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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
_X_ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 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: 1-14310
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IMATION CORP.
(Exact name of registrant as specified in its charter)
DELAWARE 41-1838504
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1 IMATION PLACE
OAKDALE, MINNESOTA 55128
(Address of principal executive offices)
(612) 704-4000
(Registrant's telephone number, including area code)
--------------------------------------------
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X . No ___.
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 36,521,691 shares of Common
Stock, par value $0.01 per share, were outstanding at August 3, 1999.
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IMATION CORP.
INDEX
PAGE(S)
PART I. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Statements of Operations
for the three and six months ended June 30,
1999 and 1998 3
Condensed Consolidated Balance Sheets as
of June 30, 1999 and December 31, 1998 4
Condensed Consolidated Statements of Cash
Flows for the six months ended
June 30, 1999 and 1998 5
Notes to Consolidated Financial Statements 6-10
Report of Independent Accountants 11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS 12-20
PART II. OTHER INFORMATION 20-22
SIGNATURE 23
EXHIBIT INDEX 24
2
PART I. FINANCIAL INFORMATION
IMATION CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In millions, except per share amounts)
(Unaudited)
Three months ended Six months ended
June 30, June 30,
------------------- -------------------
1999 1998 1999 1998
------- ------- ------- -------
Net revenues $ 354.2 $ 311.8 $ 695.4 $ 660.9
Cost of goods sold 246.5 215.1 484.8 453.9
------- ------- ------- -------
Gross profit 107.7 96.7 210.6 207.0
Operating expenses:
Selling, general and
administrative 72.1 89.1 151.1 182.6
Research and development 18.9 19.0 38.1 42.5
Restructuring -- (3.6) -- (3.6)
------- ------- ------- -------
Total 91.0 104.5 189.2 221.5
Operating income (loss) 16.7 (7.8) 21.4 (14.5)
Other income and expense:
Interest expense 0.2 3.2 0.9 6.2
Other, net (1.2) 1.1 (3.1) 2.6
------- ------- ------- -------
Total (1.0) 4.3 (2.2) 8.8
Income (loss) from continuing
operations before taxes 17.7 (12.1) 23.6 (23.3)
Income tax provision (benefit) 7.0 (5.1) 9.4 (9.8)
------- ------- ------- -------
Income (loss) from continuing
operations 10.7 (7.0) 14.2 (13.5)
Income from operations of
discontinued businesses,
net of taxes 2.0 11.8 4.6 20.3
------- ------- ------- -------
Net income $ 12.7 $ 4.8 $ 18.8 $ 6.8
======= ======= ======= =======
Basic and diluted earnings
(loss) per common share:
Continuing operations $ 0.29 $ (0.18) $ 0.37 $ (0.35)
Discontinued operations $ 0.05 $ 0.30 $ 0.12 $ 0.52
------- ------- ------- -------
Net income $ 0.34 $ 0.12 $ 0.49 $ 0.17
======= ======= ======= =======
Weighted average basic
shares outstanding 36.9 39.3 38.1 39.2
======= ======= ======= =======
Weighted average diluted
shares outstanding 37.0 39.5 38.1 39.4
======= ======= ======= =======
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE STATEMENTS.
3
IMATION CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In Millions, Except Per Share Amounts)
June 30,
1999 December 31,
(Unaudited) 1998
--------- ---------
ASSETS
Current assets
Cash and equivalents $ 153.0 $ 64.2
Accounts receivable - net 253.0 326.3
Inventories 197.1 263.7
Net assets of discontinued operations 73.5 --
Other current assets 109.6 265.7
--------- ---------
Total current assets 786.2 919.9
Property, plant and equipment - net 205.1 233.8
Other assets 138.4 159.6
--------- ---------
Total assets $1,129.7 $1,313.3
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 119.9 $ 128.9
Accrued payroll 32.9 30.3
Short-term debt 15.3 25.2
Other current liabilities 199.9 228.8
--------- ---------
Total current liabilities 368.0 413.2
Other liabilities 53.7 106.3
Long-term debt 1.2 32.7
Shareholders' equity
Preferred stock, $0.01 par value, authorized 25
million shares, none issued and outstanding -- --
Common stock, $0.01 par value, authorized 100
million shares, 42.9 million issued 0.4 0.4
Additional paid-in capital 1,028.1 1,027.7
Accumulated deficit (106.9) (123.9)
Unearned ESOP shares (23.6) (27.6)
Cumulative translation adjustments (84.1) (68.5)
Treasury stock, at cost, 5.4 million and 1.9
million shares as of June 30, 1999
and December 31, 1998, respectively (107.1) (47.0)
--------- ---------
Total shareholders' equity 706.8 761.1
--------- ---------
Total liabilities and shareholders' equity $1,129.7 $1,313.3
========= =========
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE STATEMENTS.
4
IMATION CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Millions)
(Unaudited)
Six months ended
June 30,
-----------------
1999 1998
------ ------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 18.8 $ 6.8
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 47.8 60.8
Deferred income taxes (0.5) 24.9
Inventory, accounts receivable and payable changes 29.7 (28.8)
Other working capital changes (14.0) (9.0)
Other (7.1) (9.3)
------ ------
Net cash provided by operating activities 74.7 45.4
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (30.3) (36.1)
Capitalized software -- (48.3)
Proceeds from sale of medical imaging business 143.0 --
Other 4.0 4.4
------ ------
Net cash provided by (used in) investing activities 116.7 (80.0)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in short-term debt (7.4) 18.4
Other borrowings of debt -- 21.9
Other repayments of debt (31.0) (90.0)
Purchases of treasury stock (61.5) --
Decrease in unearned ESOP shares 3.8 5.6
Exercise of stock options and other 0.4 1.2
------ ------
Net cash used in financing activities (95.7) (42.9)
Effect of exchange rate changes on cash (6.9) (2.4)
------ ------
Net change in cash and equivalents 88.8 (79.9)
Cash and equivalents - beginning of period 64.2 103.5
------ ------
Cash and equivalents - end of period $153.0 $ 23.6
====== ======
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART
OF THESE STATEMENTS.
