its acquisition date. This
business comprises the iDLX Technology Partners segment in footnote 12 below.
The purchase price was allocated to the assets acquired and liabilities assumed
based on their fair values on the date of purchase. The total cost in excess of
net assets acquired of $24.9 million is reflected as goodwill and is being
amortized over 15 years. The effect of this acquisition was not material to the
operations or financial position of the Company.
10.8. In September 1999, the Company entered into a $42.5 million
sale-leaseback transaction whereby the Company sold five existing facilities in
Shoreview, Minnesota and leased back three of these facilities for periods
ranging from five to 10 years. Of the related leases, two are being accounted
for as operating leases and one is a capital lease. An asset of $11.6 million
was recorded for the capital lease and is reflected as buildings and building
improvements in the September 30, 1999 consolidated balance sheet.
The minimum lease payments required under these three leases over the next five
years and thereafter are as follows (in thousands):
Year ending December 31:
1999 $ 949
2000 3,796
2001 3,796
2002 3,827
2003 3,921
2004 3,409
Thereafter 9,329
-------
Total minimum lease payments $29,027
-------
The result of this sale was a $17.1 million gain, of which $10.6 million was
deferred and is being amortized over the lease terms. $9.1 million of the
deferred gain is reflected as other long-term liabilities in the September 30,
1999 consolidated balance sheet. The Company provided short-term financing for
$32.5 million of the proceeds from
6
this sale. This amount is reflected as prepaid expenses and other current assets
in the September 30, 1999 consolidated balance sheet and is reflected as loans
to others in the consolidated statement of cash flows for the nine months ended
September 30, 1999. This loan is due in April 2000.
9. The Company's consolidated balance sheets reflect restructuring
accruals of $30.2$25.3 million and $45.7 million as of JuneSeptember 30, 1999 and
December 31, 1998, respectively, for employee severance costs, and $5.4$3.4 million
and $6.8 million as of JuneSeptember 30, 1999 and December 31, 1998, respectively,
for estimated losses on asset dispositions.
During the third quarter of 1998, the Company recorded pretax restructuring
charges of $39.5 million. The restructuring charges included costs associated
with the Company's initiative to reduce its selling, general and administrative
expenses (SG&A), the outsourcing of production of the Deluxe Direct Response
segment's direct mail products, as well as the closing of four additional
financial institution check printing plants. The Company anticipated eliminating
800 SG&A positions within sales and marketing, finance and accounting, human
resources, and information services. Discontinuing production of direct mail
products was expected to result in the elimination of 60 positions. The four
financial institution check printing plant closures were expected to occur in
1999 and early 2000, affecting approximately 870 employees. The restructuring
charges consisted of employee severance costs of $31.2 million and $8.3 million
for expected losses on the disposition of assets. Expenses of $10.9 million were
included in cost of sales, $21.1 million in SG&A expense and $7.5 million in
other expense in the consolidated statements of income for the quarter and nine
months ended September 30, 1998.
During the second quarter of 1999, restructuring accruals of $4.2 million were
reversed. This amount related to the Company's initiatives to reduce its
selling, general and administrative expenses (SG&A) and to discontinue
production of direct mail products. The excess accrual amount occurred when the
Company determined that it was able to use in its ongoing operations a greater
portion of the assets used in the production of direct mail products than
originally anticipated, as well as changes in the SG&A reduction plans due to thea
recently announced plan to reorganize the Company into four operating units. As
noted below, this reorganization plan could, however, lead to subsequent
restructuring charges in later periods. Additionally, the Company recorded a
restructuring accrual of $.8 million for employee severance and $.8 million for
estimated losses on asset dispositions related to the planned closing of one
collections office and planned employee reductions in another collections office
within the Deluxe Payment Protection Systems segment. This accrual reversal and
the new restructuring accrual are reflected as cost of sales expense of $.9 million, a
reduction of $1.2 million in SG&A, and other income of $2.3 million in the
consolidated income statementsstatement for the quarter and sixnine months ended JuneSeptember 30, 1999.
The status of the severance portion of the Company's restructuring accruals as
of JuneSeptember 30, 1999 is as follows (dollars in millions):
--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Check Printing Plant SG&A Initiative & Collection Center
Closings Direct Mail Production Closing/Reduction Total
--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
No. of No. of No. of No. of
employees employees employees employees
affected Amount affected Amount affected Amount affected Amount
--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Original accrual 4,970 $ 68.0$68.0 860 $ 21.2$21.2 70 $ 0.8 5,900 $ 90.0$90.0
Severance paid (3,170) (53.4) (220) (4.0) (3,390) (57.4)(3,400) (55.8) (280) (5.9) (70) (0.6) (3,750) (62.3)
Adjustments to
accrual (160) (2.4) (160) (2.4)
--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Balance,
JuneSeptember 30, 1999 1,8001,570 $12.2 420 $12.9 0 $ 14.6 480 $ 14.8 70 $ 0.8 2,350 $ 30.2
----------------------------------------------------------------------------------------------------0.2 1,990 $25.3
----------------------------------------------------------------------------------
The majority of the remaining severance costs are expected to be paid in 1999
and early 2000 with cash generated from the Company's operations. Severance payments
for a portion of the reserve for check printing plant closings are expected to
be delayed from the prior estimated 1999 closing dates to the last half of 2000
due to a planned slow-down in the roll-out of the
7
Company's new order processing and customer service system. This slow-down is
due to the fact that financial institutions do not want to implement the system
in late 1999 or early 2000 due to the efforts they are expending on year 2000
issues. As a result, the last conversions are now currently scheduled for
October 2000.
The status of the estimated loss on asset dispositions portion of the Company's
restructuring accruals as of JuneSeptember 30, 1999 is as follows (dollars in
millions):
----------------------------------------------------------------------------------------------------------------------------------------------------------------
Check Printing Plant SG&A Initiative & Collection Center
Closings Direct Mail Production Closing/Reductions Total
----------------------------------------------------------------------------------------------------------------------------------------------------------------
Original accrual $15.0 $5.2 $0.8$ 5.2 $ 0.8 $21.0
Losses realized (10.4)(11.8) (3.4) (13.8)(0.6) (15.8)
Adjustments to accrual (1.8) (1.8)
----------------------------------------------------------------------------------------------------------------------------------------------------------------
Balance, JuneSeptember
30, 1999 $ 4.6 $0.0 $0.83.2 $ 5.4
----------------------------------------------------------------------------------------0.0 $ 0.2 $ 3.4
------------------------------------------------------------------------
The check printing plant closures are expected to be completed in earlyOctober 2000.
The collection center closing and reductions are expected to bewere substantially completed in the
third quarter of 1999.
10. Asset impairment charges of $.4 million and $26.3 million were recorded
in the third quarters of 1999 and 1998, respectively, to write-down the carrying
value of long-lived assets of the Deluxe Government Services segment. Total
asset impairment charges of $.9 million have been recorded during the first nine
months of 1999 on the assets of this segment. The assets consist of
point-of-sale equipment, internal-use software and capitalized installation
costs utilized in the electronic benefits transfer (EBT) activities of this
segment. During the third quarter of 1998, management concluded that the
operating losses incurred by this business would continue. This is primarily due
to the fact that the variable costs associated with supporting benefit recipient
activity are higher than originally anticipated and actual transaction volumes
are below original expectations. In calculating the impairment charge, the
Company determined that the assets utilized by this business have no fair market
value. The point-of-sale equipment was purchased via capital leases. The lease
buy-out prices for this equipment plus the deinstallation costs exceed the
amount equipment resellers are willing to pay for the equipment. The utility of
the internal-use software is limited to its use in supporting the EBT business,
and the installation costs could not be resold. Thus, the long-lived assets of
this business were reduced to a carrying value of $0. These impairment charges
are reflected in cost of sales in the consolidated statements of income (loss)
for the quarters and nine months ended September 30, 1999 and 1998.
11. During the third quarter of 1998, the Company recorded a charge of
$36.4$14.7 million to reserve for expected future losses extending through 2006, on existing long-term
contracts and relationships of the Deluxe Government Services segment. In the first quarterThis
charge is reflected in cost of 1999, the Company determined that one
relationship includedsales in the 1998 loss accrual should no longer be included
becauseconsolidated statements of income
(loss) for the definitive agreement betweenquarter and nine months ended September 30, 1998. This segment
provides electronic benefits transfer services to state governments and online
medical eligibility verification services to the CompanyState of New York. Due to a
continuing strong economy, record low unemployment and welfare reform, the
prime contractor
remains subject to negotiation. By not consideringactual transaction volumes and expected future revenues of this relationshipbusiness are
well below original expectations. Additionally, actual and expected future
telecommunications, installation, help desk and other costs are significantly
higher than originally anticipated, resulting in the
charge for expected future losses $4.3 millionon the
existing electronic benefits transfer contracts and relationships of assets dedicated to this
relationship were exposed to impairment. Inbusiness. This charge was calculated in accordance with the Company's policy on
impairment of long-lived assets,long-term service contracts as outlinedstated in footnote 3 above, an
impairment loss of an amount substantially equal to the contract loss originally
recorded with respect to this relationship resulted. InCompany's 1998 10-K/A. During the
firstthird quarter of 1999, this reclassification between accrued contract/relationship losses and
long-lived assets was recorded and $1.9$.3 million of contract losses were applied against the reserve. During the second quarter of 1999, $.6 million of contract
losses were applied against this
reserve.
