TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
SELECTED FINANCIAL DATA
The following comparisons highlight significant historical trends in TSYS'
results of operations and financial condition. Total revenues and net income
have grown over the last five years at compounded annual growth rates of 22.8%
and 22.0%, respectively. The balance sheet data also reflect the continued
strong financial position of TSYS, as evidenced by the current ratio of 2.2:1 at
December 31, 1997, and increased shareholders' equity. The following financial
data should be read in conjunction with the Consolidated Financial Statements
and related Notes thereto and Financial Review, included elsewhere in this
Annual Report.
Years Ended December 31,
----------------------------------------------------------
(in thousands except per share data) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------
Income Statement Data:
Revenues:
Bankcard data processing services .......$ 324,718 277,870 218,953 166,194 136,650
Other services .......................... 36,781 33,778 30,755 21,377 15,424
- -----------------------------------------------------------------------------------------------------------
Total revenues .................. 361,499 311,648 249,708 187,571 152,074
- -----------------------------------------------------------------------------------------------------------
Expenses:
Salaries and other personnel expense .... 147,438 124,259 94,946 73,051 54,517
Net occupancy and equipment expense ..... 94,685 82,118 64,549 51,283 43,421
Other operating expenses ................ 59,447 53,368 47,291 28,139 21,521
- -----------------------------------------------------------------------------------------------------------
Total operating expenses ........ 301,570 259,745 206,786 152,473 119,459
- -----------------------------------------------------------------------------------------------------------
Equity in income (loss) of joint ventures 9,347 7,094 69 (13) --
- -----------------------------------------------------------------------------------------------------------
Operating income ................ 69,276 58,997 42,991 35,085 32,615
- -----------------------------------------------------------------------------------------------------------
Nonoperating income:
Gain (loss) on disposal of equipment, net (36) 31 (123) 65 335
Interest income, net of expense ......... 2,315 1,416 839 264 (80)
- -----------------------------------------------------------------------------------------------------------
Total nonoperating income ....... 2,279 1,447 716 329 255
- -----------------------------------------------------------------------------------------------------------
Income before income taxes ...... 71,555 60,444 43,707 35,414 32,870
Income taxes .................................... 24,077 21,007 15,977 12,924 12,647
- -----------------------------------------------------------------------------------------------------------
Net income ......................$ 47,478 39,437 27,730 22,490 20,223
===========================================================================================================
Basic earnings per share ........$ .37 .31 .21 .17 .16
===========================================================================================================
Diluted earnings per share ......$ .37 .30 .21 .17 .16
===========================================================================================================
Cash dividends declared per share ...............$ .045 .045 .045 .040 .035
===========================================================================================================
Weighted average common shares outstanding ...... 129,304 129,287 129,263 129,259 128,811
===========================================================================================================
Weighted average common and common
equivalent shares outstanding ........... 129,492 129,451 129,416 129,445 128,952
===========================================================================================================
- -------------------------------------------------------------------------------
December 31,
- ----------------------------------------------------------------------------
(in thousands) 1997 1996 1995 1994 1993
- ----------------------------------------------------------------------------
Balance Sheet Data:
Total assets ............$296,858 245,759 199,000 165,042 133,339
Working capital ......... 70,899 52,274 37,687 33,421 30,594
Total long-term debt..... 475 676 931 1,162 1,707
Shareholders' equity..... 221,255 178,878 144,472 123,004 102,278
21
FINANCIAL REVIEW
This Financial Review provides a discussion of the results of operations,
financial condition, liquidity and capital resources of TSYS and creates
awareness of the factors that have affected its recent earnings, as well as
those factors that may affect its future earnings. The accompanying Consolidated
Financial Statements and related Notes and Selected Financial Data are an
integral part of this Financial Review and should be read in conjunction with
it.
Results of Operations
Revenues
TSYS' revenues are derived from providing bankcard data processing and related
services to banks and other institutions under long-term processing contracts.
TSYS' services are marketed as THE TOTAL SYSTEM to financial institutions and
other organizations throughout the United States, Mexico, Puerto Rico and
Canada.
Bankcard data processing revenues are generated primarily from charges
based on the number of accounts billed, transactions and authorizations
processed, credit bureau requests, credit cards embossed and mailed, and other
processing services for cardholder accounts on file. Due to the expanding use of
bankcards and the increase in the number of cardholder accounts processed by
TSYS, as well as an increase in the scope of services offered, revenues relating
to bankcard data processing services have continued to grow. Processing
contracts with large customers, representing a significant portion of the
Company's total revenues, generally provide for discounts on certain services
based on increases in the level of cardholder accounts processed. As a result,
bankcard data processing revenues and the related margins are influenced by the
customer mix relative to the size of customer bankcard portfolios, as well as
the number of individual cardholder accounts processed for each customer.
Due to the seasonal nature of the credit card industry, TSYS' revenues and
results of operations have generally increased in the fourth quarter of each
year because of increased transaction and authorization volumes during the
traditional holiday shopping season. Furthermore, the conversion of cardholder
accounts of new customers to THE TOTAL SYSTEM, as well as the deconversion of
cardholder accounts of existing customers, also impacts the results of
operations from period to period. Another factor, among others, which may affect
TSYS' revenues and results of operations from time to time is the sale by a
customer of its business, its card portfolio or a segment of its accounts to a
party which processes cardholder accounts internally or uses another processor.
Continuing consolidation in the financial services industry could favorably or
unfavorably impact TSYS' financial condition and results of operations.
The average number of cardholder accounts on file increased 21.1% to 87.2
million in 1997, compared to 72.0 million in 1996, which represented a 35.7%
increase over 53.1 million in 1995. At December 31, 1997, TSYS' cardholder
accounts on file were approximately 92.8 million, up from 79.4 million and 63.3
million at December 31, 1996 and 1995, respectively.
During 1997, the majority of the increase in cardholder accounts on file
was primarily a result of portfolio growth of existing customers. The addition
of new clients also contributed approximately 4.7 million accounts to the growth
in cardholder accounts on file at December 31, 1997.
Total System Services de Mexico, S.A. de C.V. (TSYS de Mexico) began
generating revenues in June 1995 and continues to provide credit card related
processing services to a number of Mexican banks. TSYS de Mexico performs card
and statement production services, while subcontracting bankcard processing to
TSYS.
On August 16, 1995, TSYS and Visa U.S.A. Inc. (Visa) announced an agreement
in principle to merge their merchant and point-of-sale processing operations. On
May 1, 1996, the joint venture, known as Vital Processing Services (Vital),
became operational and began offering fully integrated merchant transaction and
related electronic information services to financial and nonfinancial
institutions and their merchant customers. Vital is structured with its own
management team and separate Board of Directors and has its corporate
headquarters in Tempe, Arizona.
Revenues and expenses associated with TSYS' merchant processing operations
through April 1996 are included in TSYS' revenues and expenses. Effective May 1,
1996, TSYS' share of Vital's results of operations are included in equity in the
income of joint ventures. This change in classification of the Company's
revenues and expenses from its merchant processing operations to an equity
interest in the Vital joint venture affects the comparability of the Company's
statements of income.
22
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
Since 1994, TSYS has been providing processing services for commercial
cards which include purchasing cards, corporate cards and fleet cards for
employees. At December 31, 1997, TSYS was processing approximately 5.0 million
commercial card accounts, a 58.0% increase over the approximately 3.1 million
being processed at year-end 1996, representing a 61.1% increase over the 2.0
million at year-end 1995. Commercial card revenue is included in revenues from
bankcard processing.
A significant amount of the Company's revenues are derived from long-term
contracts with large customers, including certain major customers. Two
customers, AT&T Universal Card Services and NationsBank, together accounted for
approximately 25%, 29% and 34% of total revenues for the years ended December
31, 1997, 1996 and 1995, respectively. During 1997, TSYS announced an extension
of its long-term processing contract with NationsBank, to the year 2005.
Recently, AT&T announced its intention to sell its credit card business to
Citibank. TSYS and AT&T have a contract with a term until August 2000, and, at
AT&T's instruction, the Company is proceeding with converting the customer's
accounts to TS2 in 1998; approximately 1.2 million of these accounts were
converted in January 1998. The loss of either AT&T or NationsBank, or other
significant customers, could have a material adverse effect on the Company's
financial condition and results of operations.