5
IMATION CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. FINANCIAL STATEMENTS
The interim consolidated financial statements are unaudited but, in the opinion
of management, reflect all adjustments necessary for a fair presentation of
financial position, results of operations and cash flows for the periods
presented. Except as otherwise disclosed herein; these adjustments consist of
normal, recurring items. The results of operations for any interim period are
not necessarily indicative of results for the full year. The consolidated
financial statements and notes are presented as permitted by the requirements
for Form 10-Q and do not contain certain information included in the Company's
annual consolidated financial statements and notes. This Form 10-Q should be
read in conjunction with the Company's consolidated financial statements and
notes included in its 1998 Annual Report on Form 10-K. Certain balance sheet
amounts in the prior year's financial statements have been reclassified to be
consistent with the current period's presentation.
2. EARNINGS PER SHARE
Basic earnings per share is calculated using the weighted average number of
shares outstanding during the period adjusted for ESOP shares not committed.
Diluted earnings per share is computed on the basis of the weighted average
basic shares outstanding plus the dilutive effect of outstanding stock options
using the "treasury stock" method. The following table sets forth the
computation of the weighted average basic and diluted shares outstanding:
Three Months Ended Six Months Ended
June 30, June 30,
------------------ ----------------
(In millions) 1999 1998 1999 1998
---- ---- ---- ----
Weighted average
shares outstanding 37.9 40.7 39.1 40.7
Weighted average ESOP
shares not committed (1.0) (1.4) (1.0) (1.5)
---- ---- ---- ----
Weighted average
basic shares outstanding 36.9 39.3 38.1 39.2
Dilutive effect of
employee stock options 0.1 0.2 -- 0.2
---- ---- ---- ----
Weighted average diluted
shares outstanding 37.0 39.5 38.1 39.4
==== ==== ==== ====
6
3. SUPPLEMENTAL BALANCE SHEET INFORMATION
June 30,
1999 December 31,
(In millions) (Unaudited) 1998
---------- -------------
Inventories
Finished goods $ 145.0 $ 166.4
Work in process 32.2 48.8
Raw materials and supplies 19.9 48.5
---------- -------------
Total inventories $ 197.1 $ 263.7
========== =============
Property, Plant and Equipment
Property, plant and equipment $ 970.5 $ 1,354.6
Less accumulated depreciation (765.4) (1,120.8)
---------- -------------
Property, plant and equipment - net $ 205.1 $ 233.8
========== =============
The June 30,1999 amounts exclude the Photo Color business assets, which were
reclassified to net assets of discontinued operations in the balance sheet. (See
Note 6 to the consolidated financial statements.)
4. COMMITMENTS AND CONTINGENCIES
Discussion of legal matters is cross-referenced to this Form 10-Q, Part II, Item
1, Legal Proceedings, and should be considered an integral part of the
Consolidated Financial Statements and Notes.
5. RESTRUCTURING
In the fourth quarter of 1997 and in 1998, the Company recorded charges for the
restructuring of its worldwide operations in order to improve the Company's
competitive position, to focus resources on areas of strength and on growth
opportunities, and to reduce costs and eliminate unnecessary structure.
The following table represents the cumulative activity related to the Company's
1997 and 1998 restructuring programs:
(In millions) Program Cumulative June 30, 1999
Amounts Usage Balance
------- -------- -------
Severance $ 62.6 $ (45.8) $ 16.8
Asset impairments 55.3 (55.3) -
Other 38.9 (27.2) 11.7
------- -------- -------
Total $ 156.8 $(128.3) $ 28.5
======= ======== =======
During the three months ended June 30, 1999 the Company made cash payments of
$3.8 million related to the restructuring programs, compared to $9.4 million
paid in the same period of 1998. Remaining severance payments related to
employee separations are expected to be made throughout the remainder of 1999.
Since initiation of the program, total headcount has been reduced by
approximately 2000.
During the second quarter of 1998, the Company recorded a $3.6 million benefit
in the restructuring line of the Statement of Operations as a final adjustment
of restructuring charges recorded in the fourth quarter of 1995.
7
6. DISPOSAL OF MEDICAL IMAGING AND PHOTO COLOR SYSTEMS SEGMENT
On June 21, 1999, the Company and Schroder Ventures, through its wholly owned
affiliate Ferrania Lux, S.A.R.L., entered into an asset purchase agreement for
the sale of the Company's worldwide Photo Color Systems business and the
Ferrania, Italy, manufacturing facility and associated businesses. The agreement
provides that Imation will lease certain manufacturing space and provide
administrative services to Schroder Ventures during a transition period. In
addition, Schroder Ventures will assume responsibility for manufacturing and
selling medical imaging x-ray and wet laser film to Eastman Kodak Company
(Kodak) in fulfillment of the Ferrania Supply Agreement (defined below) between
Imation and Kodak. The transaction closed on August 2, 1999, and is ultimately
expected to generate after-tax cash of approximately $55 million in 1999. The
Company expects to record approximately a break-even result on final closing in
the Company's statement of operations in the third quarter, net of taxes.
