SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 Form 10-Q (Mark One)* [X] Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended June 30, 1996 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 0-20405 ---------------------------------------------------------- IKON CAPITAL, INC - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) DELAWARE 23-2493042 - ------------------------------- ------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1738 Bass Road, Macon, Georgia 31210 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (912) 471-2300 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) NONE - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) 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 ----- ----- * Applicable only to issuers involved in bankruptcy proceedings during the preceding five years: Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes No ----- ----- * Applicable only to corporate issuers: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of July 31, 1996. Common Stock, $.01 par value per share 1,000 shares Registered Debt Outstanding as of July 31, 1996 $969,900,000 The registrant, an indirect wholly owned subsidiary of Alco Standard Corporation ("Alco"), meets the conditions set forth in General Instruction H(1)(a) and (b) of Form 10-Q and is, therefore, filing with the reduced disclosure format contemplated thereby. INDEX IKON CAPITAL, INC. PART I. FINANCIAL INFORMATION - ------------------------------ Item 1. Financial Statements (Unaudited) Balance Sheets--June 30, 1996 and September 30, 1995 Statements of Income--Three months ended June 30, 1996 and June 30, 1995 and Nine months ended June 30, 1996 and June 30, 1995 Statements of Cash Flows--Nine months ended June 30, 1996 and June 30, 1995 Notes to Financial Statements--June 30, 1996 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations PART II. OTHER INFORMATION - --------------------------- Item 6. Exhibits and Reports on Form 8-K SIGNATURES - ---------- PART I. FINANCIAL INFORMATION ------------------------------ ITEM 1: FINANCIAL STATEMENTS - ---------------------------- IKON CAPITAL, INC. BALANCE SHEETS (IN THOUSANDS) JUNE 30, SEPTEMBER 30, 1996 1995 -------------- ---------------- ASSETS Investments in leases: Direct financing leases $1,133,089 $ 824,876 Less: Unearned income (183,839) (132,428) -------------- ---------------- 949,250 692,448 Funded leases, net 299,877 178,948 -------------- ---------------- 1,249,127 871,396 Accounts receivable 38,124 26,647 Due from Alco Standard Corporation 26,577 Prepaid expenses and other assets 12,470 7,648 Leased equipment-operating rentals at cost less accumulated depreciation of: 6/96 - $14,780 9/95 - $5,912 29,764 25,247 Property and equipment at cost, less accumulated depreciation of: 6/96 - $2,354 9/95 - $1,869 5,595 4,660 -------------- ---------------- Total assets $1,335,080 $ 962,175 ============== ================ LIABILLITIES AND SHAREHOLDER'S EQUITY Liabilities: Accounts payable and accrued expenses $ 10,267 $ 10,840 Accrued interest 4,795 12,549 Due to Alco Standard Corporation 25,407 Notes payable to Banks 83,000 173,000 Medium Term Notes 969,900 602,000 Deferred income taxes 60,912 33,898 -------------- ---------------- Total liabilities 1,154,281 832,287 Shareholder's equity: Common Stock - $.01 par value, 1,000 shares authorized, issued, and outstanding Contributed capital 112,415 82,415 Retained earnings 68,384 47,473 -------------- ---------------- Total shareholder's equity 180,799 129,888 -------------- ---------------- Total liabilities and shareholder's equity $1,335,080 $ 962,175 ============== ================ See notes to financial statements. IKON CAPITAL, INC. STATEMENTS OF INCOME (in thousands) THREE MONTHS ENDED NINE MONTHS ENDED JUNE 30 JUNE 30 1996 1995 1996 1995 ------------- ------------- ------------ ------------- REVENUES: Lease finance income $32,025 $20,051 $85,565 $53,848 Rental income 3,733 2,226 10,310 4,060 Interest on Alco income tax deferrals 2,273 1,602 6,284 4,398 Other income 1,584 1,184 4,673 3,319 ------------- ------------- ------------ ------------- 39,615 25,063 106,832 65,625 EXPENSES: Interest 15,564 9,752 42,677 24,952 General and administrative 10,835 7,245 29,631 19,153 ------------- ------------- ------------ ------------- 26,399 16,997 72,308 44,105 GAIN ON SALE OF LEASE RECEIVABLES 329 311 918 884 ------------- ------------- ------------ ------------- INCOME BEFORE INCOME TAXES 13,545 8,377 35,442 22,404 PROVISION FOR INCOME TAXES 5,553 3,306 14,531 8,683 ------------- ------------- ------------ ------------- NET INCOME $7,992 $5,071 $20,911 $13,721 ============= ============== ============ ============= See notes to financial statements. IKON CAPITAL, INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS) NINE MONTHS ENDED JUNE 30 ----------------------- 1996 1995 ---------- ---------- OPERATING ACTIVITIES: Net income $20,911 $13,721 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 10,044 3,993 Provision for deferred taxes 27,014 4,313 Gain on sale of lease receivables (918) (884) Changes