Report of Ernst & Young LLP,
Independent Auditors
To the Board of Directors
and Shareholders, IKON Office
Solutions, Inc.
We have audited the accompanying consolidated balance sheets of IKON Office
Solutions, Inc. and subsidiaries as of September 30, 1999 and 1998, and the
related consolidated statements of operations, changes in shareholders' equity,
and cash flows for each of the three years in the period ended September 30,
1999. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these 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 financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the 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 consolidated financial position of
IKON Office Solutions, Inc. and subsidiaries at September 30, 1999 and 1998, and
the consolidated results of their operations and their cash flows for each of
the three years in the period ended September 30, 1999, in conformity with
generally accepted accounting principles.
[Ernst & Young LLP Signature]
Philadelphia, Pennsylvania
October 25, 1999, except for the first paragraph of note 10 and note 18, as to
which the date is November 24, 1999 and the fourth paragraph of note 6, as to
which the date is December 9, 1999.
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IKON OFFICE SOLUTIONS, INC. AND SUBSIDIARIES
FINANCIAL REVIEW
On June 19, 1996, we announced that we would split our two operating units into
independent companies by spinning off Unisource, our paper products and supply
systems distribution group, as a separate publicly owned company. We
accomplished the transaction through a U.S. tax-free distribution of Unisource
stock to our shareholders on December 31, 1996. As a result of the spin-off of
Unisource, we accounted for Unisource as a discontinued operation in fiscal
1997. Our continuing operations consist of IKON, which provides products and
services to meet business communications needs, including copiers and printers,
color solutions, distributed printing, outsourcing services, imaging and legal
outsourcing solutions, as well as network design and consulting, application
development and technology training.
RESULTS OF OPERATIONS
Revenues and income before taxes from continuing operations for fiscal years
ended September 30, 1999, 1998, and 1997 and the percentage changes for 1999
versus 1998 and 1998 versus 1997 were:
(in millions) 1999 1998 % Change 1998 1997 % Change
- --------------------------------------------------------------------------------------------------------------------
Revenues $ 5,522 $5,629 (1.9%) $5,629 $5,128 9.8%
- --------------------------------------------------------------------------------------------------------------------
Income before taxes:
Operating income, excluding
transformation costs and shareholder
litigation settlement expense $ 251.7 $ 74.5 237.9% $ 74.5 $387.5 (80.8%)
Shareholder litigation settlement
expense (101.1)
Transformation costs (78.0) (78.0) (126.9)
- --------------------------------------------------------------------------------------------------------------------
Operating income (loss) 150.6 (3.5) (3.5) 260.6
Interest expense (71.2) (70.7) (70.7) (47.5)
- --------------------------------------------------------------------------------------------------------------------
$79.4 $(74.2) 207.0% $(74.2) 213.1 (134.8%)
- --------------------------------------------------------------------------------------------------------------------
Fiscal 1999 Compared to Fiscal 1998
Our fiscal 1999 revenues decreased by $107 million, or 1.9%, compared to fiscal
1998. Excluding a $14 million asset securitization gain, overall revenue
decreased by $121 million compared to fiscal 1998. The decrease in revenues was
primarily due to efforts to improve productivity by eliminating unprofitable
revenue streams and a reduction in the sales force. These actions were taken to
build a solid foundation for growth. Net sales, which includes equipment
revenue, decreased by $147 million or 4.9%, as a result of a reduction in the
sales force of close to 1,000 representatives and de-emphasized market segments,
such as wholesale. We are currently rebuilding our sales force in key growth
areas, such as color, high-volume and outsourcing. Finance income increased by
$29 million or 10.9% due to the growth in the lease portfolio and the asset
securitization gain. Excluding the gain, finance income increased by $15
million, or 5.6%.
Gross margins in fiscal 1999, excluding the securitization gain, were 37.4%
of revenues compared to 36.9% in the prior year, excluding special charges.
Gross margins were positively impacted by improved service margins, primarily
generated from our IKON North America operating segment, and negatively by
slightly lower equipment margins due to price pressure on analog equipment
earlier in the fiscal year. Our operating income increased by $154.1 million
compared to the prior year. Excluding transformation costs and special charges
of $230.4 million in fiscal 1998 and the gain from the asset securitization and
shareholder litigation settlement expense in fiscal 1999 of $86.8 million,
operating income increased by $10.5 million to $237.4 million in fiscal 1999
compared to $226.9 million in fiscal 1998. The improvement is due primarily to
improved gross margins and improved sales productivity.
Selling and administrative expenses declined as a percentage of revenue
from 34.6% in fiscal 1998 to 33.0% in fiscal 1999. Excluding special charges in
fiscal 1998 and the asset securitization gain in fiscal 1999, selling and
administrative expenses as
29
FINANCIAL REVIEW
a percentage of revenue remained relatively the same in fiscal 1999. During
fiscal 1999, IKON, together with PricewaterhouseCoopers LLP, initiated a
competitiveness and productivity project ("CaPP") which was designed to
identify, through a thorough study of operations, additional cost saving
opportunities for the Company. Several CaPP initiatives began in fiscal 1999 and
will continue throughout the next few years. These programs include improvements
in customer service, inventory, purchasing and distribution, centralization of
marketing and human resources, and centralization of certain accounting
functions into shared service centers.
Interest expense was relatively consistent compared to fiscal 1998. Income
before taxes increased by $153.6 million in fiscal 1999 compared to fiscal 1998.
Tax expense for fiscal 1999 includes one-time tax benefits related to
restructuring our European leasing operation and the shareholder litigation
settlement. Excluding these one-time benefits, the effective tax rate would have
been 46.5%. Diluted earnings per common share increased to $.23 per share in
fiscal 1999 from a loss of $.76 per share in fiscal 1998. Excluding the
after-tax gain on the asset securitization and the shareholder litigation
settlement expense in fiscal 1999 and the transformation costs and special
charges in fiscal 1998, diluted earnings per common share increased to $.62 in
fiscal 1999 from $.40 in fiscal 1998.
Diluted weighted average shares outstanding increased by 13.9 million in
fiscal 1999 primarily as a result of the conversion of the Series BB preferred
stock on October 1, 1998 to common stock (9.7 million weighted shares) and the
full period impact of fiscal 1998 common shares issued for acquisitions, plus
earnouts (3.4 million weighted shares).
REVIEW OF BUSINESS SEGMENTS
Our reportable segments are IKON North America and IKON Europe. The IKON North
America segment provides copiers and printer systems, and other office equipment
and services, as well as facilities management, throughout North America. This
segment also includes our captive finance subsidiaries in North America. The
IKON Europe segment provides customers with total office solutions, including
copiers and printer systems, computer networking, print-on-demand services,
facilities management, hardware and software product interfaces and electronic
file conversion throughout Europe. This segment also includes our captive
finance subsidiary in Europe. The other segment includes Document Services and
Technology Services in North America. Document Services focuses on
print-on-demand services and electronic file conversion. Technology Services
provides design, planning, and support services for network platforms and IT
integration projects and education and training.
IKON North America
Revenues from external customers and finance income in the IKON North America
segment were $3.978 billion in fiscal 1999 versus $4.215 billion in fiscal 1998.
This decrease of $237 million, or 5.6%, was due mainly to sales force
reductions, a step we felt was necessary in order to improve productivity and
build a more sophisticated customer-specific sales force that will lead our
growth initiatives in the future. Revenues were also impacted by the accelerated
transition from analog to digital, resulting in analog pricing pressure and
lower service volumes in de-emphasized copier segments, as well as the
de-emphasis of the segment's wholesale operations. Included in this segment are
revenues from our Canadian operations and other international locations except
Europe. Canadian revenues decreased by $37 million or 13.3% and other
international revenues decreased by $4 million or 17.1%. Operating income was
$360.2 million compared to $215.8 million in the prior year. This increase was
due mainly to higher costs in 1998 due to nonrecurring charges and productivity
improvements.