On November 30, 1998, the Company sold its worldwide medical imaging business to
Kodak. In connection with the sale, Kodak immediately acquired the assets and
assumed the liabilities of the Company's Medical Imaging Systems businesses in
North America, Latin America and Asia. The formal closings of the sale of the
related businesses in Europe to Kodak occurred on a country-by-country basis
during the first quarter of 1999.
The Company receives reimbursement from Kodak for certain services under
transition services and distribution agreements that the Company has agreed to
provide Kodak, for a period of up to two years. Kodak, at its option, may
terminate the transition services agreement upon prior notice.
The Company retained its manufacturing facility in Ferrania, Italy, from which
the Company agreed to manufacture x-ray and wet laser medical imaging film for
Kodak for a minimum of two years under a supply agreement which became effective
on November 30, 1998 (the Ferrania Supply Agreement). As a result of the Photo
Color Systems business and Ferrania Manufacturing Facility sale, Schroder
Ventures assumed responsibility for fulfillment of the Supply Agreement with
Kodak.
As a result of the sale of the Photo Color Systems business and the
manufacturing facility in Ferrania, Italy, the Company has completed the
disposition of its Medical Imaging and Photo Color Systems segment. As such, the
Company's consolidated statement of operations present Photo Color Systems and
the Medical Imaging businesses as discontinued operations. The Company's
Consolidated Balance Sheet includes $73.5 million representing the Photo Color
Systems' net assets of discontinued operations as of June 30, 1999 consisting
principally of accounts receivable, inventory, fixed assets, trade accounts
payable, and employee severance indemnities. Revenues from discontinued
businesses were $63.9 million and $124.7 million for the three and six months
ended June 30, 1999, respectively, and $205.3 million and $375.6 million for the
three and six months ended June 30, 1998, respectively. Income from operations
of discontinued businesses have been reduced by taxes of $2.4 million and $4.7
million for the three and six months ended June 30, 1999, respectively, and by
$11.2 million and $17.4 million for the three and six months ended June 30,
1998, respectively.
8
7. COMPREHENSIVE INCOME
Comprehensive income for the six month periods ended June, 30 1999 and 1998 was
as follows:
Three Months Ended Six Months Ended
June 30, June 30,
----------------------- ---------------------
(In millions) 1999 1998 1999 1998
--------- --------- --------- --------
Net income $ 12.7 $ 4.8 $ 18.8 $ 6.8
Changes in cumulative
translation adjustments (9.5) 2.4 (15.6) (1.6)
------- ------ ------- ------
Comprehensive
income $ 3.2 $ 7.2 $ 3.2 $ 5.2
======= ====== ======= =======
8. SEGMENT INFORMATION
The Company's continuing businesses are organized, managed and internally
reported as three segments differentiated primarily by their products and
services, but also by the markets they serve. These segments, whose results are
shown below, are Data Storage and Information Management, providing removable
data storage media for use in the mobile and desktop, network and enterprise
data center markets; Product Technologies, whose principle products include
printing and color proofing systems, printing films and plates for the graphic
arts marketplace, and carbonless paper, such as multi-part business forms; and
Digital Solutions and Services, which provides 24-hour technical service and
support for equipment sold by the Company as well as by other third party
equipment vendors, digital workflow solutions principally in the areas of color
and data management, and document imaging products for large format engineering
documentation.
(1)Divested
Business Data Digital Business,
Segment Storage and Solutions Corporate,
Information Second Information Product and Other and Total
(In millions) Quarter Management Technologies Services Unallocated Company
=======================================================================================================
Net revenues 1999 $237.7 $85.8 $29.7 $1.0 $354.2
1998 155.8 105.4 33.3 17.3 311.8
- -------------------------------------------------------------------------------------------------------
Operating 1999 $5.7 $13.0 $(0.5) $(1.5) $16.7
income(loss) 1998 (15.9) 13.4 (4.0) (1.3) (7.8)
- -------------------------------------------------------------------------------------------------------
9
(1)Divested
Business Six Data Digital Business,
Segment Months Storage and Solutions Corporate,
Information to Information Product and Other and Total
(In millions) Date Management Technologies Services Unallocated Company
=======================================================================================================
Net revenues 1999 $457.6 $174.7 $60.5 $2.6 $695.4
1998 333.5 210.3 75.0 42.1 660.9
- -------------------------------------------------------------------------------------------------------
Operating 1999 $6.4 $19.1 $(1.3) $(2.8) $21.4
income(loss) 1998 (19.1) 20.1 (4.1) (11.4) (14.5)
- -------------------------------------------------------------------------------------------------------
(1)Includes results for the CD ROM business until divested in quarter 3, 1998,
restructuring reserve adjustments ($3.6 million of income in quarter 2,
1998), and general overhead which was previously allocated to the Medical
Imaging and Photo Color businesses.
Intersegment revenues are not material. Except for asset reductions in Product
Technologies as a result of the Photo Color Systems business sale, total assets
by segment have not changed materially from December 31, 1998. See Note 6 to the
consolidated financial statements regarding the sale of the Photo Color Systems
business and related discontinued operations Financial Statement presentation.
9. LEGAL SETTLEMENT OF BUSINESS DISPUTE
The Company recorded a one time $20.7 million pre-tax gain resulting from the
cash settlement in June 1999 of a Product Technologies segment business dispute.
This gain is reflected in selling, general and administrative expenses in the
second quarter of 1999.
