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 March 31, 1999
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 May 6, 1999
Common Stock, $.01 per share par value 110,333,717 Shares
- --------------------------------------------------------------------------------
1
KANSAS CITY SOUTHERN INDUSTRIES, INC.
-------------------------------------
FORM 10-Q
MARCH 31, 1999
INDEX
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Introductory Comments 2
Consolidated Condensed Balance Sheets -
March 31, 1999 and December 31, 1998 3
Consolidated Condensed Statements of Income -
Three Months Ended March 31, 1999 and 1998 4
Computation of Basic and Diluted Earnings per Common Share 4
Consolidated Condensed Statements of Cash Flows -
Three Months Ended March 31, 1999 and 1998 5
Notes to Consolidated Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 3. Qualitative and Quantitative Disclosures About Market Risk 25
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 26
Item 4. Submission of Matters to a Vote of Security Holders 26
Item 6. Exhibits and Reports on Form 8-K 27
SIGNATURES 28
2
KANSAS CITY SOUTHERN INDUSTRIES, INC.
FORM 10-Q
MARCH 31, 1999
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, 1998 and Management's Discussion and Analysis of Financial Condition and
Results of Operations included in this Form 10-Q. Results for the three months
ended March 31, 1999 are not necessarily indicative of the results expected for
the full year 1999.
3
KANSAS CITY SOUTHERN INDUSTRIES, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(Dollars in Millions)
(Unaudited)
March 31, December 31,
1999 1998
ASSETS
Current Assets:
Cash and equivalents $ 42.5 $ 27.2
Investments in advised funds 169.8 149.1
Accounts receivable, net 244.9 208.4
Inventories 50.5 47.0
Other current assets 29.4 37.8
----------- -----------
Total current assets 537.1 469.5
Investments held for operating purposes 717.7 707.1
Properties (net of $581.8 and $567.1 accumulated
depreciation and amortization, respectively) 1,273.1 1,266.7
Intangibles and Other Assets, net 181.3 176.4
----------- -----------
Total assets $ 2,709.2 $ 2,619.7
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Debt due within one year $ 10.9 $ 10.7
Accounts and wages payable 124.7 125.8
Accrued liabilities 191.4 159.7
----------- -----------
Total current liabilities 327.0 296.2
----------- -----------
Other Liabilities:
Long-term debt 829.0 825.6
Deferred income taxes 417.4 403.6
Other deferred credits 123.6 128.8
----------- -----------
Total other liabilities 1,370.0 1,358.0
----------- -----------
Minority Interest in consolidated subsidiaries 27.5 34.3
----------- -----------
Stockholders' Equity:
Preferred stock 6.1 6.1
Common stock 1.1 1.1
Retained earnings 903.7 849.1
Accumulated other comprehensive income 73.8 74.9
----------- -----------
Total stockholders' equity 984.7 931.2
----------- -----------
Total liabilities and stockholders' equity $ 2,709.2 $ 2,619.7
============ ============
See accompanying notes to consolidated condensed financial statements.
4
KANSAS CITY SOUTHERN INDUSTRIES, INC.
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(Dollars in Millions, Except per Share Data)
(Unaudited)
Three Months
Ended March 31,
1999 1998
Revenues $ 385.2 $ 295.7
Costs and expenses 242.5 188.5
Depreciation and amortization 21.1 16.8
--------- ----------
Operating Income 121.6 90.4
Equity in net earnings (losses) of unconsolidated affiliates:
DST Systems, Inc. 10.7 7.5
Grupo Transportacion Ferroviaria
Mexicana, S.A. de C.V. 0.5 (3.1)
Other 1.1 0.4
Interest expense (15.0) (17.4)
Other, net 5.8 6.6
--------- ----------
Pretax Income 124.7 84.4
Income tax provision 44.9 31.5
Minority interest in
consolidated earnings 11.2 6.7
--------- ----------
Net Income 68.6 46.2
Other Comprehensive Income (Loss), net of tax:
Unrealized gain (loss) on securities (0.1) 29.9
Cumulative translation adjustment (1.0) -
--------- ----------
Comprehensive Income $ 67.5 $ 76.1
========= ==========
Computation of Basic and Diluted Earnings per Common Share
Basic Earnings per Common Share $ 0.62 $ 0.43
========= ==========
Diluted Earnings per Common Share $ 0.60 $ 0.41
========= ==========
Weighted Average Common
Shares Outstanding (in thousands) 109,843 108,573
---------- ----------
Diluted Common Shares
Outstanding (in thousands) 113,675 112,353
---------- ----------
Cash Dividends Paid:
Per Preferred share $ .25 $ .25
Per Common share $ .04 $ .04
See accompanying notes to consolidated condensed financial statements.
5
KANSAS CITY SOUTHERN INDUSTRIES, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Dollars in Millions)
(Unaudited)
Three Months
Ended March 31,
1999 1998
CASH FLOWS PROVIDED BY (USED FOR):
OPERATING ACTIVITIES:
Net income $ 68.6 $ 46.2
Adjustments to net income:
Depreciation and amortization 21.1 16.8
Deferred income taxes 15.0 11.3
Equity in undistributed net earnings (12.3) (4.8)
Distributions from equity investments 0.1 5.2
Minority interest in consolidated earnings (8.4) (13.5)
Employee deferred compensation expenses (2.4) (4.0)
Changes in working capital items:
Accounts receivable (36.6) (17.1)
Inventories (3.5) 0.1
Other current assets 7.7 (11.7)
Accounts and wages payable (1.7) (5.3)
Accrued liabilities 35.6 (21.0)
Other, net (8.7) (2.9)
--------- ----------
Net 74.5 (0.7)
--------- ----------
INVESTING ACTIVITIES:
Property acquisitions (23.9) (15.1)
Proceeds from disposal of property 0.2 1.9
Investment in and loans with affiliates (1.0) -
Net (purchases) sales of investments in advised funds (18.5) 12.6
Other, net (1.3) 5.3
--------- ----------
Net (44.5) 4.7
--------- ----------
FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt 31.8 24.2
Repayment of long-term debt (28.2) (50.6)
Proceeds from stock plans 13.4 15.8
Stock repurchased (22.3) (0.6)
Cash dividends paid (8.9) (8.9)
Other, net (0.5) 2.3
--------- ----------
Net (14.7) (17.8)
--------- ----------
CASH AND EQUIVALENTS:
Net increase (decrease) 15.3 (13.8)
At beginning of year 27.2 33.5
--------- ----------
At end of period $ 42.5 $ 19.7
========= ==========
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"; "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 March 31, 1999 and December 31, 1998, and the results
of operations and cash flows for the three months ended March 31, 1999 and 1998.
2. The results of operations for the three months ended March 31, 1999 are not
necessarily indicative of the results to be expected for the full year 1999.
3. The accompanying consolidated condensed financial statements have been
prepared consistently with accounting policies described in Note 1 to the
consolidated financial statements included in the Company's Annual Report on
Form 10-K for the year ended December 31, 1998.
4. As previously disclosed, the Company announced its intention to separate the
Transportation and Financial Services segments through a proposed dividend of
the stock of a new holding company for its Financial Services businesses (the
"Separation"). In January 1999, the Company resubmitted a filing to the Internal
Revenue Service ("IRS") requesting a favorable tax ruling on the proposed
Separation. Subject to receipt of a favorable ruling from the IRS and
consideration of other relevant factors, management anticipates completion of
the Separation to occur before the end of 1999.