IKON Europe
Revenues, including finance income, from our IKON Europe segment were $530
million in fiscal 1999 versus $429 million in fiscal 1998. This increase of $101
million, or 23.5%, is due primarily to the effects of fiscal 1998 and 1999
acquisitions. In fiscal 1999, we completed 6 acquisitions in Europe. Operating
income was $28.1 million compared to $31.7 million in the prior year. This
decrease was due to reduced equipment margins due to pricing pressures from
direct competitors and the conversion of certain operating rentals to leases at
more competitive prices.
Other
Other revenues were $1.014 billion in 1999 versus $985 million in 1998. This
increase of $29 million, or 2.9%, was mainly due to the impact of prior year
acquisitions. Operating income was $10.2 million compared to a loss of $2.2
million in the prior year. This increase was due to a $20 million loss from an
asset impairment of a technology services company involved in software
development recorded in fiscal 1998 offset by underperformance in certain
technology services and document services units in fiscal 1999.
There was no material effect of foreign currency exchange rate fluctuations on
the results of operations in fiscal 1999 compared to fiscal 1998.
FISCAL 1998 COMPARED TO FISCAL 1997
Our fiscal 1998 revenues increased by $501 million, or 9.8%, compared to fiscal
1997. Net sales, which includes equipment revenue, increased by $171 million, or
30
IKON OFFICE SOLUTIONS, INC. AND SUBSIDIARIES
6%. Equipment revenues were impacted by increasing price competition, although
we continued to maintain our market share. As a result of the acceleration of
the shift from black-and-white analog product to digital product, prices began
falling for black and white analog products. Service and rental revenue
increased by $262 million, or 12.5%. This increase resulted from increases in
equipment service revenue, outsourcing and systems integration consulting.
Finance income increased by $68 million, or 34.1% due to the growth in the lease
portfolio. In fiscal 1998, we completed 34 acquisitions with trailing year
revenues of $231 million. Of the 34 companies acquired in fiscal 1998, 10 were
outsourcing and imaging companies, 11 were technology services companies and 13
were traditional copier companies.
Our operating income decreased by $264.1 million compared to the prior
year. Excluding transformation costs, operating income decreased by $313 million
to $74.5 million in fiscal 1998 compared to $387.5 million in the prior year. We
completed an in-depth review of our operations during August 1998 and determined
that it was necessary and appropriate to take charges to earnings totaling $110
million on a pretax basis. These adjustments related to the following four
areas: (1) Increases to accounting estimates for lease default reserves of $28
million and accounts receivable reserves of $20 million. The increase in lease
default reserves was a result of recent trends in customer defaults, especially
in the print-for-pay customer segment of the business. The increase in the
accounts receivable reserve related primarily to certain business units which
were experiencing billing and collection issues relating to systems conversion
and consolidation of operating locations, (2) A $20 million loss from an asset
impairment in a technology services company involved in software development,
(3) $35 million of adjustments related to the breakdown in the execution of
internal controls at four operating units, and (4) $7 million of adjustments at
other operating units. In addition, operating income included $40.4 million of
charges relating to the closing of underperforming branches, executive severance
packages, and the settlement of lawsuits. Gross margins in fiscal 1998 were
36.3% of revenues, compared to 38.8% in the prior year. Gross margins were lower
due to increased price competition in the high-end black and white and new
digital products, increased lease default provisions and because the lower
margin outsourcing and technology services businesses were a larger part of the
revenue mix. Selling and administrative expense as a percent of revenue was
34.6% in fiscal 1998 compared to 31.3% in fiscal 1997. The percentage increase
was due to fiscal 1998 revenues that were below planned amounts without
corresponding reductions in selling and administrative costs, and the $40.4
million of charges referred to above.
Costs associated with our transformation program decreased by $49 million
in fiscal 1998 compared to fiscal 1997. Severance and other employee costs,
including temporary labor, decreased by $7 million. Facility consolidation
costs, including lease buyouts and write-off of leasehold improvements,
increased by $1 million. Technology conversion costs decreased by $32 million,
primarily resulting from the fiscal 1997 write-off of costs associated with the
SAP computer platform that was abandoned ($30 million). Also, there were no
significant costs incurred in fiscal 1998 with the adoption of the IKON name.
Such costs were $11 million in fiscal 1997.
Interest expense increased by $23.2 million in fiscal 1998 due to higher
debt levels from investment in fixed assets, acquisitions and the share
repurchase program which began in the third quarter of fiscal 1997. Income
before taxes decreased by $287.3 million in fiscal 1998 compared to fiscal 1997,
as a result of the unusual charges, decreasing gross margins and increasing
selling and administrative expenses and interest expense, offset by lower
transformation expenses in fiscal 1998. Tax expense for fiscal 1998 was $8.9
million on loss before taxes of $74.2 million, as a result of the impact of
non-tax-deductible items (primarily goodwill amortization and loss from asset
impairment) combined with a loss before income taxes.
Earnings per common share from continuing operations, assuming dilution,
decreased from $.77 per share in fiscal 1997 to a loss of $.76 per share in
fiscal 1998. Excluding transformation costs, earnings per common share from
continuing operations, assuming dilution, decreased from $1.38 per share in
fiscal 1997 to a loss of $.38 per share in fiscal 1998. Including earnings per
share from discontinued operations and the extraordinary loss on the
extinguishment of debt, earnings per share, assuming dilution, were $.83 per
share in fiscal 1997. There was no significant change in the weighted average
shares, assuming dilution, in fiscal 1998 compared to fiscal 1997.
REVIEW OF BUSINESS SEGMENTS
IKON North America
Revenues from external customers and finance income in the IKON North America
segment were $4.215 billion in fiscal 1998 versus $4.095 billion in fiscal 1997.
This increase of $120 million, or 2.9%, was due mainly to acquisitions. Included
in this segment are revenues from our Canadian operations and other
international locations except Europe. Canadian revenues increased $10 million
and other international revenue increased $11 million. Operating income was
31
FINANCIAL REVIEW
$215.8 million compared to $425.7 million in the prior year. This decrease was
primarily due to a portion of the special charges to earnings in fiscal 1998 and
the impact of increased price competition in black-and-white and new analog
products.
IKON Europe
Revenues, including finance income, from our IKON Europe segment were $429
million in fiscal 1998 versus $376 million in fiscal 1997. This increase of $53
million, or 14.1% is due primarily to the effects of acquisitions. Operating
income was $31.7 million compared to $29.2 million in the prior year, also due
to the positive effect of acquisitions.
Other
Other revenues were $985 million in 1998 versus $658 million in 1997. This
increase of $327 million, or 49.7% was mainly due to acquisitions. Operating
loss was $2.2 million compared to operating income of $48.3 million in the prior
year. This decrease was due to a $20 million loss from an asset impairment in a
technology services company involved in software development and
underperformance in the technology services companies.
There was no material effect of foreign currency exchange rate fluctuations on
the results of operations in fiscal 1998 compared to fiscal 1997.
DISCONTINUED OPERATIONS
We spun off Unisource, a paper products and supply systems distributor, at the
end of the first quarter of fiscal 1997. Unisource's first quarter fiscal 1997
revenues, income before taxes and net income were $1.7 billion, $34.7 million
and $20.2 million, respectively.
IMPACT OF YEAR 2000
State of Readiness. The Year 2000 issue arises from computer programs being
written using two digits rather than four to define the applicable year. Any of
our computer programs or hardware that have date-sensitive software or embedded
technology (non-IT systems) may recognize a date using "00" as the year 1900
rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices, or engage
in similar normal business activities. The potential for a problem exists with
all computer hardware and software, as well as in products with embedded
technology: copiers and fax machines; security and HVAC systems; voice/telephony
systems; elevators, etc.
We have a Year 2000 Corporate Compliance Team, which has prepared an
international compliance program for us and is responsible for coordinating and
inspecting compliance activities in all business units. The compliance program
requires all business units and locations in every country to inventory
potentially affected systems and products, assess risk, take any required
corrective actions, test and certify compliance. Our Year 2000 Testing and
Certification Guidelines delineate the Year 2000 compliance process, testing and
quality assurance guidelines, certification and reporting processes and
contingency planning. An independent consulting company has reviewed the
compliance program.