in operating assets and liabilities: Accounts receivable (11,477) (4,108) Prepaid expenses and other assets (3,904) (1,312) Accounts payable and accrued expenses (573) 2,708 Accrued interest (7,754) (1,726) ---------- ---------- Net cash provided 33,343 16,705 ---------- ---------- INVESTING ACTIVITIES: Purchases of leased equipment for operating rentals, net (14,076) (22,370) Purchases of property and equipment, net of disposals (1,420) (1,563) Direct financing leases: Additions (625,591) (463,814) Cancellations 104,835 71,820 Collections 224,383 147,649 Proceeds from sale 39,571 50,220 Funded leases: Additions (197,577) (90,418) Cancellations 24,407 14,001 Collections 52,241 27,231 ---------- ---------- Net cash used (393,227) (267,244) ---------- ---------- FINANCING ACTIVITIES: Proceeds from bank borrowings 60,000 Payments on bank borrowings (150,000) (120,000) Proceeds from issuance of medium term notes 397,900 367,000 Payments on medium term notes (30,000) Contributed capital 30,000 18,000 ---------- ---------- Net cash provided 307,900 265,000 ---------- ---------- (INCREASE) DECREASE IN AMOUNTS DUE TO ALCO (51,984) 14,461 DUE FROM (TO) ALCO AT BEGINNING OF PERIOD 26,577 (11,419) ---------- ---------- DUE (TO) FROM ALCO AT END OF PERIOD ($25,407) $3,042 ========== ========== See notes to financial statements. IKON CAPITAL, INC. NOTES TO FINANCIAL STATEMENTS JUNE 30, 1996 Note 1: Basis of Presentation --------------------- The accompanying unaudited condensed financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. For further information, refer to the financial statements and footnotes thereto included in the Company's report on Form 10-K for the year ended September 30, 1995. Certain prior year amounts have been reclassified to conform with the current year presentation. Note 2: Medium Term Note Program ------------------------ During the nine months ended June 30, 1996, IKON Capital issued an additional $397.9 million under its medium term note program. At June 30, 1996, $969.9 million of medium term notes remain outstanding with a weighted average interest rate of 6.7%, leaving $500.1 million available under this program. Note 3: Asset Securitization -------------------- Under its $125 million asset securitization agreement commenced in September 1994, IKON Capital sold $39.6 million of direct financing leases during the first nine months of fiscal 1996, replacing leases which had been liquidated during the period and recognized a pretax gain of $918,000. Under the terms of the sales agreement, the Company continues to service the sold lease portfolio. Note 4: Other Developments ------------------ On April 17, 1996, Alco announced that its Board of Directors has approved the structuring of its businesses, IKON Office Solutions and Unisource, under separate ownership in order to maximize the future growth potential of both businesses. On June 19, 1996, Alco announced that Unisource would be spun off through a tax-free distribution of Unisource stock to Alco shareholders. The transaction is expected to be completed by the end of calendar year 1996, and Unisource will then be a separately owned public company. Management does not believe that this transaction will have a material effect on the Company's financial position or results of operations. Item 2: Management's Discussion and Analysis of Financial Condition and Results - ------------------------------------------------------------------------------- of Operations - ------------- Pursuant to General Instruction H(2) (a) of Form 10-Q, the following analysis of the results of operations is presented in lieu of Management's Discussion and Analysis of Financial Condition and Results of Operations. Three Months Ended June 30, 1996 Compared ----------------------------------------- with the Three Months Ended June 30, 1995 ----------------------------------------- Comparative summarized results of operations for the three months ended June 30, 1996 and 1995 are set forth in the table below. This table also shows the increase in the dollar amounts of major revenue and expense items between periods, as well as the related percentage increase. Three Months (dollars in thousands) Ended June 30 Increase ------------- -------- 1996 1995 Amount Percent ---- ---- ------ ------- Revenues: Lease finance income $32,025 $20,051 $11,974 59.7% Rental income 3,733 2,226 1,507 67.7% Interest on Alco income tax deferrals 2,273 1,602 671 41.9% Other income 1,584 1,184 400 33.8% ------- ------- ------- 39,615 25,063 14,552 58.1% Expenses: Interest 15,564 9,752 5,812 59.6% General and administrative 10,835 7,245 3,590 49.6% ------- ------- ------- 26,399 16,997 9,402 55.3% Gain on sale of lease receivables 329 311 18 5.8% ------- ------- ------- Income before income taxes 13,545 8,377 5,168 61.7% Provision for income taxes 5,553 3,306 2,247 68.0% ------- ------- ------- Net income $ 7,992 $ 5,071 $ 2,921 57.6% ======= ======= ======= Revenues - -------- Total revenues increased $14.6 million or 58.1% in the third quarter of fiscal 1996 compared to the third quarter of fiscal 