During the first quarter of 1997, TSYS successfully completed the
conversion of Bank of America's cardholder accounts to TS2. In October 1997, the
Company completed the conversion of NationsBank's cardholder accounts to TS2
from our general cardholder processing system. As a result, TSYS has
approximately 19.2 million accounts being processed on TS2 at year-end 1997,
compared to 6.3 million at year-end 1996 and 1.1 million at year-end 1995.
Revenues from other services consist primarily of revenues generated by
TSYS' wholly owned subsidiaries, Columbus Depot Equipment Company (CDEC),
Mailtek, Inc. (Mailtek), TSYS Total Solutions, Inc. (TSI) (formerly Lincoln
Marketing, Inc.), and Columbus Productions, Inc. (CPI). CDEC provides TSYS
customers with an option to lease certain equipment necessary for on-line
communications and use of TSYS applications; Mailtek and TSI provide TSYS
customers and others with mail and correspondence processing services and
account solicitation services, and CPI provides full-service commercial printing
services to TSYS customers and others.
Operating Expenses
As a percentage of revenues, operating expenses increased in 1997 to
83.4%,compared to 83.3% and 82.8% for 1996 and 1995, respectively. The principal
increases in operating expenses resulted from the addition of personnel and
equipment; the cost of materials associated with the services provided by all
companies, particularly the supplies related to processing the increased number
of accounts on THE TOTAL SYSTEM; and certain costs associated with ongoing
enhancements to TS2, as well as certain costs associated with the conversion of
customers to TS2.
A significant portion of TSYS' operating expenses relates to salaries and
other personnel costs. During 1997, the average number of employees increased to
2,895, compared to 2,498 in 1996 and 2,087 in 1995. In addition to the growth in
number of employees, the increase in salaries and other personnel costs is
attributable to normal salary increases and related employee benefits.
Employment costs capitalized for internally developed software and conversions
were $4.4 million, $4.9 million and $8.4 million in 1997, 1996 and 1995,
respectively. These decreases in capitalization have also contributed to
increases in employment expense, particularly in comparing 1996 to 1995. Since
completion of development of the core TS2 processing system, employment expenses
capitalized relate primarily to enhancements to TS2 and costs associated with
the conversion to TS2 of customers under long-term contracts.
[Omitted Bankcard Revenues graph is represented by the following table.]
Bankcard Revenues (Millions of Dollars)
97 $324.7
96 $277.9
95 $219.0
94 $166.2
93 $136.7
[Omitted Operating Income graph is represented by the folowing table.]
Operating Income (Millions of Dollars)
97 $ 69.3
96 $ 59.0
95 $ 43.0
94 $ 35.1
93 $ 32.6
23
The following table sets forth certain revenue and expense items as a percentage
of total revenues and the percentage increase or decrease in those items from
the table of Selected Financial Data:
Percentage Change
in Dollar Amounts
-----------------
Percentage of Total Revenues 1997 1996
Years Ended December 31, vs vs
----------------------------
1997 1996 1995 1996 1995
- -----------------------------------------------------------------------------------------------------
Revenues:
Bankcard data processing services ....... 89.8% 89.2 87.7 16.9 26.9
Other services .......................... 10.2 10.8 12.3 8.9 9.8
- --------------------------------------------------------------------------------
Total revenues .................. 100.0 100.0 100.0 16.0 24.8
- --------------------------------------------------------------------------------
Expenses:
Salaries and other personnel expense .... 40.8 39.9 38.0 18.7 30.9
Net occupancy and equipment expense ..... 26.2 26.3 25.8 15.3 27.2
Other operating expenses ................ 16.4 17.1 19.0 11.4 12.9
- --------------------------------------------------------------------------------
Total operating expenses ........ 83.4 83.3 82.8 16.1 25.6
- --------------------------------------------------------------------------------
Equity in income of joint ventures ...... 2.6 2.2 0.0 31.8 nm
- --------------------------------------------------------------------------------
Operating income ................ 19.2 18.9 17.2 17.4 37.2
- --------------------------------------------------------------------------------
Nonoperating income:
Gain (loss) on disposal of equipment, net (0.0) 0.0 (0.0) nm nm
Interest income, net of expense ......... 0.6 0.5 0.3 63.5 68.6
- --------------------------------------------------------------------------------
Total nonoperating income ....... 0.6 0.5 0.3 57.5 101.9
- --------------------------------------------------------------------------------
Income before income taxes ...... 19.8 19.4 17.5 18.4 38.3
Income taxes .................................... 6.7 6.7 6.4 14.6 31.5
- --------------------------------------------------------------------------------
Net income ...................... 13.1% 12.7 11.1 20.4 42.2
================================================================================
nm = not meaningful
Due to the importance of technology to its business, a large portion of
TSYS' employees are programmers - approximately 31.1% in 1997, compared to 33.1%
and 35.7% in 1996 and 1995, respectively. The Company has the option of
participating in the state of Georgia's incentive program called Intellectual
Capital Partnership Program (ICAPP). ICAPP is a commitment by the state of
Georgia of up to $23 million for classrooms, teachers, computer equipment and
high-tech training designed to meet Georgia businesses' needs for technical
analysts, computer systems personnel and mainframe programmers into the next
century. At December 31, 1997, approximately 195 graduates of these classes were
full-time employees of TSYS. There can be no assurance that TSYS will be able to
continue to recruit, hire and retain sufficient numbers of technical personnel
necessary to support its continued growth.
Net occupancy and equipment expense increased 15.3% in 1997 over 1996,
compared to 27.2% in 1996 over 1995. Equipment and software rentals, which
represent the largest component of net occupancy and equipment expense,
increased $6.7 million, or 15.5%, in 1997 compared to 1996, and $11.1 million,
or 34.1%, in 1996 compared to 1995. Substantial new, technologically advanced
equipment was leased in order to meet growth needs in 1997 and anticipated
future growth, including mainframe computers and significant additional direct
access storage devices. Purchasing and leasing mainframe computers, laser
printers and direct access storage drives are part of TSYS' strategy of
supporting infrastructure growth. Due to the rapidly changing technology in
computer equipment, leasing provides a way for TSYS to acquire new equipment
while minimizing some of the risks associated with investing in state-of-the-art
computer equipment.
24
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
TSYS continues to monitor and assess its building and equipment needs as it
positions itself for future growth and expansion. In 1997, construction was
begun on a campus-type facility which will serve as the Company's corporate
headquarters; house administrative, client contact and programming team members;
and allow for significant growth. The Company has entered into an operating
lease agreement relating to the new corporate campus. Under the agreement, the
lessor has purchased the properties, is paying the construction and development
costs and has leased the facilities to the Company commencing upon its
completion, expected to be in 1999. The lease will provide for substantial
residual value guarantees and will include purchase options at the original cost
of the property. Real estate taxes, insurance, maintenance and operating
expenses applicable to the leased property will be obligations of the Company.
In addition, TSYS began expansion of its operations center in north
Columbus during 1997. This expansion, while not finalized, will include
additional space for the card production services now located in downtown
Columbus. The expansion is also expected to include additional space for
statement printing and data processing functions. A separate building was
completed on the North Center property in 1997 to serve as TSI's headquarters.
In 1995, a new, 110,000 square-foot building was purchased to accommodate
current office space needs and provide space for future growth in technical
staff.
Other operating expenses increased 11.4% in 1997 compared to 1996 and 12.9%
in 1996 compared to 1995. The growth in other operating expenses in 1997 is
primarily due to increased travel and other business development costs
associated with exploring new business opportunities. In 1997, management fees,
paid to an affiliate for human resources, maintenance, security, communications,
corporate education, travel and administration, increased 7.6% over 1996. In
1996, these management fees increased 171.7% because the fees were paid for only
the second half of 1995 but were paid for a full year in 1996. However, if the
fee paid in 1996 is compared to an annualized fee for 1995, the increase would
be 35.9% and is a significant factor in the increase in other operating expenses
between 1996 and 1995.
Operating Income
Operating income increased 17.4% to $69.3 million in 1997, compared to
$59.0 million in 1996, an increase of 37.2% over 1995 operating income of $43.0
million. Equity in income of TSYS' two joint ventures contributed significantly
to the increase as Vital became operational during 1996, and the Mexican joint
venture had its first full year of operations in 1996. Excluding equity in
income of joint ventures, operating income increased 15.5% to $59.9 million,
compared to $51.9 million in 1996, and increased 20.9% over the amount for 1995
of $42.9 million. The increases in operating income are due to increased
revenues combined with a focus on expense control. The operating income margin,
including equity in income of joint ventures, increased to 19.2% in 1997,
compared to 18.9% and 17.2% in 1996 and 1995, respectively.
