FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2000
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 1-4717
KANSAS CITY SOUTHERN INDUSTRIES, INC.
(Exact name of Company as specified in its charter)
Delaware 44-0663509
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
114 West 11th Street, Kansas City, Missouri 64105
(Address of principal executive offices) (Zip Code)
(816) 983-1303
(Company's telephone number, including area code)
No Changes
(Former name, former address and former fiscal year,
if changed since last report.)
Indicate by check mark whether the Company (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 Company was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at August 10, 2000
- ------------------------------------------------------------------------------
Common Stock, $.01 per share par value 58,071,566 Shares
- ------------------------------------------------------------------------------
KANSAS CITY SOUTHERN INDUSTRIES, INC.
FORM 10-Q
JUNE 30, 2000
INDEX
Page
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Introductory Comments 2
Consolidated Condensed Balance Sheets -
June 30, 2000 and December 31, 1999 3
Consolidated Condensed Statements of Income and Comprehensive Income -
Three and Six Months Ended June 30, 2000 and 1999 4
Computation of Basic and Diluted Earnings per Common Share 4
Consolidated Condensed Statements of Cash Flows -
Six Months Ended June 30, 2000 and 1999 5
Notes to Consolidated Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 15
Item 3. Qualitative and Quantitative Disclosures About Market Risk 30
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 31
Item 4. Submission of Matters to a Vote of Security Holders 31
Item 6. Exhibits and Reports on Form 8-K 32
SIGNATURES 33
- ----------
2
KANSAS CITY SOUTHERN INDUSTRIES, INC.
FORM 10-Q
JUNE 30, 2000
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
INTRODUCTORY COMMENTS
The Consolidated Condensed Financial Statements included herein have been
prepared by Kansas City Southern Industries, Inc. ("Company" or "KCSI"), without
audit, pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations, although the Company believes that the disclosures are adequate to
enable a reasonable understanding of the information presented. These
Consolidated Condensed Financial Statements should be read in conjunction with
the financial statements and the notes thereto, as well as Management's
Discussion and Analysis of Financial Condition and Results of Operations,
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1999, and Management's Discussion and Analysis of Financial Condition and
Results of Operations included in this Form 10-Q. Results for the three and six
months ended June 30, 2000 are not necessarily indicative of the results
expected for the full year 2000.
On June 14, 2000 KCSI's Board of Directors approved the spin-off of Stilwell
Financial Inc. ("Stilwell"), the Company's wholly-owned financial services
subsidiary. Stilwell is comprised of Janus Capital Corporation, an approximate
81.5% owned subsidiary; Berger LLC, an approximate 86% owned subsidiary; Nelson
Money Managers Plc, an 80% owned subsidiary; DST Systems, Inc., an equity
investment in which Stilwell holds an approximate 32% interest; and
miscellaneous other financial services subsidiaries and equity investments.
On July 12, 2000, KCSI completed its spin-off of Stilwell through a special
dividend of Stilwell common stock distributed to KCSI common stockholders of
record on June 28, 2000 ("Spin-off"). The Spin-off occurred after the close of
business of the New York Stock Exchange on July 12, 2000, and each KCSI
stockholder received two shares of the common stock of Stilwell for every one
share of KCSI common stock owned on the record date. The total number of
Stilwell shares distributed was 222,999,786.
Also on July 12, 2000, KCSI completed a reverse stock split whereby every two
shares of KCSI common stock was converted into one share of KCSI common stock.
All periods presented in the accompanying consolidated condensed financial
statements reflect this one-for-two reverse stock split, which had previously
been approved by KCSI common stockholders.
As a result of the Spin-off, the accompanying consolidated condensed financial
statements for each of the periods presented reflect the financial position,
results of operations and cash flows of Stilwell as discontinued operations.
3
KANSAS CITY SOUTHERN INDUSTRIES, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(Dollars in Millions)
(Unaudited)
June 30, December 31,
2000 1999
-------- --------
ASSETS
Current Assets:
Cash and equivalents $ 34.1 $ 11.9
Accounts receivable, net 124.9 132.2
Inventories 34.2 40.6
Other current assets 21.4 23.8
-------- --------
Total current assets 214.6 208.5
Investments held for operating purposes 355.8 337.1
Properties (net of $604.8 and $578.0 accumulated
depreciation and amortization, respectively) 1,302.3 1,277.4
Other Assets 42.7 34.4
Net Assets of Discontinued Operations
(Stilwell Financial Inc.) 1,041.8 814.6
-------- ---------
Total assets $2,957.2 $ 2,672.0
======== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Debt due within one year $ 213.7 $ 10.9
Accounts and wages payable 50.6 74.8
Accrued liabilities 152.4 168.5
-------- --------
Total current liabilities 416.7 254.2
-------- --------
Other Liabilities:
Long-term debt 467.8 750.0
Deferred income taxes 310.3 297.4
Other deferred credits 84.6 87.3
-------- --------
Total other liabilities 862.7 1,134.7
-------- --------
Stockholders' Equity:
Preferred stock 6.1 6.1
Common stock 1.1 1.1
Retained earnings 1,559.5 1,167.0
Accumulated other comprehensive income 111.1 108.9
-------- --------
Total stockholders' equity 1,677.8 1,283.1
-------- --------
Total liabilities and stockholders' equity $2,957.2 $ 2,672.0
======== =========
See accompanying notes to consolidated condensed financial statements.
4
KANSAS CITY SOUTHERN INDUSTRIES, INC.
-------------------------------------
CONSOLIDATED CONDENSED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME
(Dollars in Millions, Except per Share Data)
(Unaudited)
Three Months Six Months
Ended June 30, Ended June 30,
----------------- ---------------
2000 1999 2000 1999
------- ------- ------ --------
Revenues $ 144.4 $ 148.7 $ 293.3 $ 300.6
Costs and expenses 111.7 114.6 228.3 227.8
Depreciation and amortization 14.3 14.4 28.6 28.7
------- -------- ------- --------
Operating Income 18.4 19.7 36.4 44.1
Equity in net earnings of
unconsolidated affiliates:
Grupo Transportacion Ferroviaria
Mexicana, S.A. de C.V. 8.0 0.5 16.2 1.0
Other 1.2 1.6 1.8 2.2
Interest expense (18.4) (14.6) (35.9) (28.6)
Other, net 0.9 1.0 3.6 1.9
------- -------- ------- --------
Income from continuing operations
before income taxes 10.1 8.2 22.1 20.6
Income tax provision 1.3 3.0 2.9 7.8
------- -------- ------- --------
Income from continuing operations 8.8 5.2 19.2 12.8
Income from discontinued
operations (Note 3) 151.7 70.9 340.4 131.9
------- -------- ------- --------
Income before extraordinary item 160.5 76.1 359.6 144.7
Extraordinary item, net of income taxes
Debt retirement costs - - (5.9) -
------- -------- ------- --------
Net income 160.5 76.1 353.7 144.7
Other comprehensive income,
net of tax: (0.9) 17.0 2.2 15.9
------- -------- ------- --------
Comprehensive Income $ 159.6 $ 93.1 $ 355.9 $ 160.6
======= ======== ======= ========
Per Share Data (i)
Basic Earnings per Common share
Continuing operations $ 0.16 $ 0.09 $ 0.34 $ 0.23
Discontinued operations 2.72 1.29 6.12 2.40
------- -------- ------- --------
Basic Earnings per Common share
before extraordinary item 2.88 1.38 6.46 2.63
Extraordinary item,
net of income taxes - - (0.10) -
------- -------- ------- --------
Total Basic Earnings per
Common share $ 2.88 $ 1.38 $ 6.36 $ 2.63
======= ======== ======= ========
Diluted Earnings per Common share
Continuing operations $ 0.15 $ 0.09 $ 0.33 $ 0.22
Discontinued operations 2.59 1.22 5.82 2.28
------- -------- ------- --------
Diluted Earnings per Common share
before extraordinary item 2.74 1.31 6.15 2.50
Extraordinary item, net of
income taxes - - (0.10) -
------- -------- ------- --------
Total Diluted Earnings per
Common share $ 2.74 $ 1.31 $ 6.05 $ 2.50
======= ======== ======= ========
Weighted Average Common Shares Outstanding (in thousands)
Basic 55,724 55,127 55,624 55,039
Dilutive potential common shares 1,890 1,940 1,915 1,928
------- -------- ------- --------
Diluted 57,614 57,067 57,539 56,967
Dividends Per Share:
Per Preferred share $ .25 $ .25 $ .50 $ .50
Per Common share - .08 - .16
(i)On July 12, 2000, KCSI completed a reverse stock split of its common shares
whereby every two shares of KCSI common stock was converted into one share of
KCSI common stock. The Per Share Data herein reflects this reverse stock
split for all periods presented.
See accompanying notes to consolidated condensed financial statements.
5
KANSAS CITY SOUTHERN INDUSTRIES, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Dollars in Millions)
(Unaudited)
Six Months
Ended June 30,
-------------------
2000 1999
-------- -------
CASH FLOWS PROVIDED BY (USED FOR):
OPERATING ACTIVITIES:
Net income $ 353.7 $ 144.7
Adjustments to reconcile net income to net cash
from continuing operations
Income from discontinued operations (340.4) (131.9)
Depreciation and amortization 28.6 28.7
Deferred income taxes 13.4 20.2
Equity in undistributed earnings of
unconsolidated affiliates (18.0) (3.2)
Dividend from Stilwell - 56.6
Gain on sale of assets (2.3) (0.1)
Extraordinary item, net of tax 4.6
Changes in working capital items:
Accounts receivable 7.4 6.0
Inventories 6.4 (3.3)
Other current assets 1.8 0.8
Accounts and wages payable (18.0) (22.6)
Accrued liabilities (11.4) 23.7
Other, net 2.4 (1.7)
-------- -------
Net cash provided by operating activities of
continuing operations 28.2 117.9
-------- -------
INVESTING ACTIVITIES:
Property acquisitions (54.5) (35.2)
Proceeds from disposal of property 3.7 0.4
Investment in and loans with affiliates (1.5) 15.9
Other, net 0.7 (4.7)
-------- --------
Net cash used for investing activities of
continuing operations (51.6) (23.6)
-------- -------
FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt 794.0 31.8
Repayment of long-term debt (750.5) (45.6)
Proceeds from stock plans 23.1 35.5
Stock repurchased - (23.7)
Debt issuance costs (13.4) -
Cash dividends paid (4.8) (13.4)
Other, net (2.8) 3.6
-------- -------
Net cash provided by (used for) financing
activities of continuing operations 45.6 (11.8)
-------- --------
CASH AND EQUIVALENTS:
Net increase in cash provided by
continuing operations 22.2 82.5
At beginning of year 11.9 5.6
-------- -------
At end of period $ 34.1 $ 88.1
======== =======
See accompanying notes to consolidated condensed financial statements.
6
KANSAS CITY SOUTHERN INDUSTRIES, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
1. In the opinion of the management of Kansas City Southern Industries, Inc.
("Company" or "KCSI"), the accompanying unaudited consolidated condensed
financial statements contain all adjustments (consisting of normal closing
procedures) necessary to present fairly the financial position of the Company
and its subsidiary companies as of June 30, 2000 and December 31, 1999, the
results of operations for the three and six months ended June 30, 2000 and 1999,
and cash flows for the six months ended June 30, 2000 and 1999.