The Company has recently been notified that the prime contractor for a number of
states and state coalitions for which the Company provides switching services
does not intend to renew its switching agreement with the Company. The Company
is currently negotiating with the contractor regarding the timing and cost of
this transition and the subsequent conversion of the switching services to a
third party. The Company will adjust the charge described above when the results
of these negotiations are reasonably estimable, but it is likelypossible that the loss
of this contractagreement and revenue stream will require the Company to record an
additional accrual.
8
12. The Company has organized its business units into seven operating
segments based on the nature of the products and services offered by each:
Deluxe Paper Payment Systems; Deluxe Payment Protection Systems; Deluxe
Electronic Payment Systems; Deluxe Government Services; iDLX Technology
Partners; Deluxe Direct Response; and Deluxe Direct. Deluxe Paper Payment
Systems provides check printing services to financial services companies and
markets checks and business forms directly to households and small businesses.
Deluxe Payment Protection Systems provides payment protection, electronic check
conversion, collection and risk management services to financial institutions
and retailers. Deluxe Electronic Payment Systems provides electronic funds
transfer processing and software services to the financial and retail
industries. Deluxe Government Services provides electronic benefits transfer
services to state governments and online medical eligibility verification
services to the State of New York. iDLX Technology Partners provides information
technology development and support services and business process outsourcing
services to financial services companies and to all the Company's businesses. Deluxe
Direct Response, which was sold in 1998, provided direct marketing, customer
database management, and related services to the financial industry and other
businesses. Deluxe Direct, which was sold in 1998, primarily sold greeting
cards, stationery, and specialty paper products through direct mail. Most
segments operate primarily in the United States. Deluxe Electronic Payment
Systems and iDLX Technology Partners also have international operations.
The accounting policies of the segments are the same as those described in the
summary of significant accounting policies as presented in the Company's notes
to the consolidated annual financial statements included in the 1998 10-K, as
well as the policies presented in footnotes 2 and 3 above.10-K/A. In
evaluating segment performance, management focuses on income from operations.
This measurement excludes special charges (e.g., certain restructuring charges,
asset impairment charges, charges for legal proceedings, etc.), interest
expense, investment income, income tax expense and other non-operating items,
such as gains or 8
losses from asset disposals. Corporate expenses are generally
allocated to the segments as a fixed percentage of segment revenues. This
allocation includes expenses for various support functions such as human
resources, information services and finance and includes depreciation and
amortization expense related to corporate assets. The corresponding corporate
asset balances are not allocated to the segments. Generally, intersegment sales
are based on current market pricing. Segment information for the quarters and
sixnine months ended JuneSeptember 30, 1999 and 1998 is as follows (dollars in
thousands):
Deluxe Deluxe Deluxe
Deluxe iDLX Deluxe Deluxe Total
Paper Payment Electronic Government Technology Direct Direct SegmentsDeluxe iDLX Deluxe
QUARTER ENDED Payment Protection Payment Services Partners Response
JUNEGovernment Technology Direct Deluxe Total
SEPTEMBER 30, 1999 Systems Systems Systems Services Partners Response Direct Segments
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Net sales from $ 311,519 $ 54,851 $ 34,486 $ 13,167 $ 3,091 $ 417,114
external customers
Intersegment sales 163 371 2,852 3,386
Operating income
(loss) 76,069 (1,860) 2,752 1,303 (3,064) 75,200
Segment assets 399,121 133,055 138,658 16,997 34,360 722,191
Depreciation and
Amortization
expense 10,926 1,674 3,296 617 16,513
Capital purchases 11,300 5,999 2,591 228 1,255 21,373
- -----------------------------------------------------------------------------------------------------------
9
Deluxe Deluxe Deluxe
Paper Payment Electronic Deluxe iDLX Deluxe
QUARTER ENDED Payment Protection Payment Government Technology Direct Deluxe Total
SEPTEMBER 30, 1998 Systems Systems Systems Services Partners Response Direct Segments
- -----------------------------------------------------------------------------------------------------------
Net sales from $303,788 $ 58,582316,200 $ 32,28354,463 $ 11,88332,366 $ 1,305 $407,84110,952 $ 12,121 $ 43,668 $469,770
external customers
Intersegment sales 139 114 952 1,205391 523 119 1,033
Operating income
76,399 839 2,556 (608) (994) 78,192
(loss) excluding
special charges 75,632 7,500 1,113 (2,506) (3,177) (1,524) 77,038
Special charges 11,099 623 1,381 41,180 2,513 56,796
Operating income
(loss) including
special charges 64,533 6,877 (268) (43,686) (5,690) (1,524) 20,242
Segment assets 378,781 136,207 144,556 38,153 33,544 731,241407,810 104,992 119,467 21,140 39,172 114,734 807,315
Depreciation and
amortization
expense 9,821 2,290 3,429 376 197 16,1139,425 2,696 3,259 1,624 17,004
Capital purchases 13,032 3,989 4,982 2 353 22,35815,259 2,655 3,860 50 139 540 22,503
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Deluxe Deluxe Deluxe
Paper Payment Electronic Deluxe iDLX Deluxe
Deluxe Total
Paper Payment Electronic Government Technology Direct Direct Segments
QUARTERNINE MONTHS ENDED Payment Protection Payment Government Technology Direct Deluxe Total
SEPTEMBER 30, 1999 Systems Systems Systems Services Partners Response JUNE 30, 1998 Systems Systems SystemsDirect Segments
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Net sales from $324,271 $ 52,895927,403 $ 32,805173,768 $ 10,75897,105 $ 12,72536,360 $ 41,337 $474,7914,397 $1,239,033
external customers
Intersegment sales 274 496 770446 602 3,804 4,852
Operating income 81,185 6,634 (1,402) (1,391) (4,768) (4,065) 76,193228,274 6,558 5,636 1,560 (4,058) 237,970
(loss)
Segment assets 413,209 105,439 131,669 42,939 46,410 109,960 849,626399,121 133,055 138,658 16,997 34,360 722,191
Depreciation and
amortization
expense 9,332 2,152 3,265 1,334 712 16,79530,306 6,876 10,321 814 48,317
Capital purchases 12,505 4,571 5,393 54 328 457 23,30836,244 13,408 9,557 417 1,608 61,234
- -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
910
Deluxe Deluxe Deluxe
Paper Payment Electronic Deluxe iDLX Deluxe
Deluxe Total
Paper Payment Electronic Government Technology Direct Direct Segments
SIXNINE MONTHS ENDED Payment Protection Payment Government Technology Direct Deluxe Total
SEPTEMBER 30, 1998 Systems Systems Systems Services Partners Response JUNE 30, 1999 Systems Systems SystemsDirect Segments
- ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Net sales from $615,884 $118,917 $ 62,619959,256 $161,451 $ 23,19395,127 $ 1,305 $821,918
external customers
Intersegment sales 283 231 952 1,466
Operating income 152,205 8,417 2,884 (1,079) (994) 161,433
(loss)
Segment assets 378,781 136,207 144,556 38,153 33,544 731,241
Depreciation and
amortization
expense 19,380 5,202 7,025 856 197 32,660
Capital purchases 24,944 7,409 7,133 22 353 39,861
- --------------------------------------------------------------------------------------------------------------------
Deluxe Deluxe Deluxe Deluxe iDLX Deluxe Deluxe Total
Paper Payment Electronic Government Technology Direct Direct Segments
SIX MONTHS ENDED Payment Protection Payment Services Partners Response
JUNE 30, 1998 Systems Systems Systems
- --------------------------------------------------------------------------------------------------------------------
Net sales from $643,056 $106,98830,939 $ 62,762 $ 19,988 $ 22,886 $108,081 $963,76135,008 $151,750 $1,433,531
external customers
Intersegment sales 1,996 729 527 496 3,7481,121 1,050 614 4,781
Operating income
156,325 15,609 (2,576) (4,924) (12,177) (4,147) 148,110
(loss) excluding
special charges 231,957 23,110 (1,463) (7,430) (15,353) (5,672) 225,149
Special charges 11,099 623 1,381 41,180 2,513 56,796
Operating income (loss)
including special charges 220,858 22,487 (2,844) (48,610) (17,866) (5,672) 168,353
Segment assets 413,209 105,439 131,669 42,939 46,410 109,960 849,626407,810 104,992 119,467 21,140 39,172 114,734 807,315
Depreciation and
amortization
expense 18,166 4,300 6,536 2,601 2,201 33,80427,591 6,996 9,795 4,225 2,213 50,820
Capital purchases 22,076 6,706 7,424 249 690 590 37,73537,335 9,361 11,284 299 829 1,130 60,238
- ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Segment information reconciles to consolidated amounts as follows (dollars in
thousands):
QUARTERS ENDED SIXNINE MONTHS ENDED
JUNESEPTEMBER 30, JUNESEPTEMBER 30,
- ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
OPERATING INCOME 1999 1998 1999 1998
- ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total segment operating income including special
charges $ 78,19275,200 $ 76,19320,242 $ 161,433237,970 $ 148,110168,353
Elimination of intersegment profits (48) (125)40 (84)
Unallocated corporate expenses (2,016) (8,119) (7,610) (8,442)(1,835) (20,598) (9,446) (29,042)
- ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total consolidated operating income (loss)
including special charges $ 76,17673,365 $ 68,026(316) $ 153,823228,524 $ 139,543139,227
- ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Unallocated1999 unallocated corporate expenses consist of charges for certain corporate
liabilities which are not allocated to the segments. 10
JUNE 30,
- ------------------------------------------------------------------------------
TOTAL ASSETS 1999 1998
- ------------------------------------------------------------------------------
Total segment assets $ 731,241 $ 849,626
Unallocated corporate assets 285,441 272,822
- ------------------------------------------------------------------------------
Total consolidated assets $1,016,682 $1,122,448
- ------------------------------------------------------------------------------
1998 unallocated corporate
expenses consist primarily of corporate special charges.