1995. Approximately 82.3% or $12.0 million of this increase in revenues was a result of increased lease finance income due to continued growth in the portfolio of direct financing and funded leases. During the twelve month period from June 30, 1995 to June 30, 1996, the portfolio grew at a 60.4% rate, net of lease receivables that were sold in asset securitization transactions. Effective October 1, 1994, the Company began offering a new operating lease program to the IKON dealer network, whereby office equipment placed on rental with a customer, with cancelable terms, could be funded through the Company and rented back to the IKON dealer. In prior years, this equipment was funded by the respective IKON dealer instead of the Company. At June 30, 1996, equipment with a net book value of $29.8 million was leased under this program, compared to $18.8 million at June 30, 1995, resulting in rental income of $3.7 million in the third quarter of fiscal 1996 compared to $2.2 million in the third quarter of fiscal 1995. The Company continues to charge Alco interest on the benefit that Alco receives for income tax deferrals associated with the Company's leasing transactions. By agreement with Alco, the Company earns interest income on the deferred tax balances at a rate consistent with the Company's average cost of debt. Under this agreement, the Company earned interest at a 6.8% rate for the third quarter of fiscal 1996, compared to 6.6% for the third quarter of fiscal 1995. At June 30, 1996, the deferred tax base upon which these payments are calculated increased to $142.0 million, up from $102.4 million at June 30, 1995. Due to the combined effect of the increased rate of interest and the increased deferred tax balances, interest on Alco income tax deferrals rose $671,000 or 41.9% when comparing the three months ended June 30, 1996 to the three months ended June 30, 1995. Other income consists primarily of late payment charges and various billing fees. The structure of these fees has remained basically unchanged from fiscal 1995. The growth in other income from fees is primarily due to the increased size of the lease portfolio upon which these fees are based. Overall, fee income from these sources grew by $400,000 or 33.8%, when comparing the third quarter of fiscal 1996 to the same period of fiscal 1995. Expenses - -------- Debt to fund the lease portfolio in the form of loans from major banks and the issuance of medium term notes in the public markets rose by 54.4%, to a total of $1.05 billion outstanding at June 30, 1996, up from $682 million outstanding at June 30, 1995. Due to the combined effect of increased borrowing to fund the portfolio and an increase in the Company's overall weighted average interest rate on all borrowings, interest expense grew by $5.8 million or 59.6% when comparing the third quarter of fiscal 1996 to the third quarter of fiscal 1995. At June 30, 1996, the Company's debt to equity ratio, including intercompany amounts due to Alco, was 6.0 to 1. Total general and administrative expenses grew by approximately $3.6 million or 49.6%, when comparing the third quarter of fiscal 1996 to the same period of fiscal 1995. However, the general and administrative category includes depreciation expense on leased equipment which was higher in the third quarter of fiscal 1996 as compared to the third quarter of fiscal 1995, due to growth in the balance of leased equipment. Depreciation expense was $3.3 million for the third quarter of fiscal 1996 and $2.0 million for the third quarter of fiscal 1995. In addition, lease bonus subsidy payments to IKON dealers were $2.0 million for the third quarter of fiscal 1996 compared to $1.8 million for the third quarter of fiscal 1995. Excluding the effects of the additional depreciation expense on operating leases and the additional dealer lease bonus payments in the third quarter of fiscal 1996, remaining general and administrative expenses grew $2.0 million or 58.8%, when comparing the third quarter of fiscal 1996 to the third quarter of fiscal 1995. This increase is a direct result of the growth of the serviced lease portfolio. Gain on Sale of Lease Receivables - --------------------------------- Under an asset securitization program entered into in September 1994, the Company sold an undivided ownership interest in $125 million of eligible direct financing lease receivables. This agreement, which expires in March 1997, was structured as a revolving securitization so that as collections reduce previously sold interests, new leases can be sold up to $125 million. During the three months ended June 30, 1996, collections reduced previously sold interests by approximately $13.1 million. The Company sold an additional $13.1 million in net eligible direct financing leases during the quarter and recognized gains of $329,000. Income Before Taxes - ------------------- Income before taxes increased by $5.2 million or 61.7%, when comparing the third quarters of fiscal 1996 and fiscal 1995. This increase resulted primarily from higher earnings on a larger lease portfolio base, partially