10. WRITE-OFF OF CERTAIN CAPITALIZED SOFTWARE COSTS
The Company recorded an $18 million pre-tax charge related to the write-off of
certain capitalized software costs associated with the abandonment of certain of
the Company's information system functionality. This is reflected in selling,
general and administrative expenses in the second quarter of 1999.
11. DERIVATIVES AND HEDGING
In June of 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. This standard
establishes accounting and reporting standards for derivative instruments and
hedging activities. The Company must adopt this standard no later than January
1, 2000. Adoption of this standard is not expected to have a material impact on
the financial statements of the Company.
****
PricewaterhouseCoopers LLP, the Company's independent accountants, has performed
a review of the unaudited interim consolidated financial statements included
herein and their report thereon accompanies this filing. This report is not a
"report" within the meaning of Sections 7 and 11 of the 1933 Act and the
independent accountants liability under Section 11 does not extend to it.
10
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of Imation Corp.:
We have reviewed the accompanying condensed consolidated balance sheet of
Imation Corp. (the "Company") as of June 30, 1999, and the related consolidated
statements of operations for the three and six months ended June 30, 1999 and
1998 and condensed consolidated statements of cash flows for the six months
ended June 30, 1999 and 1998. These consolidated financial statements are the
responsibility of the Company's management.
We conducted our reviews in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our reviews, we are not aware of any material modifications that should
be made to the accompanying consolidated financial statements for them to be in
conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet as of December 31, 1998, and the
related consolidated statements of operations, shareholders' equity and cash
flows for the year then ended (not presented herein); and in our report dated
February 8, 1999, we expressed an unqualified opinion on those consolidated
financial statements. In our opinion, the information set forth in the
accompanying condensed consolidated balance sheet as of December 31, 1998, is
fairly stated in all material respects in relation to the consolidated balance
sheet from which it has been derived.
/s/ PricewaterhouseCoopers LLP
PricewaterhouseCoopers LLP
Minneapolis, Minnesota
July 29, 1999
11
IMATION CORP.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL OVERVIEW
Imation Corp. (the Company) began operations as an independent, publicly held
company on July 1, 1996 when Minnesota Mining and Manufacturing Company (3M)
spun off substantially all of the businesses previously operated within its data
storage and imaging systems groups.
With the sale of the Photo Color Systems business, the Company has completed the
disposition of its Medical Imaging and Photo Color Systems segment and
therefore, these operations are presented in the Company's Statements of
Operations as discontinued operations. Management's discussion and analysis of
the results of operations focuses on the Company's continuing operations.
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED JUNE 30, 1999 AND 1998
Net revenues from continuing operations for the second quarter of 1999 were
$354.2 million, an increase of $42.4 million or 14 percent from the same period
in 1998. Solid volume increases were partially offset by price declines and a
slight negative effect of changes in currency exchange rates.
Data Storage and Information Management revenues grew 53 percent, with growth in
all three of its major customer markets: mobile and desktop, network and
enterprise data center. Product Technologies revenues declined 19 percent driven
primarily by the plates and film business. Digital Solutions and Services
revenues declined by $3.6 million driven by the anticipated slowing of the
Company's more mature Document Imaging business.
Gross profit from continuing operations in the second quarter of 1999 was $107.7
million, or 30.4 percent of revenues, compared with the second quarter of 1998
which was $96.7 million, or 31.0 percent of revenues. Improved volume growth and
productivity improvements were off-set by the negative effects of continuing
price erosion and changes in product mix.
Selling, general and administrative (SG&A) expenses from continuing operations
in the second quarter of 1999 were $72.1 million, or 20.4 percent of revenues.
Comparable SG&A expenses in the second quarter of 1998 were $89.1 million, or
28.6 percent of revenues. The 19 percent, or $17.0 million, reduction in SG&A
reflects the combined impact of a number of items: the Company's restructuring
program reduced headcount from continuing operations; the Company's investment
in SuperDisk sales promotions peaked in the second quarter of 1998 and has
subsequently declined; Kodak transitional services payments in 1999 offset
certain SG&A costs; the Company settled a business dispute during the second
quarter of 1999 for a net benefit of approximately $21 million; and, offsetting
some of these benefits, the Company recorded a $18 million write-off of
capitalized software costs related to abandoned
12
functionality. During the second half of the year the Company anticipates that
the amount of transitional services provided to Kodak will decline which will
negatively impact SG&A expenses. Actions will be taken to offset this situation,
however, the Company does not anticipate being able to fully offset the
financial impact of the loss of this source of funding. While the Company cannot
currently predict with certainty the timing or dollar impact, SG&A, as a
percentage of revenue, may be negatively impacted by 1 to 2 percentage points
over the next 6 to 12 months due to Kodak's reduced need for transitional
services.
Research and development (R&D) costs from continuing operations totaled $18.9
million, or 5.3 percent of revenues in the second quarter of 1999, which is
relatively flat with the comparable amount from the same period in 1998.
Management continues to expect ongoing R&D investment as a percent of total
revenues to range from 5-7% during the next several years.
Operating income from continuing operations for the second quarter of 1999 was
$16.7 million compared to a loss of $7.8 million for the same period last year.
This improvement is primarily due to the strong sales growth and the reduction
in SG&A expenses discussed above.
Second quarter 1999 interest expense from continuing operations was $0.2
million, compared to $3.2 million in the same quarter last year. This decrease
was driven by the use of proceeds from the sale of the Medical Imaging Systems
business in the fourth quarter of 1998 to reduce debt.