SEPTEMBER 30,
- --------------------------------------------------------
TOTAL ASSETS 1999 1998
- --------------------------------------------------------
Total segment assets $ 722,191 $ 807,315
Unallocated corporate assets 287,722 310,977
- --------------------------------------------------------
Total consolidated assets $1,009,913 $1,118,292
- --------------------------------------------------------
Unallocated corporate assets consist primarily of cash, investments, and fixed
assets and intangibles utilized by the corporate support functions.
11
QUARTERS ENDED SIXNINE MONTHS ENDED
JUNESEPTEMBER 30, JUNESEPTEMBER 30,
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
DEPRECIATION AND AMORTIZATION EXPENSE 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total segment depreciation and amortization $ 16,113 $ 16,795 $ 32,660 $ 33,804$16,513 $17,004 $48,317 $50,820
expense
Depreciation and amortization of unallocated
corporate assets 4,409 2,302 8,819 5,8364,675 5,004 13,494 10,828
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total consolidated depreciation and
amortization expense $ 20,522 $ 19,097 $ 41,479 $ 39,640$21,188 $22,008 $61,811 $61,648
- -----------------------------------------------------------------------------------------------
QUARTERS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
- -----------------------------------------------------------------------------------------------
CAPITAL PURCHASES 1999 1998 1999 1998
- -----------------------------------------------------------------------------------------------
Total segment capital purchases $ 22,358 $ 23,308 $ 39,861 $ 37,735
Corporate capital purchases 3,637 12,157 11,731 22,382
- -----------------------------------------------------------------------------------------------
Total consolidated capital purchases $ 25,995 $ 35,465 $ 51,592 $ 60,117
- ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
QUARTERS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
- --------------------------------------------------------------------------------
CAPITAL PURCHASES 1999 1998 1999 1998
- --------------------------------------------------------------------------------
Total segment capital purchases $21,373 $22,503 $61,234 $60,238
Corporate capital purchases 5,757 5,876 17,488 28,258
- --------------------------------------------------------------------------------
Total consolidated capital purchases $27,130 $28,379 $78,722 $88,496
- --------------------------------------------------------------------------------
1999 corporate capital purchases consist primarily of a new human resources
information system and various other information system enhancements. 1998
corporate capital purchases consist primarily of SAP financial software
implementation and various other information system enhancements.
Revenues are attributed to geographic areas based on the location of the assets
producing the revenues. The Company's operations by geographic area are as
follows (in thousands):
NET SALES FROM EXTERNAL CUSTOMERS LONG-LIVED ASSETS
QUARTERS ENDED SIXNINE MONTHS ENDED
JUNESEPTEMBER 30, JUNESEPTEMBER 30, JUNESEPTEMBER 30,
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
1999 1998 1999 1998 1999 1998
---- ---- ---- ---- ---- ----
United SUnited States $ 402,597411,997 $ 468,215463,724 $1,223,630 $1,412,096 $ 811,633310,790 $ 948,372 $ 335,887 $ 401,155391,863
Foreign countries 5,244 6,576 10,285 15,389 5,163 4,3645,117 6,046 15,403 21,435 5,595 3,823
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
Total consolidated $ 407,841417,114 $ 474,791469,770 $1,239,033 $1,433,531 $ 821,918316,385 $ 963,761 $ 341,050 $ 405,519395,686
- --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
13. In April 1999, the Company announced that it will be selling National
Revenue Corporation, its collections business which is included in the Deluxe
Payment Protection Systems segment. This business contributed net sales of $32.1$28.2
million and $30.2$30.6 million for the quarters ended JuneSeptember 30, 1999 and 1998,
respectively, and net sales of $66.3$94.5 million and $60.7$91.3 million for the sixnine
months ended JuneSeptember 30, 1999 and 1998, respectively. The sale is currently
expected to be completed in 1999.
11
1999 or early 2000.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Company Profile
The Company has organized its business units into seven operating segments based
on the nature of the products and services offered by each: Deluxe Paper Payment
Systems; Deluxe Payment Protection Systems; Deluxe Electronic Payment Systems;
Deluxe Government Services; iDLX Technology Partners; Deluxe Direct Response;
and Deluxe Direct. Deluxe Paper Payment Systems provides check printing services
to financial services companies and markets checks and business forms directly
to households and small businesses. Deluxe Payment Protection Systems provides
payment protection, collection, electronic check conversion and risk management
services to financial institutions and retailers. Deluxe Electronic Payment
Systems provides electronic funds transfer processing and software services to
the financial and retail industries. Deluxe Government Services provides
electronic benefits transfer services to state governments and online medical
eligibility verification services to the State of
12
New York. iDLX Technology Partners provides information technology development
and support services and business process outsourcing services to financial
services companies and to all the Company's businesses. Deluxe Direct Response,
which was sold in 1998, provided direct marketing, customer database management,
and related services to the financial industry and other businesses. Deluxe
Direct, which was sold in 1998, primarily sold greeting cards, stationery, and
specialty paper products through direct mail. Most segments operate primarily in
the United States. Deluxe Electronic Payment Systems and iDLX Technology
Partners also have international operations.
Results of Operations - Quarter and SixNine Months Ended JuneSeptember 30, 1999
Compared to the Quarter and SixNine Months Ended JuneSeptember 30, 1998
NET SALES - Net sales were $407.8$417.1 million for the secondthird quarter of 1999, down
14.1%11.2% from the secondthird quarter of 1998 when sales were $474.8$469.8 million. Net sales
were $821.9$1,239.0 million for the first sixnine months of 1999, down 14.7%13.6% from the
first sixnine months of 1998 when sales were $963.8$1,433.5 million. These decreases are
primarily due to discontinuing production of direct mail products and the sale
of the remaining businesses in the Deluxe Direct Response and Deluxe Direct
segments in 1998. These segments contributed net sales of $54.1$55.8 million and
$131.0$186.8 million in the secondthird quarter and the first halfnine months of 1998, respectively.
Deluxe Paper Payment Systems net sales decreased 6.3%1.5% to $303.8$311.5 million in the
secondthird quarter of 1999, as compared to $324.3$316.2 million in the secondthird quarter of
1998, and1998. Sales for this segment decreased 4.5%3.5% to $615.9$927.4 million in the first sixnine
months of 1999. Sales1999, as compared to $961.3 million in this
segment were $645.1 million during the comparable six month period infirst nine months of 1998.
These decreases were primarily due to lower volume in the financial institution
check printing business due to lost customers. The loss of business was due to
competitive pricing requirements that fell below the Company's revenue and
profitability per unit targets. This volume decrease was partially offset by
increased volume for both the direct check printing business and the business
forms business.business and increased revenue per unit for all businesses. Deluxe
Electronic Payment Systems net sales were flatincreased 6.0% to $34.9 million in the
third quarter of 1999, as compared to both$32.9 million in the secondthird quarter andof
1998. Nine month sales for this segment increased 1.6% in 1999 to $97.7 million
from $96.2 million during the first half of 1998 ($32.4 million and $62.9
million for the quarter and six months ended June 30, 1999, respectively, versus
$32.8 million and $63.3 million, respectively, for the comparable periods in
1998).same period last year. Increased volume in
processing related revenues was partially offset by decreased software sales due
to customer reluctance to make significant software changes prior to the turn of
the century. NetThird quarter net sales for Deluxe Payment Protection Systems increased 10.4% from $53.2 million inwere
flat compared to the secondthird quarter of 1998 to
$58.7($55.0 million in the second quarter of 1999 and increased 10.7% to $119.2versus $54.9
million in the first six months of 1999, as compared to $107.7 million1998). Increased volume and revenue per inquiry for the first six months of 1998. These increases wereCompany's
authorization businesses was offset by decreased volume for the Company's
collections business. Nine month sales for this segment increased 7.2% from
$162.6 million in 1998 to $174.2 million in 1999. This increase was due to
increased volume, across
all product lineshigher revenue per inquiry and price increases within the
Company's authorization businesses.businesses, as well as increased volume within the collections
business. Net sales for the Deluxe Government Services segment increased 10.5%20.2%,
or $1.1$2.2 million, to $11.9$13.2 million in the secondthird quarter of 1999 from
$10.8 million during the comparable period in 1998 and increased
16%17.5%, or $3.2$5.4 million, from $20.0 million for the first six months of 1998 to $23.2$36.4 million in the first halfnine months of 1999. These
increases were due to the roll out of additional states during the latter half
of 1998 and the first sixnine months of 1999.1999, increased transaction volume, and
price increases on contract extensions and rebids. iDLX Technology Partners net
sales to external customers of $2.3$3.1 million and $4.4 million in the secondthird
quarter and first nine months of 1999, respectively, represents an increase over
1998, as this segment was acquired in the second quarter of 1999.