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. For the
three months ended March 31, 1999 and 1998, the total incremental shares from
assumed conversion of stock options was 3,832,025 and 3,780,000, respectively,
and these incremental shares were included in the computation of diluted
earnings per share. However, options to purchase 2,000 shares were excluded in
the first quarter 1998 computation because the exercise prices exceeded the
average market price of the common shares. There were no options to purchase
shares excluded in the first quarter 1999 computation.
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 subsidiaries and affiliates. These
adjustments were not material for the three months ended March 31, 1999 and
1998, respectively.
6. The Company's inventories ($50.5 million at March 31, 1999 and $47.0 million
at December 31, 1998) primarily consist of material and supplies related to rail
transportation. Other components of inventories are not material.
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 March 31, 1999
include, among others, equity interests in DST Systems, Inc. ("DST"), 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.
DST has a Stockholders' Rights Agreement, which includes provisions providing
that under certain circumstances following a "change in control" of KCSI, as
defined in DST's Stockholders' Rights Agreement, substantial dilution of the
Company's interest in DST could result. Additionally, 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 (including its affiliates) owns
approximately 38.4% of Grupo TFM and 51% of
7
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.
Combined condensed financial information of unconsolidated affiliates is shown
below:
Financial Condition (dollars in millions):
March 31, 1999 December 31, 1998
DST (a) Grupo TFM (b) Other DST (a) Grupo TFM (b) Other
Current assets $ 393.6 $ 118.8 $ 34.5 $ 375.8 $ 109.9 $ 33.1
Non-current assets 1,504.3 1,970.0 283.6 1,521.2 1,974.7 277.0
---------- ------------ -------- ---------- ----------- --------
Assets $ 1,897.9 $ 2,088.8 $ 318.1 $ 1,897.0 $ 2,084.6 $ 310.1
========== ============ ======== ========== =========== ========
Current liabilities $ 222.2 $ 254.2 $ 48.6 $ 268.6 $ 233.9 $ 48.6
Non-current liabilities 478.2 726.6 197.9 462.2 745.0 191.7
Minority interest - 343.3 - - 342.4 -
Equity of stockholders
and partners 1,197.5 764.7 71.6 1,166.2 763.3 69.8
---------- ------------ -------- ---------- ----------- --------
Liabilities and
equity $ 1,897.9 $ 2,088.8 $ 318.1 $ 1,897.0 $ 2,084.6 $ 310.1
========== ============ ======== ========== =========== ========
KCSI's investment $ 385.0 $ 285.6 $ 39.4 $ 376.0 $ 285.1 $ 38.6
========== ============ ======== ========== =========== ========
Operating Results (dollars in millions):
Three Months
Ended March 31,
1999 1998
Revenues:
DST (a) $ 292.8 $ 266.0
Grupo TFM (b) 112.5 100.0
All others 24.7 26.1
---------- ----------
Total revenues $ 430.0 $ 392.1
========== ==========
Operating costs and expenses:
DST (a) $ 242.9 $ 225.6
Grupo TFM (b) 88.7 90.7
All others 23.0 24.9
---------- ----------
Total operating costs
and expenses $ 354.6 $ 341.2
========== ==========
Net income (loss):
DST (a) $ 33.6 $ 24.1
Grupo TFM (b) 1.4 (4.1)
All others 2.2 0.4
---------- ----------
Total net income $ 37.2 $ 20.4
========== ==========
<FN>
(a) The financial condition and operating results for DST reflect the merger of
a wholly-owned DST subsidiary with USCS International, Inc. ("USCS") on
December 21, 1998. Information for prior periods has been restated to
combine the historical results of DST and USCS. The merger was accounted
for by DST as a pooling of interests.
(b) Grupo TFM is presented on a U.S. GAAP basis.
</FN>
8
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):
Three Months
Ended March 31,
1999 1998
Interest paid $ 17.3 $ 23.1
Income taxes paid 6.0 6.6
Noncash Investing and Financing Activities:
In first quarter 1998, the Company issued approximately 227,000 shares of KCSI
common stock under the Tenth Offering of the Employee Stock Purchase Plan
("ESPP"). These shares, totaling a purchase price of approximately $3.0 million,
were subscribed and paid for through employee payroll deductions in 1997. There
were no shares of KCSI common stock issued under an offering of the ESPP during
the first quarter of 1999.
Company subsidiaries and affiliates 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 investments, net of deferred taxes,
in stockholders' equity as accumulated other comprehensive income. For the three
months ended March 31, 1999, the Company recorded its proportionate share of the
decline in market value of these investments of $0.2 million ($0.1 million, net
of deferred income taxes) from December 31, 1998. For the three months ended
March 31, 1998, the Company's proportionate share of these investments increased
$48.6 million ($29.9 million, net of deferred income taxes).
9. In 1998, the Company adopted the provisions of Statement of Financial
Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and
Related Information" ("SFAS 131"). SFAS 131 establishes standards for the manner
in which public business enterprises report information about operating segments
in annual financial statements and requires disclosure of selected information
about operating segments in interim financial reports issued to shareholders.
SFAS 131 also establishes standards for related disclosures about products and
services, geographic areas and major customers. The adoption of SFAS 131 did not
have a material impact on the disclosures of the Company. Pursuant to SFAS 131,
the following provides selected interim financial information for the
Transportation and Financial Services segments (in millions):
Three Months
Ended March 31,
1999 1998
Revenues:
Transportation $ 151.9 $ 152.5
Financial Services 233.3 143.2
----------- -----------
KCSI Consolidated $ 385.2 $ 295.7
=========== ===========
Net Income:
Transportation $ 7.6 $ 9.2
Financial Services 61.0 37.0
----------- -----------
KCSI Consolidated $ 68.6 $ 46.2
=========== ===========
9
March 31, December 31,
1999 1998
Total Assets:
Transportation $ 1,810.5 $ 1,796.8
Financial Services 898.7 822.9
----------- -----------
KCSI Consolidated $ 2,709.2 $ 2,619.7
=========== ===========
Sales between segments were not material for the three months ended March 31,
1999 and 1998, respectively.
10. In June 1998, the 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. SFAS 133 is
effective for all fiscal quarters of fiscal years beginning after June 15, 1999
and should not be retroactively applied to financial statements of periods prior
to adoption.
The Company currently has a program to hedge against fluctuations in the price
of diesel fuel purchases, and also enters into fuel purchase commitments from
time to time. In addition, the Company continues to evaluate alternatives with
respect to utilizing foreign currency instruments to hedge its U.S. dollar
investments in Grupo TFM and Nelson as market conditions change or exchange
rates fluctuate. Currently, the Company has no outstanding foreign currency
hedges. 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 is not expected to have a material impact on the Company's results
of operations, financial position or cash flows.
11. As previously disclosed in the Company's Annual Report on Form 10-K for the
year ended December 31, 1998, prior to January 1, 1999, Mexico's economy was
classified as "highly inflationary" as defined in Statement of Financial
Accounting Standards No. 52 "Foreign Currency Translation" ("SFAS 52").