Net other income and expense in the second quarter of 1999 totaled $1.2 million
of income, primarily interest earned on cash invested. In the same period of
1998, net other income and expense was $1.1 million of expense primarily related
to the negative impact of foreign currency transactions.
The continuing operations tax rate for the quarter was approximately 40 percent,
an improvement of 800 basis points from 1998's published full-year tax rate of
approximately 48.0 percent from all operations. This reflects the benefit of the
divestiture of the Photo Color Systems business and Ferrania, Italy,
manufacturing plant. The Company currently anticipates that 40 percent will be
the tax rate from continuing operations for the full year.
Net income from continuing operations in the second quarter of 1999 was $10.7
million, or $0.29 per basic and diluted share, compared with a loss from
continuing operations of $7.0 million, or ($0.18) per basic and diluted share,
for the same period in 1998 for the reasons discussed above.
COMPARISON OF SIX MONTHS ENDED JUNE 30, 1999 AND 1998
On a year to date basis, net revenues from continuing operations were $695.4
million, an increase of $34.5 million or 5 percent from the same period in 1998.
Solid volume increases were partially offset by price declines and a slight
negative effect of changes in currency exchange rates.
Data Storage revenues grew 37 percent, with growth in all three of its major
customer markets. Product Technologies revenues declined 17 percent driven
primarily by the plates and film business. Digital Solutions and Services
13
revenues declined by $14.5 million driven by the anticipated slowing of the
Company's more mature Document Imaging business.
Gross profit from continuing operations for the first six months of 1999 was
$210.6 million or 30.3 percent of revenues. This compares with $207.0 million,
or 31.3 percent of revenues in 1998. Volume growth and productivity improvements
were offset by price reductions and changes in product mix.
Selling, general and administrative (SG&A) expenses for the first six months of
1999 were $151.1 million, or 21.7 percent of revenues. This compares with $182.6
million, or 27.6 percent of revenues in the first six months of 1998. As
discussed in the comparison of three month results above, the reduction in SGA
expenses results from a large number of factors including a reduction in
SuperDisk promotional costs, headcount reductions, Kodak transitional services
payments, a $21 million gain from the settlement of a business dispute, and an
$18 million write-off of capitalized software. Additionally, the first half of
1999 benefited from a $3.5 million gain on the sale of a facility in Bracknell,
United Kingdom.
Research and development costs totaled $38.1 million, or 5.5 percent of revenues
in the first six months of 1999, down from $42.5 million, or 6.4 percent of
sales in the same period in 1998. This decrease reflects the impact of the
Company's restructuring programs.
The Company recorded a $3.6 million benefit in the second quarter of 1998 in the
restructuring line of the Statement of Operations reflecting final adjustments
of the restructuring reserves established in the fourth quarter of 1995 and the
first half of 1996 in connection with the Company's spin-off from 3M.
Operating income from continuing operations for the first six months of 1999 was
$21.4 million, or 3.1 percent of revenues. This represents a $35.9 million
improvement over the operating loss of $14.5 million in the same period of 1998.
This reflects the combination of year on year revenue growth and the SG&A
expense reductions discussed above.
First half 1999 interest expense from continuing operations was $0.9 million,
compared to $6.2 million in the same period last year. This decrease was driven
by the use of proceeds from the sale of the medical imaging business to reduce
debt.
Net other income and expense in the first six months of 1999 totaled $3.1
million of income, primarily interest income, compared to $2.7 million of
expense in the comparable period of 1998.
The continuing operations tax rate for the first six months of 1999 was
approximately 40 percent, an improvement of 800 basis points from 1998's
published full-year tax rate of approximately 48.0 percent from all operations.
This reflects the benefit of the expected divestiture of the Photo Color Systems
business and Ferrania, Italy, manufacturing plant. The Company currently
anticipates that 40 percent will be the tax rate from continuing operations for
the full year.
Year to date net income from continuing operations in 1999 was $14.2 million, or
$0.37 per share. Net loss from continuing operations in the comparable period of
1998 was $13.5 million, or ($0.35) per share for the reasons discussed above.
14
FINANCIAL POSITION
The Company had 2.7 months of inventory on hand at June 30, 1999, down from 3.2
months as of December 31, 1998 due to both operational improvements and the
disposal of the Photo Color Systems business. Similarly, the accounts receivable
days sales outstanding (DSO) was 65 days as of June 30, 1999, down from 80 days
as of December 31, 1998 due to operational improvements and the disposal of the
Photo Color Systems business.
The book value of property, plant and equipment as of June 30, 1999 was $205.1,
a decrease of $28.7 million from December 31, 1998. Approximately $9 million of
this decline related to the sale of the Photo Color Systems business, $6 million
to the sale of land and building in Bracknell, U.K., and $8 million due to
changes in the rates of foreign currency translation.
LIQUIDITY
Cash provided by operating activities was $74.7 million during the six months
ended June 30, 1999, compared with $45.4 million during the same period in 1998.
Depreciation and amortization was $47.8 million in the first six months of 1999,
down from $60.8 million in 1998 because of the sale of Medical Imaging Systems
and Photo Color Systems assets (see note 6 to the Consolidated Financial
Statements). Changes in inventory, accounts receivable, and accounts payable
(adjusted for currency impact) provided $29.7 million in cash during the first
half of 1999 compared to a $28.8 million use of cash in the first half of 1998.
Other working capital changes used $14.0 million of cash, in part due to
payments related to restructuring.