2. The accompanying consolidated condensed financial statements have been
prepared consistently with accounting policies described in Note 2 to the
consolidated financial statements included in the Company's Annual Report on
Form 10-K for the year ended December 31, 1999. The results of operations for
the three and six months ended June 30, 2000 are not necessarily indicative of
the results to be expected for the full year 2000. Certain 1999 information has
been reclassified to conform to the current period presentation.
3. On June 14, 2000 KCSI's Board of Directors approved the spin-off of Stilwell
Financial Inc. ("Stilwell"), the Company's wholly-owned financial services
subsidiary. Stilwell is comprised of Janus Capital Corporation, an approximate
81.5% owned subsidiary; Berger LLC, an approximate 86% owned subsidiary; Nelson
Money Managers Plc, an 80% owned subsidiary; DST Systems, Inc., an equity
investment in which Stilwell holds an approximate 32% interest; and
miscellaneous other financial services subsidiaries and equity investments.
On July 12, 2000, KCSI completed its spin-off of Stilwell through a special
dividend of Stilwell common stock distributed to KCSI common stockholders of
record on June 28, 2000 ("Spin-off"). The Spin-off occurred after the close of
business of the New York Stock Exchange on July 12, 2000, and each KCSI
stockholder received two shares of the common stock of Stilwell for every one
share of KCSI common stock owned on the record date. The total number of
Stilwell shares distributed was 222,999,786.
As previously disclosed, on July 9, 1999, KCSI received a tax ruling from the
Internal Revenue Service ("IRS") which states that for United States federal
income tax purposes the Spin-off qualifies as a tax-free distribution under
Section 355 of the Internal Revenue Code of 1986, as amended. Additionally, in
February 2000, the Company received a favorable supplementary tax ruling from
the IRS which allowed for the assumption of $125 million of KCSI indebtedness by
Stilwell, which had no effect on the previously issued tax ruling.
Also on July 12, 2000, KCSI completed a reverse stock split whereby every two
shares of KCSI common stock was converted into one share of KCSI common stock.
All periods presented in the accompanying consolidated condensed financial
statements reflect this one-for-two reverse stock split, which had previously
been approved by KCSI common stockholders.
As a result of the Spin-off, the accompanying consolidated condensed financial
statements for each of the periods presented reflect the financial position,
results of operations and cash flows of Stilwell as discontinued operations. If
the Spin-off had occurred as of June 30, 2000, the assets and stockholders'
equity of the Company would have been reduced by $1,041.8 million.
Summarized financial information of Stilwell is as follows:
7
Three months Six months
ended June 30, ended June 30,
----------------- ------------------
2000 1999 2000 1999
-------- ------- -------- --------
Revenues $ 563.0 $ 282.2 $1,108.1 $ 515.5
Operating expenses 307.2 166.7 607.4 302.8
-------- -------- -------- --------
Operating income 255.8 115.5 500.7 212.7
Equity in earnings of unconsolidated
affiliates 15.8 11.3 34.6 22.5
Gain on litigation settlement - - 44.2 -
Gain on sale of Janus common stock - - 15.1 -
Pretax income 281.8 130.4 612.1 242.7
Income tax provision 102.3 46.8 216.6 86.9
Minority interest in consolidated
earnings 27.8 12.7 55.1 23.9
Income from discontinued
operations, net of income taxes $ 151.7 $ 70.9 $ 340.4 $ 131.9
-------- -------- -------- --------
June 30, December 31,
2000 1999
---------- ----------
Current assets $ 728.7 $ 525.0
Total assets 1,558.3 1,231.5
Current liabilities 210.1 162.5
Total liabilities 431.8 359.6
Minority interest 84.7 57.3
Net assets of discontinued operations $1,041.8 $ 814.6
4. In preparation for the Spin-off, the Company re-capitalized its debt
structure in January 2000 through a series of transactions as follows:
Bond Tender and Other Debt Repayment. On December 6, 1999, KCSI commenced offers
to purchase and consent solicitations with respect to any and all of the
Company's outstanding 7.875% Notes due July 1, 2002, 6.625% Notes due March 1,
2005, 8.8% Debentures due July 1, 2022, and 7% Debentures due December 15, 2025
(collectively "Debt Securities" or "notes and debentures").
Approximately $398.4 million of the $400 million outstanding Debt Securities
were validly tendered and accepted by the Company. Total consideration paid for
the repurchase of these outstanding notes and debentures was $401.2 million.
Funding for the repurchase of these Debt Securities and for the repayment of
$264 million of borrowings under then-existing revolving credit facilities was
obtained from two new credit facilities (the "KCS Credit Facility" and the
"Stilwell Credit Facility", or collectively "New Credit Facilities"), each of
which was entered into on January 11, 2000. These New Credit Facilities, as
described further below, provided for total commitments of $950 million.
In first quarter 2000, the Company reported an extraordinary loss on the
extinguishment of the Company's notes and debentures of approximately $5.9
million, net of income taxes of approximately $3.2 million.
KCS Credit Facility. The KCS Credit Facility provides for a total commitment of
$750 million, comprised of three separate term loans totaling $600 million with
$200 million due January 11, 2001, $150 million due December 30, 2005 and $250
million due December 30, 2006 and a revolving credit facility available until
January 11, 2006 ("KCS Revolver"). The availability under the KCS Revolver is
$150 million and will be reduced to $100 million on January 2, 2001. Letters
8
of credit are also available under the KCS Revolver up to a limit of $90
million. Borrowings under the KCS Credit Facility are secured by substantially
all of KCSI's remaining assets (after the Spin-off).
On January 11, 2000, KCSR borrowed the full amount ($600 million) of the term
loans and used the proceeds to repurchase the Debt Securities, retire other debt
obligations and pay related fees and expenses. No funds were initially borrowed
under the KCS Revolver. Proceeds of future borrowings under the KCS Revolver are
to be used for working capital and for other general corporate purposes. The
letters of credit under the KCS Revolver may be used for general corporate
purposes.
Interest on the outstanding loans under the KCS Credit Facility shall accrue at
a rate per annum based on the London interbank offered rate ("LIBOR") or the
prime rate, as the Company shall select. Each loan shall accrue interest at the
selected rate plus the applicable margin, which will be determined by the type
of loan. Until the term loan maturing in 2001 is repaid in full, the term loans
maturing in 2001 and 2005 and all loans under the KCS Revolver will have an
applicable margin of 2.75% per annum for LIBOR priced loans and 1.75% per annum
for prime rate priced loans and the term loan maturing in 2006 will have an
applicable margin of 3.00% per annum for LIBOR priced loans and 2.00% per annum
for prime rate based loans. The interest rate with respect to the term loan
maturing in 2001 is also subject to 0.25% per annum interest rate increases
every three months until such term loan is paid in full, at which time, the
applicable margins for all other loans will be reduced and may fluctuate based
on the leverage ratio of the Company at that time.
The KCS Credit Facility requires the payment to the banks of a commitment fee of
0.50% per annum on the average daily, unused amount of the KCS Revolver.
Additionally a fee equal to a per annum rate equal to 0.25% plus the applicable
margin for LIBOR priced revolving loans will be paid on any letter of credit
issued under the KCS Credit Facility. The KCS Credit Facility contains certain
covenants, among others, as follows: i) restricts the payment of cash dividends
to common stockholders; ii) limits annual capital expenditures; iii) requires
hedging instruments with respect to at least 50% of the outstanding balances of
each of the term loans maturing in 2005 and 2006 to mitigate interest rate risk
associated with the new variable rate debt; and iv) provides leverage ratio and
interest coverage ratio requirements typical of this type of debt instrument.
These covenants, along with other provisions, could restrict maximum utilization
of the facility. Issue costs relating to the KCS Credit Facility of
approximately $17.6 million were deferred and are being amortized on a
straight-line basis over the respective term of the loans. The difference
between the straight-line method and interest method of amortization is not
material.
In accordance with the provision requiring the Company to manage its interest
rate risk through hedging activity, in first quarter 2000 the Company entered
into five separate interest rate cap agreements for an aggregate notional amount
of $200 million expiring on various dates in 2002. The interest rate caps are
linked to LIBOR. $100 million of the aggregate notional amount provides a cap on
the Company's interest rate of 7.25% plus the applicable spread, while $100
million limits the interest rate to 7% plus the applicable spread.
Counterparties to the interest rate cap agreements are major financial
institutions who also participate in the New Credit Facilities. The Company
believes that credit loss from counterparty non-performance is remote.
Stilwell Credit Facility. On January 11, 2000, KCSI also arranged a new $200
million 364-day senior unsecured competitive Advance/Revolving Credit Facility
("Stilwell Credit Facility"). KCSI borrowed $125 million under this facility and
used the proceeds to retire debt obligations as discussed above. Stilwell
assumed this credit facility, including the $125 million borrowed thereunder,
and upon completion of the Spin-off, KCSI was released from all obligations
thereunder. Stilwell repaid the $125 million in March 2000.
9
5. The effect of stock options to employees represent the only difference
between the weighted average shares used for the basic earnings per share
computation compared to the diluted earnings per share computation. The total
incremental shares from assumed conversion of stock options included in the
computation of diluted earnings per share were 1,890,109 and 1,914,631,
respectively, for the three and six-month periods ended June 30, 2000, and
1,939,806 and 1,927,909, respectively, for the three and six-month periods ended
June 30, 1999. For each of the three and six-month periods ended June 30, 2000,
options to purchase 6,414 shares of KCSI common stock were excluded from the
respective computation of diluted earnings per share because the exercise prices
exceeded the average market prices of the common shares. There were options to
purchase 44,750 and 22,375 shares excluded from the diluted earnings per share
calculations for the three and six-month periods ended June 30, 1999,
respectively, because the exercise prices exceeded the average market prices of
the common shares.
The only adjustments that currently affect the numerator of the Company's
diluted earnings per share computation include preferred dividends and
potentially dilutive securities at certain subsidiaries and affiliates.
Adjustments related to potentially dilutive securities totaled $2.7 million and
$5.0 million for the three and six-month periods ended June 30, 2000,
respectively, and $1.0 million and $1.8 million for the three and six-month
periods ended June 30, 1999, respectively. These adjustments relate to
securities at certain Stilwell subsidiaries and affiliates and affect the
diluted earnings per share from discontinued operations computation in the
periods presented. Preferred dividends are the only adjustments that affect the
numerator of the diluted earnings per share from continuing operations
computation. Adjustments related to preferred dividends were not material for
the periods presented.
Effect of Spin-off on Existing Stock Options
The Emerging Issues Task Force of the Financial Accounting Standards Board
("EITF"), in its Issue No. 90-9, "Changes to Fixed Employee Stock Option Plans
as a Result of Equity Restructuring" ("EITF 90-9") addresses the issues
surrounding fixed stock option plans resulting from an equity restructuring,
including spin-offs. EITF 90-9 indicates that changes to fixed stock option
grants made to restore the option holder's economic position as a result of a
spin-off do not result in additional compensation expense if certain criteria
are met as follows: i) aggregate intrinsic value (difference between the market
value per share and exercise price) of the options immediately after the change
is not greater than the aggregate intrinsic value of the options immediately
before the change; ii) the ratio of the exercise price per option to the market
value per share is not reduced; and iii) the vesting provisions and option
period of the original option grant remain the same.