Accordingly, the U.S. dollar was assumed to be Grupo TFM's functional currency,
and any gains or losses from translating Grupo TFM's financial statements into
U.S. dollars were included in the determination of its net income (loss). Equity
earnings (losses) from Grupo TFM included in the Company's results of operations
reflected the Company's share of such translation gains and losses.
Effective January 1, 1999, the Securities and Exchange Commission staff declared
that Mexico should no longer be considered a highly inflationary economy.
Accordingly, the Company performed an analysis under the guidance of SFAS 52 to
determine whether the U.S. dollar or the Mexican peso should be used as the
functional currency for financial accounting and reporting purposes for periods
subsequent to December 31, 1998. Based on the results of the analysis,
management believes that the U.S. dollar is the appropriate functional currency
to use for the Company's investment in Grupo TFM; therefore, the financial
accounting and reporting of the operating results of Grupo TFM will remain
consistent with prior periods.
12. 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, 1998 other than as noted below. The
following provides an update concerning the Bogalusa Cases.
Bogalusa Cases
In July 1996, the Kansas City Railway Company ("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 allegedly causing
10
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 the rail car
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 Railroad Company ("IC"). The explosion occurred more than 15 days after
KCSR last transported the rail car. The car was loaded by the shipper in excess
of its standard weight, but under the car's capacity, when it was transported by
KCSR to interchange with the IC.
The Mississippi lawsuit from the chemical release began in the last week of
March, 1999. Since commencement of the trial, there have been no developments
that would require a change in the Company's assessment of the case.
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 financial condition of the Company.
13. See the Recent Developments section of Item 2, Management's Discussion and
Analysis of Financial Condition and Results of Operations, for significant
transactions and events that will have an impact on the Company's future results
of operations, financial position and cash flows.
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
OVERVIEW
The discussion set forth below and other portions of this Form 10-Q contain
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 their 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. ("Company" or "KCSI") 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 dated November 12, 1996, and its Amendment, Form 8-K/A dated
June 3, 1997, which have been filed with the U.S. Securities and Exchange
Commission (File No.1-4717) and are hereby incorporated by reference herein.
Readers are strongly encouraged to consider these factors when evaluating any
such 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 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 asset management.
The Company supplies its various subsidiaries with managerial, legal, tax,
financial and accounting services, in addition to managing other "non-operating"
and more passive investments.
The Company's business activities by industry segment and principal subsidiary
companies are:
Transportation - The Transportation segment consists of all
transportation-related subsidiaries and investments, including:
o The Kansas City Southern Railway Company ("KCSR"), a wholly-owned subsidiary
of the Company, operating a Class I Common Carrier railroad system;
o Gateway Western Railway Company ("Gateway Western"), an indirect wholly-owned
subsidiary of the Company, operating a regional railroad system;
o Southern Group, Inc., a wholly-owned subsidiary of KCSR, owning 100% of
Carland, Inc. and managing the loan portfolio for Southern Capital Corporation
LLC ("Southern Capital"), a 50% owned joint venture (see "Recent Developments"
for discussion of sale of loan portfolio);
o Equity investments in Southern Capital, Grupo Tranportacion Ferroviaria
Mexicana S.A. de C.V. ("Grupo TFM") a 37% owned affiliate, Mexrail Inc.
("Mexrail"), a 49% owned affiliate along with its wholly-owned subsidiary, the
Texas Mexican Railway Company ("Tex Mex"); and Panama Canal Railway Company, a
50% joint venture;
o Kansas City Southern Lines, Inc. ("KCSL"), a wholly-owned subsidiary of the
Company, serving as a holding company for Transportation-related entities; and
o Various other consolidated subsidiaries.
12
Financial Services - The Financial Services segment consists of all subsidiaries
engaged in the management of investments for mutual funds, private and other
accounts, as well as any Financial Services-related investments. Included are:
o Janus Capital Corporation ("Janus"), an 82% owned subsidiary, diluted;
o Berger Associates, Inc. ("Berger"), a 100% owned subsidiary;
o Nelson Money Managers plc ("Nelson"), an 80% owned subsidiary;
o DST Systems, Inc. ("DST"), an approximate 32% owned equity investment;
o FAM Holdings, Inc.("FAM Holdings"), a wholly-owned subsidiary of the Company,
formed on January 23, 1998 for the purpose of becoming a holding company
for financial services-related subsidiaries and affiliates; and
o Various other consolidated subsidiaries.
RECENT DEVELOPMENTS
KSU Stock added to the S&P 500 Index. On March 26, 1999, Standard and Poors
(S&P) Financial Information Services announced that it was adding Kansas City
Southern Industries, Inc. to its S&P 500 index. KCSI was added to the S&P 500
Railroads Industry group after the close of trading on April 1, 1999. Management
believes that the Company's addition to this index of leading U.S. companies
will have a positive impact on KCSI stock and help build the Company's
shareholder base.
Approval of CN/IC merger. At a voting conference held on March 25, 1999, the
Surface Transportation Board ("STB") unanimously approved the merger of Canadian
National Railway ("CN") and Illinois Central Corp. ("IC"). The STB is expected
to issue its written approval on May 25, 1999, with an effective date of June
24, 1999, at which time the CN will be permitted to exercise control over IC's
operations and assets. As part of this approval, the STB imposed certain
restrictions on the merger including a condition requiring that the CN/IC grant
KCSR access to three additional shippers in the Geismar, Louisiana industrial
area: Rubicon, Uniroyal and Vulcan. This is in addition to the three Geismar
shippers (BASF, Borden and Shell) that KCSR will have access to as a result of
its alliance agreement with CN/IC, as previously disclosed. Management believes
the access to these Geismar shippers will provide the Company with additional
revenue opportunities. The STB also denied a filing by the CN, IC and KCSR
seeking trackage rights for the Gateway Western over several miles of UP and
Norfolk Southern track in Springfield, Illinois.
Foreign Exchange Matters. As previously disclosed in the Company's Annual Report
on Form 10-K for the year ended December 31, 1998, prior to January 1, 1999,
Mexico's economy was classified as "highly inflationary" as defined in Statement
of Financial Accounting Standards No. 52 "Foreign Currency Translation" ("SFAS
52"). Accordingly, the U.S. dollar was assumed to be Grupo TFM's functional
currency, and any gains or losses from translating Grupo TFM's financial
statements into U.S. dollars were included in the determination of its net
income (loss). Equity earnings (losses) from Grupo TFM included in the Company's
results of operations reflected the Company's share of such translation gains
and losses.
Effective January 1, 1999, the Securities and Exchange Commission ("SEC") staff
declared that Mexico should no longer be considered a highly inflationary
economy. Accordingly, the Company performed an analysis under the guidance of
SFAS 52 to determine whether the U.S. dollar or the Mexican peso should be used
as the functional currency for financial accounting and reporting purposes for
periods subsequent to December 31, 1998. Based on the results of the analysis,
management believes that the U.S. dollar is the appropriate
13
functional currency to use for the Company's investment in Grupo TFM; therefore,
the financial accounting and reporting of the operating results of Grupo TFM
will remain consistent with prior periods.
Sale of loan portfolio by Southern Capital. On March 31, 1999, Southern Capital
signed an agreement to sell its portfolio of non-rail assets to Textron
Financial Corporation. The purchase price for these assets (comprised primarily
of finance receivables in the amusement and non-rail transportation industries)
is approximately $52.8 million. The purchase is expected to close in the second
quarter of 1999 and is not expected to have a material impact on the Company's
results of operations.