GROSS MARGIN - Gross margin for the Company was 55.9%56.2% in the secondthird quarter of
1999 compared to 53.8%44.8% in the secondthird quarter of 1998. Gross margin for the
Company was 56.1% in56.3% for the first halfnine months of 1999 compared to 54.0% in51.0% for the
first halfnine months of 1998. A portion1998 cost of sales for the increasethird quarter and first
nine months includes restructuring charges of $10.9 million relating to
discontinuing production of direct mail products and the planned closure of four
additional financial institution check printing plants. Additionally, a charge
of $41.0 million was recorded for asset impairments and accrued
contract/relationship losses relating to the Deluxe Government Services segment.
With these charges excluded, the Company's gross margin was 55.8% and 54.6% for
the third quarter and first nine months of 1998, respectively. The improvement
from 1998 is partially due to discontinuing production of direct mail products
and the sale of the remaining businesses within the Deluxe Direct Response and
Deluxe Direct segments, which contributed gross margins of 21.6%27.5% and 51.4%,
respectively, induring the first sixnine months of 1998. Deluxe Paper Payment Systems
gross margin increased to 64.2%64.4% in the secondthird quarter of 1999 from 61.4%64.0% in the
secondthird quarter of 1998, and increased to 63.8%64.0% for the first halfnine months of
12
1999
from 61.2% in62.1% for the first halfnine months of 1998. These increases were due to cost
reductions realized from plant closings and process improvements within both the
financial institution check printing and business formsplant closings,
process improvements within all businesses, and the loss of lower margin
customers within the financial institution check printing business. Gross margin
for Deluxe Government Services increased to 4.7%20.2% in the secondthird quarter of 1999
from 2.6%a negative 6.7% in the secondthird quarter of 1998 and increased to 5.5%14.5% in the
first halfnine months of 1999 from a negative 7.8%7.4% in the first halfnine months of 1998.
These increases are due to the application of loss contract accounting, for
which a reserve was recorded in the third quarter of 1998 (see footnoteNote 11 to the
Notes to Consolidated Financial
13
Statements), as well as to planned decreaseslower depreciation and amortization expense due to
the asset impairment charges recorded in help desk and other expenses.the third quarter of 1998 (see Note 10
to the Notes to Consolidated Financial Statements). Gross margin for Deluxe
Electronic Payment Systems increased to 30.2%33.1% in the secondthird quarter of 1999 from
26.7%30.5% in the secondthird quarter of 1998, and increased to 27.7%29.6% for the first halfnine
months of 1999 from 26.5% in27.9% for the first halfnine months of 1998, due primarily to
a decrease in the labor resources spent
on on-going operations. More of the segment's labor resources are being applied
to product development as opposed to on-going operations, as was the case in
1998.increased sales volume. Deluxe Payment Protection Systems gross margin
decreased to 37.4%36.9% in the secondthird quarter of 1999 from 44.6%42.9% in the secondthird quarter
of 1998, and decreased to 41.4%40.0% for the first halfnine months of 1999 from 46.9%45.6% for
the first halfnine months of 1998. These decreases were primarily due to the product
mix within the collections business. iDLX Technology Partners, which was
acquired in the second quarter of 1999, contributed a gross marginmargins of 19.1%24.3% and
22.8% in the second quarter.third quarter and first nine months of 1999, respectively.
SELLING, GENERAL AND ADMINSTRATIVE EXPENSE (SG&A) - SG&A decreased $35.6$49.9
million, or 19.0%23.6%, from the secondthird quarter of 1998 and $73.5$123.3 million, or 19.3%20.8%,
from the first sixnine months of 1998. 1998 SG&A includes restructuring charges
relating to the Company's initiative to reduce its SG&A expenses and the planned
closing of four additional financial institution check printing plants. With
these charges excluded, SG&A decreased $27.8 million, or 14.7%, from the third
quarter of 1998 and $101.3 million, or 17.8%, from the first nine months of
1998. The decrease is primarily due to discontinuing production of direct mail
products and the sale of the remaining businesses within the Deluxe Direct
Response and Deluxe Direct segments in 1998. These businesses had $32.9$32.1 million
and $78.7$110.8 million of SG&A in the secondthird quarter and the first halfnine months of
1998, respectively. Deluxe Paper Payment Systems SG&A decreased 1.7% from the
third quarter of 1998 and was flat versus the first nine months of 1998. This
reflects a decrease within the financial institution check printing business
resulting from consolidation efforts and reductions in the number of employees.
This decrease is offset by increased marketing expenses for the direct mail
check business due to an increased emphasis on new customer acquisition. Deluxe
Electronic Payment Systems' SG&A decreased 26.2%2.2% from the secondthird quarter of 1998
and 22.6%16.0% from the first sixnine months of 1998 due primarily to initiatives
designed to lower SG&A, as well as reductions in Corporate support SG&A
expenses, which results in lower expenses allocated to the segments. The benefitSG&A for
Deluxe Government Services decreased 23.7% from the reduced Corporate
SG&A expenses was offset by other expense increases within the other segments.
Deluxe Paper Payment Systems SG&A increased .7% from the secondthird quarter of 1998 and
1.1%27.8% from the first halfnine months of 1998 due primarily to increased marketingthe fact that Corporate support
expenses which are reflective of an increased emphasis on new customer
acquisition at the direct check printing business.were not allocated to this segment in 1999. SG&A for Deluxe Payment
Protection Systems increased 23.5%38.4% from the secondthird quarter of 1998 and 17.1%23.8% from
the first sixnine months of 1998 due primarily to costs incurred in conjunction
with the Company's development of its Debit Bureau(SM)capabilities.
SG&A for
Deluxe Government Services decreased 30.1%OTHER INCOME - Other income increased $1.0 million from the secondthird quarter of
1998 due primarily to restructuring charges recorded in 1998 relating to
discontinuing production of direct mail products and 30.0% from the first halfplanned closing of 1998 duefour
additional financial institution check printing plants. These charges were
partially offset by the reversal of a portion of the reserve for 1997 legal
proceedings (see note 5 to the fact that Corporate support
expenses were not allocatedNotes to this segment in 1999.
OTHER INCOME -Consolidated Financial Statements) and a
gain on the sale of the Company's card services business. Other income decreased
$2.4 million from the second quarter of
1998 and $4.1 million from the first halfnine months of 1998 due primarily to gainslosses on building sales realizedthe
disposition of assets in 1998.1999.
INCOME TAX EXPENSE - The Company's effective tax rate decreased to 38.5%38.0% for the
first sixnine months of 1999 from 40.2%41.5% for the comparable period in 1998 due
primarily to decreased state tax expense as a result of various tax reduction
initiatives undertaken by the Company.
NET INCOME (LOSS) - Net income for the secondthird quarter of 1999 increased 12.1% to $47.4$49.1
million, compared to a net incomeloss of $42.3$.1 million for the secondthird quarter of 1998.
Net income for the first halfnine months of 1999 increased 10.7% to $95.0$144.9 million,
compared to net income of $85.8$85.7 million for the first halfnine months of 1998. The
increase is due to the restructuring charges, asset impairment charges and
accrued losses on long-term service contracts and relationships which were
recorded in 1998 and which are discussed above and in the Notes to Consolidated
Financial Statements. Excluding these charges and their related tax impacts,
1999 net income increased $2.6 million, or 5.6%, from the third quarter of 1998,
and increased $12.6 million, or 9.5%, from the first nine months of 1998. The
increase is due to the improvement in the Company's operating margin from 14.5%14.9%
in the first halfnine months of 1998 to 18.7%18.4% in the first halfnine months of 1999. This
improvement results from the improvements inbetter performance from ongoing operations that arewhich is
more specifically discussed above, as well as from the sale of the businesses
within the Deluxe Direct Response and Deluxe Direct segments in 1998.
14
Financial Condition - Liquidity
Cash provided by operations was $108.6$158.9 million for the first sixnine months of
1999, compared with $100.1$178.1 million for the first sixnine months of 1998. The
increasedecrease is due to improved earnings anda payment of $32.2 million in February 1999 for a judgement
against one of the Company's subsidiaries (see Note 5 to Notes to Consolidated
Financial Statements). This decrease was partially offset by decreased accounts
receivable due to decreased sales and an increase in Automated Clearing House
(ACH) processing of cash receipts within the Deluxe Paper Payment Systems
segment. These increases were
partially offset by a payment of $32.2 million in February 1999 for a judgement
against one of the Company's subsidiaries (see footnote 7 to Notes to
Consolidated Financial Statements). Cash from operations represents the Company's primary source of working
capital for financing capital expenditures and paying cash dividends.