As part of the Spin-off, each holder of an option to purchase one share of KCSI
common stock received options to purchase two shares of Stilwell common stock.
The option exercise price for the KCSI and Stilwell stock options was prorated
based on the market value for KCSI and Stilwell common stock on the date of the
Spin-off.
The changes made to the Company's fixed stock option grants as a result of the
Spin-off resulted in the option holder having the same economic position both
before and after the Spin-off. In accordance with the provisions of EITF 90-9,
the Company, therefore, did not record additional compensation expense.
Restricted Stock and Incentive Option Plan
Subsequent to the Spin-off, KCSI adopted a restricted stock and option incentive
plan for its management employees. Under this plan, all management employees
were provided the opportunity to purchase a certain number of restricted shares
of KCSI and were also granted KCSI stock options. The number of shares available
for purchase and the number of options granted were based on the compensation
level of the employee. These shares and options are restricted from sale for a
period of three years for senior management and two years for other management
employees. The exercise price of the stock options is based on the mean price on
the date the restricted shares were purchased. KCSI provided senior management
with the option of using a
10
sixty-day interest-bearing full recourse note to purchase these restricted
shares. As of July 31, 2000, the Company had outstanding loans due from senior
management of approximately $2.2 million related to these restricted stock
purchases. These loans accrue interest at 6.49% and are due and payable on
September 13, 2000.
As of August 4, 2000, management employees have purchased 469,744 shares of KCSI
restricted stock and 904,844 corresponding stock options have been granted.
These restricted shares and options do not affect the earnings per share
computations for the three and six-month periods ended June 30, 2000; however,
they will effect future period earnings per share computations.
6. The Company's inventories primarily consist of materials and supplies
related to rail transportation.
7. Investments in unconsolidated affiliates and certain other investments
accounted for under the equity method generally include all entities in which
the Company or its subsidiaries have significant influence, but not more than
50% voting control. Investments in unconsolidated affiliates at June 30, 2000
include, among others, equity interests in Grupo Transportacion Ferroviaria
Mexicana, S.A. de C.V. ("Grupo TFM"), Southern Capital Corporation, LLC
("Southern Capital"), Mexrail, Inc. ("Mexrail") and the Panama Canal Railway
Company.
The Company is party to certain agreements with Transportacion
Maritima Mexicana, S.A. de C.V. ("TMM") covering the Grupo TFM and Mexrail
ventures. TMM (together with certain of its affiliates) owns approximately 38.4%
of Grupo TFM and 51% of Mexrail. These agreements contain "change in control"
provisions, provisions intended to preserve the Company's and TMM's
proportionate ownership of the ventures, and super majority provisions with
respect to voting on certain significant transactions. Such agreements also
provide a right of first refusal in the event that either party initiates a
divestiture of its equity interest in Grupo TFM or Mexrail. Under certain
circumstances, such agreements could affect the Company's ownership percentage
and rights in these equity affiliates.
Condensed financial information of certain unconsolidated affiliates is shown
below. Financial information of immaterial unconsolidated affiliates has been
omitted:
Financial Condition (dollars in millions):
June 30, 2000 December 31, 1999
------------------------------ --------------------------
Southern Southern
Mexrail Grupo TFM (a)Capital Mexrail Grupo TFM (a)Capital
Current assets $ 30.2 $ 157.4 $ 1.6 $ 23.9 $ 134.4 $ 0.1
Non-current assets 43.1 1,888.2 267.7 43.6 1,905.7 274.6
------- --------- -------- ------- -------- ------
Assets $ 73.3 $ 2,045.6 $ 269.3 $ 67.5 $2,040.1 $274.7
======= ========= ======== ======= ======== ======
Current liabilities $ 33.3 $ 230.1 $ 1.1 $ 33.3 $ 255.9 $ -
Non-current liabilities 7.8 644.2 210.4 5.7 672.9 218.5
Minority interest - 356.1 - - 343.9 -
Equity of stockholders
and partners 32.2 815.2 57.8 28.5 767.4 56.2
------- --------- -------- ------- -------- ------
Liabilities and
equity $ 73.3 $ 2,045.6 $ 269.3 $ 67.5 $2,040.1 $274.7
======= ========= ======== ======= ======== ======
KCSI's investment $ 13.6 $ 302.4 $ 28.9 $ 13.7 $ 286.5 $ 28.1
======= ========= ======== ======= ======== ======
11
Operating Results (dollars in millions):
Three Months Six Months
Ended June 30, Ended June 30,
-------------------- ------------------
2000 1999 2000 1999
-------------------- ------------------
Revenues:
Mexrail $ 13.7 $ 12.7 $ 26.9 $ 23.6
Grupo TFM (a) 163.3 139.2 310.0 251.7
Southern Capital 7.6 6.4 15.5 14.4
Operating costs and expenses:
Mexrail $ 12.9 $ 12.3 $ 26.1 $ 22.7
Grupo TFM (a) 110.6 100.0 217.0 188.7
Southern Capital 6.9 5.6 13.9 12.3
Net income:
Mexrail $ 0.3 $ 0.7 $ 0.1 $ 0.4
Grupo TFM (a) 19.2 1.2 39.1 2.6
Southern Capital 0.7 3.5 1.6 4.8
(a) Grupo TFM is presented on a U.S. GAAP basis.
8. For purposes of the Statement of Cash Flows, the Company considers all
short-term liquid investments with a maturity of generally three months or less
to be cash equivalents.
Supplemental Cash Flow Information (in millions):
Six Months
Ended June 30,
--------------------
2000 1999
------- --------
Interest paid (includes $2.4 and $0.9, respectively,
from discontinued operations) $ 44.5 $ 34.6
Income taxes paid (includes $174.7 and $52.3,
respectively, from discontinued operations) 148.5 39.0
Noncash Investing and Financing Activities:
In January 2000, KCSI borrowed $125 million under the Stilwell Credit Facility
to retire debt obligations as discussed in Note 4. Stilwell assumed this credit
facility and repaid the $125 million in March 2000. Upon such assumption, KCSI
was released from all obligations, and Stilwell became the sole obligor, under
the Stilwell Credit Facility. The Company's indebtedness decreased as a result
of the assumption of this indebtedness by Stilwell.
In first quarter 2000, the Company issued approximately 183,117 shares of KCSI
common stock under the Eleventh Offering of the Employee Stock Purchase Plan
("ESPP"). These shares, totaling a purchase price of approximately $6.3 million,
were subscribed and paid for through employee payroll deductions in 1999. There
were no shares of KCSI common stock issued under an offering of the ESPP during
the six months ended June 30, 1999.
The Company's Board of Directors declared a quarterly dividend of $4.6 million
in December 1999, which was paid to common stockholders in January 2000. Upon
declaration, the Company reduced retained earnings and recorded a liability for
the required payment.
Certain subsidiaries and affiliates of Stilwell (discontinued operations) hold
various investments which are accounted for as "available-for-sale" securities
as defined by Statement of Financial Accounting Standards No. 115 "Accounting
for Certain Investments in Debt and Equity Securities". The Company records its
proportionate share of any unrealized gains or losses related to these
12
investments, net of deferred income taxes, in stockholders' equity as
accumulated other comprehensive income. For the three and six-month periods
ended June 30, 2000, the Company recorded its proportionate share of the gain in
market value of these investments of $0.9 million and $5.9 million,
respectively, net of deferred taxes. For the three and six-month periods ended
June 30, 1999, the Company recorded its proportionate share of the gain in
market value of these investments of $18.0 million and $17.9 million,
respectively, net of deferred income taxes. Subsequent to the Spin-off, the
Company does not expect to hold investments that are accounted for as
"available-for-sale" securities.
9. The following accounting pronouncements are not yet effective, but may have
an impact on the Company's consolidated condensed financial statements upon
adoption.
Derivative Instruments and Hedging Activities. In June 1998, the Financial
Accounting Standards Board ("FASB") issued Statement of Financial Accounting
Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities"
("SFAS 133"). SFAS 133 establishes accounting and reporting standards for
derivative financial instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. It requires recognition
of all derivatives as either assets or liabilities measured at fair value.
Initially, the effective date of SFAS 133 was for all fiscal quarters for fiscal
years beginning after June 15, 1999. In June 1999, however, the FASB issued
Statement of Financial Accounting Standards No. 137 "Accounting for Derivative
Instruments and Hedging Activities - Deferral of the Effective Date of FASB
Statement No. 133 - an amendment of FASB Statement No. 133", which deferred the
effective date of SFAS 133 for one year so that it will be effective for all
fiscal quarters of all fiscal years beginning after June 15, 2000. The Company
is reviewing the provisions of SFAS 133 and expects adoption by the required
date. The adoption of SFAS 133 with respect to existing hedge transactions
discussed below is not expected to have a material impact on the Company's
results of operations, financial position or cash flows.
The Company currently has a program to hedge against fluctuations in the price
of diesel fuel, and also enters into fuel purchase commitments from time to
time. During the six months ended June 30, 2000 the Company was party in two
diesel fuel cap transactions. Each diesel fuel transaction hedged three million
gallons of fuel at a cap price of $0.60 per gallon. These hedging instruments
expired on June 30, 2000 and March 31, 2000, respectively. The Company received
approximately $770 thousand during the six months ended June 30, 2000 related to
these diesel fuel cap transactions and recorded the proceeds as a reduction of
diesel fuel expense.
Additionally, in accordance with the provision of the KCS Credit Facility
requiring the Company to manage its interest rate risk through hedging activity,
in first quarter 2000 the Company entered into five separate interest rate cap
agreements for an aggregate notional amount of $200 million expiring on various
dates in 2002. The interest rate caps are linked to LIBOR. $100 million of the
aggregate notional amount provides a cap on the Company's interest rate of 7.25%
plus the applicable spread, while $100 million limits the interest rate to 7%
plus the applicable spread. Counterparties to the interest rate cap agreements
are major financial institutions who also participate in the New Credit
Facilities. The Company believes that credit loss from counterparty
non-performance is remote.
Further, the Company continues to evaluate alternatives with respect to
utilizing foreign currency instruments to hedge its U.S. dollar investments in
Grupo TFM as market conditions change or exchange rates fluctuate. Currently,
the Company has no outstanding foreign currency hedges.