Our Year 2000 compliance program has five phases: (1) inventory of internal
IT and non-IT systems; (2) risk assessment of the Year 2000 compliance issues
associated with such internal IT and non-IT systems; (3) remediation of
non-compliant systems; (4) testing and validation of remediated systems; and (5)
implementation of remediated systems throughout the Company. The progress to
date of each of these phases is as follows: (1) internal IT and non-IT systems
have been inventoried; (2) appropriate risk assessments have been completed; (3)
remediation of critical systems has been substantially completed; (4) testing
and validation of critical systems has been substantially completed; and (5)
Year 2000 compliant versions have been substantially implemented in field
operations. Our intention is to ensure that all business critical internal
systems not deemed obsolete be remediated to be Year 2000 compliant prior to any
anticipated material impact.
Product warranties and certifications are being sought from vendors and
suppliers. We have obtained "Year 2000 Statements" from critical national
equipment vendors including Canon, Ricoh and Oce.
Costs. We have used both internal and external resources to reprogram or
replace, test and implement our IT and non-IT systems for Year 2000
modifications. We do not separately track the internal costs incurred on the
Year 2000 project. Such costs are principally payroll and related costs for our
internal IT personnel. The total cost of the Year 2000 project, excluding these
internal costs, is approximately $7.7 million, which is being funded through
operating cash flows. Of the total estimated project cost, approximately $2.8
million is attributable to the purchase of new software and hardware and will be
capitalized. Through October 31, 1999, we have incurred approximately $6.7
million ($4.6 million expensed and $2.1 million capitalized), related to our
Year 2000 project. Remaining amounts are to be incurred early in the first
quarter of fiscal 2000.
32
IKON OFFICE SOLUTIONS, INC. AND SUBSIDIARIES
Risks. We believe, based on the information currently available to us, that
the most reasonably likely, worst case scenario that could be caused by
technology failures relating to the Year 2000 could pose a significant threat
not only to us, our customers and suppliers, but to all businesses. Risks
include, but are not limited to:
o Legal risks, including customer, supplier, employee or shareholder
lawsuits over failure to deliver contracted services, product failure,
or health and safety issues.
o Loss of sales due to failure to meet customer quality expectations or
inability to ship products.
o Increased operational costs due to manual processing, data corruption
or disaster recovery.
o Inability to bill or invoice.
We have taken steps to limit the scope of product and service warranties to
customers to either the replacement of noncompliant products or to reimbursement
of the cost of the product or service provided. With respect to products sold by
us prior to the inclusion of such limited warranties, differing interpretations
of the warranties included with such products will likely result in litigation
against us. We are not able to assess the impact of such potential litigation at
this time.
We are engaged in the provision of certain Year 2000 services to customers,
whereby we evaluate the Year 2000 compliance of customers' software and
hardware, and work with customers to find solutions to Year 2000 problems. We
have taken steps to limit our warranties with respect to our provision of such
services.
The cost of the project and the date on which we believe we will complete
the Year 2000 modifications are based on our best estimates, which were derived
using numerous assumptions of future events, including the continued
availability of certain resources and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could differ
materially from those anticipated. Specific factors that might cause such
material differences include, but are not limited to, the availability and cost
of personnel trained in this area, the ability to locate and correct all
relevant computer codes, and other uncertainties.
Contingency Plans. Our Guidelines require that contingency plans be
developed and validated in the event that any critical system cannot be
corrected and certified before the system's failure date. Contingency plans are
currently being developed and completed.
FINANCIAL CONDITION AND LIQUIDITY
Net cash provided by operating activities for fiscal 1999 was $452 million.
During the same period, we used $299 million of cash for investing activities,
which included net finance subsidiary use of $154 million, acquisition activity
at a cash cost of $30 million, capital expenditures for property and equipment
of $103 million and net expenditures for equipment on operating leases of $31
million. Cash used in financing activities includes substantially no change in
corporate debt, and resulted in a net $97 million decrease in finance
subsidiaries' debt.
Debt, excluding finance subsidiaries, was $859 million at September 30,
1999, an increase of $3 million from the debt balance at September 30, 1998 of
$856 million. The debt to capital ratio, excluding finance subsidiaries, was
37.0% compared to 37.5% at September 30, 1998. Excluding the impact of loans to
our finance subsidiaries, our debt was reduced by $165 million at September 30,
1999 compared to September 30, 1998. At the end of fiscal 1999, our commitments
for capital expenditures were approximately $6.6 million, most of which are
expected to be expended during fiscal 2000 and relate to IT initiatives.
As of September 30, 1999, we had $35 million of short-term borrowings and a
$25 million letter of credit supported by our $600 million credit agreement. We
also have a shelf registration statement in place for $700 million of either
stock or debt offerings.
Finance subsidiaries' debt decreased by $97 million from September 30,
1998. During fiscal 1999, the U.S. finance subsidiary repaid $606.9 million of
its medium term notes and $100 million of bank debt and no new medium term notes
were issued. At September 30, 1999, $1.2 billion of medium term notes were
outstanding with a weighted average interest rate of 6.5%, while $1.1 billion
can be issued under the shelf registration statement for this program. In
December 1998, the U.S. finance subsidiary entered into a new asset
securitization agreement under which it received cash of $250 million. Under its
previously existing $275 million asset securitization programs and the
securitization closed in December 1998, the U.S. finance subsidiary sold an
additional $152.1 million in direct financing leases during fiscal 1999,
replacing those leases liquidated. CN$98.1 million ($65.3 million) of additional
leases were sold under Canadian asset securitization agreements during fiscal
1999, replacing leases liquidated. The balance of Canadian securitized
receivables at September 30, 1999 is CN$181 million ($123 million).
On May 19, 1999, IKON Receivables, LLC (an affiliate of the U.S. finance
subsidiary) publicly issued approximately $752 million of lease-backed notes
(the "Notes") under a $1.825 billion shelf registration statement. Class A-1
Notes totaling $305 million have a stated interest rate of 5.11%, Class A-2
Notes totaling $62 million have a stated interest rate of 5.60%, Class A-3 Notes
33
FINANCIAL REVIEW
FINANCIAL CONDITION AND LIQUIDITY
(CONTINUED)
totaling $304 million have a stated interest rate of 5.99% and Class A-4 Notes
totaling $81 million have a stated interest rate of 6.23%. The Notes are secured
by a pool of leases and related assets and the payments made on the Notes are
funded from customer payments on the leases.
Our finance subsidiary received approximately $749 million in net proceeds
from the sale of the Notes and used $250 million of that amount to repurchase
leases previously sold in connection with the asset securitization transaction
completed in December 1998. As a result of the repurchase, the $250 million
securitization commitment remains available. On October 7, 1999, IKON
Receivables LLC issued an additional $700 million of lease-backed notes under
the shelf registration statement. Class A-1 Notes totaling $236 million have a
stated interest rate of 6.14%, Class A-2 Notes totaling $51 million have a
stated interest rate of 6.31%, Class A-3a Notes totaling $100 million have a
stated interest rate of 6.59%, Class A-3b Notes totaling $241 million have a
variable rate of libor plus 0.36% (which we have fixed at 6.58% through an
interest rate swap) and Class A-4 Notes totaling $72 million have a stated
interest rate of 6.88%. Our U.S. finance subsidiary received approximately $697
million in net proceeds from the sale of the Notes and used $275 million of that
amount to repurchase previously sold leases.
The Company filed a shelf registration for 10 million shares of common
stock in April 1997. Shares to be issued under the registration statement are
for use in acquisition transactions. Approximately 3.5 million shares have been
issued under this shelf registration through September 30, 1999, leaving 6.5
million shares available for issuance.
On April 17, 1997, we announced that we may repurchase from time to time as
much as five percent of the outstanding IKON common stock in open market
transactions. Through fiscal 1998, we repurchased 4.6 million common shares for
$113 million under this program. There were no purchases under this program in
1999.