13
The Company's working capital on JuneSeptember 30, 1999 was a negative $24.2$42.9 million compared
to a positive $167.9$181.3 million on December 31, 1998. The Company's current ratio on JuneSeptember
30, 1999 was .91.1 to 1, compared to 1.4 to 1 on December 31, 1998. The decrease
is due primarily to the use of cash and borrowings on the
Company's lines of credit during the first halfnine months of 1999 to
repurchase stock of the Company and to complete two acquisitions (see footnotes 8Notes 6
and 97 to Notes to Consolidated Financial Statements).
Financial Condition - Capital Resources
Purchases of capital assets totaled $51.6$78.7 million for the first halfnine months of
1999 compared to $60.1$88.5 million during the comparable period one year ago. As of
JuneSeptember 30, 1999, the Company had uncommitted bank lines of credit of $155$115
million available at variable interest rates. The average amount drawn on these
lines during the first sixnine months of 1999 was $9.2$1.5 million at a weighted
average interest rate of 5.01%5.12%. As of JuneSeptember 30, 1999, $25 million of the Company's $26.4
million of short-term debt related tothere were no amounts
outstanding under these lines of credit and was outstanding
at an interest rate of 5.07%.credit. No amounts were drawn on these lines
during 1998 and there was no outstanding balance at December 31, 1998. The
Company also had a $150 million committed linelines of credit of $650 million available for
borrowing and as support for commercial paper. As of JuneSeptember 30, 1999 and
December 31, 1998, the Company had no commercial paper outstanding and no
indebtedness outstanding under its committed linelines of credit. Additionally, the
Company had a shelf registration in place to issue up to $300 million in
medium-term notes. Such notes could be used for general corporate purposes,
including working capital, capital expenditures, possible acquisitions and
repayment or repurchase of outstanding indebtedness and other securities of the
Company. As of JuneSeptember 30, 1999 and December 31, 1998, no such notes were
issued or outstanding.
Year 2000 Readiness Disclosure
GENERAL APPROACH AND STATE OF READINESS - In 1996, the Company initiated a
program to prepare its computer systems, applications and embedded chip
equipment for the year 2000 and to evaluate the readiness of its third-party
suppliers and customers for the millennium date change. The year 2000 issue
affects the Company and most of the other companies and governmental agencies in
the world. Historically, certain computer programs were written using two digits
rather than four to define the applicable year. As a result, some programs may
recognize a date which uses the two digits "00" as 1900 rather than the year
2000, which among other things may cause them to generate erroneous data, lose
data elements and possibly fail.
The Company is using a multiphase approach in conducting its year 2000
remediation efforts. These phases are: assessment; analysis and formulation of
remediation strategy; solution implementation; testing; and certification using
internally developed criteria. The Company has divided its internal readiness
review between "mission critical" systems and equipment and its other assets.
The project is organized around nine types of computerized assets: internally
developed applications; product-to-market software and systems; third-party
purchased software; data centers; networks; environmental systems; purchased
hardware (including embedded chip and desktop equipment); third-party
assessment; and external interfaces. During 1997, the Company assessed and
prioritized all affected areas, defined appropriate resolution strategies and
began execution of those strategies. The compliance strategies include
renovation, replacement and retirement of systems and equipment.
As of JuneSeptember 30, 1999, the overall project was approximately 98% complete andremediation was 100% complete for the
Company's domestic operations, including mission critical areas. Allareas and all areas
regulated by the Federal Financial Institution Examination Council (FFIEC) have been completed.. The
international operations of iDLX are completing their remediation efforts and
should be certified as year 2000 compliant in November. Also during 1999, the
project focus shifted toward ongoing post-certification review and contingency
plan completion. As of JuneSeptember 30, 1999, contingency planningplan development across
all computerized asset categories and Deluxe
15
business units was approximately 75% complete and90% complete. In June 1999, contingency
planning was 100% complete for all areas within the Company regulated by the
FFIEC.
As part of its year 2000 review, the Company also assessed the readiness of the
embedded chip equipment in its domestic facilities. This assessment included all
plant manufacturing equipment, HVAC systems, building security systems, personal
computers and other office equipment such as printers, faxes and copy machines.
The most frequent method of achieving compliance in this area is replacing
non-compliant systems and equipment. This effort was 100% complete as ofcompleted in June
30, 1999.
Another area of focus for the Company is the year 2000 readiness of its
significant suppliers and customers, both from the standpoint of technology and
product and service provision. These external organizations were contacted and
they have
14
provided responses to year 2000 assessment requests. Site visits were
made and action plans were developed as appropriate, based on the importance of
the organizations to the Company's ability to provide products and services.
This category was completed in March 1999 and will be monitored going forward
throughuntil the year 2000.
COSTS - The Company expects to incur project expenses of approximately $28.5$28.4
million over the life of its year 2000 project, consisting of both internal
staff costs and external consulting expenses, with $22.6$24.5 million having been
incurred through JuneSeptember 30, 1999. Funds for the initiative are provided from
a separate budget of $28.5$28.4 million for the remediation of all affected systems.
The Company's SAP software implementation costs and other capital expenditures
associated with replacing or improving affected systems are not included in
these cost estimates. The Company has not deferred any material information
technology project as a result of this initiative.
RISK AND CONTINGENCY - Because of the nature of the Company's business, the year
2000 issue would, if unaddressed, pose a material business risk for the Company.
Business operations may be at risk, as would customer information interfaces and
the provision of products and services. The risk is increased by the potential
for the Company to fall out of compliance with policies set by the FFIEC, the
National Credit Union Agency and other federal and regional regulatory bodies.
The Company believes that with the plannedcompleted modifications to existing systems
and the replacement or retirement of other systems, the year 2000 compliance
issue will behas been resolved in a timely manner and will not pose significant
operational problems for the Company. The Company prioritized its renovation efforts to
focus first on its mission critical internal systems. The Company completed this
component of its remediation efforts as of June 30, 1999. In addition to the
planned modifications,
replacements and retirements, the Company has developed risk mitigation
processes and is creating contingency plans in an effort to limit the inherent
risk of the year 2000 issue. Manual fall-back processes and procedures are being
identified and put in place, particularly in cases where vendor equipment or
services begin to demonstrate the potential to be unavailable. The Company is
also preparing plans to deploy internal teams to repair problems as they arise
when the next century begins. Ongoing audit reviews are currently in progress
and are scheduled to continue into 2000 to ensure that compliance control
processes continue to be used. In addition, the Company is enhancing its
existing business resumption plans.
Outlook
In 1999, the Company will continue its efforts to reduce costs and improve
profitability by continuing with its plans to close financial institution check
printing plants and complete the implementation of a new order processing and
customer service system and post-press production process improvements.
Additionally, the Company will continue with it plans to reduce SG&A expenses.
At the same time, the Company will continue with major infrastructure
improvements and expects to complete its year 2000 readiness project in a timely
manner.
In April 1999, the Company announced the creation of a new business unit,
eFunds. This business unit will be comprised of eFunds Corporation (f/k/a Deluxe
Electronic Payment Systems, Inc.), Debit Bureau(SM)Bureau (SM), Chex Systems, Inc., Deluxe
Payment Protection Systems, Inc. and eFunds Corporation,Tustin, which was acquired in
February 1999, under a single management group. The Company believes that
combining these businesses into a single integrated unit will provide
opportunities for revenue and profit growth in excess of what would have been
generated had they continued to operate independently. The Company also
announced that it plans to reduce its Corporate support group and will be moving
some Corporate resources into the Company's operating units in order to enable
them to operate more independently. The implementation of this initiative could
lead to a restructuring charge in future periods. The transition to this new
business model is expected to be completed by January 1, 2000. In addition, the
Company has stated that it will be selling National Revenue Corporation, the
Company's collection business, as it does not fit into the Company's new
business model.
16
In April 1999, the Company's Board of Directors authorized the repurchase of up
to 10 million shares of the Company's Common Stock. Through JuneSeptember 30, 1999,
the Company purchased 4.24.7 million of the 10 million shares. Market conditions
permitting and depending on the amount of cash available to the Company for this
purpose and its other investment opportunities, additional share repurchases
could occur in the second halffourth quarter of 1999.
The Company's Government Services businessCompany has recently been notified that the prime contractor for a number of
states and state coalitions for which the Company's Deluxe Government Services
business provides switching services does not intend to renew its switching
agreement with the Company. The Company is currently negotiating with the
contractor regarding the timing and 15
cost of this transition and the subsequent
conversion of the switching services to a third party. The Company will adjust
the $36.4 million charge described in footnoteNote 11 to the Notes to Consolidated Financial
Statements when the results of these negotiations are reasonably estimable, but
it is likelypossible that the loss of this contractagreement and revenue stream will require
the Company to record an additional accrual.