Stock Compensation. In March 2000, the FASB issued FASB Interpretation No. 44,
"Accounting for Certain Transactions involving Stock Compensation, an
Interpretation of APB Opinion No. 25" ("FIN 44"). Since its issuance in 1972,
questions have been raised about the application of APB Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"). FIN 44 was issued to
13
clarify, among other issues: i) the definition of employee for purposes of
applying APB 25; ii) the criteria for determining whether a plan qualifies as a
non-compensatory plan; iii) the accounting consequence of various modifications
to the terms of a previously fixed stock option grant; and iv) the accounting
for an exchange of stock compensation awards in a business combination. FIN 44
also addresses the treatment of stock options in the case of spin-off
transactions and other equity restructuring. FIN 44 is effective July 1, 2000
and the Company expects to adopt its provisions during third quarter 2000. The
Company does not expect adoption of FIN 44 to have a material impact on its
results of operations, financial position or cash flows. Additionally, the
provisions of FIN 44 relating to spin-off transactions are consistent with those
of EITF 90-9, and, therefore, the Company does not expect FIN 44 to result in
any changes in the Company's accounting for stock transactions relating to the
Spin-off. See Note 5.
Cash Flow presentation of Income Tax Benefit Realized upon Exercise of
Nonqualified Stock Options. In July 2000, the EITF released Issue No. 00-15,
"Classification in the Statement of Cash Flows of the Income Tax Benefit
Realized by a Company upon Employee Exercise of a Nonqualified Stock Option"
("EITF 00-15"). Companies receive an income tax deduction for the difference
between the exercise price and the market price of a nonqualified stock option
upon exercise by the employee. There is diversity in practice as some companies
classify this tax benefit as an operating cash flow in the statement of cash
flows, while other companies classify it as a financing activity. KCSI has
historically classified this tax benefit as a financing activity in the
statement of cash flows. The consensus reached by EITF 00-15 indicates that the
income tax benefit realized upon employee exercise of nonqualified stock options
should be classified in the operating section of the statement of cash flows.
This consensus is to be adopted for quarters ending after July 20, 2000 and
comparative cash flow statements must be restated. The Company is currently
reviewing the provisions of EITF 00-15 and expects adoption in third quarter
2000. The Company expects that adoption of EITF 00-15 will result in a
reclassification of related cash flows provided by financing activities to cash
flows provided by operating activities for each period presented.
10. The Company has had no significant changes in its outstanding litigation or
other contingencies from that previously reported in the Company's Annual Report
on Form 10-K for the year ended December 31, 1999. The following provides a
discussion of the Bogalusa Cases and Duncan Case.
Bogalusa Cases. In July 1996, KCSR was named as one of twenty-seven defendants
in various lawsuits in Louisiana and Mississippi arising from the explosion of a
rail car loaded with chemicals in Bogalusa, Louisiana on October 23, 1995. As a
result of the explosion, nitrogen dioxide and oxides of nitrogen were released
into the atmosphere over parts of that town and the surrounding area causing
evacuations and injuries. Approximately 25,000 residents of Louisiana and
Mississippi have asserted claims to recover damages allegedly caused by exposure
to the chemicals.
KCSR neither owned nor leased the rail car or the rails on which it was located
at the time of the explosion in Bogalusa. KCSR did, however, move the rail car
from Jackson to Vicksburg, Mississippi, where it was loaded with chemicals, and
back to Jackson where the car was tendered to the Illinois Central Corporation
("IC"). The explosion occurred more than 15 days after the Company last
transported the rail car. The car was loaded in excess of its standard weight,
but under the car's capacity, when it was transported by the Company to
interchange with the IC.
The trial of a group of twenty plaintiffs in the Mississippi lawsuits arising
from the chemical release resulted in a jury verdict and judgment in favor of
KCSR in June 1999. The jury found that KCSR was not negligent and that the
plaintiffs had failed to prove that they were damaged. The trial of the
Louisiana class action is scheduled to commence on June 11, 2001. No date has
been scheduled for the trial of the additional plaintiffs in Mississippi.
14
KCSR believes that its exposure to liability in these cases is remote. If KCSR
were to be found liable for punitive damages in these cases, such a judgment
could have a material adverse effect on the Company's results of operations,
financial position and cash flows.
Duncan Case. In 1998, a jury in Beauregard Parish, Louisiana returned a verdict
against KCSR in the amount of $16.3 million. The Louisiana state case arose from
a railroad crossing accident which occurred at Oretta, Louisiana on September
11, 1994, in which three individuals were injured. Of the three, one was injured
fatally, one was rendered quadriplegic and the third suffered less serious
injuries.
Subsequent to the verdict, the trial court held that the plaintiffs were
entitled to interest on the judgment from the date the suit was filed, dismissed
the verdict against one defendant and reallocated the amount of that verdict to
the remaining defendants. The resulting total judgment against KCSR, together
with interest, was $27.7 million as of June 30, 2000.
On November 3, 1999, the Third Circuit Court of Appeals in Louisiana affirmed
the judgment. Review is now being sought in the Louisiana Supreme Court. On
March 24, 2000, the Louisiana Supreme Court granted KCSR's Application for a
Writ of Review regarding this case. Independent trial counsel has expressed
confidence to KCSR management that the Louisiana Supreme Court will set aside
the district court and court of appeals judgments in this case. KCSR management
believes it has meritorious defenses and that it will ultimately prevail in its
appeal to the Louisiana Supreme Court. If the verdict were to stand, however,
the judgment and interest are in excess of the Company's existing $10 million
insurance coverage for this case and could have a material adverse effect on the
Company's consolidated results of operations, financial position and cash flows.
11. Dividends Suspended for KCSI Common Stock. During first quarter 2000, the
Company's Board of Directors announced that, based upon a review of the
Company's dividend policy in conjunction with the New Credit Facilities
discussed above and in light of the anticipated Spin-off, it decided to suspend
common stock dividends of KCSI under the existing structure of the Company. This
action complies with the terms and covenants of the New Credit Facilities.
Subsequent to the Spin-off, the separate Boards of KCSI and Stilwell will
determine the appropriate dividend policy for their respective companies. It is
not anticipated, however, that KCSI will make any cash dividend payments to its
common stockholders for the foreseeable future.
15
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
OVERVIEW
The discussion set forth below, as well as other portions of this Form 10-Q,
contains comments not based upon historical fact. Such forward-looking comments
are based upon information currently available to management and management's
perception thereof as of the date of this Form 10-Q. Readers can identify these
forward-looking comments by the use of such verbs as expects, anticipates,
believes or similar verbs or conjugations of such verbs. The actual results of
operations of Kansas City Southern Industries, Inc. ("KCSI" or the "Company")
could materially differ from those indicated in forward-looking comments. The
differences could be caused by a number of factors or combination of factors
including, but not limited to, those factors identified in the Company's Current
Report on Form 8-K/A dated June 3, 1997, which is on file with the U.S.
Securities and Exchange Commission (File No. 1-4717) and is hereby incorporated
by reference herein. Readers are strongly encouraged to consider these factors
when evaluating any forward-looking comments. The Company will not update any
forward-looking comments set forth in this Form 10-Q.
The discussion herein is intended to clarify and focus on the Company's results
of operations, certain changes in its financial position, liquidity, capital
structure and business developments for the periods covered by the consolidated
condensed financial statements included under Item 1 of this Form 10-Q. This
discussion should be read in conjunction with these consolidated condensed
financial statements and the related notes thereto, and is qualified by
reference thereto.
KCSI, a Delaware Corporation organized in 1962, is a diversified holding company
with principal operations in rail transportation and financial services. As
discussed in "Recent Developments", on July 12, 2000 KCSI completed its spin-off
of Stilwell Financial Inc. ("Stilwell"), the Company's wholly-owned financial
services subsidiary. Subsequent to the spin-off of Stilwell, KCSI's principal
operations are rail transportation.
The Company supplies its various subsidiaries with managerial, legal, tax,
financial and accounting services, in addition to managing certain investments.
Kansas City Southern Lines, Inc. ("KCSL"), a wholly-owned subsidiary of KCSI, is
the holding company for all of the subsidiaries comprising the Transportation
operations. KCSL's principal subsidiaries and affiliates include, among others:
o The Kansas City Southern Railway Company ("KCSR"), a wholly-owned
subsidiary of KCSL;
o Gateway Western Railway Company ("Gateway Western"), a wholly-owned
subsidiary of KCSR;
o Grupo Transportacion Ferroviaria Mexicana, S.A. de C.V. ("Grupo
TFM"), an approximate 37% owned affiliate of KCSR. Grupo TFM owns 80%
of the common stock of TFM, S.A. de C.V. ("TFM");
o Mexrail, Inc. ("Mexrail"), a 49% owned affiliate of KCSR. Mexrail
wholly owns the Texas Mexican Railway Company ("Tex Mex");
o Southern Capital Corporation, LLC ("Southern Capital"), a 50% owned
affiliate of KCSR; and
o Panama Canal Railway Company ("PCRC"), a 42% owned affiliate of KCSR.
These businesses operate a railroad system that provides shippers with rail
freight service in key commercial and industrial markets of the United States
and Mexico.
16
RECENT DEVELOPMENTS
Spin-off of Stilwell Financial Inc.
On June 14, 2000 KCSI's Board of Directors approved the spin-off of Stilwell,
the Company's then wholly-owned financial services subsidiary. Stilwell is
comprised of Janus Capital Corporation, an approximate 81.5% owned subsidiary;
Berger LLC, an approximate 86% owned subsidiary; Nelson Money Managers Plc, an
80% owned subsidiary; DST Systems, Inc., an equity investment in which Stilwell
holds an approximate 32% interest; and miscellaneous other financial services
subsidiaries and equity investments.
On July 12, 2000, KCSI completed its spin-off of Stilwell through a special
dividend of Stilwell common stock distributed to KCSI common stockholders of
record on June 28, 2000 ("Spin-off"). The Spin-off occurred after the close of
business of the New York Stock Exchange on July 12, 2000, and each KCSI
stockholder received two shares of the common stock of Stilwell for every one
share of KCSI common stock owned on the record date. The total number of
Stilwell shares distributed was 222,999,786.
As previously disclosed, on July 9, 1999, KCSI received a tax ruling from the
Internal Revenue Service ("IRS") which states that for United States federal
income tax purposes the Spin-off qualifies as a tax-free distribution under
Section 355 of the Internal Revenue Code of 1986, as amended. Additionally, in
February 2000, the Company received a favorable supplementary tax ruling from
the IRS which allowed for the assumption of $125 million of KCSI indebtedness by
Stilwell, which had no effect on the previously issued tax ruling.
KCSI Reverse Stock Split. Also on July 12, 2000, KCSI completed a reverse stock
split whereby every two shares of KCSI common stock were converted into one
share of KCSI common stock. Earnings per share computations for each period
discussed herein reflect this one-for-two reverse stock split. KCSI common
stockholders approved this reverse stock split in 1998.
Re-capitalization of the Company's Debt Structure. In preparation for the
Spin-off, the Company re-capitalized its debt structure in January 2000 through
a series of transactions as follows:
Bond Tender and Other Debt Repayment. On December 6, 1999, KCSI commenced offers
to purchase and consent solicitations with respect to any and all of the
Company's outstanding 7.875% Notes due July 1, 2002, 6.625% Notes due March 1,
2005, 8.8% Debentures due July 1, 2022, and 7% Debentures due December 15, 2025
(collectively "Debt Securities" or "notes and debentures").
Approximately $398.4 million of the $400 million outstanding Debt Securities
were validly tendered and accepted by the Company. Total consideration paid for
the repurchase of these outstanding notes and debentures was $401.2 million.