On November 24, 1999, subject to formal approval by the court, we reached a
settlement with the plaintiffs in the series of purported class action
complaints which were filed in the United States District Court for the Eastern
District of Pennsylvania on behalf of our shareholders, and with the plaintiff
in a companion derivative lawsuit. The plaintiffs alleged that during the period
from January 24, 1996 to August 13, 1998, IKON and certain current and former
principal officers and employee directors publicly disseminated false and
misleading statements concerning our revenue, profitability and financial
condition in violation of the federal securities law. Under the settlement, we
will pay $111 million. The court has preliminarily approved the settlement. We
anticipate that a final settlement agreement will be submitted to the court and
that the court will hold a hearing on the approval of the settlement agreement
in February or March, 2000. We believe that the settlement also resolves a
purported class action claim pending in federal court in Utah. The Utah action
contains one claim purporting to be a class claim brought under the Employee
Retirement Income Security Act of 1974 ("ERISA"). The plaintiffs seek to
represent a class of persons who participated in our Retirement Savings Plan
after January 1, 1994. The class allegations in the Utah action largely mirror
the allegations made in the complaints filed in the Eastern District of
Pennsylvania.
We have recorded a charge of $101.1 million in fiscal 1999 related to the
settlement, which consists of the $111 million settlement plus $10.1 million of
legal fees offset by $20 million of insurance proceeds. This does not include
a $20 million insurance claim which we are pursuing against another insurance
carrier. Reflecting payment of a portion of the legal fees, the balance sheet at
September 30, 1999, includes $117.7 million in accrued shareholder litigation
settlement and $16.6 million of insurance proceeds receivable which is included
in prepaid expenses and other current assets.
In the fourth quarter of fiscal 1999 service and rental revenue was
negatively impacted by the underperformance of certain Document Services and
Technology Services units. In the first quarter of fiscal 2000, the Company
approved a restructuring charge of approximately $102 million. This charge is
comprised of $14 million severance, $52 million in asset write downs (net of
sale proceeds), and $36 million facility and other core contract cancellation
expenses. The cash impact of the charge is expected to be a net outflow of $41
million. These actions will cause a reduction of our headcount of approximately
1,500 positions over the next 12 months. This charge is to consolidate or
dispose of certain underperforming and non-core Technology Services, Business
Document Services and Business Information Services locations and implement
productivity enhancements through consolidation/centralization of activities in
inventory management, purchasing, financial/accounting and other administrative
functions and consolidate or eliminate unproductive real estate facilities.
These efforts are aimed at improving our performance and efficiency.
We believe that our operating cash flow together with unused bank credit
facilities and other financing arrangements will be sufficient to finance
current operating requirements including capital expenditures, acquisitions,
dividends, productivity initiatives and stock repurchases.
34
MARKET RISK
Interest Rate Risk. Our exposure to market risk for changes in interest rates
relates primarily to our long-term debt. We have no cash flow exposure due to
interest rate changes for long-term debt obligations. We primarily enter into
debt obligations to support general corporate purposes, including acquisitions,
capital expenditures and working capital needs. Finance subsidiaries' long-term
debt is used to fund the lease receivables portfolio. For interest rate swaps,
the table presents notional amounts and weighted average interest rates by
contractual maturity dates using September 30, 1999 variable rates. The carrying
amounts for cash, accounts receivable, long-term receivables and notes payable
reported in the consolidated balance sheets approximate fair value.
The table below presents principal amounts and related average interest rates by
year of maturity for the Company's long-term debt obligations as of September
30, 1999:
(in thousands) 2000 2001 2002 2003 2004 Thereafter
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Long-term debt
Fixed rate $ 95,262 $ 58,511 $ 9,141 $ 4,375 $126,029 $475,460
Average interest rate 6.2% 9.0% 9.7% 10.2% 6.8% 6.9%
Variable rate $ 45,298
Average interest rate 5.1%
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Long-term debt, finance subsidiaries
Fixed rate $749,033 $717,691 $238,243 $73,242
Average interest rate 6.2% 6.5% 6.3% 6.7%
Variable rate 225,000
Average interest rate 5.7%
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Interest rate derivative financial
instruments related to debt
Interest rate swaps:
Pay fixed/receive variable $225,000 $ 45,298
Average pay rate 5.8% 7.7%
Average receive rate 5.7% 5.1%
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Foreign Exchange Risk. The Company does not have significant foreign
exchange risk. Foreign denominated intercompany debt borrowed in one currency
and repaid in another is fixed via currency swap agreements. Gains and losses
resulting from the remeasurement of foreign financial statements into U.S.
dollars did not have a significant effect on the results of operations for
fiscal years 1999, 1998 or 1997.
EURO CONVERSION
On January 1, 1999, eleven of the fifteen member countries of the European Union
established fixed conversion rates between their existing sovereign currencies
and the euro. The participating countries agreed to adopt the euro as their
common legal currency on that date. Our operating subsidiaries affected by the
euro conversion have established plans to address the systems and business
issues raised by the euro currency conversion. We anticipate the euro conversion
will not have a material adverse impact on our financial condition or results of
operations.
35
Consolidated Statements Of Operations
Fiscal Year Ended September 30
- ------------------------------------------------------------------------------------------
(in thousands, except per share data) 1999 1998 1997
- ------------------------------------------------------------------------------------------
Revenues
Net sales $2,864,798 $3,012,006 $2,841,561
Service and rentals 2,360,274 2,348,863 2,087,198
Finance income 297,072 267,794 199,674
- ------------------------------------------------------------------------------------------
5,522,144 5,628,663 5,128,433
- ------------------------------------------------------------------------------------------
Costs and Expenses
Cost of goods sold 1,947,566 2,038,682 1,828,883
Service and rental costs 1,373,097 1,418,463 1,210,107
Finance interest expense 126,676 129,148 98,664
Selling and administrative 1,823,083 1,947,856 1,603,305
Shareholder litigation settlement 101,106
Loss from asset impairment 20,000
Transformation costs 78,033 126,908
- ------------------------------------------------------------------------------------------
5,371,528 5,632,182 4,867,867
- ------------------------------------------------------------------------------------------
Operating Income (Loss) 150,616 (3,519) 260,566
Interest Expense 71,225 70,668 47,453
- ------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations Before
Taxes and Extraordinary Loss 79,391 (74,187) 213,113
Income Taxes 45,555 8,863 90,751
- ------------------------------------------------------------------------------------------
Income (Loss) from Continuing Operations
Before Extraordinary Loss 33,836 (83,050) 122,362
Discontinued Operations 20,151
- ------------------------------------------------------------------------------------------
Income (Loss) Before Extraordinary Loss 33,836 (83,050) 142,513
Extraordinary Loss from Early Extinguishment
of Debt, net of tax benefit (12,156)
- ------------------------------------------------------------------------------------------
Net Income (Loss) 33,836 (83,050) 130,357
Less Preferred Dividends 19,540 19,540
- ------------------------------------------------------------------------------------------
Net Income (Loss) Available to Common Shareholders $ 33,836 $ (102,590) $ 110,817
- ------------------------------------------------------------------------------------------
Earnings (Loss) Per Share
Continuing operations $ .23 $ (.76) $ .77
Discontinued operations .15
Extraordinary loss (.09)
- ------------------------------------------------------------------------------------------
$ .23 $ (.76) $ .83
- ------------------------------------------------------------------------------------------
Diluted Earnings (Loss) Per Share
Continuing operations $ .23 $ (.76) $ .77
Discontinued operations .15
Extraordinary loss (.09)
- ------------------------------------------------------------------------------------------
$ .23 $ (.76) $ .83
- ------------------------------------------------------------------------------------------
Cash Dividends Per Share of Common Stock $ .16 $ .16 $ .26
See notes to consolidated financial statements.