Repurchase of stock. As previously disclosed in the Current Report on Form 8-K
dated February 25, 1999, the Company repurchased 460,000 shares of its common
stock from The DST Systems, Inc. Employee Stock Ownership Plan (the "DST ESOP")
in a private transaction. The DST ESOP has previously sold to the Company other
shares of KCSI stock which were part of the DST ESOP's assets as a result of
DST's participation in the Company's employee stock ownership plan prior to
DST's initial public offering in 1995.
The shares were purchased at a price equal to the closing price per share of
KCSI's common stock on the New York Stock Exchange on February 24, 1999. The
shares are held in treasury for use in connection with the Company's various
employee benefit plans.
These repurchases are part of the 9,000,000 share repurchase program that the
Company's Board of Directors authorized in 1996. Including this transaction, the
Company has repurchased a total of approximately 4,100,000 shares under this
program.
Option to Purchase Mexican Government's Ownership Interest in TFM, S.A. de C.V.
("TFM"). On January 28, 1999, the Company, along with other direct and indirect
owners of TFM, entered into a preliminary agreement with the Mexican Government
("Government"). As part of that agreement, an option was granted to the Company,
Transportacion Maritima Mexicana, S.A. de C.V. ("TMM") and Grupo Servia, S.A. de
C.V. ("Grupo Servia") to purchase all or a portion of the Government's 20%
ownership interest in TFM at a discount. The option to purchase all or a portion
of the Government's interest expires on November 30, 1999. If the purchase of at
least 35% of the Government's stock is not completed by May 31, 1999, the entire
option will expire on that date. If the option is fully exercised, the Company's
additional cash investment is not expected to exceed $88 million. As part of
this agreement and as a condition to exercise this option, the parties have
agreed to settle the outstanding claims against the Government regarding a
refund of Mexican Value Added Tax (VAT) payments. TFM has also agreed to sell to
the Government a small section of redundant trackage for inclusion in another
railroad concession. In addition, under the terms of the agreement, the
Government would be released from its capital call obligations at the moment
that the option is exercised in whole or in part. Furthermore, TFM, TMM, Grupo
Servia and the Company have agreed to sell, in a public offering, a direct or
indirect participation in at least the same percentage currently represented by
the shares exercised in this option, by October 31, 2003, subject to market
conditions. The option and the other described agreements are conditioned on the
parties entering into a final written agreement and obtaining all necessary
consents and authorizations.
14
Planned Separation of the Company Business Segments. As previously disclosed,
the Company announced its intention to separate the Transportation and Financial
Services segments through a proposed dividend of the stock of a new holding
company for its Financial Services businesses (the "Separation"). In January
1999, the Company resubmitted a filing to the Internal Revenue Service ("IRS")
requesting a favorable tax ruling on the proposed Separation. Subject to receipt
of a favorable ruling from the IRS and consideration of other relevant factors,
management anticipates completion of the Separation to occur before the end of
1999.
RESULTS OF OPERATIONS
The Company's revenues, operating income and net income by industry segment are
as follows (dollars in millions):
Three Months
Ended March 31,
1999 1998
Revenues:
Transportation $ 151.9 $ 152.5
Financial Services 233.3 143.2
--------- ----------
Total $ 385.2 $ 295.7
========= ==========
Operating Income:
Transportation $ 24.4 $ 32.0
Financial Services 97.2 58.4
--------- ----------
Total $ 121.6 $ 90.4
========= ==========
Net Income:
Transportation $ 7.6 $ 9.2
Financial Services 61.0 37.0
--------- ----------
Total $ 68.6 $ 46.2
========= ==========
The Company reported first quarter 1999 consolidated earnings of $68.6 million
($0.60 per diluted share) compared to $46.2 million ($0.41 per diluted share) in
first quarter 1998. Consolidated first quarter 1999 revenues rose 30% to $385.2
million compared to first quarter 1998, fueled by higher revenues in the
Financial Services segment. Operating expenses increased approximately 29%
quarter to quarter primarily arising from increases in the Financial Services
segment. First quarter 1999 depreciation and amortization increased nearly 26%,
chiefly because of higher depreciation in the Financial Services segment arising
from 1998 infrastructure development. Operating income for the three months
ended March 31, 1999 increased to $121.6 million, more than 34% higher than the
comparable 1998 period, primarily due to the revenue growth and lower
proportionate growth in operating expenses compared to revenues in the Financial
Services segment. Equity earnings in unconsolidated affiliates improved $7.5
million, or 156%, due to higher contributions from DST and Grupo TFM. DST equity
earnings increased $3.2 million, while earnings from Grupo TFM were $0.5 million
compared to equity losses of $3.1 million in first quarter 1998. Interest
expense declined $2.4 million (14%) for the three months ended March 31, 1999
versus the comparable 1998 period due to lower average debt balances coupled
with lower average interest rates on variable rate debt.
15
TRANSPORTATION
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 1999 ENDED MARCH 31, 1998
-------------------- --------------------
(in millions)
Consolidated Consolidated
KCSR Other Transportation KCSR Other Transportation
Revenues $ 135.3 $ 16.6 $ 151.9 $ 135.7 $ 16.8 $ 152.5
Costs and expenses 96.5 16.7 113.2 93.9 12.6 106.5
Depreciation and amortization 12.6 1.7 14.3 12.6 1.4 14.0
-------- -------- --------- -------- -------- ---------
Operating income (loss) 26.2 (1.8) 24.4 29.2 2.8 32.0
Equity in net earnings (losses)
of unconsolidated affiliates
Grupo TFM - 0.5 0.5 - (3.1) (3.1)
Other 0.6 - 0.6 0.5 (0.4) 0.1
Interest expense (8.5) (5.5) (14.0) (9.1) (5.9) (15.0)
Other, net 0.9 - 0.9 1.6 1.6 3.2
-------- --------- --------- -------- -------- ---------
Pretax income (loss) 19.2 (6.8) 12.4 22.2 (5.0) 17.2
Income tax provision (benefit) 7.5 (2.7) 4.8 8.7 (0.7) 8.0
-------- -------- --------- -------- -------- ---------
Net income (loss) $ 11.7 $ (4.1) $ 7.6 $ 13.5 $ (4.3) $ 9.2
======== ======== ========= ======== ======== =========
The Transportation segment contributed $7.6 million to the Company's first
quarter 1999 consolidated earnings, a $1.6 million decrease compared to first
quarter 1998. The decrease was attributable to higher operating expenses,
essentially flat revenues and certain non-recurring gains in 1998, partially
offset by an increase in equity earnings related to Grupo TFM and lower interest
expense.