Item 3. Quantitative and Qualitative Disclosure About Market Risk
As of JuneSeptember 30, 1999, the Company had an investment portfolio of fixed
income securities, excluding those classified as cash and cash equivalents, of
$41.2$38.9 million. These securities, like all fixed income instruments, are subject
to interest rate risk and will decline in value if market interest rates
increase. However, the Company has the ability to hold its fixed income
investments until maturity and therefore would not expect to recognize an
adverse impact on net income or cash flows in such an event.
The Company operates internationally, and so it is subject to potentially
adverse movements in foreign currency rate changes. The Company does not enter
into foreign exchange forward contracts to reduce its exposure to foreign
currency rate changes on intercompany foreign currency denominated balance sheet
positions. Historically, the effect of movements in the exchange rates have not
been material to the consolidated operating results of the Company.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
During 1997, a $30 million judgment was entered against Deluxe Electronic
Payment Systems, Inc. (DEPS), in the U.S. District Court for the Western
District of Pennsylvania. The case was brought against DEPS by Mellon Bank
(Mellon) in connection with a potential bid to provide electronic benefit
transfer services for the Southern Alliance of States. In January 1999, the
Company's appeal of this judgment was denied by the Third Circuit Court of
Appeals and the Company paid $32.2 million to Mellon in February 1999. The
Company's petition for a further review of this judgement was denied by the
United States Supreme Court in June 1999.
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its annual shareholders' meeting on May 4, 1999:
66,957,083 shares were represented (84.32% of the 79,405,544 shares
outstanding and entitled to vote at the meeting). Two items were considered at
the meeting and the results of the voting were as follows:
1. Election of Directors:
The nominees listed in the proxy statement were: John A. Blanchard III, Dr.
James J. Renier, Barbara B. Grogan, Stephen P. Nachtsheim, Calvin W. Aurand,
Jr., Donald R. Hollis, Robert C. Salipante, Jack Robinson and Hatim A. Tyabji.
The results were as follows:
Election of Directors For Withold
- --------------------- --- -------
John A. Blanchard III 66,314,199 642,884
Dr. James J. Renier 66,341,614 615,469
Barbara B. Grogan 66,350,544 606,539
Stephen P. Nachtsheim 66,353,847 603,236
Calvin W. Aurand, Jr. 66,341,540 615,543
16
Donald R. Hollis 66,352,098 604,985
Robert C. Salipante 66,334,262 622,821
Jack Robinson 66,347,965 609,118
Hatim A. Tyabji 66,342,636 614,447
2. Ratification of appointment of Deloitte & Touche LLP as Independent
auditors:
For: 66,543,579
Against: 119,019
Abstain: 294,485
Item 5. Other Information
RISK FACTORS AND CAUTIONARY STATEMENTS.
When used in this Quarterly Report on Form 10-Q and in future filings by the
Company with the Securities and Exchange Commission, in the Company's press
releases and in oral statements made by the Company's representatives, the words
or phrases "should result," "are expected to," "targeted," "will continue,"
"will approximate," "is anticipated," "estimate," "project" or similar
expressions are intended to identify "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. These
statements are necessarily subject to certain risks and uncertainties, including
those discussed below, that could cause actual results to differ materially from
the Company's historical experience and its present expectations or projections.
Caution should be taken not to place undue reliance on any such forward-looking
statements, which speak only as of the date made. The factors listed below could
affect the Company's financial performance and could cause the Company's actual
results for future periods to differ from any opinions or statements expressed
with respect thereto. Such differences could be material and adverse.
The Company will not undertake and specifically declines any obligation to
publicly release the result of any revisions which may be made to any
forward-looking statements to reflect events or circumstances occurring after
the date of such statements or to reflect the occurrence of anticipated or
unanticipated events. This discussion supersedes the discussion in Item 5 of the
Company's Quarterly Report on Form 10-Q for the quarter ended March 31,June 30, 1999.
Earnings Estimates; Cost Reductions. From time to time, representatives of the
Company may make predictions or forecasts regarding the Company's future
results, including estimated earnings or earnings from operations. Any forecast,
including the Company's current statements that it expects to achieve a minimum
of 11 percent annual growth in earnings in 1999 and 2000, report record
operating earnings in 1999 and that it has a target of generating cumulative
EBITDA (earnings before interest, income taxes, depreciation and amortization)
in excess of $2.3 billion over the next five years, regarding the Company's
future performance reflects various assumptions. These assumptions are subject
to significant uncertainties, and,
17
as a matter of course, many of them will prove to be incorrect. Further, the
achievement of any forecast depends on numerous factors (including those
described in this discussion), many of which are beyond the Company's control.
In addition, it is not expected that the earnings growth projected for 1999 and
2000 will be representative of results that may be achieved in subsequent years.
As a result, there can be no assurance that the Company's performance will be
consistent with any management forecasts or that the variation from such
forecasts will not be material and adverse. Investors are cautioned not to base
their entire analysis of the Company's business and prospects upon isolated
predictions, but instead are encouraged to utilize the entire available mix of
historical and forward-looking information made available by the Company, and
other information affecting the Company and its products, when evaluating the
Company's prospective results of operations.
17
In addition, representatives of the Company may occasionally comment on the
perceived reasonableness of published reports by independent analysts regarding
the Company's projected future performance. Such comments should not be
interpreted as an endorsement or adoption of any given estimate or range of
estimates or the assumptions and methodologies upon which such estimates are
based. Generally speaking the Company does not make public its own internal
projections, budgets or estimates. Undue reliance should not be placed on any
comments regarding the conformity, or lack thereof, of any independent estimates
with the Company's own present expectations regarding its future results of
operations. The methodologies employed by the Company in arriving at its own
internal projections and the approaches taken by independent analysts in making
their estimates are likely different in many significant respects. Although the
Company may presently perceive a given estimate to be reasonable, changes in the
Company's business, market conditions or the general economic climate may have
varying effects on the results obtained through the use of differing analyses
and assumptions. The Company expressly disclaims any continuing responsibility
to advise analysts or the public markets of its view regarding the current
accuracy of the published estimates of outside analysts. Persons relying on such
estimates should pursue their own independent investigation and analysis of
their accuracy and the reasonableness of the assumptions on which they are
based.
Recent Strategic Initiatives. The Company has recently announced the creation of
eFunds, a new business unit comprised of eFunds Corporation (f/k/a Deluxe
Electronic Payment Systems, Inc.), Debit Bureau(SM), Chex Systems, Inc., Deluxe
Payment Protection Systems, Inc. and eFunds Corporation.Tustin. It is hoped that combining
these businesses into a single business unit will increase their opportunities
for revenue and profit growth. The Company has also announced an intention to
transfer certain resources and responsibilities from its corporate group to its
operating units in an effort to enable them to more efficiently respond to
market opportunities and conditions. In many respects, however, theThe precise benefits, if any, that may
result from these initiatives cannot presently be quantified. Further,
accomplishing the goals of the reorganization is dependent upon identifying and
developing new products and services, some or all of which may be directed at
markets not now served by the Company. The successful execution of this strategy
is also dependant upon identifying and retaining personnel and third parties
with the expertise needed to develop and implement the Company's strategic
initiatives. Portions of the initiative may also involve identifying and
reaching agreements with strategic alliance partners and acquisition targets.
Unexpected delays are common in endeavors of this type and can arise from a
variety of sources, many of which will likely have been unanticipated. The
likelihood that the reorganization will achieve its goal of incrementally
increasing the revenues and profits of the businesses included in the eFunds
business unit must be considered in light of the problems, expenses,
complications and delays frequently encountered in connection with the
development and execution of new business initiatives and the competitive,
rapidly changing environment in which eFunds will operate. As a result, although
the Company has set annual revenue growth targets for its eFunds business unit
at 20 percent for the years 2000 and 2001, and hopes to achieve higher levels of
growth in subsequent years, there can be no assurance that these targets will in
fact be achieved. In addition, the implementation of these initiatives could
lead to a restructuring charge in an amount that, although not yet quantified,
may be material.
iDLX Technology Partners. There can be no assurance that the services proposed
to be offered by the Company's iDLX Technology Partners (iDLX) business unit
will achieve market acceptance in either the United States or India. To date,
the operations of iDLX have not been profitable. In addition, the Company has
only limited operational experience in India. The successful development of iDLX
is subject to all of the risks inherent in the establishment of a new business
enterprise, including the absence of an extended operating history, reliance on
key personnel, a need to attract and retain qualified employees in a highly
competitive labor market, a competitive environment characterized by numerous
well-established and well-capitalized competitors and the risk that the
reputation of the business could be more adversely affected by any
18
customer service issues or problems than would be the case with a more
established firm. Further, in developing iDLX, the Company faces additional
complexities arising from the maintenance of certain of its functions in India.
In addition to the normal complications that arise in connection with the
management of remote locations, operations in foreign countries are subject to
numerous potential obstacles including, among other things, cultural
differences, political unrest, export controls, governmental interference or
regulation (both domestic and foreign), currency fluctuations, personnel issues
and varying competitive conditions. There can be no assurance that one or more
of these factors, or additional causes or influences, many of which are likely
to have been unanticipated and beyond the ability of the Company to control,
will not operate to inhibit the success of iDLX. As a result, there can be no
assurance that this business unit will achieve its announced 1999 and 2000
revenue targets of $25 million and $50 million, respectively (excluding
intercompany sales), or that this unit will ever generate significant revenues
or profits or provide an adequate return on the Company's investment.