Nonoperating Income
Interest income, net of expense, includes interest expense of $46,000,
$63,000 and $157,000 and interest income of $2.4 million, $1.5 million and
$996,000 for 1997, 1996 and 1995, respectively.
Interest expense decreased in 1997 and 1996 due to the decreasing level of
outstanding debt of subsidiaries. Interest income increased in 1997 and in 1996
due to increases in cash available for investment. Additionally, in the third
quarter of 1996, $5.0 million was invested in a six-month certificate of deposit
at a higher rate of interest; the certificate of deposit was redeemed at
maturity in the first quarter of 1997.
Income Taxes
Income tax expense was $24.1 million, $21.0 million and $16.0 million in
1997, 1996 and 1995, respectively, representing effective income tax rates of
33.6%, 34.8% and 36.6%. The decline in TSYS' effective income tax rate for 1997,
as compared to 1996 and 1995, is attributable to certain effective income tax
planning strategies, including the identification and recognition of research
and experimentation credits for ongoing development activities, foreign tax
credits associated with the Mexican joint venture, and a reduction in state
income taxes due to favorable new tax legislation.
25
Net Income
Net income increased 20.4% to $47.5 million (basic and diluted earnings per
share of $.37) in 1997 compared to 1996. In 1996, net income increased 42.2% to
$39.4 million (basic earnings per share of $.31 and diluted earnings per share
of $.30) compared to $27.7 million (basic and diluted earnings per share of
$.21) in 1995. The increase in net income is attributable to increased operating
revenues combined with an emphasis on expense control.
Financial Condition, Liquidity and Capital Resources
The Consolidated Statements of Cash Flows detail the Company's cash flows
from operating, investing and financing activities. TSYS' primary method for
funding its operations and growth has been cash generated from current
operations and the occasional use of borrowed funds to supplement financing of
capital expenditures. The major uses of cash generated from operations have been
the addition of property and equipment; computer software developed internally
and purchased; investment in joint ventures and contract acquisition costs; and
the payment of cash dividends.
During 1997, TSY purchased and leased computer hardware and related
equipment, including software. Capital expenditures for property and equipment
were $18.0 million in 1997, compared to $19.4 million in 1996, and $17.0 million
in 1995. Expenditures for purchased computer software were $14.1 million in
1997, compared to $9.0 million in 1996 and $5.5 million in 1995. Additions to
internally developed computer software, principally enhancements to TS2, were
$997,000 in 1997, $178,000 in 1996 and $2.6 million in 1995.
Costs to develop the core TS2 bankcard processing and support software were
capitalized and are being amortized over a useful life of ten years.
Amortization of TS2 resulted in expense of $3.3 million in 1997, 1996 and 1995.
Costs associated with the development of additional features of TS2 continue to
be capitalized upon establishing technological feasibility, and amortization is
begun when they become available for general customer use.
The core system of TS2 was designed to be Year 2000 compliant, and the
Company is continuing its ongoing project to ensure that all of the Company's
processing systems, including our general cardholder processing system, are Year
2000 compliant. The modification phase of the project is expected to be
completed in 1998, with the testing phase to be performed in 1998 and 1999. In
1997, TSYS had $2.0 million of direct costs related to the Year 2000 project.
The Company expects to incur approximately $8.0 million of direct costs in 1998
and approximately $6.0 million in 1999. Based upon progress to date, TSYS does
not expect its Year 2000 project to significantly impact its financial condition
and results of operations. TSYS has made an assessment of non-compliant
suppliers and vendors and will schedule and coordinate testing of incoming and
outgoing interfaces with third-party vendors. The failure of the Company's
processing systems to be Year 2000 compliant could have a material adverse
effect on the Company's financial condition and results of operations.
Personnel costs associated with the conversion of customers under new
long-term contracts to TS2 are capitalized as contract acquisition costs and are
amortized over the life of the processing contracts. Capitalized conversion
costs, net, included in contract acquisition costs, at December 31, 1997 and
1996, amounted to $6.5 million and $8.4 million, respectively.
At December 31, 1997, TSYS' total investment in TSYS de Mexico was $7.4
million. At December 31, 1996, cumulative currency translation adjustments had
decreased the Company's equity investment in TSYS de Mexico by $2.0 million and
resulted in a cumulative currency translation adjustment, net of income taxes,
of $1.2 million. During the year ended December 31, 1997, due to Mexico's highly
inflationary economy, TSYS began expensing currency translation adjustments. In
1998, the Company will continue to reflect currency translation adjustments in
TSYS' results of operations.
In each quarter of 1997, the Board of Directors declared and paid a
dividend on TSYS' common stock of $.011 per share. Total dividends declared were
$5.8 million in 1997, 1996 and 1995.
During 1996, TSYS announced its decision to build a new campus-type
facility on approximately 46 acres of land in downtown Columbus, Georgia. The
decision was based on a commitment by the state of Georgia to provide collegiate
high-tech education and cooperation by the city of Columbus in making available
a suitable building site. The campus facility will consolidate most of TSYS'
multiple Columbus locations and will facilitate future growth. The campus
development will be a multibuilding, multiyear phased project; initial construc-
26
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
tion was begun in 1997. Preliminary cost estimates for the first phase are
$75-100 million. The Company has entered into an operating lease agreement
relating to the new corporate campus. Lease payments are expected to commence in
1999 and will not affect TSYS' results of operations or financial position in
1998. The expansion currently underway at the North Center, expected to cost
$20-25 million, will be financed through the internal generation of funds and
through the issuance of industrial revenue bonds.
Although the impact of inflation on its operations cannot be precisely
determined, the Company believes that by controlling its operating expenses and
by taking advantage of the economies of scale through utilization of more
efficient computer hardware and software, it can minimize the impact of
inflation.
Management expects that TSYS will continue to be able to fund a significant
portion of its capital expenditure needs through internally generated cash in
the future, as evidenced by TSYS' current ratio of 2.2:1. At December 31, 1997,
TSYS had working capital of $70.9 million, compared to $52.3 million in 1996 and
$37.7 million in 1995.
Management believes that outside sources for capital will be available to
finance expansion projects and possible acquisitions should the Company decide
to pursue such financing. The form of any such financing will vary depending
upon prevailing market and other conditions and may include short-term or
long-term borrowings from financial institutions, or the issuance of additional
equity and/or debt securities such as industrial revenue bonds. However, there
can be no assurance that funds will be available on terms acceptable to TSYS.
Forward-Looking Statements
Certain statements contained in this Annual Report which are not statements
of historical fact constitute forward-looking statements within the meaning of
the Private Securities Litigation Reform Act (the Act). In addition, certain
statements in future filings by TSYS with the Securities and Exchange
Commission, in press releases, and in oral and written statements made by or
with the approval of TSYS which are not statements of historical fact constitute
forward-looking statements within the meaning of the Act. Examples of
forward-looking statements include, but are not limited to: (i) projections of
revenues, income or loss, earnings or loss per share, the payment or nonpayment
of dividends, capital structure and other financial items; (ii) statements of
plans and objectives of TSYS or its management or Board of Directors, including
those relating to products or services; (iii) statements of future economic
performance; and (iv) statements of assumptions underlying such statements.
Words such as "believes," "anticipates," "expects," "intends," "targeted," and
similar expressions are intended to identify forward-looking statements but are
not the exclusive means of identifying such statements.
Forward-looking statements involve risks and uncertainties which may cause
actual results to differ materially from those in such statements. Factors that
could cause actual results to differ from those discussed in the forward-looking
statements include, but are not limited to: (i) the strength of the U.S. economy
in general and relevant foreign economies; (ii) the financial performance of
current and future contracts; (iii) inflation, interest rate and foreign
exchange rate fluctuations; (iv) timely and successful implementation of
processing systems to provide new products, improved functionality and increased
efficiencies; (v) changes in consumer spending, borrowing and saving habits;
(vi) technological changes; (vii) acquisitions; (viii) the ability to increase
market share and control expenses; (ix) changes in laws, regulations, credit
card association rules or other industry standards affecting TSYS' business
which require significant product redevelopment efforts; (x) the effect of
changes in accounting policies and practices as may be adopted by the Financial
Accounting Standards Board; (xi) changes in TSYS' organization, compensation and
benefit plans; (xii) the costs and effects of litigation and of unexpected or
adverse outcomes in such litigation; (xiii) failure to successfully implement
the Company's Year 2000 modification plans substantially as scheduled and
budgeted; and (xiv) the success of TSYS at managing the risks involved in the
foregoing.