Transportation revenues for first quarter 1999 of $151.9 million decreased
slightly compared to first quarter 1998. KCSR revenues remained essentially flat
(see below for explanation of commodity groups), while Gateway Western revenues
declined approximately 8%, based primarily on overall volume declines. This
decline was partially offset by higher revenues at several smaller
Transportation companies arising from volume gains. The following is a summary
of revenues and carloads for KCSR's major commodity groups:
Carloads and
Revenues Intermodal Units
(in millions) (in thousands)
Three months Three months
ended March 31, ended March 31,
1999 1998 1999 1998
General commodities:
Chemical and petroleum $ 32.2 $ 34.6 40.1 41.9
Paper and forest 25.7 27.1 40.8 44.1
Agricultural and mineral 24.6 22.8 32.9 31.9
Other 4.9 5.9 6.0 7.6
----------- ---------- ---------- -----------
Total general commodities 87.4 90.4 119.8 125.5
Intermodal 11.6 11.0 47.9 41.3
Coal 29.7 28.4 52.8 52.9
----------- ---------- ---------- -----------
Subtotal 128.7 129.8 220.5 219.7
Other 6.6 5.9 - -
----------- ---------- ---------- -----------
Total $ 135.3 $ 135.7 220.5 219.7
=========== ========== ========== ===========
16
Agricultural and mineral products - Agricultural and mineral product
revenues rose 7.8% for the three months ended March 31, 1999 versus the
comparable 1998 period. This increase resulted from higher carloads and revenue
per carload for domestic grain movements, primarily because of an increase in
demand at certain chicken feed customers with shipment destinations serviced by
KCSR. Higher domestic grain revenues were partially offset by volume declines in
export grain arising from a decreased demand in Mexico. Decreases in first
quarter 1999 grain shipments to Mexico resulted from a change in the Mexican
government's purchasing strategy, which, in the first quarter, transitioned from
a government entity to private industry during which there was a period of time
when no import permits were issued. This transition to private industry is in
process and management does not expect this to have a long-term impact on future
exports of grain to Mexico. Management believes that grain shipments to Mexico
will increase during second quarter 1999 and expects that, on a long-term basis,
KCSR will continue to derive increased revenues from future grain movements to
Mexico.
Chemical and petroleum products - Chemical and petroleum product
revenues decreased $2.4 million (7%) quarter to quarter, primarily as a result
of declines in miscellaneous chemical and soda ash revenues. Miscellaneous
chemical carloads were down approximately 8% due in part to the expiration in
late 1998 of the emergency service order in the Houston area, as well as a
decline in demand due to chemical market conditions. Soda ash carloads and
revenues per carload declined primarily as a result of a weak export market due
to the continuing difficulty in the economic climate in Asia and South America.
Paper and forest products - Paper and forest product revenues declined
5.3% for the three months ended March 31, 1999 compared to the three months
ended March 31, 1998. Reductions in these revenues during first quarter 1999
occurred primarily because of lower demand and current stockpiles and
inventories. Management believes that paper and forest product revenues will
continue to remain somewhat flat during the second quarter; however, long-term
prospects, including potential exports to Mexico, appear to be more favorable in
the third and fourth quarters of 1999.
Coal - Coal revenues increased 4.4% quarter to quarter resulting
primarily from an increase in the length of haul of certain unit coal trains.
During January 1999, one of KCSR's electric generating utility plants (Kansas
City Power and Light's ("KCP&L") Hawthorne plant) had an explosion and is out of
service for an undetermined period. As a result, KCP&L increased its capacity at
its Amsterdam plant leading to higher coal demands. The Amsterdam plant is a
longer haul for KCSR and thus, the related revenues generated are higher. The
KCP&L Hawthorne plant represented approximately 5% of total coal tons hauled by
KCSR in 1998 and is a short haul move. The extended outage is, however, not
expected to have a material effect on overall coal revenues.
Intermodal and other - Intermodal revenues increased nearly 6% for the
three months ended March 31, 1999 versus the comparable 1998 period, primarily
due to higher intermodal unit shipments (16.1%) quarter to quarter. Other
carload revenues declined approximately $1 million as a result of weakness in
the steel market arising from slower domestic oil production. Note, however,
that automobile traffic revenues have almost doubled compared with first quarter
1998 and management expects future growth in these revenues as the CN/IC
alliance traffic continues to increase.
The Transportation segment's total operating expenses increased $7 million
(5.8%), to $127.5 million for the three months ended March 31, 1999 from $120.5
million for the three months ended March 31, 1998. First quarter KCSR operating
costs increased $2.6 million from 1998, primarily due to higher car hire costs
resulting from fewer KCSR cars and trailers being utilized by other railroads,
and higher salaries and wages arising from general wage increases. As a result
of essentially flat revenues and higher operating expenses, KCSR's operating
ratio, a common efficiency measure among Class I rail carriers, was 80.7%
compared with 78.3% in first quarter 1998. Other Transportation operating costs
increased $4.4 million quarter to quarter, primarily due
17
to higher costs at Gateway Western resulting largely from an unusual $1.4
million March 1999 derailment and increased costs at various smaller
Transportation companies (attributable to higher revenues as noted above). As a
result of essentially flat revenues and higher operating expenses, operating
income for the Transportation segment declined $7.6 million quarter to quarter.
The Transportation segment recorded equity earnings of $1.1 million from
unconsolidated affiliates for the three months ended March 31, 1999 compared to
losses of $3.0 million for the three months ended March 31, 1998. The increase
is attributed primarily to equity earnings from Grupo TFM, reflecting continued
operating improvements and the tax impact related to fluctuations in the
valuation of the peso versus the U.S. dollar. Grupo TFM's operating ratio
improved to 78.8% in first quarter 1999 versus 90.7% in first quarter 1998.
Results of Grupo TFM are reported on a U.S. GAAP basis. Also contributing to the
increase was Mexrail, which recorded equity losses of $0.1 million in first
quarter 1999 versus losses of $0.5 million in the comparable 1998 period. Equity
earnings from Southern Capital improved by approximately $0.1 million quarter to
quarter.
Interest expense declined $1.0 million, or nearly 7%, during first quarter 1999
compared to first quarter 1998, primarily as a result of lower average debt
balances. Other, net decreased $2.3 million quarter to quarter attributable to
first quarter 1998 gains on sales of property.
FINANCIAL SERVICES
CONSOLIDATED
FINANCIAL SERVICES
(in millions)
THREE MONTHS
ENDED MARCH 31,
1999 1998
------------- --------------
Revenues $ 233.3 $ 143.2
Costs and expenses 129.3 82.0
Depreciation and amortization 6.8 2.8
------------- -------------
Operating income 97.2 58.4
Equity in net earnings of
unconsolidated affiliates:
DST Systems, Inc. 10.7 7.5
Other 0.5 0.3
Interest expense (1.0) (2.4)
Other, net 4.9 3.4
------------- -------------
Pretax income 112.3 67.2
Income tax provision 40.1 23.5
Minority interest 11.2 6.7
------------- -------------
Net income $ 61.0 $ 37.0
============= =============
The Financial Services segment reported net earnings of $61.0 million for the
three months ended March 31, 1999, an increase of 65% over the $37.0 million in
comparable 1998. Assets under management grew to $142.0 billion, 25% and 69%
higher than December 31, 1998 and March 31, 1998, respectively. This significant
growth in assets under management fueled a $90.1 million (63%) and $38.8 million
(66%) increase in revenues and operating income, respectively, quarter to
quarter.
18
First quarter 1999 net fund sales totaled $13.1 billion compared to $2.3 billion
in the same 1998 quarter and market appreciation of $15.4 billion exceeded first
quarter 1998 by $5.2 billion. U.S. shareowner accounts increased 12% from
December 31, 1998, nearing 3.4 million accounts as of March 31, 1999. New
accounts during first quarter 1999 exceeded the total number of new accounts
opened for all of 1998.