Funding for the repurchase of these Debt Securities and for the repayment of
$264 million of borrowings under then-existing revolving credit facilities was
obtained from two new credit facilities (the "KCS Credit Facility" and the
"Stilwell Credit Facility", or collectively "New Credit Facilities"), each of
which was entered into on January 11, 2000. These New Credit Facilities, as
described further below, provided for total commitments of $950 million.
In first quarter 2000, the Company reported an extraordinary loss on the
extinguishment of the Company's notes and debentures of approximately $5.9
million, net of income taxes of approximately $3.2 million.
KCS Credit Facility. The KCS Credit Facility provides for a total commitment of
$750 million, comprised of three separate term loans totaling $600 million with
$200 million due January 11,
17
2001, $150 million due December 30, 2005 and $250 million due December 30, 2006
and a revolving credit facility available until January 11, 2006 ("KCS
Revolver"). The availability under the KCS Revolver is $150 million and will be
reduced to $100 million on January 2, 2001. Letters of credit are also available
under the KCS Revolver up to a limit of $90 million. Borrowings under the KCS
Credit Facility are secured by substantially all of KCSI's remaining assets
(after the Spin-off).
On January 11, 2000, KCSR borrowed the full amount ($600 million) of the term
loans and used the proceeds to repurchase the Debt Securities, retire other debt
obligations and pay related fees and expenses. No funds were initially borrowed
under the KCS Revolver. Proceeds of future borrowings under the KCS Revolver are
to be used for working capital and for other general corporate purposes. The
letters of credit under the KCS Revolver may be used for general corporate
purposes.
Interest on the outstanding loans under the KCS Credit Facility shall accrue at
a rate per annum based on the London interbank offered rate ("LIBOR") or the
prime rate, as the Company shall select. Each loan shall accrue interest at the
selected rate plus the applicable margin, which will be determined by the type
of loan. Until the term loan maturing in 2001 is repaid in full, the term loans
maturing in 2001 and 2005 and all loans under the KCS Revolver will have an
applicable margin of 2.75% per annum for LIBOR priced loans and 1.75% per annum
for prime rate priced loans and the term loan maturing in 2006 will have an
applicable margin of 3.00% per annum for LIBOR priced loans and 2.00% per annum
for prime rate based loans. The interest rate with respect to the term loan
maturing in 2001 is also subject to 0.25% per annum interest rate increases
every three months until such term loan is paid in full, at which time, the
applicable margins for all other loans will be reduced and may fluctuate based
on the leverage ratio of the Company at that time.
The KCS Credit Facility requires the payment to the banks of a commitment fee of
0.50% per annum on the average daily, unused amount of the KCS Revolver.
Additionally a fee equal to a per annum rate equal to 0.25% plus the applicable
margin for LIBOR priced revolving loans will be paid on any letter of credit
issued under the KCS Credit Facility. The KCS Credit Facility contains certain
covenants, among others, as follows: i) restricts the payment of cash dividends
to common stockholders; ii) limits annual capital expenditures; iii) requires
hedging instruments with respect to at least 50% of the outstanding balances of
each of the term loans maturing in 2005 and 2006 to mitigate interest rate risk
associated with the new variable rate debt; and iv) provides leverage ratio and
interest coverage ratio requirements typical to agreements of this type and
companies with current credit characteristics. These covenants, along with other
provisions could restrict maximum utilization of the facility. Issue costs
relating to the KCS Credit Facility of approximately $17.6 million were deferred
and are being amortized on a straight-line basis over the respective term of the
loans. The difference between the straight-line method and interest method of
amortization is not material.
In accordance with the provision requiring the Company to manage its interest
rate risk through hedging activity, in first quarter 2000 the Company entered
into five separate interest rate cap agreements for an aggregate notional amount
of $200 million expiring on various dates in 2002. The interest rate caps are
linked to LIBOR. $100 million of the aggregate notional amount provides a cap on
the Company's interest rate of 7.25% plus the applicable spread, while $100
million limits the interest rate to 7% plus the applicable spread.
Counterparties to the interest rate cap agreements are major financial
institutions who also participate in the New Credit Facilities. The Company
believes that credit loss from counterparty non-performance is remote.
Stilwell Credit Facility. On January 11, 2000, KCSI also arranged a new $200
million 364-day senior unsecured competitive Advance/Revolving Credit Facility
("Stilwell Credit Facility"). KCSI borrowed $125 million under this facility and
used the proceeds to retire debt obligations as discussed above. Stilwell
assumed this credit facility, including the $125 million borrowed
18
thereunder, and upon completion of the Spin-off, KCSI was released from all
obligations thereunder. Stilwell repaid the $125 million in March 2000.
Dividends Suspended for KCSI Common Stock. During first quarter 2000, the
Company's Board of Directors announced that, based upon a review of the
Company's dividend policy in conjunction with the New Credit Facilities
discussed above and in light of the anticipated Spin-off, it decided to suspend
common stock dividends of KCSI under the existing structure of the Company. This
action complies with the terms and covenants of the New Credit Facilities.
Subsequent to the Spin-off, the separate Boards of KCSI and Stilwell will
determine the appropriate dividend policy for their respective companies. It is
not anticipated, however, that KCSI will make any cash dividend payments to its
common stockholders for the foreseeable future.
Expiration of the Capital Call Related to TFM. In conjunction with the financing
of TFM in 1997, the Company entered into a Capital Contribution Agreement
("Agreement") with Grupo TFM, TMM and the financing institutions of TFM. This
Agreement extended for a three year period through June 30, 2000 and outlined
the terms whereby the Company could be responsible for approximately $74 million
of a capital call if certain performance benchmarks outlined in the Agreement
were not met by TFM. On July 10, 2000 TMM announced that TFM had met or exceeded
all benchmarks included in the Agreement and that the terms of the Agreement had
expired.
Restricted Stock and Option Incentive Plan. Subsequent to the Spin-off, KCSI
adopted a restricted stock and option incentive plan for its management
employees. Under this plan, all management employees were provided the
opportunity to purchase a certain number of restricted shares of KCSI and were
also granted KCSI stock options. The number of shares available for purchase and
the number of options granted were based on the compensation level of the
employee. These shares and options are restricted from sale for a period of
three years for senior management and two years for other management employees.
The exercise price of the stock options is based on the mean price on the date
the restricted shares were purchased. KCSI provided senior management with the
option of using a sixty-day interest-bearing full recourse note to purchase
these restricted shares. As of July 31, 2000, the Company had outstanding loans
due from senior management of approximately $2.2 million related to these
restricted stock purchases. These loans accrue interest at 6.49% and are due and
payable on September 13, 2000.
As of August 4, 2000, management employees have purchased 469,744 shares of KCSI
restricted stock and 904,844 corresponding stock options have been granted.
These restricted shares and options do not affect the earnings per share
computations for the three and six-month periods ended June 30, 2000; however,
they will effect future period earnings per share computations.
RESULTS OF OPERATIONS
The Company reported second quarter 2000 income from continuing operations of
$8.8 million ($.15 per diluted share) compared to $5.2 million ($.09 per diluted
share) in second quarter 1999; a diluted earnings per share improvement of 67%.
This $3.6 million increase resulted primarily from an increase in equity
earnings of Grupo TFM of $7.5 million quarter to quarter, partially offset by a
decline in domestic operating income of $1.3 million and an increase in interest
expense of $3.8 million. The Company reported income from discontinued
operations (i.e. Stilwell) of $151.7 million ($2.59 per diluted share) in second
quarter 2000 compared to $70.9 million ($1.22 per diluted share) in second
quarter 1999, primarily due to higher average assets under management coupled
with improving operating margins quarter to quarter. The Company reported net
income of $160.5 million ($2.74 per diluted share) for second quarter 2000
versus $76.1 million ($1.31 per diluted share) in second quarter 1999.
19
For the six months ended June 30, 2000, income from continuing operations
increased $6.4 million, or 50%, to $19.2 million ($.33 per diluted share) from
$12.8 million ($.22 per diluted share) for the six months ended June 30, 1999.
Similar to second quarter results, an increase in equity earnings of Grupo TFM
of $15.2 million for the six months ended June 30, 2000 compared to the six
months ended June 30, 1999 was partially offset by a decline in domestic
operating profit of $7.7 million and an increase in interest expense of $7.3
million. Also contributing to the increase was an improvement in income tax
expense of $4.9 million due to a lower effective tax rate related to the
Company's equity earnings from Grupo TFM. The Company reported income from
discontinued operations of $340.4 million ($5.82 per diluted share) for the
first six months of 2000 compared to $131.9 million ($2.28 per diluted share) in
the same 1999 period primarily due to higher average assets under management
coupled with improving operating margins period to period.
In connection with the Company's re-capitalization of its debt structure as
discussed above in "Recent Developments", KCSI retired approximately $398
million in long-term indebtedness prior to their scheduled maturities.
Accordingly, the Company recorded extraordinary debt retirement costs of
approximately $5.9 million (net of income taxes of $3.2 million), or $.10 per
diluted share, during the six months ended June 30, 2000. Net income of the
Company was $353.7 million ($6.05 per diluted share) for the six months ended
June 30, 2000 compared to $144.7 million ($2.50 per diluted share) for the six
months ended June 30, 1999.
Continuing Operations
The discussion that follows addresses the results of operations of the
continuing operations of the Company. The revenue and expense information
presented herein for the combined KCSR/Gateway Western reflects the results of
KCSR/Gateway Western operating companies on a stand-alone basis. The results of
KCSR or Gateway Western subsidiaries and affiliates are excluded.