36
CONSOLIDATED BALANCE SHEETS
September 30
- ------------------------------------------------------------------------------------------------------------
(dollars in thousands) 1999 1998
- ------------------------------------------------------------------------------------------------------------
Assets
Current Assets
Cash $ 3,386 $ 963
Restricted cash 29,625
Accounts receivable, less allowances of: 1999-$43,543; 1998-$63,591 725,308 793,934
Finance receivables, net 887,396 827,363
Inventories 338,947 431,837
Prepaid expenses and other current assets 111,386 97,534
Deferred taxes 137,853 112,609
- ------------------------------------------------------------------------------------------------------------
Total current assets 2,233,901 2,264,240
- ------------------------------------------------------------------------------------------------------------
Investments and Long-Term Receivables 24,313 25,109
Long-Term Finance Receivables, net 1,677,230 1,565,674
Equipment on Operating Leases, net of accumulated
amortization of: 1999-$157,750; 1998-$158,315 87,496 110,891
Property and Equipment, net 259,815 260,106
Goodwill, net 1,385,295 1,387,390
Other Assets 133,263 149,400
- ------------------------------------------------------------------------------------------------------------
$5,801,313 $5,762,810
- ------------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' Equity
Current Liabilities
Current portion of long-term debt $ 95,262 $ 56,358
Current portion of long-term debt, finance subsidiaries 974,033 726,159
Notes payable 44,968 87,180
Trade accounts payable 169,763 245,520
Accrued salaries, wages and commissions 128,501 115,101
Deferred revenues 205,654 211,824
Other accrued expenses 311,758 326,725
Accrued shareholder litigation settlement 117,652
- ------------------------------------------------------------------------------------------------------------
Total current liabilities 2,047,591 1,768,867
- ------------------------------------------------------------------------------------------------------------
Long-Term Debt 718,814 712,384
Long-Term Debt, Finance Subsidiaries 1,029,176 1,374,478
Deferred Taxes 375,007 325,488
Other Long-Term Liabilities 170,185 154,305
Shareholders' Equity
Series BB conversion preferred stock, no par value:
1998-3,877,200 depositary shares issued and outstanding 290,170
Common stock, no par value: authorized 300,000,000 shares;
issued 1999-149,271,000 shares; 1998-137,139,000 shares 1,008,392 689,195
Unearned compensation (5,513)
Retained earnings 464,150 455,089
Accumulated other comprehensive income (4,922) (3,511)
Cost of common shares in treasury: 1999-53,000 shares;
1998-124,000 shares (1,567) (3,655)
- ------------------------------------------------------------------------------------------------------------
1,460,540 1,427,288
- ------------------------------------------------------------------------------------------------------------
$5,801,313 $5,762,810
- ------------------------------------------------------------------------------------------------------------
See notes to consolidated financial statements.
37
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Fiscal Year Ended September 30 1999 1998 1997
- -----------------------------------------------------------------------------------------------------------------------------------
(in thousands, except per share data) Shares Amounts Shares Amounts Shares Amounts
- -----------------------------------------------------------------------------------------------------------------------------------
Series BB Conversion Preferred Stock
Balance, beginning of year 3,877 $ 290,170 3,877 $290,170 3,877 $ 290,170
Preferred Stock Conversion (3,877) (290,170)
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year 3,877 $290,170 3,877 $ 290,170
- -----------------------------------------------------------------------------------------------------------------------------------
Common Stock
Balance, beginning of year 137,139 $ 689,195 135,705 $677,681 131,930 $1,305,413
Series BB Preferred Stock Conversion 9,682 290,170
Mergers, acquisitions and other 1,970 21,526 1,434 9,648 3,775 145,265
Stock awards 480 7,603
Unisource spin-off (779,770)
Tax (charge) benefit relating to stock plans (102) 1,866 6,773
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year 149,271 $1,008,392 137,139 $689,195 135,705 $ 677,681
- -----------------------------------------------------------------------------------------------------------------------------------
Unearned Compensation
Balance, beginning of year $ --
Stock awards (7,603)
Amortization 1,503
Awards cancelled 587
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ (5,513)
- -----------------------------------------------------------------------------------------------------------------------------------
Retained Earnings
Balance, beginning of year $ 455,089 $575,874 $ 703,584
Net income (loss) 33,836 (83,050) 130,357
Cash dividends declared: Series BB preferred stock, per share:
1998 and 1997-$5.04 (19,540) (19,540)
Common stock, per share: 1999-$.16;
1998-$.16; 1997-$.26 (23,689) (21,600) (34,640)
Unisource spin-off (210,071)
Issuance of treasury shares and other (1,086) 3,405 6,184
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ 464,150 $455,089 $ 575,874
- -----------------------------------------------------------------------------------------------------------------------------------
Accumulated Other Comprehensive
Income (Loss)
Balance, beginning of year $ (3,511) $ (1,956) $ (27,000)
Unisource spin-off 29,118
Translation adjustment (1,280) (1,264) (4,659)
Minimum pension liability adjustment, net of tax (131) (291) 585
- -----------------------------------------------------------------------------------------------------------------------------------
Other comprehensive income (loss) (1,411) (1,555) (4,074)
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year $ (4,922) $ (3,511) $ (1,956)
- -----------------------------------------------------------------------------------------------------------------------------------
Cost of Common Shares in Treasury
Balance, beginning of year 124 $ (3,655) 2,401 $(60,121) 374 $ (16,663)
Purchases 8 (168) 178 (4,013) 4,486 (112,192)
Reissued for:
Exercise of options (41) 1,301 (377) 9,346 (50) 1,471
Sales to employee stock plans (18) 491 (485) 11,802 (501) 16,438
Mergers, acquisitions and other (20) 464 (1,593) 39,331 (1,908) 50,825
- -----------------------------------------------------------------------------------------------------------------------------------
Balance, end of year 53 $ (1,567) 124 $ (3,655) 2,401 $ (60,121)
- -----------------------------------------------------------------------------------------------------------------------------------
Comprehensive Income (Loss)
Net income (loss) $ 33,836 $(83,050) $ 130,357
Other comprehensive income (loss) per above (1,411) (1,555) (4,074)
- -----------------------------------------------------------------------------------------------------------------------------------
$ 32,425 $(84,605) $ 126,283
- -----------------------------------------------------------------------------------------------------------------------------------
See notes to consolidated financial statements.
38
CONSOLIDATED STATEMENTS OF CASH FLOWS
Fiscal Year Ended September 30
- -----------------------------------------------------------------------------------------------------------------------
(in thousands) 1999 1998 1997
- -----------------------------------------------------------------------------------------------------------------------
Operating Activities
Income (loss) from continuing operations $ 33,836 $ (83,050) $ 122,362
Additions (deductions) to reconcile income (loss)
from continuing operations to net cash provided
by operating activities of continuing operations:
Depreciation 134,638 140,101 108,037
Amortization 62,226 62,424 48,555
Provisions for losses on accounts receivable 31,765 47,052 25,724
Provision for deferred income taxes 24,971 9,500 92,063
Gain on asset securitization (26,856) (5,064) (2,602)
Write-off of abandoned software and other assets 5,987 25,342
Loss from asset impairment 20,000
Shareholder litigation settlement 101,106
Changes in operating assets and liabilities, net
of effects from acquisitions
and divestitures:
Decrease (increase) in accounts receivable 43,235 (43,741) (202,790)
Decrease (increase) in inventories 94,230 20,926 (70,189)
Decrease (increase) in prepaid expenses 26,414 2,333 (19,097)
(Decrease) increase in accounts payable, deferred
revenues and accrued expenses (77,073) 85,531 37,125
Miscellaneous 3,099 7,304 8,986
- -----------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities of
continuing operations 451,591 269,303 173,516
Net cash provided by operating activities of
discontinued operations 24,176
- -----------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 451,591 269,303 197,692
Investing Activities
Cost of companies acquired, net of cash acquired (30,065) (82,642) (155,907)
Expenditures for property and equipment (103,462) (119,680) (118,015)
Expenditures for equipment on operating rental, net (30,809) (72,878) (66,016)
Proceeds from sale of property and equipment 19,347 18,907 26,773
Purchase of miscellaneous assets (1,000) (10,678)
Finance receivables-additions (1,327,366) (1,509,900) (1,459,102)
Finance receivables-collections 955,970 871,555 651,025
Proceeds from sale of finance subsidiaries' lease
receivables 467,394 229,359 103,401
Repurchase of finance subsidiary's lease receivables (250,000)
- -----------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities of
continuing operations (298,991) (666,279) (1,028,519)
Net cash used in investing activities of
discontinued operations (38,058)
- -----------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (298,991) (666,279) (1,066,577)
Financing Activities
Proceeds from:
Issuance of long-term debt 67,105 265,345 35,605
Option exercises and sale of treasury shares 5,117 19,911 43,807
Issuance (repayment) of short-term borrowings, net (42,212) (175,895) 75,388
Long-term debt repayments (24,321) (42,704) (328,702)
Finance subsidiaries' debt-issuance 753,146 888,185 932,728
Finance subsidiaries' debt-repayments (852,885) (533,091) (314,000)
Dividends paid (23,689) (41,140) (54,180)
Deposit to restricted cash (29,625)
Purchase of treasury shares (2,813) (4,013) (112,192)
Proceeds from discontinued operations 551,834
- -----------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by financing activities of
continuing operations (150,177) 376,598 830,288
Net cash provided by financing activities
of discontinued operations 13,882
- -----------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by financing activities (150,177) 376,598 844,170
- -----------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash 2,423 (20,378) (24,715)
Cash at beginning of year 963 21,341 46,056
- -----------------------------------------------------------------------------------------------------------------------
Cash at end of year $ 3,386 $ 963 $ 21,341
- -----------------------------------------------------------------------------------------------------------------------
See notes to consolidated financial statements.