offset by higher borrowing costs due to the increased debt to fund the lease portfolio and a slightly higher average cost of debt in fiscal 1996 versus fiscal 1995. Taxes on Income - --------------- The $2.2 million or 68% increase in income taxes in the three month period ended June 30, 1996 compared to the three month period ended June 30, 1995 is directly attributable to the higher income before taxes in the third quarter of fiscal 1996 as compared to the third quarter of fiscal 1995. The effective tax rate was 41% for the third quarter of fiscal 1996 as compared to an effective tax rate of 39.5% for the third quarter of fiscal 1995. Nine Months Ended June 30, 1996 Compared ----------------------------------------- with the Nine Months Ended June 30, 1995 ---------------------------------------- Comparative summarized results of operations for the nine months ended June 30, 1996 and 1995 are set forth in the table below. This table also shows the increase in the dollar amounts of major revenue and expense items between periods, as well as the related percentage increase. Nine Months (dollars in thousands) Ended June 30 Increase ------------- -------- 1996 1995 Amount Percent ---- ---- ------ ------- Revenues: Lease finance income $ 85,565 $53,848 $31,717 58.9% Rental income 10,310 4,060 6,250 153.9% Interest on Alco income tax deferrals 6,284 4,398 1,886 42.9% Other income 4,673 3,319 1,354 40.8% -------- ------- ------- 106,832 65,625 41,207 62.8% Expenses: Interest 42,677 24,952 17,725 71.0% General and administrative 29,631 19,153 10,478 54.7% -------- ------- ------- 72,308 44,105 28,203 63.9% Gain on sale of lease receivables 918 884 34 3.8% -------- ------- ------- Income before income taxes 35,442 22,404 13,038 58.2% Provision for income taxes 14,531 8,683 5,848 67.3% -------- ------- ------- Net income $ 20,911 $13,721 $ 7,190 52.4% ======== ======= ======= Revenues - -------- Total revenues increased $41.2 million or 62.8% in the first nine months of fiscal 1996 compared to the first nine months of fiscal 1995. Approximately 77% or $31.7 million of this increase in revenues was a result of increased lease finance income due to continued growth in the portfolio of direct financing and funded leases. During the twelve month period from June 30, 1995 to June 30, 1996, the portfolio grew at a 60.4% rate, net of lease receivables that were sold in asset securitization transactions. Effective October 1, 1994, the Company began offering a new operating lease program to the IKON dealer network, whereby office equipment placed on rental with a customer, with cancelable terms, could be funded through the Company and rented back to the IKON dealer. In prior years, this equipment was funded by the respective IKON dealer instead of the Company. At June 30, 1996, equipment with a net book value of $29.8 million was leased under this program, compared to $18.8 million at June 30, 1995, resulting in rental income of $10.3 million for the first nine months of fiscal 1996 as compared to $4.1 million for the first nine months of fiscal 1995. The Company continues to charge Alco interest on the benefit that Alco receives for income tax deferrals associated with the Company's leasing transactions. By agreement with Alco, the Company earns interest income on the deferred tax balances at a rate consistent with the Company's average cost of debt. Under this agreement, the Company earned interest at a 6.8% rate for the first nine months of fiscal 1996, compared to 6.6% for the first nine months of fiscal 1995. At June 30, 1996, the deferred tax base upon which these payments are calculated increased to $142.0 million, up from $102.4 million at June 30, 1995. Due to the combined effect of the increased rate of interest and the increased deferred tax balances, interest on Alco income tax deferrals rose $1.9 million or 42.9%, when comparing the first nine months of fiscal 1996 to the first nine months of fiscal 1995. Other income consists primarily of late payment charges and various billing fees. The structure of these fees has remained basically unchanged from fiscal 1995. The growth in other income from fees is primarily due to the increased size of the lease portfolio upon which these fees are based. Overall, fee income from these sources grew by $1.4 million or 40.8%, when comparing the first nine months of fiscal 1996 to the same period of fiscal 1995. Expenses - -------- Debt to fund the lease portfolio in the form of loans from major banks and the issuance of medium term notes in the public markets rose by 54.4%, to a total of $1.05 billion outstanding at June 30, 1996, up from $682 million outstanding at June 30, 1995. Due to the combined effect of increased borrowing to fund the portfolio and an increase in the Company's overall weighted average interest rate on all borrowings, interest expense grew by $17.7 million or 71%, when comparing the first nine months of fiscal 1996 to the first nine months of fiscal 1995. At June 30, 1996, the Company's debt to equity ratio, including intercompany amounts due to Alco, was 6.0 to 