The following tables summarize the income statement components of the continuing
operations of the Company, provide a detailed analysis of KCSR/Gateway Western
revenues and carloads and provide a detailed analysis of KCSR/Gateway Western
expenses, as applicable, for the three and six-month periods ended June 30, 2000
and June 30, 1999, respectively (in millions):
Three Months Six Months
Ended June 30, Ended June 30,
------------------- -----------------
2000 1999 2000 1999
------- ------ ------ ------
Revenues $ 144.4 $148.7 $293.3 $300.6
Costs and expenses 111.7 114.6 228.3 227.8
Depreciation and amortization 14.3 14.4 28.6 28.7
------- ------ ------ ------
Operating income 18.4 19.7 36.4 44.1
Equity in net earnings of
unconsolidated affiliates:
Grupo TFM 8.0 0.5 16.2 1.0
Other 1.2 1.6 1.8 2.2
Interest expense (18.4) (14.6) (35.9) (28.6)
Other, net 0.9 1.0 3.6 1.9
------- ------ ------ ------
Income from continuing operations
before income taxes 10.1 8.2 22.1 20.6
Income tax provision 1.3 3.0 2.9 7.8
------- ------ ------ ------
Income from continuing operations $ 8.8 $ 5.2 $ 19.2 $ 12.8
------- ------ ------ ------
20
Carloads and
Revenues Intermodal Units
(in millions) (in thousands)
Three months Six months Three months Six months
ended June 30, ended June 30, ended June 30, ended June 30,
2000 1999 2000 1999 2000 1999 2000 1999
------- ------- ------- ------- ----- ----- ----- -----
General commodities:
Chemical and petroleum $ 32.5 $ 33.9 $ 64.5 $ 67.4 38.4 42.5 78.2 84.6
Paper and forest 27.3 26.0 53.6 51.9 41.2 42.2 82.3 83.6
Agricultural and mineral 30.0 32.0 62.5 63.4 41.8 46.0 86.1 89.5
------- ------- ------- ------- ----- ----- ----- -----
Total general commodities 89.8 91.9 180.6 182.7 121.4 130.7 246.6 257.7
Intermodal and automotive 15.7 14.5 31.1 27.3 63.5 57.6 121.3 107.6
Coal 26.1 26.6 55.2 56.3 46.6 45.6 94.5 98.4
------- ------- ------- ------- ----- ----- ----- -----
Carloads and related revenues 131.6 133.0 266.9 266.3 231.5 233.9 462.4 463.7
Other rail-related revenues 10.4 12.6 21.5 24.9
------- ------- ------- ------- ----- ----- ----- -----
Total KCSR/Gateway
Western revenues
and carloads 142.0 145.6 288.4 291.2 231.5 233.9 462.4 463.7
Other revenues 2.4 3.1 4.9 9.4
------- ------- ------- -------
Total KCSI Revenues $ 144.4 $ 148.7 $ 293.3 $ 300.6
------- ------- ------- -------
Three Months Six Months
Ended June 30, Ended June 30,
------------------ ----------------
2000 1999 2000 1999
-------- ------- -------- ------
Salaries, wages and benefits $ 46.3 $ 49.5 $ 96.1 $ 97.0
Fuel 11.0 7.7 23.1 15.9
Materials and supplies 7.9 8.9 16.1 17.8
Car Hire 4.2 5.4 6.9 10.6
Purchased services 12.0 12.2 24.9 23.0
Casualties and insurance 6.7 5.6 12.7 12.4
Operating leases 14.2 13.0 28.6 25.5
Depreciation and amortization 13.2 13.1 26.4 26.3
Other 5.6 8.3 12.5 15.3
------- ------ ------- ------
Total KCSR/Gateway Western
expenses 121.1 123.7 247.3 243.8
Other expenses 4.9 5.3 9.6 12.7
------- ------ ------- ------
Total KCSI expenses $ 126.0 $129.0 $ 256.9 $256.5
------- ------ ------- ------
Three Months Ended June 30, 2000 Compared With The Three Months
Ended June 30, 1999
Income from Continuing Operations. The Company reported income from
continuing operations of $8.8 million for the three months ended June 30, 2000
compared with $5.2 million for the three months ended June 30, 1999. This $3.6
million increase resulted primarily from an increase in equity earnings of Grupo
TFM of $7.5 million quarter to quarter, partially offset by a decline in U.S.
operating income of $1.3 million and an increase in interest expense of $3.8
million. KCSI's consolidated second quarter 2000 revenues and operating expenses
declined $4.3 million and $3.0 million, respectively, resulting in this decline
in operating income.
Revenues. Revenues for second quarter 2000 totaled $144.4 million versus
$148.7 million in 1999. This $4.3 million decrease resulted primarily from a
decrease in
21
combined KCSR and Gateway Western revenues of approximately $3.6 million due to
competitive pricing pressures and demand driven traffic declines. Although the
congestion issues that affected KCSR/Gateway Western revenues during second
quarter 1999 have been eliminated, KCSR and Gateway Western second quarter 2000
revenues were lower compared to second quarter 1999 due primarily to weakness in
the chemical and petroleum and agricultural/mineral sectors. These sector
declines were led by export grain as a result of weak demand, and soda ash due
to losses of business resulting from competitive routes. These declines were
partially offset by growth in the paper and forest products, intermodal and
intermodal businesses, along with increased yields in most lines of business.
Operating Expenses. Second quarter operating expenses decreased $3.0
million, to $126.0 million for the three months ended June 30, 2000 from $129.0
million for the three months ended June 30, 1999, in spite of diesel fuel costs,
which rose approximately 43% in second quarter 2000 compared to the same period
in 1999. This decrease was due primarily to operational efficiencies and the
easing of congestion at KCSR and Gateway Western. These operational improvements
led to a quarter over quarter decrease in salaries, wages and fringe benefits,
car hire and materials/supplies expenses. In addition to higher fuel costs,
these expense reductions were partially offset by higher lease expense
associated with 50 new locomotives leased in fourth quarter 1999. The combined
KCSR/Gateway Western operating ratio for second quarter 2000 was 84.9% compared
to 84.5% in the same 1999 period.
Interest Expense. Interest expense for the three months ended June 30,
2000 increased 26% from the prior year quarter due to higher interest rates and
amortization of debt issuance costs associated with the debt re-capitalization
in January 2000, while overall debt balances were lower.
Unconsolidated Affiliates. The Company recorded equity earnings of $9.2
million from unconsolidated affiliates for the three months ended June 30, 2000
compared to $2.1 million for the three months ended June 30, 1999. The increase
is attributed primarily to equity earnings from Grupo TFM, reflecting continued
operating improvements and the tax impact of inflation and fluctuations in the
valuation of the peso versus the U.S. dollar. Grupo TFM's operating ratio
improved to 67.7% in second quarter 2000 versus 71.9% in second quarter 1999 as
revenues increased approximately 17% quarter to quarter. Results of Grupo TFM
are reported herein on a U.S. GAAP basis.
Combined KCSR/Gateway Western Operating Results. The following provides a
comparative analysis of the revenue and expense components of KCSR/Gateway
Western operating companies for the quarter ended June 30, 2000 versus the
quarter ended June 30, 1999:
Revenues
General. Combined KCSR and Gateway Western revenues decreased
approximately $3.6 million quarter to quarter as declines in coal, chemicals and
petroleum, and agriculture and minerals were offset by increases in paper and
forest products and intermodal and automotive.
Coal. Coal revenues declined $0.5 million, or 1.9%, for the three months
ended June 30, 2000 compared with the three months ended June 30, 1999. Lower
coal revenues were primarily attributable to customer maintenance efforts for
various periods during the second quarter, which temporarily shut down several
utility plants served by KCSR. Partially offsetting these traffic declines was
the addition of a new customer, a
22
Texas Utilities electric generating plant in Martin Lake, Texas, as well as the
easing of the congestion, which affected second quarter 1999 coal revenues.
Chemical and petroleum products. For the three months ended June 30, 2000,
chemical and petroleum product revenues decreased $1.4 million, or 4.1%,
compared with the same 1999 period. This was primarily a result of lower soda
ash revenues, which declined $1.5 million, or approximately 76%, due to a merger
within the chemical industry and a new dedicated soda ash terminal opening on
the Union Pacific ("UP") railroad, which diverted soda ash movements from KCSR
to UP. Management expects soda ash revenues to remain weak during the remainder
of 2000 and into 2001.
Paper and forest products. Paper and forest product revenues increased
$1.3 million, or 5.0%, quarter to quarter. This increase is primarily due to
increased demand for pulp/paper and lumber products. Management believes that
the market for paper and forest products will continue to improve during the
remainder of 2000 compared to the weak market demand experienced in 1999.
Further, management believes there is potential for an increase in shipments to
Mexico due to higher demand for woodpulp and scrap paper, and a potential market
for lumber and panel products as frame and panel construction methods become
more widely accepted in Mexico.
Agricultural and mineral products. Agricultural and mineral product
revenues decreased $2.0 million, or 6.3%, to $30.0 million for the three months
ended June 30, 2000 versus the comparable 1999 period. This decline is primarily
due to lower export grain revenues of $1.7 million, or 64.6%, and a decrease in
military/other carloads of $1.3 million, or 46.1%. Export grain movements
continue to be impacted by competitive pricing issues and a weakness in the
export market. The decrease in military revenues quarter to quarter relate to a
National Guard move in second quarter 1999 from Camp Shelby, Mississippi to Fort
Irving, California. This move, which occurs once every eight years, resulted in
higher second quarter 1999 revenues. These declines were partially offset by a
$1.0 million increase in metal/scrap revenues due to an improvement in the
domestic oil market, which utilizes steel for oil exploration.
Intermodal and automotive. Intermodal and automotive revenues increased
$1.2 million, or 8.3%, quarter to quarter, comprised of an increase in
automotive revenues of $1.4 million partially offset by lower intermodal
revenues of $0.2 million. Lower intermodal revenues resulted primarily from the
fourth quarter 1999 closure of two intermodal facilities that were not meeting
expectations and were not profitable. These closures have resulted in lower
revenues, but also have improved operating efficiency and profitability of this
business sector. During second quarter 2000, the Company entered into a
marketing agreement with the Norfolk Southern Corporation ("NS") whereby the
Company has agreed to perform haulage services for NS from Meridian, Mississippi
to Dallas, Texas for an agreed upon haulage fee. Currently there are two trains
operating per day with the expectation that this will increase in the future.
Intermodal revenues for the last six months of 2000 are expected to increase as
a result of this haulage agreement. The Company has experienced a significant
increase in automotive revenues, which nearly doubled quarter to quarter.
Automotive traffic has increased due, in part, to an agreement reached with
General Motors for automobile parts traffic originating in the upper midwest of
the United States and terminating in Mexico. Also contributing to the increase
in automotive revenues was additional traffic handled by Gateway Western from
Mexico, Missouri to Kansas City originating from the NS. Management expects that
both intermodal and automotive revenues will increase during the remainder of
2000, primarily related to the relationships with NS and CN/IC.
23
Costs and Expenses
General. For the three months ended June 30, 2000, KCSR/Gateway Western
operating costs decreased $2.6 million from the same three month period in 1999,
largely due to lower salaries and wages, car hire and materials and supplies
expense, partially offset by an increase in fuel costs, as well as higher
locomotive lease and maintenance costs.
Salaries, Wages and Benefits. Salaries, wages and benefits expense for the
three months ended June 30, 2000 decreased $3.2 million, or 6.5%, versus the
comparable 1999 period. Wage increases to certain classes of union employees of
6% were more than offset by reduced employee counts, lower overall overtime
costs, and the use of fewer relief crews. Improvements in operating efficiencies
during second quarter 2000, as well as the absence of congestion related issues
that existed during second quarter 1999, contributed to the decline in overtime
and relief crew costs.
Fuel. For the three months ended June 30, 2000, fuel expense increased
$3.3 million, or approximately 42.9%, compared to the three months ended June
30, 1999, as a result of a 55% increase in the average fuel price per gallon,
slightly offset by an 8% decrease in fuel usage. Fuel costs represented
approximately 9.1% of total operating expenses compared to 6.2% in 1999. While
higher market prices have significantly impacted overall fuel costs, improved
fuel efficiency was achieved as a result of the lease of the 50 new locomotives
by KCSR in late 1999.
Car Hire. For second quarter 2000, car hire expense, (car hire payable,
net of receivables), declined $1.2 million, or 22.2%, compared to second quarter
1999. Net car hire costs declined as a result of lower rail cars on-line
primarily due to improved operations and the easing of congestion compared to
second quarter 1999.
Casualties and Insurance. For the three months ended June 30, 2000,
casualties and insurance expense increased $1.1 million compared with the three
months ended June 30, 1999, reflecting higher personal injury-related costs
incurred during second quarter 2000.