39
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
IKON Office Solutions, Inc. (IKON or the Company) is a leading office technology
company, providing customers with products and services to meet business
communication needs, including copiers and printers, color solutions,
distributed printing, outsourcing services, imaging and legal outsourcing
solutions, as well as network design and consulting, application development and
technology training. References herein to "we", "us" or "our" refer to IKON and
its subsidiaries unless the context specifically requires otherwise. We have
locations throughout the United States, Canada, Mexico and in Europe. Our name
was changed from Alco Standard Corporation (Alco) to IKON Office Solutions, Inc.
effective January 23, 1997.
1. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The consolidated financial statements include the accounts of the Company and
its subsidiaries, all of which are wholly owned. Significant intercompany
accounts and transactions have been eliminated in consolidation. The spin-off of
Unisource Worldwide, Inc. (Unisource), our paper products and supply systems
distribution business, was completed on December 31, 1996, as discussed in Note
5. All of the following notes, unless otherwise stated, reflect data on a
continuing operations basis.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect amounts reported in the financial statements and notes. Actual results
could differ from those estimates and assumptions.
Revenue Recognition
Revenues are recognized at the time of shipment of products or performance of
services. Revenues from service contracts and rentals are recognized over the
term of the contract. The present value of payments due under sales-type lease
contracts is recorded as revenues and cost of goods sold is charged with the
book value of the equipment at the time of shipment. Finance income is
recognized over the related lease term.
Inventories
Inventories are stated at the lower of cost or market using the average cost or
specific identification methods and consist of finished goods available for
sale.
Goodwill
Substantially all goodwill (excess of purchase price over net assets acquired)
is amortized over periods ranging from 25 to 40 years using the straight-line
method. The recoverability of goodwill is evaluated at the operating unit level
by an analysis of operating results and consideration of other significant
events or changes in the business environment. If an operating unit has current
operating losses and based upon projections there is a likelihood that such
operating losses will continue, we will evaluate whether impairment exists on
the basis of undiscounted expected future cash flows from operations before
interest for the remaining amortization period. If impairment exists, the
carrying amount of the goodwill is reduced by the estimated shortfall of cash
flows on a discounted basis. Accumulated amortization at September 30, 1999 and
1998 was $186,000,000 and $143,000,000, respectively.
Depreciation
Properties and equipment are depreciated over their useful lives by the
straight-line method.
Foreign Currency Translation
Assets and liabilities of all material foreign subsidiaries are translated into
U.S. dollars at fiscal year-end exchange rates. Income and expense items are
translated at average exchange rates prevailing during the fiscal year. The
resulting translation adjustments are recorded as a component of shareholders'
equity.
Accounting Changes
On October 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130, "Reporting Comprehensive Income" (SFAS 130). SFAS 130
established rules for the reporting and presentation of comprehensive income and
its components. SFAS 130 requires foreign currency translation adjustments,
equity adjustments related to pension liabilities and mark to market adjustments
on retained interests in securitized lease receivables to be included in other
comprehensive income. Equity accounts as of September 30, 1998 and 1997 have
been reclassified to conform to the requirements of SFAS 130. The adoption of
SFAS 130 did not impact our net income or total shareholders' equity. The
accumulated translation adjustment and minimum pension liability adjustment
included in accumulated other comprehensive income were $(3,272,000) and
$(1,650,000), respectively, at September 30, 1999 and $(1,992,000) and
$(1,519,000), respectively, at September 30, 1998.
40
During fiscal 1999, we adopted SFAS 131, "Disclosures About Segments of an
Enterprise and Related Information," which establishes standards for reporting
operating segments and disclosures about products and services, geographic areas
and major customers. See Note 16, "Segment Reporting," for further information.
During fiscal 1999, we also adopted SFAS 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits," which established new disclosures
for defined benefit pension plans. See Note 15 for the required disclosures.
Pending Accounting Changes
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (SFAS 133), which establishes accounting and
reporting standards for derivative instruments and hedging activities. It will
require us to recognize all derivatives as either assets or liabilities and
measure the instruments at fair value. The statement is effective for all fiscal
quarters of fiscal years beginning after June 15, 2000. We intend to adopt the
standard on October 1, 2000. We do not believe the effect of adoption will be
material.
Interest Rate and Currency Swap Agreements
We use interest rate and currency swap agreements for purposes other than
trading and they are treated as off-balance-sheet items. We use interest rate
swap agreements to modify variable rate obligations to fixed rate obligations,
thereby reducing the exposure to market rate fluctuations. The interest rate
swap agreements are designated as hedges, and effectiveness is determined by
matching the principal balance and terms with that specific obligation. Such an
agreement involves the exchange of amounts based on fixed interest rates for
amounts based on variable interest rates over the life of the agreement without
an exchange of the notional amount upon which payments are based. The
differential to be paid or received as interest rates change is accounted for on
the accrual method of accounting. The related amount payable to or receivable
from counterparties is included as an adjustment to accrued interest in other
accrued expenses. Currency swap agreements are used to manage exposure relating
to certain intercompany debt denominated in a foreign currency. Currency swap
agreements are designated as hedges of firm commitments to pay interest and
principal on debt, which would otherwise expose us to foreign currency risk.
Currency translation gains and losses on the principal swapped are offset by
corresponding translation gains and losses on the related foreign denominated
assets. Gains and losses on terminations of interest rate and currency swap
agreements are deferred as an adjustment to the carrying amount of the
outstanding obligation and amortized as an adjustment to interest expense
related to the obligation over the remaining term of the original contract life
of the terminated swap agreement. In the event of early extinguishment of the
obligation, any realized or unrealized gain or loss from the swap would be
recognized in income at the time of extinguishment.
Reclassifications
Certain prior-year amounts have been reclassified to conform with the
current-year presentation. The impact of these changes is not material and did
not affect net income.
2. LOSS ON ASSET IMPAIRMENT
In October 1996, we purchased a software development company that we believed to
be a strategic fit with our system integration companies. In fiscal 1998, this
company experienced operating losses and negative cash flows from operations.
During the third quarter of fiscal 1998, we evaluated projections that indicated
this trend was expected to continue. We concluded that the carrying amounts of
the goodwill and other long-lived assets were not recoverable and, in accordance
with our accounting policy, recorded an impairment loss of $20,000,000. This
company was shut down in fiscal 1999.