Cash provided by investing activities was $116.7 million for the six months
ended June 30, 1999 compared with cash used of $80.0 million in the comparable
period of 1998. Cash restrictions on $143 million of proceeds related to the
sale of the medical imaging business were removed during the first quarter of
1999 as the sale of the European entities of that business was completed. The
remaining $26.3 million of cash used by investing activities during the six
months ended June 30, 1999 is down from last year's $80.0 million because no
software costs were capitalized in the first six months of 1999, while $48.3
million was spent on capitalized software in the same period in 1998. These
expenditures related primarily to the design, implementation and testing of the
Company's new IT systems. Amortization of these costs began during the second
quarter of 1998. Capital expenditures of $30.3 million for the first six months
of 1999 included approximately $7 million related to the purchase of an
administrative building previously leased under a synthetic lease. Adjusted for
this, capital spending decreased from the same period in 1998 which totaled
$36.1 million, reflecting the sale of the Medical Imaging Systems business.
Net financing activities during the first six months of 1999 used cash of $95.7
million compared with a $42.9 million use of cash in the comparable
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1998 period. The 1999 amount includes $61.5 million in expenditures for the
repurchase of approximately 3.6 million shares of the Company's common stock and
the repayment of $31.0 million of debt.
On December 31, 1998, the Company entered into a three-year $175.0 million Loan
and Security Agreement (the Loan Agreement) with a group of banks. The Loan
Agreement provides for a revolving credit, including letters of credit, with
borrowing availability based on eligible accounts receivable, inventories and
manufacturing machinery and equipment not to exceed $175.0 million. Borrowing
availability as of June 30, 1999 was $163.2 million. The Loan Agreement is
collateralized by substantially all the domestic assets of the Company,
excluding the land and buildings at the Company's headquarters in Oakdale,
Minnesota, and a pledge of 65 percent of the stock of certain of the Company's
foreign subsidiaries. Covenants include maintenance of a minimum tangible net
worth and borrowing base availability, with certain restrictions on the
incurrence of additional indebtedness, sale of assets, mergers and
consolidation, transactions with affiliates, creation of liens, and certain
other matters.
As of June 30, 1999, the Company's ratio of total debt to total capital was 2.3%
as compared to 7.1% as of December 31, 1998. The Company expects that cash and
equivalents, together with cash flow from operations and availability of
borrowings under its current credit facility will provide sufficient liquidity
to operate the Company.
YEAR 2000 COMPLIANCE
Introduction (Phases)
In preparation for the change in the millennium, the Company's Year 2000 (Y2K)
Operating Team has instituted a seven-phase plan to address the Company's Y2K
readiness in the following areas: internal IT systems, non-IT systems (including
plants, facilities, process control and building control equipment,
communications systems, laboratory and test equipment, etc.), the Company's
products, and external business relationships. The seven phases of the plan are:
(1) perform inventory of all items potentially subject to Y2K effect and
prioritize on the basis of business criticality; (2) develop a plan for
assessing Y2K compliance of all inventoried items; (3) determine whether
inventoried items are Y2K compliant; (4) design a remediation strategy (e.g.,
remediate, replace, retire, etc.) for non-compliant inventoried items and
develop contingency plans; (5) develop and test remediation solutions; (6)
implement remediation solutions; and (7) document verification of compliance of
remediated solutions.
Inventories of each area have been completed and determinations have been made
regarding Y2K impact. Inventoried items have been prioritized, assessment plans
have been completed and remediation solutions have been developed. Field
implementation of remediation solutions for critical Y2K items was completed by
the end of June 1999, with remediation of least critical items expected to be
completed by the end of September 1999. Verification of compliance of remediated
solutions is planned to occur contemporaneously with the field installation of
solutions. Contingency plans are being developed to address potential Y2K
related failures that could affect critical Company operations.
16
IT System
A significant portion of the Company's global IT infrastructure has been
replaced with the remaining portion expected to be remediated and tested by
September 1999. The Company required a new IT system after the Company's
spin-off from 3M and a significant factor in the Company's selection of this
system was its Y2K compliance status. The Company believes that the new system
has significantly reduced the likelihood of Y2K-related interruptions to normal
operations. The Company must, however, complete system testing of software
applications and custom code written for the system, as well as certain other
systems not replaced by the new global IT infrastructure, for Y2K compliance.
Although the Company does not foresee a material adverse effect on its business,
results of operations, or financial position related to Y2K issues and the
Company's IT system, risk is not eliminated until the system is fully installed,
tested, and all non-compliant code identified, corrected and re-verified.
Non-IT Systems
The Company is assessing its non-IT systems in its plants and facilities on a
world-wide basis for issues of Y2K compliance. This assessment includes
reviewing not only the Company's manufacturing process control equipment, but
also systems that control temperature, utility equipment, telephone systems, and
security systems. Laboratory and test equipment are also being evaluated. While
the Company does not believe that it is likely to experience material adverse
effects related to Y2K in the area of non-IT systems, failure to identify all
Y2K vulnerable controls or equipment, or failure to remediate them in a timely
way, could result in the inability of a particular plant or facility to
manufacture or test product or conduct business in the ordinary course.
Products
The majority of Company products do not have electronic date functionality.
Those products that do have electronic date functionality have been assessed and
remediation strategies are being implemented to address any issues of Y2K
non-compliance. The Company believes it has sufficient resources dedicated to
product compliance activities and it does not foresee any material adverse
impact on the Company's business, results of operations, or financial position
due to Y2K product issues. However, there remains the possibility that the
Company could fail to identify all susceptible products or be unable to
implement all field remediations for which it is responsible prior to January 1,
2000.