Driven by the dramatic growth in assets under management, Financial Services
revenues increased at a higher proportionate rate than costs and expenses during
first quarter 1999 versus first quarter 1998, resulting in an improvement in
operating margins to 41.7% from 40.8% in comparable 1998. Higher first quarter
1999 costs included: i) salaries and wages as a result of investment
performance-based incentive compensation and an increased number of employees;
ii) alliance and supermarket fees attributable to an increased number of assets
under management through this distribution channel; iii) depreciation and
amortization, reflecting the infrastructure development in 1998; and iv) various
less significant variable cost components as a result of the 63% growth in
revenues.
First quarter 1999 equity earnings from DST increased 43% to $10.7 million from
$7.5 million in the prior year quarter. This improvement in DST equity earnings
recorded by KCSI was largely attributable to improvements in DST's Financial
Services segment, driven by higher revenues quarter to quarter resulting from a
12% increase in shareowner accounts serviced (51.6 million at March 31, 1999
versus 45.9 million at March 31, 1998) and continued growth in international
business. DST results also reflect: i) improved consolidated operating margins
quarter to quarter; and ii) capitalization of $3.8 million of costs for internal
use software during first quarter 1999 in connection with the required adoption
of Statement of Position 98-1 effective January 1, 1999 (DST previously expensed
all internally developed proprietary software). First quarter 1999 includes
earnings from USCS International, Inc., which was merged with DST under the
pooling of interests accounting method in December 1998. The merger reduced the
Company's ownership in DST from 41% to approximately 32%.
The following is a brief discussion of significant first quarter 1999 activity
at key Financial Services subsidiaries.
Janus
Janus continued to report improved product performance and asset growth --
assets under management increased $28.5 billion from December 31, 1998,
reaching $136.8 billion at March 31, 1999. This success is attributable to
several factors, including a strong equity market, higher-than-peer
investment performance by the majority of Janus funds and portfolios,
effective marketing, competitive alternative distribution channels for
products, and a well-known and respected brand name.
As of March 31, 1999, the Janus Investment Funds reported ten funds with
over $1 billion in assets under management, including two in excess of $20
billion. Since March 31, 1998, the Janus Aspen Series of funds has almost
doubled its assets under management, nearing $7.6 billion as of March 31,
1999. The Janus World Funds, initiated in late December 1998, exceeded $350
million in assets under management as of March 31, 1999.
Berger
Berger's assets under management grew slightly during first quarter 1999,
nearing $4.0 billion. While performance of the various funds in the Berger
Complex has been competitive (six of Berger's ten funds rank in the top
quartile compared to peers based on twelve month rolling performance),
continued redemptions as a result of declining shareowner accounts in the
funds introduced prior to 1997 (primarily the Berger One Hundred Fund) have
offset market gains. Accordingly, in May 1999, Berger announced a
realignment of its management team in an effort to reverse this recent
trend and to improve Berger's competitive position in the mutual fund
marketplace.
19
Berger reported an 8% decline in operating expenses in first quarter 1999
versus 1998, reflecting more targeted marketing strategies and reduced
salaries and wages related to performance-based incentive compensation.
Because of lower expenses and essentially flat revenue quarter to quarter,
Berger's operating margin improved.
Nelson
Nelson reported approximately $0.2 million in net earnings for first
quarter 1999 (exclusive of amortization expense attributed to Nelson).
Revenues totaled $4.1 million and funds under management increased to
(pound)739 million ($1.19 billion) at March 31, 1999 from (pound)696
million ($1.15 billion) at year end 1998.
TRENDS AND OUTLOOK
The Company's first quarter 1999 diluted earnings per share of $0.60 was more
than 46% higher than the $0.41 per share in first quarter 1998. Revenue growth
in the Financial Services segment resulted in a 35% increase in consolidated
operating income quarter to quarter.
A current outlook for the Company's businesses for the remainder of 1999 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):
i) Transportation - Management expects that general commodities and intermodal
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 1999 compared to
1998. Management expects the NAFTA Railway to continue to provide an
attractive service offering for shippers, and the Company believes it will
realize continued benefits from traffic with Mexico and the CN/IC alliance.
Variable costs and expenses are expected to continue at levels
proportionate with revenue activity.
ii) Financial Services - Future growth will be largely dependent on prevailing
financial market conditions, relative performance of Janus, Berger and
Nelson products, introduction and market reception of new products, as well
as other factors, including changes in stock and bond markets, increases in
the rate of return of alternative investment products, increasing
competition as the number of mutual funds continues to grow, and changes in
marketing and distribution channels.
Based on a higher level of assets under management starting the second
quarter, revenues for the remainder of 1999 are expected to exceed
comparable prior year periods. Management expects ongoing Financial
Services margin pressure challenges as subsidiaries continue efforts to
ensure that the operational and administrative infrastructure consistently
meets the high standards of quality and service historically provided to
investors. Additionally, a higher rate of growth in costs compared to
revenues is expected in connection with Nelson's efforts to expand its
operations.
iii) Equity Investments - The Company expects to continue to participate in the
earnings/losses from its equity investments in DST, Grupo TFM, Southern
Capital and Mexrail. As a result of the sale of the loan portfolio, equity
earnings from Southern Capital are expected to decline in the future.
20
LIQUIDITY AND CAPITAL RESOURCES
Summary cash flow data is as follows (in millions):
Three Months
Ended March 31,
1999 1998
Cash flows provided by (used for):
Operating activities $ 74.5 $ (0.7)
Investing activities (44.5) 4.7
Financing activities (14.7) (17.8)
--------- ----------
Cash and equivalents:
Net increase (decrease) 15.3 (13.8)
At beginning of year 27.2 33.5
--------- ----------
At end of period $ 42.5 $ 19.7
========= ==========
During the three months ended March 31, 1999, the Company's consolidated cash
position increased $15.3 million from December 31, 1998. This increase resulted
primarily from earnings and proceeds from the issuance of common stock under
employee stock plans, partially offset by property acquisitions, cash dividends,
net purchases of investments in advised funds by Janus, and stock repurchases.
Net operating cash inflows for the quarter ended March 31, 1999 were $74.5
million compared to net operating cash outflows of $0.7 million in the same 1998
period. This improvement in operating cash flows was chiefly attributable to a
first quarter 1998 payment of approximately $23 million related to the KCSR
Union Productivity fund termination, higher first quarter 1999 earnings, higher
current income taxes payable, and net changes in other working capital
components.
Net investing cash outflows were $44.5 million during the quarter ended March
31, 1999 compared to $4.7 million of net investing cash inflows during the
comparable 1998 period. This difference results primarily from higher first
quarter 1999 capital expenditures, and fluctuations in investments in advised
funds at Janus associated with the timing of Janus' dividend payments. During
first quarter 1999, Janus used approximately $18.5 million for net purchases of
investments in advised funds compared with net sales of these investments of
$12.6 million during first quarter 1998.
During first quarter 1999, financing cash outflows were used primarily for the
repayment of debt, stock repurchases and cash dividends, while 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
flows of $14.7 million were used during the first quarter 1999 compared with
$17.8 million used during the comparable 1998 period. This was due primarily to
1999 first quarter net proceeds from the issuance of long-term debt of $3.6
million compared with net repayments of $26.4 million during first quarter 1998
offset by cash used for stock repurchases of $22.3 million versus only $0.6
million in first quarter 1998.