3. TRANSFORMATION COSTS
In September 1995, we announced a transformation program to change our
organization into a more cohesive and efficient network by building a uniform
information technology system and implementing best practices for critically
important management functions throughout the IKON companies. We substantially
completed the transformation program as of September 30, 1998. The
transformation involved a variety of activities, including consolidating
purchasing, inventory control, logistics and other activities into thirteen
customer service centers in the U.S., establishing a single financial processing
center, building a common information technology system, adopting a common name
and common benefit programs. Transformation costs for fiscal 1998 and 1997 of
$78,033,000 and $126,908,000, respectively, relate principally to severance and
other employee-related costs, including temporary labor ($47,159,000 and
$53,866,000, respectively), facility consolidation costs, including lease
buyouts and write-offs of leasehold improvements ($25,233,000 and $24,738,000,
respectively), technology conversion costs, including the write-off of costs
41
Notes To Consolidated Financial Statements
related to the abandoned SAP computer pilot program in fiscal 1997 ($5,641,000
and $37,297,000, respectively) and costs incurred to adopt the IKON name
($11,007,000 in fiscal 1997). Cash of $11,768,000 was expended during fiscal
1999 reducing the severance and lease buyout accruals to $3,325,000 and
$4,993,000, respectively, at September 30, 1999.
4. ACQUISITIONS
We made 6 acquisitions in fiscal 1999 for an aggregate purchase price of
$19,332,000 in cash. Total assets related to fiscal 1999 acquisitions were
$32,425,000, including goodwill of $23,017,000. In addition, $22,454,000 was
paid and capitalized in fiscal 1999 relating to prior years' acquisitions.
In fiscal 1998, we made 34 acquisitions for an aggregate purchase price of
$99,408,000 in cash and stock. Total assets related to these acquisitions were
$157,595,000, including goodwill of $94,769,000. An additional $29,829,000 was
paid and capitalized in fiscal 1998 relating to prior years' acquisitions.
In fiscal 1997, we made 89 acquisitions for an aggregate purchase price
of $317,864,000 in cash and stock. Total assets related to these acquisitions
were $438,954,000, including goodwill of $277,209,000. An additional $9,608,000
was paid and capitalized in fiscal 1997 relating to prior years' acquisitions.
All acquisitions, unless otherwise noted, are included in results of
operations from their dates of acquisition.
Had the acquisitions been made at the beginning of the fiscal year prior to
their acquisition, unaudited pro forma results from continuing operations would
have been:
Fiscal Year Ended September 30
(in thousands except per share data)
(unaudited) 1999 1998 1997
- ---------------------------------------------------------------------------
Revenues $5,526,176 $5,774,203 $5,561,592
Income (loss) from
continuing operations 33,917 (82,542) 131,545
Earnings (loss) per share
from continuing operations:
Basic .23 (.75) .81
Diluted .23 (.75) .80
5. DISCONTINUED OPERATIONS
On June 19, 1996, we announced that we would separate Unisource, our paper
products and supply systems distribution business from IKON, the office
solutions business, with each business operating as a stand-alone, publicly
traded company. In order to effect the separation of these businesses, we
declared a dividend payable to holders of record of Alco common stock at the
close of business on December 13, 1996 (the Record Date) of one share of common
stock, $.001 par value, of Unisource common stock, for every two shares of Alco
stock owned on the Record Date. The distribution resulted in 100% of the
outstanding shares of Unisource common stock being distributed to Alco
shareholders on December 31, 1996. The Internal Revenue Service issued a ruling
letter which provided that, except for any cash received in lieu of fractional
shares, the spin-off of Unisource was tax-free to Alco and to Alco's U.S.
shareholders.
In conjunction with the separation of the businesses, Unisource and IKON
entered into various agreements that address the allocation of assets and
liabilities between them and define their relationship after the separation,
including a Distribution Agreement (Distribution Agreement), a Benefits
Agreement (Benefits Agreement) and a Tax Sharing and Indemnification Agreement
(Tax Sharing Agreement). The Distribution Agreement provides for, among other
things, the principal transactions required to effect the Distribution, the
conditions to the Distribution, the allocation between IKON and Unisource of
certain assets and liabilities and cooperation by IKON and Unisource in the
provision of information and certain facilities necessary to perform the
administrative functions incident to our respective businesses. The Distribution
Agreement includes cross-indemnification provisions pursuant to which Unisource
and IKON indemnify each other for damages that may arise out of a breach of our
respective obligations under the agreement. Under the Benefits Agreement,
Unisource's obligation to provide benefits includes all obligations with respect
to Unisource employees under pension plans, savings plans and multiemployer
plans, welfare plans (retiree medical plans), supplemental benefit plans,
certain
42
deferred compensation plans, incentive plans, stock-based plans and other plans
covering Unisource employees and includes liabilities that arose while the
individuals were employed by Alco. The Benefits Agreement requires us to
reimburse Unisource for a portion of any payments made by Unisource to former
Unisource employees under Alco's 1985, 1991 and 1994 deferred compensation
plans.
Unisource assumed certain Alco pension plans covering Unisource employees,
and assets and liabilities attributable to Unisource employees under Alco's
participating companies pension plan and Alco's 401(k) plan were transferred to
new Unisource pension and 401(k) plans, respectively. Under the Tax Sharing
Agreement, Unisource will bear its respective share of (i) our federal
consolidated income tax liability (or benefit), (ii) any unitary state income
tax liability, and (iii) our consolidated personal property tax liability for
all tax periods that end before or that include the Distribution Date. Unisource
is responsible for paying any tax liabilities arising for any tax return that it
files separately. If any tax year ending before or including the Distribution
Date is subsequently examined by the IRS, and an adjustment results from such
examination, then Unisource's share of our additional federal consolidated
income tax liability (or benefit for that tax year) will be computed and agreed
to by the parties. The Tax Sharing Agreement generally provides that in the
event either we or Unisource take any action inconsistent with, or fail to take
any action required by, or in accordance with the qualification of the
Distribution as tax-free, then we or Unisource, as the case may be, will be
liable for and indemnify and hold the other harmless from any tax liability
resulting from such action.
We accounted for Unisource as a discontinued operation in fiscal 1997.
Unisource was charged corporate interest expense of $7,203,000 in the first
quarter of fiscal 1997, based on the relationship of its net assets to total
Company net assets, excluding corporate debt.
The results of discontinued operations for the three months ended December
31, 1996 were:
(in thousands)
- -----------------------------------------------------------------
Revenues $1,728,533
- -----------------------------------------------------------------
Income before taxes 34,743
Tax expense 14,592
- -----------------------------------------------------------------
Net income $ 20,151
- -----------------------------------------------------------------
In December 1996, Unisource repaid $553,500,000 of intercompany debt
outstanding with us and the Unisource common stock was distributed to Alco
shareholders. Our equity was reduced by $960,723,000, which was the equity of
Unisource at December 31, 1996, adjusted for post-closing tax and pension
adjustments.
6. FINANCE RECEIVABLES
Our wholly owned finance subsidiaries are engaged in purchasing office equipment
from our marketplaces and leasing the equipment to customers under direct
financing leases.
Components of finance receivables, net, are as follows:
September 30 (in thousands) 1999 1998
- -----------------------------------------------------------
Gross receivables $2,788,336 $2,688,736
Unearned income (496,096) (496,735)
Unguaranteed residuals 347,170 284,543
Allowance for doubtful accounts (74,784) (83,507)
- -----------------------------------------------------------
Lease receivables 2,564,626 2,393,037
Less: Current portion 887,396 827,363
- -----------------------------------------------------------
Long-term lease receivables $1,677,230 $1,565,674
===========================================================
Provision for uncollectible lease receivables was $62,790,000, $94,768,000, and
$56,231,000 in fiscal 1999, 1998 and 1997 respectively.
At September 30, 1999, contractual maturities of direct financing leases were:
2000-$1,001,200,000; 2001- $821,453,000; 2002-$566,631,000; 2003-$298,759,000;
2004-$99,442,000; thereafter-$851,000; while future minimum lease payments to be
received under operating leases were: 2000-$40,274,000; 2001-$29,436,000;
2002-$18,321,000; 2003-$8,422,000; 2004-$2,546,000; thereafter-none.