External Business Relationships
Y2K preparedness of third parties with whom the Company does business could
impact the Company's ability to deliver products and services in the new
millennium. This constitutes an area of potentially significant risk to the
Company's business, results of operations, and financial position. Suppliers of
critical raw materials and providers of utility and communication services could
particularly impair the Company's ability to conduct business in the ordinary
course if those third parties fail to successfully assess and remediate their
own products and internal operations. While third party risk related to the Y2K
problem is difficult to quantify or control, the Company is taking steps in an
effort to try to minimize the potential adverse effect of Y2K problems that
could arise based on Company's external business relationships.
17
Y2K surveys have been sent to the Company's suppliers asking them for the Y2K
compliance status of their products and internal operations. The Company has
re-contacted its critical and significant suppliers and conducted Y2K phone
surveys with them. The feedback received from the phone surveys has been
favorable.
The Company is developing contingency plans as it identifies third parties
posing a significant risk to business continuity. Contingency plans may include
plans to accumulate extra inventory and/or establish alternative sources of
supply and channels of distribution. However, even with diligent planning, third
party providers pose an uncertain risk which cannot be entirely eliminated.
Expenditures
Based on current information and resources, the Company estimates that the total
cost of its Y2K program could approach $6 million, excluding costs related to
the completion of the Company's IT system. These costs are primarily in the
non-IT systems area. Through June 30, 1999, approximately $2.5 million of this
total has been spent, and an additional $2 million is expected to be spent for
final testing and verification in 1999. Contingency response activities through
June 30, 2000 are expected to require the balance of the $6 million. This
estimate is subject to change as the Company moves through final phases of its
Y2K plan.
While the Company's management does not believe that the Company's Y2K costs
will have a material adverse effect on the Company's business, results of
operations, or financial position, Y2K costs could increase if currently unknown
Y2K deficiencies are discovered in Company IT systems, non-IT systems or
products, or with external business partners.
Summary
Due to the uncertain nature of the Y2K problem, the Company's management cannot
state with certainty whether Y2K issues will have a material adverse effect on
the Company's business, results of operations, or financial position. The
Company believes it is taking reasonable steps to address the Y2K problem, but
the Y2K problem is a very complex one. If several of Company's external business
partners should fail to implement successful Y2K programs, or if the Company
should fail to identify Y2K deficiencies in critical IT and non-IT systems, or
if Company's product remediations should fail to be implemented in the field by
January 1, 2000, Y2K problems could have a material adverse effect on the
Company's business, results of operations, or financial position.
The projected expenditures and dates contained in this discussion are based on
the Company's best estimates and are derived from assumptions about future
events, including the availability of resources and other factors. The Company
does not guarantee that these estimates will be achieved and results may vary
due to uncertainties.
The forward-looking statements contained in this section under the heading "Year
2000 Compliance" should be read in conjunction with the Company's disclosure
below under the heading "Forward-Looking Statements."
18
EURO CONVERSION STATUS
On January 1, 1999, eleven of the fifteen member countries of the European Union
adopted the Euro as their new common currency. The Euro trades on currency
exchanges and is used for non-cash transactions. Effective January 1, 2002 and
through July 1, 2002 the participating countries will begin using the Euro as
the legal tender and will withdraw all legacy currencies.
The Euro conversion may involve transparency of the market (i.e. with a common
currency, the prices in different countries are more readily comparable) which
may lead to increased competition between countries and potential erosion of
margins. The Company is reviewing its marketing strategies to address possible
increased competition and is also reviewing and testing its software
compatibility with the Euro conversion. The Company will continue to review the
impact of the conversion to the Euro, however, the Company does not expect that
the Euro conversion will have a material impact on the Company's financial
position and results of operations.
SALE OF MEDICAL IMAGING AND PHOTO COLOR SYSTEMS BUSINESSES
As discussed in Note 6 of the Notes to Consolidated Financial Statements, on
November 30, 1998, the Company sold its worldwide Medical Imaging Systems
business to Kodak. The Company, however, retained its manufacturing facility in
Ferrania, Italy, from which the Company agreed to manufacture x-ray and wet
laser medical imaging film for Kodak for a minimum of two years under a supply
agreement which became effective on November 30, 1998. The Company is also
prohibited from selling medical imaging products to third parties other than
Kodak during the term of and after the termination of the supply agreement.
On August 2, 1999, the Company sold its Photo Color Systems business and the
manufacturing facility in Ferrania, Italy, to Schroder Ventures (see Note 6 to
the Consolidated Financial Statements). Under the terms of that sale, Schroder
Ventures will assume responsibility for fullfilment of the supply agreement with
Kodak.
Associated with the Company's sale of its Medical Imaging Business to Kodak, the
Company receives reimbursement from Kodak for certain services under transition
services and distribution agreements that the Company has agreed to provide
Kodak for a period of up to two years. Kodak, at its option, may terminate the
transition services agreement with respect to individual categories of service
upon prior notice, the length of which varies according to the nature of the
service. While the Company can not project with certainty the duration of and
expected cost reimbursements associated with the transition services and
distribution agreements, or the potential impact if the transition services
agreement is terminated, SG&A expenses, as a percentage of revenue, may be
negatively impacted by 1 to 2 percentage points over the next 6 to 12 months due
to Kodak's declining need for transition services.