Such forward-looking statements speak only as of the date on which such
statements are made, and TSYS undertakes no obligation to update any
forward-looking statement to reflect events or circumstances after the date on
which such statement is made to reflect the occurrence of unanticipated events.
27
CONSOLIDATED BALANCE SHEETS
December 31,
- ---------------------------------------------------------------------------------------------------------------------------------
1997 1996
- ---------------------------------------------------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents (includes $40.6 million and $25.1 million
on deposit with a related party at 1997 and 1996, respectively) $ 43,335,922 27,496,057
Short-term investments (includes $5.0 million invested with a related party at 1996) 998,228 5,000,000
Accounts receivable, net of allowance for doubtful accounts of
$736,000 and $704,000 at 1997 and 1996, respectively 69,450,919 59,044,530
Prepaid expenses and other current assets 18,620,638 11,839,231
- ---------------------------------------------------------------------------------------------------------------------------------
Total current assets 132,405,707 103,379,818
Property and equipment, net (Note 3) 68,968,574 62,899,046
Computer software, net (Note 4) 43,133,137 39,720,484
Other assets (Notes 5 and 10) 52,350,519 39,759,735
- ---------------------------------------------------------------------------------------------------------------------------------
Total assets $ 296,857,937 245,759,083
=================================================================================================================================
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $ 6,400,365 4,688,469
Accrued salaries and related liabilities 6,680,979 6,422,199
Accrued employee benefits 13,870,969 14,590,362
Current portion of long-term debt and obligations under capital leases
Other current liabilities (includes $1.2 million payable to related parties at 1997 132,416 201,274
and 1996) (Note 10) 34,421,668 25,203,041
- ---------------------------------------------------------------------------------------------------------------------------------
Total current liabilities 61,506,397 51,105,345
Long-term debt and obligations under capital leases,
excluding current portion 342,096 474,513
Deferred income taxes (Note 7) 13,754,688 15,301,478
- ---------------------------------------------------------------------------------------------------------------------------------
Total liabilities 75,603,181 66,881,336
- ---------------------------------------------------------------------------------------------------------------------------------
Shareholders' equity (Notes 2 and 6):
Common stock - $.10 par value. Authorized 300,000,000 shares;
129,483,522 issued at 1997 and 1996, respectively; 129,330,225 and 129,289,680
outstanding at 1997 and 1996, respectively 12,948,352 12,948,352
Additional paid-in capital 5,975,436 5,353,972
Treasury stock, at cost (377,701) (473,544)
Cumulative currency translation adjustments (1,178,182) (1,178,182)
Retained earnings 203,886,851 162,227,149
- ---------------------------------------------------------------------------------------------------------------------------------
Total shareholders' equity 221,254,756 178,877,747
- ---------------------------------------------------------------------------------------------------------------------------------
Commitments and contingencies (Note 9)
Total liabilities and shareholders' equity $ 296,857,937 245,759,083
=================================================================================================================================
See accompanying Notes to Consolidated Financial Statements.
28
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31,
- ---------------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------------------------
Revenues:
Bankcard data processing services (includes $29.2
million, $24.9 million and $10.2 million from related
parties for the years ended December 31, 1997,
1996 and 1995, respectively) $ 324,717,864 277,869,778 218,953,101
Other services 36,781,535 33,778,571 30,754,596
- ---------------------------------------------------------------------------------------------------------------------------------
Total revenues (Notes 2 and 11) 361,499,399 311,648,349 249,707,697
- ---------------------------------------------------------------------------------------------------------------------------------
Expenses:
Salaries and other personnel expense 147,438,458 124,258,754 94,946,370
Net occupancy and equipment expense 94,685,343 82,117,603 64,548,541
Other operating expenses (includes $10.4 million, $9.7 million and
$3.7 million to related parties for the years ended December 31,
1997, 1996 and 1995, respectively) 59,446,283 53,368,464 47,291,267
- ---------------------------------------------------------------------------------------------------------------------------------
Total operating expenses (Note 2) 301,570,084 259,744,821 206,786,178
- ---------------------------------------------------------------------------------------------------------------------------------
Equity in income of joint ventures (Note 5) 9,347,183 7,093,600 68,666
- ---------------------------------------------------------------------------------------------------------------------------------
Operating income 69,276,498 58,997,128 42,990,185
- ---------------------------------------------------------------------------------------------------------------------------------
Nonoperating income:
Gain (loss) on disposal of equipment, net (35,632) 31,576 (122,790)
Interest income, net of expense (includes $2.1 million, $1.4 million
and $759,000 from a related party for the years ended
December 31, 1997, 1996 and 1995, respectively) 2,315,043 1,415,700 839,681
- ---------------------------------------------------------------------------------------------------------------------------------
Total nonoperating income (Note 2) 2,279,411 1,447,276 716,891
- ---------------------------------------------------------------------------------------------------------------------------------
Income before income taxes 71,555,909 60,444,404 43,707,076
Income taxes (Note 7) 24,077,437 21,007,223 15,976,974
- ---------------------------------------------------------------------------------------------------------------------------------
Net income $ 47,478,472 39,437,181 27,730,102
=================================================================================================================================
Basic earnings per share $ .37 .31 .21
=================================================================================================================================
Diluted earnings per share $ .37 .30 .21
=================================================================================================================================
Weighted average common shares outstanding 129,304,249 129,287,493 129,263,226
Increase due to assumed issuance of shares
related to stock options outstanding 188,122 163,605 130,325
Increase due to contingently issuable shares
associated with acquisition - - 21,978
- ---------------------------------------------------------------------------------------------------------------------------------
Weighted average common and common
equivalent shares outstanding 129,492,371 129,451,098 129,415,529
=================================================================================================================================
See accompanying Notes to Consolidated Financial Statements.
29
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 1997 1996 and 1995
- ------------------------------------------------------------------------------------------------------------------------------------
Cumulative
Additional Currency
Common Stock Paid-in Treasury Translation Retained
------------------
Shares Amount Capital Stock Adjustments Earnings Total
- ------------------------------------------------------------------------------------------------------------------------------------
At December 31, 1994 129,457,388 $12,945,738 3,839,146 (475,789) - 106,694,743 $123,003,838
Common stock issued under
restricted stock awards 4,156 416 (416) - - - -
Amortization of restricted
stock awards (Note 6) - - 607,025 - - - 607,025
Increase in cumulative currency
translation adjustments - - - - (1,052,081) - (1,052,081)
Cash dividends declared
($.045 per share) - - - - - (5,816,863) (5,816,863)
Net income - - - - - 27,730,102 27,730,102
- ------------------------------------------------------------------------------------------------------------------------------------
At December 31, 1995 129,461,544 12,946,154 4,445,755 (475,789) (1,052,081) 128,607,982 144,472,021
Common stock issued in
acquisitions 21,978 2,198 310,302 - - - 312,500
Common stock issued from
treasury shares for
exercise of
stock options - - 315 2,245 - - 2,560
Amortization of restricted
stock awards (Note 6) - - 582,267 - - - 582,267
Increase in cumulative currency
translation adjustments - - - - (126,101) - (126,101)
Cash dividends declared
($.045 per share) - - - - - (5,818,014) (5,818,014)
Tax benefits associated with
stock awards - - 15,333 - - - 15,333
Net income - - - - - 39,437,181 39,437,181
- ------------------------------------------------------------------------------------------------------------------------------------
At December 31, 1996 129,483,522 12,948,352 5,353,972 (473,544) (1,178,182) 162,227,149 178,877,747
Common stock issued from
treasury shares for
exercise of
stock options - - 102,434 95,843 - - 198,277
Amortization of restricted
stock awards (Note 6) - - 487,242 - - - 487,242
Cash dividends declared
($.045 per share) - - - - - (5,818,770) (5,818,770)
Tax benefits associated
with stock awards - - 31,788 - - - 31,788
Net income - - - - - 47,478,472 47,478,472
- -----------------------------------------------------------------------------------------------------------------------------------
At December 31, 1997 129,483,522 $12,948,352 5,975,436 (377,701) (1,178,182) 203,886,851 $221,254,756
===================================================================================================================================
See accompanying Notes to Consolidated Financial Statements.