Cash flows from operations are expected to increase during the remainder of 1999
from positive operating income, which has historically resulted in favorable
operating cash flows. Investing activities will continue to use significant
amounts of cash. Future roadway improvement projects are expected to be funded
by KCSR operating cash flow. Based on anticipated financing arrangements for
Grupo TFM, significant additional operational contributions from the Company to
Grupo TFM are not expected to be necessary. However, there exists a possible
approximate $74 million capital call if certain Grupo TFM benchmarks, as
outlined in Grupo TFM's financing arrangements, are not met. Additionally, if
circumstances develop in which a contribution may be requested by Grupo TFM, the
Company will evaluate the contribution based on the merits of the specific
underlying need. Further, as discussed above in "Recent Developments", the
Company has the option to purchase a portion of the Mexican Government's 20%
interest in TFM at a discount. Management
21
anticipates using working capital and existing lines of credit to fund this
transaction in the event it elects to exercise this option.
In addition to operating cash flows, the Company has financing available through
its various lines of credit with a maximum borrowing amount of $600 million
(which includes $55 million of uncommitted facilities). As of March 31, 1999,
$280 million was available under these lines of credit, $100 million of which is
to be used solely by the Financial Services segment. In conjunction with the
annual renewal of certain credit facilities during April and May 1999, the
364-day credit facility for KCSI was renewed at $75 million (previously $100
million) and the Financial Services 364-day credit facility was renewed at its
previous amount of $100 million. 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. 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. The Company believes
its operating cash flows and available financing resources are sufficient to
fund working capital and other requirements for the remainder of 1999.
The Company's debt ratio (total debt as a percent of total debt plus equity) at
March 31, 1999 was 46.0% compared to 47.3% at December 31, 1998. Company
consolidated debt increased $3.6 million from December 31, 1998 (to $839.9
million at March 31, 1999) as a result of borrowings exceeding repayments.
Consolidated equity increased $53.5 million from December 31, 1998. This
increase was due to net income of $68.6 million and the issuance of common stock
under the Employee Stock Purchase Plan and other plans, partially offset by
common stock repurchases (as discussed above in "Recent Developments") and
dividends paid. This increase in equity coupled with only a slight increase in
debt resulted in a lower debt ratio at March 31, 1999 compared to December 31,
1998.
Management anticipates that the debt ratio will continue to decrease during the
remainder of 1999 as a result of expected net debt repayments and profitable
operations. Note, however, that unrealized gains on "available for sale"
securities are contingent on market conditions and, thus, are subject to
significant fluctuations in value. Significant declines in the value of these
securities would negatively impact accumulated other comprehensive income and
affect the Company's debt ratio.
OTHER
Year 2000. The Year 2000 discussion below contains forward-looking statements,
including those concerning the Company's plans and expected completion dates,
cost estimates, assessments of Year 2000 readiness for the Company as well as
for third parties, and the potential risks of any failure on the part of the
Company or third parties to be Year 2000 ready on a timely basis.
Forward-looking statements involve a number of risks and uncertainties that
could cause actual results to differ from those projected. See the "Overview"
section for additional information.
While the Company continues to evaluate and pursue discussions with its various
customers, partners and vendors with respect to their preparedness for Year 2000
issues, no assurance can be made that all such parties will be Year 2000 ready.
Additionally, while the Company cannot fully determine the impact, the inability
to complete Year 2000 readiness for the Company's computer systems could result
in significant difficulties in
22
processing and completing fundamental transactions. In such events, the
Company's results of operations, financial position and cash flows could be
materially adversely affected.
Many existing computer programs and microprocessors that use only two digits
(rather than four) to identify a year could fail or create erroneous results
with respect to dates after December 31, 1999 if not corrected to read all four
digits. This computer program flaw is expected to affect all companies and
organizations, either directly (through a company's own computer programs or
systems that use computer programs, such as telephone systems) or indirectly
(through customers and vendors of the company).
These Year 2000 related issues are of particular importance to the Company. The
Company depends upon its computer and other systems and the computers and other
systems of third parties to conduct and manage the Company's Transportation and
Financial Services businesses and the Company's products and services are
heavily dependent upon using accurate dates in order to function properly. These
Year 2000 related issues may also adversely affect the operations and financial
performance of one or more of the Company's customers and suppliers. As a
result, the failure of the Company's computer and other systems, products or
services, the computer systems and other systems upon which the Company depends,
or the Company's customers or suppliers to be Year 2000 ready could have a
material adverse impact on the Company's results of operations, financial
position and cash flows. The Company is unable to assess the extent or duration
of that impact at this time, but it could be substantial.
In 1997, the Company and its key subsidiaries formed project teams comprised of
employees and third party consultants to identify and resolve the numerous
issues surrounding the Year 2000, focusing primarily on information technology
("IT") systems, non-IT systems, and third party issues. The project teams also
provide comprehensive corporate tracking, coordination and monitoring of all
Year 2000 activities. As part of resolving any potential Year 2000 issues, the
Company expects to: identify all computer systems, products, services and other
systems (including systems provided by third parties) that must be modified;
evaluate the alternatives available to make any identified systems, products or
services Year 2000 ready (including modification, replacement or abandonment);
complete the modifications and/or replacement of identified systems; and conduct
adequate testing of the systems, products and services, including testing of
certain key systems used by various North American railroads and
interoperability testing with clients and key organizations in the financial
services industry. The project teams meet regularly to discuss their progress
and ensure that all issues and problems are identified and properly addressed.
Meetings are regularly held with senior management and the Company's Board of
Directors to keep them apprised of the progress of the Year 2000 project.
The following provides a summary of each area and the progress toward
identifying and resolving Year 2000 issues:
IT Systems. In the Transportation segment, all internal IT systems,
including mission critical systems and non-critical systems, have been
analyzed and are in the process of being modified and tested for Year 2000
readiness. To date, management believes that approximately 99% of the
necessary remediation and 94% of the testing has been completed. Final
remediation and testing for certain non-critical support systems has been
completed and management believes these systems are Year 2000 ready. Final
remediation and testing of mission critical systems is scheduled for
completion by the end of August 1999.
In addition, the IT hardware and software necessary to operate the
mainframe computer and associated equipment are currently being evaluated
for Year 2000 issues. A compilation of the hardware and software
inventories was completed in 1998. The hardware and software, including the
completion of integrated testing of the infrastructure software and network
components, are expected to be Year 2000 ready by September 30, 1999.
23
The IT systems (including mission critical and significant non-critical
operating, accounting and supporting systems) and underlying hardware for
the companies comprising the Financial Services segment have been analyzed
and are being modified and tested for Year 2000 readiness. Management
believes that approximately 85% of mission critical systems, and 90% of all
systems, have been tested and are believed to be Year 2000 ready. Final
remediation and testing is expected to be completed by the end of second
quarter 1999.
Non-IT Systems. All equipment that contains an internal clock or embedded
micro-processor is being analyzed for Year 2000 readiness. This includes
PC's, software, fax machines, telephone systems, elevator systems, security
and fire control systems, locomotives, signal and communications systems
and other miscellaneous equipment. Replacement and upgrades of this type of
equipment is underway and expected to be completed for both segments of the
Company by July 15, 1999.