Debit Bureau(SM). The Company has announced its intention to offer decision
support tools and information to retailers and financial institutions that offer
or accept direct debit-based products, such as checking accounts, ATM cards,
debit cards and Internet payments. To date, this effort has primarily been
directed towards the creation of the supporting data warehouse and research
regarding the utility and value of the data available to the Company for use in
this area. There can be no assurance that the Company's Debit Bureau(SM)
initiative will result in the introduction of a significant number of new
products or services or that any new products or services introduced by the
Company will generate revenues in material amounts. In any event, the continued
development of Debit Bureau(SM) is expected to require a significant level of
investment by the Company.
IDDA Initiative. The Company has recently announced a initiative to develop an
Internet demand deposit account opening product. This product is not yet fully
operational. Unanticipated delays and expenses are common in these types of
product development efforts and there can be no assurance that the Company's
planned development schedule will be achieved. Further, even if the product is
successfully developed, there can be no assurance that the system will achieve
widespread market acceptance or generate incremental revenues in material
accounts. In addition, even if the product is successfully completed,
technological change occurs at a rapid pace in the Internet applications area,
and there can be no assurance that competing products or systems will not be
introduced that will narrow or limit the market for the Company's system or
render it obsolete.
Share Repurchase Program. In April 1999, the Board of Directors of the Company
authorized the repurchase of up to 10,000,000 shares of the Company's Common
Stock. Through JuneSeptember 30, 1999, the Company has purchased 4.24.7 million of the
shares included in this authorization. The completion of this program is,
however, dependant upon market conditions, including the availability of a
sufficient number of shares at prices determined by management of the Company to
be reasonable, the amount of cash available to the Company for this purpose and
the Company's other investment opportunities. Accordingly, if appropriate
conditions or circumstances do not prevail during the planned repurchase period,
the Company will not purchase the entire allotment of shares authorized by the
Board.
Timing and Amount of Anticipated Cost Reductions. With regard to the results of
the Company's ongoing cost reduction efforts (including the Company's current
review of its SG&A expense levels), there can be no assurance that the projected
annual cost savings will be fully realized or will be achieved within the time
periods expected. The implementation of the printing plant closures upon which
some of the anticipated savings depend is, in large part, dependent upon the
successful development of the software needed to streamline the check ordering
process and redistribute the resultant order flow among the Company's remaining
printing plants.plants and the implementation schedules of the Company's customers. The
Company has previously experienced unanticipated delays in the planned roll-out
of its on-line ordering system. Althoughsystem and Year 2000 moratoriums by the Company again
began convertingCompany's
customers to this new system inhave delayed the fourth quarter of 1998 and
believes that the delays it has experienced in the past will not materially
affect its currentCompany's original plant closing schedule, thereschedule. There can
be no assurances such will
be the case or that additional sources of delays will not be encountered
18
because of the complexities inherent in the development of software products as
sophisticated as those needed to accomplish this task.encountered. Any
such event could adversely affect the planned consolidation of the Company's
printing facilities and the achievement of the expected productivity
improvements and delay the realization or reduce the amount of the anticipated
expense reductions.
In addition, the achievement of the targeted level of cost savings is dependent
upon the successful execution of a variety of other cost reduction strategies
throughout the Company's operations. These additional efforts include the
consolidation of the Company's purchasing process and certain administrative and
sales support organizations, headcount reductions and other efforts. The optimum
means of realizing many of these strategies is being evaluated by the Company in
view of the Company's recent efforts to transfer certain resources and
responsibilities from its corporate group to its operating units. The
19
goodwill amortization associated with the Company's recent acquisitions of
eFunds CorporationTustin and the remaining 50 percent ownership interest in its joint
venture with HCL Corporation of India, as well as any future acquisitions, may
also act to offset some of the benefits sought to be achieved through this
program. Unexpected delays, complicating factors and other hindrances are common
in the implementation of these types of endeavors and can arise from a variety
of sources, some of which are likely to have been unanticipated. The Company may
also incur additional charges against its earnings in connection with future
programs. A failure to timely achieve one or more of the Company's primary cost
reduction objectives could materially reduce the benefit to the Company of its
cost savings programs and strategies or substantially delay the full realization
of their expected benefits.
Further, there can be no assurance that increased expenses attributable to other
areas of the Company's operations or to increases in raw material, labor,
equipment or other costs will not offset some or all of the savings expected to
be achieved through the cost reduction efforts. Competitive pressures and other
market factors may also require the Company to share the benefit of some or all
of any savings with its customers or otherwise adversely affect the prices it
receives or the market for its products. As a result, even if the expected cost
reductions are fully achieved in a timely manner, such reductions are not likely
to be fully reflected by commensurate gains in the Company's net income, cash
position, dividend rate or the price of its Common Stock.
Other Dispositions and Acquisitions. In connection with its ongoing
restructuring and growth initiatives, the Company may also consider divesting or
discontinuing the operations of various business units and assets and the
Company may undertake one or more significant acquisitions. Any such divestiture
or discontinuance could result in write-offswrite offs by the Company, some or all of
which could be significant. In addition, a significant acquisition could result
in future earnings dilution for the Company's shareholders. Acquisitions
accounted for as a purchase transaction could also adversely affect the
Company's reported future earnings due to the amortization of the goodwill and
other intangibles associated with the purchase.
The Company has announced its intention to divest National Revenue Corporation,
the Company's collection business. This sale is currently expected to be
completed in the fourth quarter of 1999 or early 2000. Delays and unforeseen
difficulties are, however, common in transactions of this type and so there can
be no assurance that this sale schedule can be achieved.
Competition. Although the Company believes it is the leading check printer in
the United States, it faces considerable competition from other smaller
companies in both its traditional sales channel to financial institutions and
from direct mail sellers of checks. From time to time, one or more of these
competitors reduce the prices of their products in an attempt to gain volume.
The corresponding pricing pressure placed on the Company has resulted in reduced
profit margins for the Company's check printing business in the past and similar
pressures can reasonably be expected in the future. The Company has also
experienced some loss of business due to its refusal to meet competitive prices
that fell below the Company's revenue and profitability per unit targets. The
timing and amount of reduced revenues and profits that may result from these
competitive pressures is not ascertainable.
Check printing is, and is expected to continue to be, an essential part of the
Company's business and the principal source of its operating income for at least
the next several years. A wide variety of alternative payment delivery systems,
including credit cards, debit cards, smart cards, ATM machines, direct deposit,
electronic and other bill paying services, home banking applications and
Internet-based payment services, are in various stages of maturity or
development and additional systems will likely be introduced. The Company
believes that there will continue to be a substantial market for checks for the
foreseeable future, although a reduction in the volume of checks used by
consumers is expected. The rate and the extent to which alternative payment
methods will achieve consumer acceptance and replace checks cannot, however, be
predicted with certainty. A surge in the popularity of any of these alternative
payment methods could have a material, adverse effect on the demand for the
Company's primary products and its account verification and payment protection
services. Although the Company believes that its recent acquisition of eFunds
CorporationTustin may contribute to the continued viability of the paper
19
check as a payment
mechanism by accelerating processing times and reducing processing costs, there
can be no assurance that the check conversion technology developed by this new
subsidiary and its competitors will achieve widespread acceptance or have a
measurable impact on the sales volume of the Company's principal products.
20
The introduction of the alternative payment methodologies described above has
also resulted in an increased interest by third parties in transaction
processing, authorization and verification, as well as other methods of
effecting electronic payments, as a source of revenue, whichrevenue. This increased interest
level has led to increased competition for the Company's transaction processing
and authorization businesses. The payment processing industry is characterized
by continuously evolving technology and intense competition. Many participants
in the industry have substantially greater capital resources and research and
development capabilities than the Company. There can be no assurance that the
Company's competitors and potential competitors will not succeed in developing
and marketing technologies, services or products that are more accepted in the
marketplace than those offered or envisioned by the Company. Such a development
could result in the loss of significant customers by the Company's eFunds
business unit, render the Company's technology and proposed products obsolete or
noncompetitive or otherwise materially hinder the achievement of the growth
targets established for this business unit. Initiatives that may be undertaken
by the Company in connection with Internet commerce-based activities would be
particularly susceptible to these types of competitive risks and the rapid
development and deployment of Internet technologies, products and services may
present unanticipated competitive risks to the Company's current business that
may be material and adverse.
Effect of Financial Institution Consolidation. There is an ongoing trend towards
increasingRecent consolidation within the
banking industry that has resulted in increased competition and consequent pressure
on check prices. This concentration greatly increases the importance to the
Company of retaining its major customers and attracting significant additional
customers in an increasingly competitive environment. Although the Company
devotes considerable efforts towards the development of a competitively priced,
high quality suite of products for the financial services industry, there can be
no assurance that significant customers will not be lost or that any such loss
can be counterbalanced through the addition of new customers or by expanded
sales to the Company's remaining customers.
iDLX Technology Partners. There can be no assurance that the services proposed
to be offered by the Company's iDLX Technology Partners (iDLX) business unit
will achieve market acceptance in either the United States or India. To date,
the operations of iDLX have not been profitable. In addition, the Company has
only limited operational experience in India. The successful development of iDLX
is subject to all of the risks inherent in the establishment of a new business
enterprise, including the absence of an extended operating history, reliance on
key personnel, a need to attract and retain qualified employees in a highly
competitive labor market, a competitive environment characterized by numerous
well-established and well-capitalized competitors and the risk that the
reputation of the business could be more adversely affected by any customer
service issues or problems than would be the case with a more established firm.