30
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
- ------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $ 47,478,472 39,437,181 27,730,102
Adjustments to reconcile net income to net cash
provided by operating activities:
Equity in income of joint ventures (9,347,183) (7,093,600) (68,666)
Depreciation and amortization 29,141,073 23,106,775 20,285,123
Provision for doubtful accounts 94,000 94,500 458,606
Deferred income tax expense (benefit) (1,546,790) 1,600,583 963,384
(Gain) loss on disposal of equipment, net 35,632 (31,576) 122,790
(Increase) decrease in:
Accounts receivable (10,500,389) (9,524,251) (13,970,497)
Prepaid expenses and other assets (1,860,648) (1,815,428) (94,883)
Increase (decrease) in:
Accounts payable 1,711,896 (1,122,865) 314,885
Accrued expenses and other current liabilities 9,911,535 13,345,580 12,137,363
- ------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 65,117,598 57,996,899 47,878,207
- ------------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Purchases of property and equipment (18,033,160) (19,369,373) (16,977,970)
Additions to computer software (15,106,064) (9,195,856) (8,129,742)
Proceeds from disposal of equipment 74,797 657,699 864,699
Investment in joint ventures - (2,482,939) (3,455,865)
Dividends received from joint ventures 3,252,561 - -
Increase in contract acquisition costs (17,557,631) (7,889,846) (9,954,881)
Purchase of short-term investments (998,228) (5,000,000) -
Redemption of short-term investments 5,000,000 - -
- ------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (43,367,725) (43,280,315) (37,653,759)
- ------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Proceeds from long-term debt - - 1,965,775
Principal payments on long-term debt and capital lease obligations (201,275) (254,954) (2,208,457)
Dividends paid on common stock (5,818,326) (5,817,756) (5,816,817)
Proceeds from exercise of stock options 109,593 2,560 -
- ------------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (5,910,008) (6,070,150) (6,059,499)
- ------------------------------------------------------------------------------------------------------------------------
Net increase in cash and cash equivalents 15,839,865 8,646,434 4,164,949
Cash and cash equivalents at beginning of year 27,496,057 18,849,623 14,684,674
- ------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 43,335,922 27,496,057 18,849,623
========================================================================================================================
Cash paid for interest (net of capitalized amounts) $ 46,691 62,129 157,130
========================================================================================================================
Cash paid for income taxes $ 22,908,026 22,890,244 16,244,194
========================================================================================================================
See accompanying Notes to Consolidated Financial Statements.
31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 Basis of Presentation and
Summary of Significant Accounting Policies
Business: Total System Services, Inc. (TSYS or the Company) is an 80.7% owned
subsidiary of Columbus Bank and Trust Company (CB&T) which is a wholly owned
subsidiary of Synovus Financial Corp. (Synovus). Synovus' stock is traded on the
NYSE under the symbol "SNV." TSYS provides bankcard data processing and related
services to banks and other institutions. TSYS' services are marketed as THE
TOTAL SYSTEM to financial institutions and other organizations throughout the
United States, Mexico, Puerto Rico and Canada.
Principles of Consolidation and Basis of Presentation: The accompanying
consolidated financial statements of Total System Services, Inc. include the
accounts of TSYS and its wholly owned subsidiaries, Columbus Depot Equipment
Company, Mailtek, Inc., TSYS Total Solutions, Inc. and Columbus Productions,
Inc. Significant intercompany accounts and transactions have been eliminated in
consolidation.
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent liabilities at the date of the consolidated financial statements and
the reported amounts of revenues and expenses during the reported periods to
prepare these financial statements in conformity with generally accepted
accounting principles. Actual results could differ from those estimates.
Investment in Joint Ventures: TSYS' 49% investment in Total System Services de
Mexico, S.A. de C.V. (TSYS de Mexico), a bankcard data processing operation
located in Mexico, is accounted for using the equity method of accounting, as is
TSYS' 50% investment in Vital Processing Services (Vital), a merchant processing
operation headquartered in Tempe, Arizona.
Property and Equipment: Property and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation expense is computed
using the straight-line method over the estimated useful lives of the assets.
Buildings and improvements are depreciated over 2-40 years, computer equipment
over 2-5 years, and furniture and other equipment over 3-15 years.
Computer Software: The Company capitalizes software development costs incurred
from the time technological feasibility of the software product or enhancement
is established until the software is ready for use in providing processing
services to customers. Research and development costs and computer software
maintenance costs are expensed as incurred. Software development costs related
to the core TS2 are amortized using the greater of (1) the straight-line method
over the estimated useful life of 10 years or (2) the ratio of current revenues
to current and anticipated revenues. All other software development costs and
costs of purchased computer software are amortized using the greater of (1) the
straight-line method over the estimated useful life not to exceed five years or
(2) the ratio of current revenues to current and anticipated revenues.
The carrying value of computer software costs is reviewed for impairment by
the Company, and impairments are recognized when the expected undiscounted
future operating cash flows derived from such intangible assets are less than
their carrying value. If such review indicates impairment, the
32
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
Company uses fair value in determining the amount that should be written off.
Revenue Recognition: The Company's bankcard data processing revenues are derived
from long-term processing contracts with banks and other institutions and are
recognized as revenues at the time the services are performed. The Company's
service contracts generally contain terms ranging from three to ten years.
Contract Acquisition Costs: The Company capitalizes certain contract acquisition
costs related to signing or renewing long-term contracts. These costs, which
primarily consist of cash payments for rights to provide processing services,
incremental internal conversion and software development costs, and third-party
software development costs, are amortized using the straight-line method over
the contract term beginning when the customer's cardholder accounts are
converted to the Company's processing system. The Company evaluates the carrying
value of contract acquisition costs for impairment on the basis of whether these
costs are fully recoverable from expected undiscounted operating cash flows of
the related contract. If such review indicates impairment, the Company uses fair
value in determining the amount that should be written off. All costs incurred
prior to contract execution are expensed as incurred.
Goodwill: Goodwill results from the excess of cost over the fair value of net
assets of businesses acquired and is being amortized using the straight-line
method over periods of five to 15 years. The Company reviews goodwill for
impairment on the basis of whether the goodwill is fully recoverable from
expected undiscounted operating cash flows of the related business units. If
such review indicates impairment, the Company uses fair value in determining the
amount that should be written off.
Income Taxes: Income tax expense reflected in TSYS' consolidated financial
statements is computed based on the taxable income of TSYS as a separate entity.
A consolidated federal income tax return is filed for Synovus and its majority
owned subsidiaries, including TSYS.
The Company accounts for income taxes in accordance with the asset and
liability method. Under the asset and liability method, deferred income tax
assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred income
tax assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences are
expected to be recovered or settled. The effect on deferred income tax assets
and liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
Cash Flow Reporting: Investments with a maturity of three months or less when
purchased are considered to be cash equivalents.
Earnings per Share: The Company has presented earnings per share in accordance
with the provisions of Statement of Financial Accounting Standards No. 128 (SFAS
128) "Earnings per Share." SFAS 128 requires companies that have publicly held
common stock or common stock equivalents to present both basic and diluted
earnings per share (EPS) on the face of the income statement. Basic EPS is
calculated as income available to common stockholders divided by the weighted
average number of common shares outstanding during the period. Diluted EPS is
calculated to reflect the potential dilution that would occur if
33
stock options or other contracts to issue common stock were exercised and
resulted in additional common stock that would share in the earnings of the
Company. The Company has restated its earnings per share for all periods
presented to reflect the adoption of SFAS 128.
Fair Values of Financial Instruments: The Company uses financial instruments in
the normal course of its business. The carrying values of cash equivalents,
accounts receivable, accounts payable, and accrued employee benefits and other
current liabilities approximate fair value due to the short-term maturities of
these assets and liabilities. The investment in joint ventures is accounted for
by the equity method and pertains to privately held companies for which a fair
value is not readily available. The Company believes the fair values of its
investment in joint ventures exceed the carrying values.
Foreign Currency Translation: Foreign currency financial statements of the
Company's Mexican joint venture are translated into U.S. dollars at current
exchange rates, except for revenues, costs and expenses, and net income which
are translated at average exchange rates during each reporting period. Through
December 31, 1996, net exchange gains or losses resulting from the translation
of assets and liabilities, net of tax, were accumulated in a separate section of
shareholders' equity titled Cumulative Currency Translation Adjustments.