Operating Leases. For the quarter ending June 30, 2000, operating lease
expense increased $1.2 million, or 9.2% compared to the second quarter 1999,
primarily as a result of the 50 new GE 4400 AC locomotives leased during fourth
quarter 1999.
Depreciation and Amortization. Depreciation and amortization expense was
relatively flat for the three months ended June 30, 2000 compared to the three
months ended June 30, 1999 due to increases in the asset base offset by property
retirements.
Operating Income and Operating Ratio. Operating income for the three
months ended June 30, 2000 decreased $1.0 million, or 4.6%, compared to the same
three-month period in 1999. This decline in operating income resulted from a
2.5% decrease in revenues partially offset by a 2.1% decline in operating
expenses. These factors also resulted in a combined KCSR and Gateway Western
operating ratio of 84.9% in second quarter 2000 compared to 84.5% in second
quarter 1999.
24
Six Months Ended June 30, 2000 Compared With The Six Months Ended June 30, 1999
Income from Continuing Operations. The Company reported income from
continuing operations of $19.2 million for the six months ended June 30, 2000
compared with $12.8 million for the six months ended June 30, 1999. This $6.4
million increase resulted primarily from an increase in equity earnings of Grupo
TFM of $15.2 million period to period, partially offset by a decline in U.S.
operating income of $7.7 million and an increase in interest expense of $7.3
million. Also contributing to the increase was an improvement in income tax
expense of $4.9 million due to the lower effective tax rate related to equity
earnings from Grupo TFM as discussed above.
Revenues. Revenues totaled $293.3 million for the first six months of 2000
versus $300.6 million in the comparable period in 1999. This $7.3 million, or
2.4%, decrease resulted primarily from lower combined KCSR and Gateway Western
revenues of approximately $2.8 million. Similar to second quarter 2000, combined
KCSR and Gateway Western revenues decreased primarily due to competitive pricing
pressures and demand driven traffic declines in most major commodity groups,
partially offset by increased automotive traffic and higher yields in most lines
of business.
Operating Expenses. Operating expenses were relatively flat period to
period in spite of diesel fuel costs, which rose $7.2 million, or 45%, in the
first six months of 2000 compared to the same period in 1999. Operational
efficiencies at KCSR and Gateway Western led to a decrease in salaries and
wages, car hire and materials/supplies expense. These declines were offset by
higher fuel costs and higher lease expense associated with 50 new locomotives
leased in fourth quarter 1999.
Interest Expense. Interest expense for year to date 2000 increased $7.3
million, or nearly 26%, from the prior year due to higher interest rates and
amortization of debt issuance costs associated with the debt re-capitalization
in January 2000, while overall average debt balances were lower.
Unconsolidated Affiliates. The company recorded equity earnings of $18.0
million from unconsolidated affiliates for the six months ended June 30, 2000
compared to $3.2 million for the six months ended June 30, 1999. The increase is
attributed primarily to equity earnings from Grupo TFM, reflecting continued
operating improvements and the tax impact of inflation and fluctuations in the
valuation of the peso versus the U.S. dollar. Grupo TFM's operating ratio
improved to 70.1% for year to date 2000 versus 75.0% for the comparable 1999
period as revenues increased approximately 23% year to year.
Combined KCSR/Gateway Western Operating Results. The following provides a
comparative analysis of the revenue and expense components of KCSR/Gateway
Western operating companies for the six months ended June 30, 2000 versus the
six months ended June 30, 1999:
Revenues
General. Combined KCSR and Gateway Western revenues decreased
approximately $2.8 million period to period as declines in coal, chemicals and
petroleum, and agriculture and minerals were offset by increases in paper and
forest products and intermodal and automotive revenues.
25
Coal. Coal revenues declined $1.1 million, or 2.0%, for the six months
ended June 30, 2000 compared with the six months ended June 30, 1999. Lower unit
coal traffic resulted from the same factors as those discussed in the second
quarter analysis. These volume-related declines were partially offset by
improvements in revenue per carload due to changes in length of haul based on
deliveries to certain longer haul customers. Coal accounted for 20.7% and 21.1%
of total carload revenues for the six months ended June 30, 2000 and 1999,
respectively.
Chemical and petroleum products. For the six months ended June 30, 2000,
chemical and petroleum product revenues decreased $2.9 million, or 4.3%,
compared with the same 1999 period. This decrease results primarily from soda
ash revenues, which declined due to a new facility opened on UP's rail line as
discussed in the second quarter analysis. Chemical and petroleum products
accounted for 24.2% of total carload revenues for the six months ended June 30,
2000 versus 25.3% for the six months ended June 30, 1999.
Paper and forest products. Paper and forest product revenues increased
$1.7 million, or 3.3%, period to period as a result of an increased demand for
paper/pulp products and lumber products. This increased demand results from the
expansion of several paper mills that are directly served by KCSR. Paper and
forest products accounted for 20.1% and 19.5% of total carload revenues for the
six months ended June 30, 2000 and 1999, respectively.
Agricultural and mineral products. Agricultural and mineral product
revenues decreased $0.9 million, or 1.4%, for the six months ended June 30, 2000
compared with the six months ended June 30, 1999. Similar to second quarter
trends, this decline is comprised of lower export grain revenues due to
competitive pricing pressures and military/other revenues due to the 1999
National Guard move, as discussed in the second quarter analysis. These declines
were partially offset by higher metal/scrap revenues relating to the improvement
in the domestic oil market as discussed in the second quarter analysis.
Agricultural and mineral products accounted for 23.4% and 23.8% of the total
carload revenues for the six months ended June 30, 2000 and 1999 respectively.
Intermodal and Automotive. Intermodal and automotive revenues increased
$3.8 million, or 13.9%, for year to date 2000 compared to year to date 1999.
Similar to the second quarter trends discussed above, this improvement is
comprised of an increase in automotive revenues, which more than doubled period
to period. Intermodal and automotive revenues accounted for 11.7% and 10.3% of
total carload revenues for the six months ended June 30, 2000 and 1999,
respectively.
Costs and Expenses
General. For the six months ended June 30, 2000, KCSR/Gateway Western
operating costs increased $3.5 million from the same six-month period in 1999,
largely due to an increase in fuel costs and operating lease expenses. These
increases were partially offset by declines in salaries and wages, materials and
supplies and car hire expense, arising primarily from improved operations and
the easing of congestion.
Salaries, Wages and Benefits. Salaries, wages and benefits expense for the
six months ended June 30, 2000 decreased $0.9 million versus the comparable 1999
period. Similar to second quarter, wage increases to certain classes of union
employees were offset by reduced employee counts, lower overall overtime costs,
and the use of fewer relief crews. Improvements in operating efficiencies during
the first six months of 2000,
26
as well as the absence of congestion-related issues that existed during second
quarter 1999 contributed to the decline in overtime and relief crew costs.
Fuel. For the six months ended June 30, 2000, fuel expense increased
approximately 45.3% compared to the six months ended June 30, 1999. Similar to
second quarter trends, an increase in the average fuel price per gallon of
approximately 55% was offset by a decrease in fuel usage. Improved fuel
efficiency was achieved as a result of the lease of the 50 new fuel-efficient
locomotives by KCSR in late 1999.
Fuel costs represented approximately 9.3% of total operating expenses compared
to 6.5% in 1999.
Purchased Services. For the six months ended June 30, 2000, purchased
services expense increased $1.9 million compared to the same prior year period,
primarily as a result of maintenance contracts for the 50 new leased
locomotives.
Car Hire. For the six months ended June 30, 2000, car hire expense
declined $3.7 million, or 34.9%, compared to the same six-month period in 1999.
This improvement was driven by improved operations and the easing of congestion.
During 1999, KCSR/Gateway Western experienced significant congestion-related
issues.
Operating Leases. For the six months ended June 30, 2000, operating lease
expense increased $3.1 million, or 12.2%, compared to the six months ended June
30, 1999 primarily as a result of the 50 new GE 4400 AC locomotives leased
during fourth quarter 1999.
Depreciation and Amortization. Depreciation and amortization expense was
relatively flat for the six months ended June 30, 2000 compared to the six
months ended June 30, 1999 due to property acquisitions offset by property
retirements.
Operating Income and Operating Ratio. Operating income for the six months
ended June 30, 2000 decreased $6.3 million, or 13.3%, to $41.1 million,
resulting from a $2.8 million decrease in revenues coupled with a $3.5 million
increase in operating expenses. These factors also resulted in a combined KCSR
and Gateway Western operating ratio of 85.5% for the first six months of 2000
compared to 83.4% for the same 1999 period.
TRENDS AND OUTLOOK
The Company's second quarter and year to date 2000 diluted earnings per share
from continuing operations ($.15 and $.33, respectively) increased 67% and 50%,
respectively, compared to the same periods in 1999 ($.09 and $.22,
respectively). For both the three and six-month periods ended June 30, 2000,
increases in equity earnings related to the Company's investment in Grupo TFM
were partially offset by declines in the results of domestic operations.
Domestically, income from continuing operations was affected by lower revenues
and higher interest expense, partially mitigated by an improvement in operating
expenses, despite significantly higher fuel costs. Combined KCSR/Gateway Western
revenues declined approximately 2% during second quarter 2000 compared to second
quarter 1999 while year to date revenues declined approximately 1% period to
period. These revenue declines continue to reflect competitive pricing issues,
as well as demand driven traffic declines. Interest expense rose 26% for both
the three and six-month periods ended June 30, 2000 compared to the same prior
year periods as a result of higher interest rates and amortization of debt costs
associated with the re-capitalization, even though average debt balances were
lower. Operationally, KCSR and Gateway are operating more efficiently than in
1999 as evidenced by lower operating expenses and certain improved operating
measures, such as increased train speeds, faster coal cycle times, lower
terminal dwell times, reduced overtime hours
27
and the use of fewer relief crews. In spite of significantly higher diesel fuel
costs (which rose approximately 43% and 45% for the three and six months ended
June 30, 2000 compared to the same periods in 1999), the Company was able to
reduce operating expenses for second quarter 2000 by approximately 2%, primarily
due to operational improvements and the easing of congestion at KCSR and
Gateway. Grupo TFM results improved for both the three and six-month periods
ended June 30, 2000 due primarily to revenue growth and cost containment, as
well as the impact of fluctuations in the value of the peso and Mexican
inflation on the deferred tax calculation.
A current outlook for the Company's businesses for the remainder of 2000 is as
follows (refer to the first paragraph of "Overview" section of this Item 2,
Management's Discussion and Analysis of Financial Condition and Results of
Operations, regarding forward-looking comments):
Management expects that general commodities, intermodal and automotive
traffic will continue to be largely dependent on economic trends within
certain industries in the geographic region served by the railroads
comprising the NAFTA Railway. Based on anticipated traffic levels, revenues
are expected to increase slightly during the remainder of 2000 compared to
1999. Variable costs and expenses are expected to be at levels proportionate
with revenue activity, except for fuel expenses, which are expected to mirror
market conditions.