1. Total general and administrative expenses grew by approximately $10.5 million or 54.7%, when comparing the nine month period ending June 30, 1996 to the nine month period ending June 30, 1995. However, the general and administrative category includes depreciation expense on leased equipment which was higher in the first nine months of fiscal 1996 as compared to the first nine months of fiscal 1995, due to growth in the balance of leased equipment. Depreciation expense was $9.6 million for the first nine months of fiscal 1996 and $3.6 million for the first nine months of fiscal 1995. Additionally, lease bonus subsidy payments to IKON dealers were $4.5 million during the first nine months of fiscal 1996 compared to $5.9 million during the first nine months of fiscal 1995. This reduction was due to the suspension of the program during the first two months of fiscal 1996. This program, which was reinstated in December 1995, is expected to continue for the remainder of fiscal 1996 at levels consistent with fiscal 1995. Excluding the effects of the additional depreciation expense on operating leases and the reduction of dealer lease bonus payments, the remaining general and administrative expenses grew $5.9 million or 60.6%, when comparing the first nine months of fiscal 1996 to the same period of fiscal 1995. This increase is a direct result of growth of the serviced lease portfolio. Gain of Sale of Lease Receivables - --------------------------------- Under an asset securitization program entered into in September 1994, the Company sold an undivided ownership interest in $125 million of eligible direct financing lease receivables. This agreement, which expires in March 1997 and can be renewed, was structured as a revolving securitization so that as collections reduce previously sold interests, new leases can be sold up to $125 million. During the first nine months of fiscal 1996, collections reduced previously sold interest by approximately $39.6 million. The Company sold an additional $39.6 million in net eligible direct financing leases during the first nine months of fiscal 1996 and recognized gains of $918,000. Income Before Taxes - ------------------- Income before taxes increased $13 million or 58.2%, when comparing the first nine months of fiscal 1996 and fiscal 1995. This increase resulted primarily from higher earnings on a larger lease portfolio base, partially offset by higher borrowing costs due to the increased debt to fund the lease portfolio and a slightly higher average cost of debt in fiscal 1996 versus fiscal 1995. Taxes on Income - --------------- The $5.8 million or 67.3% increase in income taxes in the first nine months of fiscal 1996 as compared to the first nine months of fiscal 1995 is directly attributable to the higher income before taxes in fiscal 1996 as compared to fiscal 1995. The effective tax rate was 41% for the first nine months of fiscal 1996 as compared to an effective tax rate of 38.8% for the first nine months of fiscal 1995. PART II. OTHER INFORMATION --------------------------- Item 6. Exhibits and Reports on Form 8-K - ------------------------------------------ (a) The following Exhibits are furnished pursuant to Item 601 of Regulation S-K: Exhibit No. (27) Financial Data Schedule (b) Reports on Form 8-K On April 22, 1996, the registrant filed a Current Report on Form 8-K to file, under Item 5 of the Form, the announcement made April 17, 1996 by its parent, Alco Standard Corporation, of the decision to structure Alco's two businesses, IKON Office Solutions, Inc. and Unisource Worldwide, Inc., under separate ownership. On June 27, 1996, the registrant filed a Current Report on Form 8-K to file, under Item 5 of the form, the announcement made June 19, 1996 by Alco of its decision to spin off Unisource. The Form 8-K also reported additional information announced on June 19, 1996, including (i) Alco's lowering of its earnings expectation for the third quarter due to lower than expected revenues at Unisource (ii) a one-time charge against earnings by Alco of approximately $40-$50 million in the third quarter for new restructuring activities at Unisource, and (iii) a charge against earnings by Alco in the third quarter of $12-$18 million for costs associated with the disposition of Unisource. On August 2, 1996, the registrant filed a Current Report on Form 8-K to file, under Item 5 of the form, the long-term growth goals for IKON Office Solutions and Unisource Worldwide, Inc. as presented at an investors' conference held by Alco in New York City on July 31, 1996. The two businesses will begin operating as independent publicly-owned companies in January 1997. SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. This report has also been signed by the undersigned in his capacity as the chief accounting officer of the Registrant. IKON CAPITAL, INC. Date August 13, 1996 /s/Robert M. Kearns II --------------- ---------------------- Robert M. Kearns II Vice President (Chief Accounting Officer) Index to Exhibits ----------------- Exhibit Number - -------------- (27) Financial Data Schedule