Effective January 1, 1997, the Mexican economy was designated as highly
inflationary, and thus all currency translation adjustments for the year ended
December 31, 1997, have been expensed.
Reclassifications: Certain reclassifications have been made to the 1996 and 1995
financial statements to conform to the presentation adopted in 1997.
Recent Accounting Pronouncements: In June 1997, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards No.
130 (SFAS 130) "Reporting Comprehensive Income." SFAS 130 requires companies to
display, with the same prominence as other financial statements, the components
of comprehensive income. SFAS 130 requires that an enterprise classify items of
other comprehensive income by their nature in a financial statement and display
the accumulated balance of other comprehensive income separately from retained
earnings and additional paid-in capital in the equity section of a statement of
financial position. SFAS 130 is effective for fiscal years beginning after
December 15, 1997. Reclassification of financial statements for earlier periods
provided for comparative purposes is required. TSYS' financial statements will
include the disclosure of comprehensive income in accordance with the provisions
of SFAS 130 beginning in the first quarter of 1998.
In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 131 (SFAS 131) "Disclosures about Segments of an Enterprise and Related
Information." SFAS 131 establishes standards for the way public business
enterprises are to report information about operating segments in annual
financial statements and requires those enterprises to report selected financial
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas and major customers. SFAS 131 is
effective for fiscal years beginning after December 15, 1997. The Company does
not expect the impact of SFAS 131 on its financial position and results of
operations to be material.
NOTE 2 Relationship with Affiliated Companies
At December 31, 1997, CB&T owned 104,401,292 shares (approximately 80.7%) of
TSYS common stock.
34
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
TSYS has entered into agreements with CB&T and certain of its affiliates,
pursuant to which TSYS performs bankcard data processing services. Such bankcard
data processing service revenues were $2,609,762, $1,809,847 and $1,805,280
during the years ended December 31, 1997, 1996 and 1995, respectively.
Miscellaneous data processing services performed by TSYS for certain Synovus
nonbanking affiliates generated revenues of $148,036, $128,411 and $113,568
during the years ended December 31, 1997, 1996 and 1995, respectively; these
revenues are included in bankcard data processing services. Bankcard data
processing revenues related to TSYS de Mexico, the Company's Mexican joint
venture, were $18,365,224, $18,201,357 and $8,281,777 for the years ended
December 31, 1997, 1996 and 1995, respectively. Bankcard data processing
revenues related to Vital, the Company's joint venture with Visa, were
$8,115,010 and $4,755,406 for the years ended December 31, 1997 and 1996.
Revenues from other services provided by TSYS to Synovus and its affiliates were
$1,110,899, $920,703 and $718,281 during the years ended December 31, 1997, 1996
and 1995, respectively.
TSYS maintains an unsecured credit agreement with CB&T. The credit
agreement has a maximum available principal balance of $5.0 million, with
interest at prime. TSYS did not use the credit facility during 1997 or 1996.
In 1997, 1996 and 1995, TSYS received interest income of $2,075,315,
$1,392,543 and $837,356, respectively. In 1997, TSYS paid CB&T interest expense
on a short-term construction loan of $123,420 which was capitalized. Also, in
1995, TSYS paid CB&T interest expense of $78,318.
During 1997, 1996 and 1995, Synovus Data Corp. paid TSYS $224,154, $303,554
and $701,159, respectively, for data links, network services and other
miscellaneous items.
TSYS leases a portion of its facilities from Synovus Data Corp. and CB&T,
and leases portions of the buildings it owns to CB&T. TSYS made lease payments
for office facilities to Synovus Data Corp. of $240,000 in 1997 and in 1996 and
$214,650 in 1995. Lease payments made to CB&T amounted to $53,790 in 1997 and in
1996 and $54,313 in 1995. Lease payments received from CB&T amounted to $11,628
in each of 1997 and 1996 and $20,203 in 1995.
TSYS has entered into a management agreement with Synovus pursuant to which
TSYS pays for management, legal and tax services provided by Synovus. Such
management fees amounted to $1,216,089, $1,079,706 and $1,039,693 for the years
ended December 31, 1997, 1996 and 1995, respectively. Synovus paid TSYS
management fees of $361,093 in 1995 for payroll processing support services.
In July 1995, Synovus formed a separate company, Synovus Service Corp.
(SSC), to provide human resource, payroll, security, maintenance and other
administrative services to TSYS and other affiliated companies. TSYS paid SSC
$9,232,001, $8,583,648 and $3,158,695 for these services in 1997, 1996 and 1995,
respectively. TSYS received $26,169, $107,449 and $198,578 in rent from SSC in
1997, 1996 and 1995, respectively. TSYS made lease payments to SSC for $31,274
and $34,472 in 1997 and 1996, respectively.
TSYS maintains deposit accounts with CB&T, the majority of which are
interest-earning and on which TSYS receives market rates of interest. Included
in cash and cash equivalents are deposit balances with CB&T of $40.6 million and
$25.1 million at December 31, 1997 and 1996, respectively.
TSYS also had a $5.0 million certificate of deposit with CB&T, which is
included in short-term investments in 1996. In the first quarter of 1997, the
certificate of deposit was redeemed at maturity for face value.
Certain officers of TSYS participate in the Synovus 1994
Long-Term Incentive Plan. These officers were granted restricted
stock awards and nonqualified options for Synovus
35
common stock in 1997, 1996 and 1995 as follows:
- --------------------------------------------------------------------------------
Number of Shares
1997 1996 1995
- --------------------------------------------------------------------------------
Restricted stock awards -- 35,349 25,683
Stock options 363,917 227,896 191,055
The restricted stock awards were valued at the price paid for the Synovus
shares which was $764,422 and $389,526 in 1996 and 1995, respectively, and are
being amortized as compensation expense over the five-year vesting period. The
stock options were granted with an exercise price equal to the fair market value
of Synovus common stock at the date of grant. The options vest and become
exercisable over two to three years and expire eight to ten years from date of
grant.
The Company believes the terms and conditions of transactions between TSYS,
CB&T, Synovus, SSC and other affiliated companies are comparable to those which
could have been obtained in transactions with unaffiliated parties.
NOTE 3 Property and Equipment
Property and equipment balances at December 31 are as follows:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
Land $ 2,784,807 2,482,820
Buildings 49,344,128 43,387,052
Computer equipment 42,284,153 42,024,097
Furniture and other equipment 37,861,608 33,424,802
Construction in progress 1,807,994 21,481
- --------------------------------------------------------------------------------
134,082,690 121,340,252
Less accumulated depreciation
and amortization 65,114,116 58,441,206
- --------------------------------------------------------------------------------
Property and equipment, net $ 68,968,574 62,899,046
================================================================================
Depreciation and amortization of property and equipment was $11,935,776,
$10,478,116 and $9,768,665 for the years ended December 31, 1997, 1996 and 1995,
respectively.
NOTE 4 Computer Software
Computer software at December 31 is summarized as follows:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
TS2 $33,048,872 33,048,872
Other internally developed
software including TS2
enhancements 4,832,892 5,523,804
Purchased computer software 39,466,299 25,864,700
- --------------------------------------------------------------------------------
77,348,063 64,437,376
Less accumulated amortization 34,214,926 24,716,892
- --------------------------------------------------------------------------------
Computer software, net $43,133,137 39,720,484
================================================================================
Capitalized software development costs for the years ended December 31,
1997, 1996 and 1995, were $996,600, $177,732 and $2,617,445, respectively.
Amortization expense related to purchased computer software costs was
$7,212,571, $4,146,670 and $3,350,507 for the years ended December 31, 1997,
1996 and 1995, respectively. Amortization of developed software was $4,455,148,
$4,483,193 and $4,007,037 for the years ended December 31, 1997, 1996 and 1995,
respectively.
NOTE 5 Investment in Joint Ventures
In 1994, the Company acquired a 49% equity interest in TSYS de Mexico, a joint
venture which processes cardholder and merchant accounts for 20 banks in Mexico.