The 1999 congestion issues adversely affected service quality. Customers are
reacting positively to the service reliability now being provided as a result
of management's focused efforts. In the short-term, competitive pricing
issues and weak export markets for grain and chemicals will present revenue
challenges to the rail operations. However, in the longer term, management
believes that, with the effective cost controls and utilization improvements
noted, the NAFTA Railway continues to provide an attractive service for
shippers and is well-positioned to take advantage of the continued growth
potential of NAFTA traffic.
The Company expects to continue to participate in the earnings/losses from
its equity investments in Grupo TFM, Southern Capital and Mexrail. Management
does not make any assurances as to the impact that a change in the value of
the peso or a change in Mexican inflation will have on the results of Grupo
TFM.
LIQUIDITY AND CAPITAL RESOURCES
Unless otherwise indicated, the discussion that follows addresses the liquidity
and capital of the continuing operations of the Company.
Summary cash flow data for the continuing operations of the Company is as
follows (in millions):
Six Months
Ended June 30,
-------------------
2000 1999
------- -------
Cash flows provided by (used for):
Operating activities $ 28.2 $ 117.9
Investing activities (51.6) (23.6)
Financing activities 45.6 (11.8)
------- -------
Cash and equivalents:
Net increase 22.2 82.5
At beginning of year 11.9 5.6
------- -------
At end of period $ 34.1 $ 88.1
======= =======
During the six months ended June 30, 2000, the Company's consolidated cash
position increased $22.2 million from December 31, 1999. This increase resulted
primarily from income from continuing operations, proceeds from the issuance of
long-term debt and the issuance of common
28
stock under employee stock plans, partially offset by property acquisitions and
debt issuance costs. Net operating cash inflows for the six months ended June
30, 2000 were $28.2 million compared to net operating cash inflows of $117.9
million in the same 1999 period. This $89.7 million decline in operating cash
flows was mostly attributable to the 1999 receipt of a $56.6 million dividend
from Stilwell. Also contributing to the decline was the payment during 2000 of
certain accrued liabilities, including accrued interest of approximately $11.4
million related to KCSI indebtedness, as well as the decline in the contribution
of domestic operations to income from continuing operations.
Net investing cash outflows were $51.6 million during the six months ended June
30, 2000 compared to $23.6 million of net investing cash outflows during the
comparable 1999 period. This difference results primarily from higher year to
date 2000 capital expenditures and higher investments in affiliates (PCRC),
partially offset by an increase in funds received from property dispositions.
Additionally, during the six months ended June 30, 1999, Stilwell repaid $16.6
million of intercompany debt to the Company.
During the first six months of 2000, financing cash outflows were used primarily
for the repayment of debt, debt issuance costs and cash dividends. Financing
cash inflows were generated from proceeds from issuance of long-term debt and
proceeds from the issuance of common stock under stock plans.
Net financing cash inflows of $45.6 million were provided during the six months
ended June 30, 2000 compared with net financing cash outflows of $11.8 million
used during the comparable 1999 period. This was due primarily to net borrowings
of long-term debt of $43.5 million during the six months ended June 30, 2000
compared to net repayments of $13.8 million during the same 1999 period.
Additionally, during the six months ended June 30, 1999, the Company repurchased
$23.7 million of common stock compared to no repurchases during 2000. Also,
dividends paid during the six months ended June 30, 2000 were $4.8 million
compared to $13.4 million in the same 1999 period. Partially offsetting these
net increases in cash inflows was a $12.4 million period to period decline in
the proceeds received from the issuance of common stock under stock plans.
Cash flows from operations are expected to be positive during the remainder of
2000 arising from operating income, which has historically resulted in positive
operating cash flows. Investing activities will continue to use significant
amounts of cash. Future roadway improvement projects will be funded by operating
cash flows or through borrowings under the Company's existing lines of credit.
In addition to operating cash flows, subsequent to the Spin-off, the Company
will have financing available through its various lines of credit with a maximum
borrowing amount of $150 million (until January 2001 at which time the line of
credit is reduced to $100 million). As of June 30, 2000, $150 million was
available under these lines of credit. Because of certain financial covenants
contained in the credit agreements, however, maximum utilization of the
Company's available lines of credit may be restricted.
The Company also has a Universal Shelf Registration Statement ("Registration
Statement") filed in September 1993, as amended in April 1996 for $500 million.
The SEC declared the Registration Statement effective on April 22, 1996;
however, no securities have been issued. The Company has not engaged an
underwriter for these securities. Management expects that any net proceeds from
the sale of securities under the Registration Statement would be added to the
general funds of the Company and used principally for general corporate
purposes, including working capital, capital expenditures, and acquisitions of
or investments in businesses and assets.
Additionally, as discussed in "Recent Developments", the Company's debt
restructuring in January 2000 included a $200 million term loan that matures on
January 11, 2001. During second quarter 2000, the Company reclassified this $200
million term loan from long-term debt to debt due within
29
one year. This debt had previously been classified as a long-term obligation
because KCSI had the ability and intent to refinance the obligation on a
long-term basis. Following the Spin-off, a portion of the credit facility used
to support the long-term classification is no longer available. The Company
intends to refinance this term loan prior to its scheduled maturity.
In January 2000, KCSI borrowed $125 million under the Stilwell Credit Facility
to retire other debt obligations as discussed in "Recent Developments". Stilwell
assumed this credit facility and repaid the $125 million in March 2000. Upon
such assumption, KCSI was released from all obligations, and Stilwell became the
sole obligor, under the Stilwell Credit Facility. The Company's indebtedness
decreased as a result of the assumption of this indebtedness by Stilwell.
The Company believes its operating cash flows and available financing resources
are sufficient to fund working capital and other requirements for the remainder
of 2000.
The Company's consolidated debt ratio (total debt as a percent of total debt
plus equity) - including the equity of Stilwell - at June 30, 2000 was 28.9%
compared to 37.2% at December 31, 1999. The Company's debt declined $79.4
million from December 31, 1999 (to $681.5 million at June 30, 2000) as a result
of net repayments in connection with the re-capitalization discussed in "Recent
Developments" above. Stockholders' equity increased $394.7 million from December
31, 1999. This increase was due primarily to net income and the issuance of
common stock under the Employee Stock Purchase Plan and other plans. This
increase in equity, coupled with the decline in debt, resulted in a lower debt
ratio at June 30, 2000 compared to December 31, 1999.
Assuming the Spin-off had occurred as of June 30, 2000 and December 31, 1999,
the Company's debt ratio would have been 51.7% and 61.9%, respectively - a
decline of 10.2 percentage points.
Management anticipates that the debt ratio will decrease slightly during the
remainder of 2000 as a result of net repayments of indebtedness, profitable
operations and proceeds received from the issuance of stock under various stock
plans.
OTHER
Year 2000. KCSI and its subsidiaries experienced no material Year 2000 related
issues when the date moved to January 1, 2000, nor have any issues arisen as of
the date of this Form 10-Q. Although the initial transition to 2000 occurred
without adverse effects, there still exists possible Year 2000 issues for those
applications, systems, processes and system hardware that have yet to be used in
live activities and transactions. The Company continues to evaluate and pursue
discussions with its various customers, partners and vendors with respect to
Year 2000 issues. No assurance can be made that such parties will be Year 2000
ready. While the Company cannot fully determine the impact, the inability of its
computer systems to operate properly in 2000 could result in significant
difficulty in processing and completing fundamental transactions. In such
events, the Company's results of operations, financial position and cash flows
could be materially adversely affected.
While there have been no material problems during Year 2000 as of the date of
this Form 10-Q, the Company continues to evaluate the principal risks associated
with its IT and non-IT systems, as well as third party systems if they were not
to operate properly in the Year 2000. Based on work performed and information
received, the Company believes its key suppliers, customers and other
significant third party relationships were and continue to be prepared for the
Year 2000 in all material respects; however, management of the Company makes no
assurances that all such parties are Year 2000 ready.
30
The Company and its subsidiaries have identified alternative plans in the event
that the Company's Year 2000 project does not meet anticipated needs. The
Company has made alternative arrangements in the event that critical suppliers,
customers, utility providers and other significant third parties experience Year
2000 difficulties.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company has had no significant changes in its Quantitative and Qualitative
Disclosures About Market Risk from that previously reported in the Company's
Annual Report on Form 10-K for the year ended December 31, 1999.
31
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Part I, Item 1. Financial Statements, Note 10 to the Consolidated Condensed
Financial Statements of this Form 10-Q is hereby incorporated herein by
reference.
Item 4. Submission of Matters to a Vote of Security Holders
Note: Share amounts included in this Item 4 have not been restated to reflect
the one-for-two reverse stock split that occurred on July 12, 2000.
a) The Company held its 2000 Annual Meeting of Stockholders ("Annual
Meeting") on June 15, 2000. A total of 100,650,733 shares of the Common
Stock, $.01 per share par value, and Preferred Stock, par value $25.00 per
share, or 90.1% of the outstanding voting stock on the record date
(111,665,810 shares), was represented at the Annual Meeting, thereby
constituting a quorum. These shares voted together as a single class.
b) Proxies for the meeting were solicited pursuant to Regulation 14A; there
was no solicitation in opposition to management's nominees for directors
as listed in such Proxy Statement and all such nominees were elected. The
voting for the election of directors was as follows:
Total
Shares
Election of Two Directors
(i) Michael G. Fitt
For 95,748,026
Withheld 5,301,062
-----------
Total 101,049,088
===========
(ii) Michael R. Haverty
For 94,951,317
Withheld 5,301,062
-----------
Total 100,252,379
===========
c) Listed below is the other matter voted on at the Company's Annual Meeting.
This matter is fully described in the Company's Definitive Proxy
Statement. The voting was as follows:
Total
Shares
Ratification of the Board of Directors'
selection of PricewaterhouseCoopers LLP
as the Company's Independent Accountants for 2000
For 99,731,602
Against 557,430
Abstentions 361,702
Non-votes -
-----------
Total 100,650,734
===========
32
Based upon the majority of affirmative votes of the shares present at the Annual
Meeting required for approval, this matter passed.
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
Exhibit 27.1 - Financial Data Schedule
b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K dated July 12, 2000 under
Item 2, reporting the tax-free distribution of all of the outstanding
shares of common stock of Stilwell Financial Inc. ("Stilwell") to the
common stockholders of KCSI. Pro forma financial statements reflecting
the departure of Stilwell businesses from the Company's consolidation are
included with this Current Report. The Company also reported that under
Item 5, KCSI's Certificate of Incorporation was amended to effect a
one-for-two reverse stock split of KCSI Common stock.
The Company filed a Current Report on Form 8-K dated June 15, 2000 under
Item 5, reporting that the Company's Board of Directors approved the
Company's distribution of its shares of its financial service subsidiary,
Stilwell Financial Inc., to its common stockholders. The Company also
reported under Item 5 that the Securities and Exchange Commission has
declared effective the Form 10 Registration Statement for the spin-off of
Stilwell.
33
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Company
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized and in the capacities indicated on August 14, 2000.
Kansas City Southern Industries, Inc.
/s/ Robert H. Berry
Robert H. Berry
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
/s/ Louis G. Van Horn
Louis G. Van Horn
Vice President and Comptroller
(Principal Accounting Officer)