As of March 31, 1999, management believes that 98% of all PC's in the
Transportation companies were Year 2000 ready. In addition, all related
software, customized programs and external data interfaces are being
evaluated, modified and tested for Year 2000 readiness, as are locomotives,
signals and communication systems and other equipment with internal clocks
and embedded micro-processors.
As of March 31, 1999 approximately 85% of replacement and/or upgrade
efforts on the Financial Services hardware and software inventory,
including network infrastructure and telecommunications technologies, have
been completed.
Third Party Systems. Both segments of the Company depend heavily on third
party systems in the operation of their businesses. As part of the Year
2000 project, significant third party relationships are being evaluated to
determine the status of their Year 2000 readiness and the potential impact
on the Company's operations if those significant third parties fail to
become Year 2000 ready. Questionnaires have been sent to critical
suppliers, major customers, key banking and financial institutions, utility
providers and interchange railroads to determine the status of their Year
2000 readiness.
The Transportation companies are also working with the Association of
American Railroads ("AAR") and other AAR-member railroads to coordinate the
testing and certification of the systems administered by the AAR. These
systems, including interline settlement, shipment tracing and waybill
processing are relied on by a number of North American railroads and their
customers. Initial testing between railroads started during second quarter
1998 and these systems are expected to be Year 2000 ready on a timely
basis.
Similarly, the Financial Services entities are participating in various
industry-wide efforts (e.g., trading and account maintenance, trade
execution, confirmation, etc.) to facilitate testing of Year 2000
preparedness and reliability. Additionally, Janus and Berger are required
to periodically report to the SEC their progress with respect to Year 2000
preparedness.
Based upon the responses received to the questionnaires and ongoing
discussions with these third parties, the Company believes that the
majority of the significant customers, banking and financial institutions,
suppliers and interchange railroads are or will be Year 2000 ready in all
material respects by mid-1999. The Company does not anticipate, however,
performing significant independent testing procedures to verify that the
information received by the Company from these third parties is accurate
(except for the above mentioned industry-wide testing efforts). For those
third parties who have not responded or who have expressed uncertainty as
to their Year 2000 readiness, management is exploring alternatives to limit
the impact this will have on the Company's operations and financial
results. The Company will continue to monitor its third party relationships
for Year 2000 issues.
24
DST, an approximate 32% owned equity investment, provides various services
to Janus and Berger. DST completed its review and evaluation of its mission
critical U.S. shareowner accounting and U.S. portfolio accounting related
products, services and internal systems and believes it achieved material
Year 2000 readiness in such products, services and systems. DST anticipates
internal readiness for all of its other mission critical systems and
products by September 30, 1999. Additionally, DST intends on testing its
systems with clients and other third parties for Year 2000 related issues
as needed throughout 1999. DST is developing contingency plans for its U.S.
shareowner accounting and U.S. portfolio accounting business units (with
testing expected to be completed by June 30, 1999), as well as for other
mission critical products, services and systems. Formal contingency plans
for DST's Winchester and Poindexter Data Centers have been completed.
Testing and Documentation Procedures. All material modifications to IT and
non-IT systems are being documented and maintained by the project teams for
purposes of tracking the Year 2000 project and as a part of the Company's due
diligence process. All modified systems have been or are in the process of being
tested for Year 2000 remediation, unit acceptance, system acceptance and user
acceptance. The testing procedures used and the results of these tests are being
documented and maintained as a part of the Year 2000 due diligence process.
Year 2000 Risks. 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 be Year 2000 ready on a timely basis. Areas that could be
affected include, but are not limited to, the ability to: accurately track
pricing and trading information, obtain and process customer orders and investor
transactions, properly track and record revenue movements (including train
movements), order and obtain critical supplies, and operate equipment and
control systems. These risks are presently under assessment, and the Company has
no basis to form an estimate of costs or lost revenues and is unable to
determine its impact on operations at this time.
The Company believes, however, that the risks involved with the successful
completion of its Year 2000 conversion relate primarily to available resources
and third party readiness. The key factors to success include the proper quality
and quantity of human and capital resources to address the complexity and costs
of the project tasks. The Company has allocated substantial resources to the
Year 2000 project and believes that it is adequately staffed by employees,
consultants and contractors. The inability to complete Year 2000 readiness for
the computer systems of the Company could result in significant difficulties in
processing and completing fundamental transactions.
In addition, the Company is taking precautions to ensure its third party
relationships have been adequately addressed. Based on work performed and
information received to date, the Company believes its key suppliers, customers
and other significant third party relationships will be prepared for the Year
2000 in all material respects within an acceptable time frame (or that
acceptable alternatives will be available); however, management of the Company
makes no assurances that all such parties will be Year 2000 ready within an
acceptable time frame.
In the event that the Company or key third parties are not Year 2000 ready, the
Company's results of operations, financial position and cash flows could be
materially adversely affected.
Contingency Plans. The Company and its subsidiaries are in the process of
identifying alternative plans in the event that the Year 2000 project is not
completed on a timely basis or otherwise does not meet anticipated needs. A
business contingency planning specialist was hired by KCSR and is working on the
contingency plans for critical business processes. Similarly, consulting
professionals have been utilized by Janus, Berger and Nelson in connection with
Year 2000 efforts, including contingency planning. The Company is also making
alternative arrangements in the event that critical suppliers, customers,
utility providers and other significant third parties are not Year 2000 ready.
The contingency planning process is scheduled to be completed by July 1999.
25
In addition, information system black out periods have been scheduled at the
various Company subsidiaries, generally from third quarter 1999 through second
quarter 2000. During this period, the Year 2000 project team and other members
of the information systems group will focus all of their efforts and time toward
addressing Year 2000 related issues. No new project requests or
hardware/software upgrades will be allowed during this time.
Year 2000 Costs. To date, the Company has spent approximately $14.6 million in
connection with ensuring that all Company and subsidiary computer programs are
compatible with Year 2000 requirements. In addition, the Company anticipates
future spending of approximately $9 million in connection with this process.
Current accounting principles require all costs associated with Year 2000 issues
to be expensed as incurred. A portion of these costs will not result in an
increase in expense to the Company because existing employees and equipment are
being used to complete the project.
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, 1998.
26
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Part I, Item 1. Financial Statements, Note 12 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
a) The Company held its 1999 Annual Meeting of Stockholders ("Annual
Meeting") on May 6, 1999. A total of 98,062,221 shares of the Common
Stock, $.01 per share par value, and Preferred Stock, par value $25.00
per share, or 89.2% of the outstanding voting stock on the record date
(109,936,774 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 was as follows:
Total
Shares
Election of Two Directors
(i) James E. Barnes
For 97,038,116
Withheld 2,384,810
------------
Total 99,422,926
============
(ii) Jose F. Serrano
For 94,316,706
Withheld 2,384,810
------------
Total 96,701,516
============
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 1999
For 97,632,730
Against 269,348
Abstentions 160,143
Non-votes -
------------
Total 98,062,221
============
27
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 February 25, 1999
under Item 5, reporting the repurchase of 460,000 shares of the
Company's common stock from the DST Systems, Inc. Employee Stock
Ownership Plan.
28
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 May 14, 1999.
Kansas City Southern Industries, Inc.
/s/ Joseph D. Monello
Joseph D. Monello
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)