Effective May 1, 1996, the Company acquired a 50% equity interest in Vital, a
joint venture with Visa U.S.A., which combines the front-end
authorization and back-end accounting and settlement processing of
merchants. The combined unaudited condensed financial
36
TOTAL SYSTEM SERVICES, INC.(R) 1997 ANNUAL REPORT
information for the joint ventures as of December 31, 1997 and 1996, and for the
years then ended is as follows:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
Balance Sheet Data:
Current assets $ 50,274,402 29,292,567
Total assets 66,922,076 41,312,690
Liabilities (all current) 23,939,197 10,187,539
Statement of Income Data:
Revenues 139,125,139 95,625,643
Operating income 19,113,203 15,201,419
Income before income taxes 21,386,651 16,162,670
Net income* 18,790,608 14,292,665
Equity in income of joint
ventures 9,347,183 7,093,600
*Vital is a limited liability company and is taxed in a manner similar to a
partnership; therefore, net income related to Vital does not include income tax
expense.
NOTE 6 Shareholders' Equity
Treasury Stock: During 1987, the Board of Directors of TSYS approved the
purchase of up to 1,600,000 shares of its common stock. At December 31, 1997,
153,297 shares were held as treasury shares at a cost of $377,701. At December
31, 1996, 193,842 shares at a cost of $473,544 were held as treasury shares.
Restricted Stock Awards: The Company has issued its common stock to certain
executive officers under restricted stock awards. The market value of the common
stock at the date of issuance was recorded as a reduction of additional paid-in
capital in the Company's consolidated balance sheets and is being amortized as
compensation expense over the vesting period of the awards. Compensation expense
relating to these awards was $357,800, $456,619 and $529,982 for the years ended
December 31, 1997, 1996 and 1995, respectively, and unamortized compensation at
December 31, 1997, was $44,325. Common stock issued under restricted stock
awards is considered outstanding for purposes of the computation of earnings per
share. The amounts and terms of common stock issued under restricted awards are
summarized as follows:
- --------------------------------------------------------------------------------
Number Market Value at Vesting
Date of Issuance of Shares Date of Issuance Period
- --------------------------------------------------------------------------------
February 24, 1992 524,000 1,801,250 72 months
November 6, 1995 4,156 46,495 36 months
Long-Term Incentive Plan: In 1992, the Total System Services, Inc. Long-Term
Incentive Plan (LTI Plan) was adopted to enable Total System Services, Inc. and
subsidiaries to attract, retain, motivate and reward employees who make a
significant contribution to the Company's long-term success, and to enable such
employees to acquire and maintain an equity interest in the Company. The LTI
Plan is administered by the Compensation Committee of the Company's Board of
Directors and enables the Company to grant stock options, stock appreciation
rights, restricted stock and performance awards; 1.6 million shares of common
stock were reserved for distribution under the LTI Plan. Options granted under
the LTI Plan may be incentive stock options or non-qualified stock options as
determined by the Committee at the time of grant. Incentive stock options are
granted at a price not less than 100% of the fair market value of the stock on
the grant date, and non-qualified options are granted at a price to be
determined by the Committee. Option vesting terms are established by the
Committee at the time of grant, and presently range from one to five years. The
expiration date of options granted under the LTI Plan is determined at the time
of grant and may not exceed ten years from the date of the grant. At December
31, 1997, there were options outstanding under the LTI Plan to purchase
1,126,350 shares of the Company's common stock, of which 146,350 shares were
exercisable. There were no shares available for grant at December 31, 1997.
Additionally, options (not issued under the LTI Plan) to purchase 25,000 shares
of the Company's common stock were outstanding at December 31, 1997.
37
A summary of the status of the Company's options granted as of December 31,
1997, 1996 and 1995 and changes during the years ended on those dates is
presented below:
- ---------------------------------------------------------------------------------------------------------------------------------
1997 1996 1995
----------------------------- ----------------------------- -------------------------------------
Weighted Weighted Weighted
Average Average Average
Options Exercise Price Options Exercise Price Options Exercise Price
- ------------------------------------------------------------------------------------------------------------------------------------
Options:
Outstanding at
beginning of year 189,000 $ 3.00 191,200 $ 3.00 196,600 $ 3.00
Granted 1,005,000 19.95 - - - -
Exercised 42,650 3.00 1,100 3.00 - -
Forfeited/canceled - - 1,100 3.00 5,400 3.00
- ------------------------------------------------------------------------------------------------------------------------------------
Outstanding at
end of year 1,151,350 $ 17.79 189,000 $ 3.00 191,200 $ 3.00
====================================================================================================================================
Options exercis-
able at year-end 146,350 $ 3.00 - - - -
====================================================================================================================================
Weighted average
fair value of options
granted during
the year $ 7.97 - -
====================================================================================================================================
The following table summarizes information about stock options outstanding
at December 31, 1997:
Weighted
Average Weighted Weighted
Number Remaining Average Number Average
Outstanding at Contractual Exercise Exercisable at Exercise
December 31, 1997 Life Price December 31, 1997 Price
- ------------------------------------------------------------------------------------------------
146,350 4.50 $ 3.00 146,350 $ 3.00
25,000 11.03 27.75 - -
980,000 9.84 19.75 - -
- ------------------------------------------------------------------------------------------------
1,151,350 9.19 $17.79 146,350 $ 3.00
================================================================================================
The Company applies APB Opinion No. 25 and related interpretations in
accounting for its plans. Had compensation cost for the Company's stock-based
compensation plans been determined consistent with statement of Financial
Accounting Standards No. 123 "Accounting for Stock-Based Compensation," the
Company's net income and earnings per share would have been reduced to the
unaudited pro forma amounts indicated at right.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used: dividend yield of 0.0%; expected volatility of 41.6%;
risk-free interest rate of 5.87%; and expected lives of 3.95 years for all
options.
Year Ended December 31, 1997
- ------------------------------------------------------------------
Net income applicable
to common stockholders
As reported $ 47,478,472
Pro forma 47,150,569
Basic earnings per share:
As reported .37
Pro forma .36
Diluted earnings per share:
As reported .37
Pro forma .36
NOTE 7 Income Taxes
The provision for income taxes includes income taxes currently payable and
those deferred because of temporary differences between the financial statement
and tax bases of assets and liabilities.
The components of income tax expense included in the Consolidated
Statements of Income were as follows:
- --------------------------------------------------------------------------------------------
Years Ended December 31, 1997 1996 1995
- --------------------------------------------------------------------------------------------
Current income tax expense:
Federal $ 24,267,412 17,710,103 13,522,207
State 1,356,815 1,696,537 1,491,383
- --------------------------------------------------------------------------------------------
Total current income tax expense 25,624,227 19,406,640 15,013,590
- --------------------------------------------------------------------------------------------
Deferred income tax expense (benefit):
Federal (1,460,857) 1,470,806 885,272
State (85,933) 129,777 78,112
- --------------------------------------------------------------------------------------------
Total deferred income tax expense (benefit): (1,546,790) 1,600,583 963,384
- --------------------------------------------------------------------------------------------
Total income tax expense $ 24,077,437 21,007,223 15,976,974
============================================================================================
Income tax expense differed from the amounts computed by applying the
statutory U.S. federal income tax rate of 35% to income before income taxes as a
result of the following:
- --------------------------------------------------------------------------------------------
Years Ended December 31, 1997 1996 1995
- --------------------------------------------------------------------------------------------
Computed "expected" income tax expense $ 25,044,568 21,155,541 15,297,477
Increase (decrease) in income tax expense
resulting from:
State income tax expense, net of
federal income tax benefit 826,073 1,187,104 1,020,172
Foreign tax credits (1,335,483) (1,170,111) -
Other, net (457,721) (165,311) (340,675)
- --------------------------------------------------------------------------------------------
Total income tax expense $ 24,077,437 21,007,223 15,976,974
============================================================================================
The tax effects of the significant components of deferred income tax assets
and liabilities are presented in the following table:
- --------------------------------------------------------------------------------------------
Years Ended December 31, 1997 1996
- --------------------------------------------------------------------------------------------
Deferred income tax assets:
Primarily reserves not deductible until paid $ 3,900,198 4,556,046
- --------------------------------------------------------------------------------------------
Deferred income tax liabilities:
Computer software development costs (13,694,728) (16,617,264)
Excess tax over financial statement
depreciation (1,778,442) (1,685,253)
Other, net (2,181,716) (1,555,007)
- --------------------------------------------------------------------------------------------
Gross deferred income tax liability (17,654,886) (19,857,524)
- --------------------------------------------------------------------------------------------
Net deferred income tax liability $(13,754,688) (15,301,478)
=============================================================================================
NOTE 8 Employee Benefit Plans
The Company provides benefits to its employees by allowing employees to
participate in certain defined contribution plans. These employee benefit plans
are described as follows:
Profit Sharing Plan: The Company's employees are eligible to participate in the
Synovus Financial Corp./Total System Services, Inc. (Synovus/TSYS) Profit
Sharing Plan. The Company's contributions to the plan are contingent upon
achievement of certain financial goals. The terms of the plan limit the
Company's contribution to 9% of participant compensation, as defined, not to
exceed the maximum allowable deduction under Internal Revenue Service
guidelines. TSYS' annual contributions to the plan charged to expense are as
follows:
- --------------------------------------------------------------------------------
1997 $ 6,828,175
1996 5,270,884
1995 4,429,998
Money Purchase Plan: The Company's employees are eligible to participate in the
Synovus/TSYS Money Purchase Pension Plan, a defined contribution pension plan.