Similarly, the Company will provide certain transitional services to Schroder
Ventures while it integrates the Photo Color business into its accounting and
information systems. The Company cannot project with certainty the length of
19
time the services will be provided to Schroder and the total of cost
reimbursements that will be received by the Company.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. This standard
establishes accounting and reporting standards for derivative instruments and
hedging activities. Under SFAS No. 133, the Company must adopt this standard no
later than January 1, 2000. Adoption of this standard would not have a material
impact on the financial statements of the company.
FORWARD-LOOKING STATEMENTS
Certain information contained in this report which does not relate to historical
financial information may be deemed to constitute forward looking statements.
The words or phrases "will likely result", "are expected to", "will continue",
"is anticipated", "estimate", "project", "believe" or similar expressions
identify "forward looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such statements are subject to certain
risks and uncertainties which could cause actual results to differ materially
from historical results and those presently anticipated or projected. The
Company wishes to caution readers not to place undue reliance on any such
forward looking statements, which speak only as of the date made. Among the
factors that could cause the Company's actual results in the future to differ
materially from any opinions or statements expressed with respect to future
periods are the Company's ability to meet its cost reduction and revenue growth
targets, lower SG&A reimbursements from Kodak as the Company provides fewer
transitional services to Kodak associated with the sale of the Medical Imaging
Systems business, certain seasonal factors, the competitive pricing environment,
foreign currency fluctuations, the ability of Imation to secure an adequate
supply of certain high demand products, the market acceptance of newly
introduced product and service offerings, the rate of decline for certain
existing products as well as various factors set forth in the Company's filings
with the Securities and Exchange Commission, including its 1998 Annual Report on
Form 10-K and subsequent 10Q filing.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Reference is made to Item 3. "Legal Proceedings" included in the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 1998. The
following legal proceedings had significant developments during the second
quarter of 1999:
On May 10, 1999, Jazz Photo Corp. served the Company and its affiliate, Imation
S.p.A., with a civil complaint filed in New Jersey Superior Court.
20
The complaint charges breach of contract, breach of warranty, fraud, and
racketeering activity in connection with the Company's sale of allegedly
defective film to Jazz Photo. In the complaint Jazz Photo seeks unspecified
compensatory damages, treble damages, punitive damages and equitable relief. The
Company disputes any liability to Jazz Photo and intends to vigorously defend
the action.
The Company has received a notice of infringement from the Lemelson Medical,
Education & Research Foundation, Limited Partnership (Lemelson) asserting that
Imation has infringed upon various patents owned by Lemelson and offering to
license those patents to Imation. Management is reviewing those claims and
cannot currently conclude as to their legitimacy or estimate what, if any,
financial liability may result from the claim.
The Company is also the subject of various pending or threatened legal actions
in the ordinary course of its business. All such matters are subject to many
uncertainties and outcomes that are not predictable with assurance.
Consequently, the Company is unable to ascertain the ultimate aggregate amount
of any monetary liability or financial impact that may be incurred by the
Company with respect to these matters. While these matters could materially
affect operating results of any one quarter when resolved in future periods, it
is management's opinion that after final disposition, any monetary liability or
financial impact to the Company beyond that provided in the consolidated balance
sheet as of June 30, 1999 would not be material to the Company's financial
position or annual results of operations or cash flows.
Items 2-3. Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders
At the Company's 1999 Annual Meeting of Shareholders held on June 9, 1999, the
shareholders approved the following:
(a) A proposal to elect three Class III directors of the Company
to serve for three-year terms ending in 2002 as follows:
Directors Votes For Votes Withheld
- ----------------- --------- --------------
Richard E. Belluzzo 31,439,326 465,154
Linda W. Hart 31,428,892 475,588
William T. Monahan 31,335,713 568,767
There were no broker non-votes. In addition, the terms of the
following directors continued after the meeting: Class I directors for a term
ending in 2000 - Lawrence E. Eaton, Michael S. Fields, and Ronald T. LeMay, and
class II directors for a term ending in 2001 - William W. George, Marvin L.
Mann, and Daryl J. White.
(b) A proposal to ratify the appointment of PricewaterhouseCoopers
LLP to serve as independent accountants of the Company for the
year ending December 31, 1999. The proposal received
31,654,124 votes for, and 160,679 against, ratification. There
were 88,677 abstentions and no broker non-votes.
21
Item 5. Not Applicable
Item 6(a). Exhibits
The following documents are filed as exhibits to this Report.
2.1 An agreement between the Company and Ferrania Lux S.A.R.L. for
the sale of the Company's Photo Color Systems business and its
manufacturing facility in Ferrania, Italy.
10.1 Form of severance agreement between the Company and its
executive officers.
15.1 An awareness letter from the Company's independent accountants
regarding unaudited interim financial statements. Page 24.
27.1 Financial data schedule
(b) No reports on Form 8-K were filed during the quarter ended June 30,
1999.
22
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned thereunto duly authorized.
Imation Corp.
(REGISTRANT)
Date: August 13, 1999 By:
/s/Robert L. Edwards
--------------------
Robert L. Edwards
Senior Vice President,
Chief Financial Officer
and Chief Administrative
Officer
23
EXHIBIT INDEX
Exhibit
Number Description
- ------- --------------------------------------------------------------
2.1 An agreement between the Company and Ferrania Lux
S.A.R.L. for the sale of the Company's Photo Color Systems
business and its manufacturing facility in Ferrania, Italy.
10.1 Form of severance agreement between the Company and its
executive officers.
15.1 An awareness letter from the Company's independent accountants
regarding unaudited interim financial statements.
27.1 Financial data schedule.
24