Further, in developing iDLX, the Company faces additional complexities arising
from the maintenance of certain of its functions in India. In addition to the
normal complications that arise in connection with the management of remote
locations, operations in foreign countries are subject to numerous potential
obstacles including, among other things, cultural differences, political unrest,
export controls, governmental interference or regulation (both domestic and
foreign), currency fluctuations, personnel issues and varying competitive
conditions. There can be no assurance that one or more of these factors, or
additional causes or influences, many of which are likely to have been
unanticipated and beyond the ability of the Company to control, will not operate
to inhibit the success of iDLX. As a result, there can be no assurance that this
business unit will achieve its announced 1999 revenue target of $25 million or
that this unit will ever generate significant revenues or profits or provide an
adequate return on the Company's investment.
Revised Analytic Approach. The Company has announced that it is applying a new
methodology for evaluating the Company's projected return on various forms of
investment. The use of this methodology represents a revised analytic approach
by the Company and the long-term benefits to be derived therefrom cannot
presently be precisely determined.
Raw Material, Postage Costs and Delivery Costs. Increases in the price of paper
and the cost of postage can adversely affect the profitability of the Company's
printing and mail order business.businesses. Events such as the 1997 UPS strike can also
adversely impact the Company's margins by imposing higher delivery costs.
Competitive pressures and overall trends in the marketplace may have the effect
of inhibiting the Company's ability to reflect increased costs of production or
delivery in the retail prices of its products.
20
Debit Bureau(SM). The Company has announced its intention to offer decision
support tools and information to retailers and financial institutions that offer
or accept direct debit-based products, such as checking accounts, ATM cards,
debit cards and Internet payments. To date, this effort has primarily been
directed towards the creation of the supporting data warehouse and research
regarding the utility and value of the data available to the Company for use in
this area. There can be no assurance that the Company's Debit Bureau(SM)
initiative will result in the introduction of a significant number of new
products or services or that any new products or services introduced by the
Company will generate revenues in material amounts. In any event, the continued
development of Debit Bureau(SM) is expected to require a significant level of
investment by the Company.
Limited Source of Supply. The Company's check printing business utilizes a paper
printing plate material that is available from only a limited number of sources.
The Company believes it has a reliable source of supply for this material and
that it maintains an inventory sufficient to avoid any production disruptions in
the event of an interruption of its supply. In the event, however, that the
Company's current supplier becomes unwilling or unable to supply the required
printing plate material at an acceptable price and the Company is unable to
locate a suitable alternative source within a reasonable time frame, the Company
would be forced to convert its facilities to an alternative printing process.
Any such conversion would require the unanticipated investment of significant
sums and there can be no assurance that the conversion could be accomplished
without production delays.
Year 2000 Readiness Disclosure. In 1996, the Company initiated a company-wide
program to prepare its computer systems, applications and embedded chip
equipment for the year 2000 and to evaluate the readiness of its third-party
suppliers/customers for the millennium date change. Although the Company
presently believes that with the planned modifications to existing systems and
the replacement or retirement of other systems, the year 2000 compliance issue
will be resolved in a timely manner and will not pose significant operational
problems for the Company, there can be no absolute assurances in this regard.
The Company's business operations, as well as its ability to provide products
and services to its customers without undue delay or interruption, could be at
risk in the event unanticipated year 2000 issues arise. In addition, there can
be no absolute assurances that unanticipated expenses related to the Company's
ongoing year 2000 compliance efforts will not be incurred. The Company has
communicated with its key suppliers and customers to determine their year 2000
readiness and the extent to which the Company is vulnerable to any third party
year 2000 issues. There can be no guarantee, however, that the systems of other
companies on which the Company's systems rely will be converted in a timely
manner or in a manner that is compatible with the Company's systems. A failure
by such a company to convert their systems
21
in a timely manner or a conversion that renders such systems incompatible with
those of the Company could have a material adverse effect on the Company and
there can be no assurance that any contingency plans developed by the Company
will adequately mitigate the effects of any third party noncompliance. In
addition, it is unrealistic to assume that the Company could remain unaffected
if the year 2000 issue results in a widespread economic downturn. Also, itIt is also
possible that the Company's insurance carriers could assert that its existing
liability insurance programs do not cover liabilities arising out of any
operational problems associated with the advent of the year 2000.
21
Further, although the Company's operations in India are not material to its
business taken as a whole, it is reasonable to expect that disruptions caused by
Year 2000 issues are more likely to occur in nations with a less well developed
technology infrastructure. The Company believes it has developed appropriate
contingency plans and remedial procedures for its Indian operations in the event
of Year 2000 problems, but these plans and procedures could prove unsuccessful
in the event of widespread or long-term disruptions caused by the millennium
date change. In such an event, the Company would be required to develop
long-term business resumption plans and procedures for its Indian operations and
would likely incur expenditures that are not presently anticipated.
NEW 14a-4 NOTICE DEADLINE
Under the Company's amended Bylaws, the Company's Board of Directors may exclude
proposals (including director nominations) from consideration at its annual
shareholder's meeting if such proposals are not submitted on or before a date
(the "Notice Date") at least 120 days prior to the date the Company's proxy
statement was released to shareholders in connection with the previous year's
annual meeting of shareholders. In addition, the proxies solicited by the
Company's Board of Directors may confer discretionary authority upon the persons
named therein to vote upon any matter submitted for consideration at any regular
meeting of shareholders (without discussion of the matter in the Company's proxy
statement) if the Company does not receive proper notice of such mater prior to
the Notice Date. The Notice Date applicable to the Company's 2000 annual meeting
of shareholders is December 3, 1999.
Item 6. Exhibits and Reports on Form 8-K
(a) The following exhibits are filed as part of this report:
Exhibit No. Description Method of Filing
----------- ----------- ----------------
3.1 Articles of Incorporation *
(incorporated by * reference to Exhibit
3(A) to the Company's Annual Report on
Form 10-K for the year ended December
31, 1990)
3.2 Bylaws (as amended August 5, 1999) Filed herewith
4.1 Amended and Restated Rights Agreement, *
dated as * of January 31, 1997, by and
between the Company and Norwest Bank
Minnesota, National Association, as
Rights Agent, which includes as
Exhibit A thereto, the form of Rights
Certificate (incorporated by reference
to Exhibit 4.1 to the Company's
Amendment No. 1 on Form 8-A/A-1 (File
No. 001-07945) filed with the
Securities and Exchange Commission
(the "Commission") on February 7,
1997).
22
4.2 Indenture, relating to up to *
$150,000,000 of * debt securities
(incorporated by reference to Exhibit
4.1 to the Company's Registration
Statement on Form S-3 (33-32279) filed
with the Commission on November 24,
1989).
4.3 Amended and Restated Credit Agreement, *
dated as * of July 8, 1997, among the
Company, Bank of America National
Trust and Savings Association, as
agent, and the other financial
institutions party thereto related to
a $150,000,000 committed line of
credit (incorporated by reference to
Exhibit 4.3 to the Company's Annual
Report on Form 10-K for the year ended
December 31, 1997).
12.24.4 Credit Agreement, dated as of August Filed herewith
30, 1999, among the Company, Bank of
America, N.A., as the sole and
exclusive administrative agent, and
the other financial institutions party
thereto related to a $500,000,000
revolving credit agreement.
12.3 Computation of Ratio of Earnings to Fixed Filed herewith
Fixed Charges
27.227.3 Financial Data Schedule Filed herewith
----------------------
*Incorporated by reference
22(b) The registrant did not, and was not required to, file any reports on
form 8-K during the quarter for which this report was filed.
23
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DELUXE CORPORATION
(Registrant)
Date August 16,November 12, 1999 /s/ J. A. Blanchard III
-------------------------------------------------------------------------
J.A. Blanchard III, President
and Chief Executive Officer
(Principal Executive Officer)
Date August 16,November 12, 1999 /s/ Thomas W. VanHimbergen
-------------------------------------------------------------------------
Thomas W. VanHimbergen
Executive Vice President and
Chief Financial Officer
(Principal Financial Officer)
2324
INDEX TO EXHIBITS
Exhibit No. Description Page Number
- ----------- ----------- -----------
3.2 Bylaws 12.2(as amended August 5, 1999)
4.4 Credit Agreement, dated as of August 30,
1999, among the Company, Bank of America,
N.A., as the sole and exclusive
administrative agent, and the other
financial institutions party thereto
related to a $500,000,000 revolving credit
agreement.
12.3 Computation of Ratio of Earnings to Fixed
Charges
27.227.3 Financial Data Schedule
2425