The terms of the plan provide for the Company to make annual contributions to
the plan equal to 7% of participant compensation, as defined. The Company's
contributions to the plan charged to expense are as follows:
- --------------------------------------------------------------------------------
1997 $ 5,294,540
1996 3,925,699
1995 3,417,057
401(k) Plan: The Company's employees are eligible to participate in the
Synovus/TSYS 401(k) Plan. The terms of the plan allow employees to contribute up
to 10% of pretax compensation with a discretionary company contribution up to a
maximum of 5% of participant compensation, as defined, based upon the Company's
attainment of certain financial goals. The Company's contributions to the plan
charged to expense are as follows:
- --------------------------------------------------------------------------------
1997 $ 21,861
1996 3,976,544
1995 1,601,939
Stock Purchase Plan: The Company maintains stock purchase plans for directors
and employees, whereby TSYS makes contributions equal to one-half of employee
and director voluntary contributions. The funds are used to purchase presently
issued and outstanding shares of TSYS common stock for the benefit of
participants. TSYS' contributions to these plans charged to expense are as
follows:
- --------------------------------------------------------------------------------
1997 $ 1,588,618
1996 1,226,340
1995 962,829
Postretirement Medical Benefits Plan: TSYS provides certain medical benefits to
qualified retirees through a postretirement medical benefits plan. The benefit
expense and accrued benefit cost associated with the plan are not significant to
the Company's consolidated financial statements.
NOTE 9 Commitments and Contingencies
Lease Commitments: TSYS is obligated under noncancelable operating leases for
computer equipment and facilities. Management expects that, as these leases
expire, they will be renewed or replaced by similar leases. In 1997, the Company
entered into an operating lease agreement for the Company's new corporate
campus. Under the agreement the lessor is paying for the construction and
development costs and has leased the facilities to the Company commencing upon
its completion for a term of three years. The lease provides for substantial
40
residual value guarantees and includes purchase options at original cost of the
property. The amount of the residual value guarantees relative to the assets
under this lease is projected to be $87.0 million. Once the leased assets are
placed into service, the Company will estimate its liability under the residual
value guarantees and will record additional rent expense if necessary on a
straight-line basis over the lease term.
The future minimum lease payments under noncancelable operating leases
with remaining terms greater than one year for the next five years and in the
aggregate as of December 31, 1997, are as follows:
- --------------------------------------------------------------------------------
1998 $ 43,363,238
1999 43,659,154
2000 31,121,168
2001 15,861,516
2002 3,429,590
- --------------------------------------------------------------------------------
$ 137,434,666
================================================================================
Total rental expense under all operating leases in 1997, 1996 and 1995 was
$52,765,480, $45,990,637 and $34,862,784, respectively.
Contractual Commitments: In the normal course of its business, the Company
maintains processing contracts with its customers. These processing contracts
contain commitments, including, but not limited to, minimum standards and time
frames against which the Company's performance is measured. In the event the
Company does not meet its contractual commitments with its customers, the
Company may incur penalties and/or certain customers may have the right to
terminate their contracts with the Company. The Company does not believe that it
will fail to meet its contractual commitments to an extent that will result in a
material adverse effect on its financial condition or results of operations.
Contingencies: The Company is subject to lawsuits, claims and other complaints
arising out of the ordinary conduct of its business. In the opinion of
management, based in part upon the advice of legal counsel, all matters are
adequately covered by insurance or, if not covered, are without merit or are of
such kind or involve such amounts as would not have a material adverse effect on
the financial condition or results of operations of the Company if disposed of
unfavorably.
NOTE 10 Supplementary Balance Sheet Information
Significant components of other noncurrent assets are summarized as follows:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
Contract acquisition costs, net $ 27,274,037 18,645,910
Investment in joint ventures, net 21,338,446 15,347,876
Significant components of other current liabilities are summarized as follows:
- --------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------
Customer postage deposits $ 13,579,370 8,691,602
Transaction processing provisions 4,051,285 3,301,011
NOTE 11 Major Customers
For the years ended December 31, 1997, 1996 and 1995, two major customers
accounted for approximately 25%, 29%, and 34% of total revenues, respectively.
41
KPMG Peat Marwick LLP 303 Peachtree Street, N.E.
Suite 2000
Atlanta, GA 30308
The Board of Directors and Shareholders
Total System Services, Inc.:
We have audited the accompanying consolidated balance sheets of Total
System Services, Inc. and subsidiaries as of December 31, 1997 and 1996, and the
related consolidated statements of income, shareholders' equity, and cash flows
for each of the years in the three-year period ended December 31, 1997. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Total System
Services, Inc. and subsidiaries at December 31, 1997 and 1996, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 1997 in conformity with generally accepted accounting
principles.
/s/KPMG Peat Marwick LLP
January 23, 1998
42
QUARTERLY FINANCIAL DATA, STOCK PRICE, DIVIDEND INFORMATION
TSYS' common stock trades on the New York Stock Exchange (NYSE) under the
symbol "TSS." Price and volume information appears under the abbreviation
"TotlSysSvc" in NYSE daily stock quotation listings. As of February 12, 1998,
there were 8,307 holders of record of TSYS common stock, some of whom are
holders in nominee name for the benefit of different shareholders.
The fourth quarter dividend was declared on December 8, 1997, and was paid
January 2, 1998, to shareholders of record on December 19, 1997. Total dividends
declared in 1997 and in 1996 amounted to $5.8 million. It is the present
intention of the Board of Directors of TSYS to continue to pay cash dividends on
its common stock.
Presented here is a summary of the unaudited quarterly
financial data for the years ended December 31, 1997 and 1996.
[Omitted Revenues graph is represented by the following table.]
Revenues
(Millions of Dollars)
1997 1996
QTR4 $96.5 $85.9
QTR3 $92.1 $80.2
QTR2 $89.7 $74.5
QTR1 $83.1 $71.1
[Omitted Net Income graph is represented by the following table.]
Net Income
(Millions of Dollars)
1997 1996
QTR4 $15.8 $14.2
QTR3 $13.2 $11.3
QTR2 $ 9.9 $ 7.9
QTR1 $ 8.5 $ 6.0
First Second Third Fourth
(in thousands except per share data) Quarter Quarter Quarter Quarter
- ------------------------------------------------------------------------------------------------
1997 Revenues ............................ $83,137 89,736 92,135 96,491
Operating income .................... 12,594 15,071 18,913 22,698
Net income .......................... 8,517 9,941 13,225 15,795
Basic earnings per share ............ .07 .08 .10 .12
Diluted earnings per share .......... .07 .08 .10 .12
Cash dividends declared per share.... .011 .012 .011 .011
Stock prices:
High ............................... 34 5/8 34 5/8 24 15/16 29 7/16
Low ................................ 25 3/4 22 1/2 21 7/8 18 5/16
- ------------------------------------------------------------------------------------------------
1996 Revenues ............................ $71,102 74,489 80,179 85,878
Operating income .................... 8,579 11,654 17,269 21,495
Net income .......................... 5,969 7,900 11,347 14,221
Basic earnings per share ............ .05 .06 .09 .11
Diluted earnings per share .......... .05 .06 .09 .11
Cash dividends declared per share.... .011 .012 .011 .011
Stock prices:
High ............................... 21 27 3/8 26 1/4 29 3/4
Low ................................ 11 1/2 20 20 1/2 25 3/8
- ------------------------------------------------------------------------------------------------
43