In December 1998, our U.S. finance subsidiary entered into an asset
securitization transaction whereby it sold $366,600,000 in direct financing
lease receivables for $250,000,000 in cash and a retained interest in the
remainder. The agreement was for an initial three-year term with certain renewal
provisions and was structured as a revolving asset securitization so that as
collections reduced previously sold interests in the pool of leases, additional
leases could be sold up to $250,000,000. The terms of the agreement provided
that we would continue to service the lease portfolio for the securitization
provider. On May 25, 1999, the Company's U.S. finance subsidiary repurchased the
leases sold in this transaction with the proceeds from the lease-backed notes
described in Note 8.
On December 9, 1999, our U.S. finance subsidiary transferred an additional
$311,381,604 in financing lease receivables for $247,600,000 in cash in
connection with this revolving asset securitization. Our U.S. finance subsidiary
also had asset securitization agreements for $275,000,000 of eligible direct
financing lease receivables at September 30, 1999. On October 7, 1999 these
leases were repurchased with a portion of proceeds received from the issuance of
lease-backed notes as described in Note 8. Our Canadian finance subsidiary has
an asset securitization agreement for up to CN$175,000,000 of eligible direct
financing lease receivables that expires in April 2000. The obligations
thereunder are secured by a pool of office equipment leases or contracts and
43
Notes To Consolidated Financial Statements
related assets. In September 1999, our Canadian finance subsidiary entered into
an additional asset securitization agreement for up to CN$200,000,000 of
eligible direct financing lease receivables that expires in June 2006. The
obligations thereunder are secured by a pool of office equipment leases or
contracts and related assets. Under the terms of the agreements, there are
limited recourse provisions to cover potential losses to the purchaser. As
collections reduce previously sold interests, new leases can be sold up to the
agreement amount. In fiscal year 1999, the U.S. finance subsidiary sold an
additional $152,098,000 in leases, replacing leases liquidated during the year
and the Canadian finance subsidiary sold an additional $65,296,000 in leases,
under the agreements. We recognized a pretax gain of $14,333,000 during the
first quarter of fiscal 1999 on the December 1998 agreement and additional gains
on the revolving portion of all agreements and the September 1999 Canadian
agreement of $12,523,000, for total gains of $26,856,000 for the year ended
September 30, 1999.
The changes in the finance subsidiaries' servicing liabilities relating to
the asset securitization agreements for the fiscal years ended September 30,
1999 and 1998, are as follows:
(in thousands) 1999 1998
- ------------------------------------------
Beginning of period $10,365 $ 8,248
Additions 3,841 5,870
Less: Amortization (4,600) (3,753)
- ------------------------------------------
$ 9,606 $10,365
==========================================
7. PROPERTY AND EQUIPMENT
Property and equipment, at cost, consisted of:
September 30 (in thousands) 1999 1998
- ------------------------------------------------------------------
Land $ 6,395 $ 6,718
Buildings and leasehold
improvements 92,546 94,706
Production equipment 52,289 63,944
Furniture, office equipment and
capitalized software 384,074 334,178
- ------------------------------------------------------------------
535,304 499,546
Less: accumulated depreciation 275,489 239,440
- ------------------------------------------------------------------
$259,815 $260,106
==================================================================
8. NOTES PAYABLE AND LONG-TERM DEBT
Notes payable consisted of:
September 30 (in thousands) 1999 1998
- ------------------------------------------------------------------
Notes payable to banks at
average interest rate:
1999-5.6%; 1998-6.1% $ 42,427 $ 82,298
Other notes payable at
average interest rate:
1999-8.3%; 1998-6.5% 2,541 4,882
- ------------------------------------------------------------------
$ 44,968 $ 87,180
===================================================================
Long-term debt, excluding finance subsidiaries' debt, consisted of:
September 30 (in thousands) 1999 1998
- -----------------------------------------------------------------------------
Bond issue at stated interest rate of
6.75%, net of discount (1999-$4,351;
1998-$4,411), due 2025,
effective interest rate of 6.87% $ 295,649 $ 295,589
Bond issue at stated interest rate of
6.75%, net of discount (1999-$234;
1998 - $271), due 2004,
effective interest rate of 6.794% 124,766 124,729
Bond issue at stated interest rate of
7.3%, net of discount (1999-$652;
1998-$659), due 2027,
effective interest rate of 7.344% 124,348 124,341
Bond issue at interest rate of
8.875% due 2001 43,819 43,819
Private placement debt at average
interest rate of 7.2%, due 2005 55,000 55,000
Bank debt at average interest rate
of 7.7%, due 2000 45,298 45,121
Sundry notes, bonds and mortgages
at average interest rate: 1999--5.9%;
1998-7.2% due 2000-2005 104,427 53,611
Present value of capital lease obligations
(gross amount: 1999-$24,925;
1998-$28,401) 20,769 26,532
- -----------------------------------------------------------------------------
814,076 768,742
Less current maturities 95,262 56,358
- -----------------------------------------------------------------------------
$ 718,814 $ 712,384
=============================================================================
After giving effect to interest rate swaps, the average effective interest
rate on our long-term bank debt was 7.7% at both September 30, 1999 and
September 30, 1998, compared to average stated variable rates of 5.1% and 4.8%
at September 30, 1999 and September 30, 1998, respectively.
Long-term debt, finance subsidiaries consisted of:
September 30 (in thousands) 1999 1998
- -----------------------------------------------------------------------------
Medium term notes at
average interest rate
of 6.5% $1,242,850 $1,849,750
Lease-backed notes at
average interest rate
of 5.7% 622,948
Notes payable to banks at
average interest rate:
1999-7.1%; 1998 -6.9% 137,411 250,887
- -----------------------------------------------------------------------------
2,003,209 2,100,637
Less current maturities 974,033 726,159
- -----------------------------------------------------------------------------
$1,029,176 $1,374,478
=============================================================================
44
After giving effect to interest rate swaps on finance subsidiaries' debt,
the average effective interest rate on $225,000,000 of our medium term notes was
5.8% and 6.2% at September 30, 1999 and 1998, respectively, compared to an
average variable rate of 5.7% and 5.4% at September 30, 1999 and 1998,
respectively.
Long-term debt and long-term debt, finance subsidiaries mature as follows:
Long-Term Debt,
Finance
(in thousands) Long-Term Debt Subsidiaries
- --------------------------------------------------------------------
(fiscal year)
2000 $ 95,262 $974,033
2001 103,809 717,691
2002 9,141 238,243
2003 4,375 73,242
2004 126,029
2005-2027 475,460
- --------------------------------------------------------------------
Maturities of lease-backed notes are based on contractual maturities of the
leases.
On December 2, 1996, Unisource borrowed under its new credit facility to
repay $553,500,000 of intercompany debt with us. We prepaid debt in the amount
of $514,000,000 from these funds. Early repayment of this debt resulted in
certain prepayment penalties. Total prepayment penalties of $18,701,000 and
related tax benefits of $6,545,000 are reflected as an extraordinary loss on
early extinguishment of debt on the Statement of Operations for fiscal 1997.
On January 16, 1998, our credit agreement with several banks was amended to
increase the amount available from $400,000,000 to $600,000,000 and to extend
the termination to January 16, 2003. There were no other significant changes to
the terms of the agreement. The agreement includes a facility fee that could
range from 6.25 to 10.0 basis points per annum on the commitment, based upon our
current long-term debt rating (8.5 basis points per annum at September 30,
1999). The agreement provides that loans may be made under either domestic or
Eurocurrency notes at rates computed under a selection of rate formulas
including prime or Eurocurrency rates. At September 30, 1999, we had short-term
borrowings supported by the credit agreement totaling $35,000,000 and a
$25,000,000 letter of credit supported by the agreement, leaving $540,000,000
unused and available.
Our wholly owned U.S. finance subsidiary may offer notes to the public from
time to time under its medium term notes program. These notes are offered at
varying maturities of nine months or more from their dates of issue and may be
subject to redemption at the option of the finance subsidiary, in whole or in
part, prior to the maturity date in conjunction with meeting specified
provisions. Interest rates are determined based on market conditions at the time
of issuance. At September 30, 1999, $1,123,250,000 is available for issuance
under this program.
On May 19, 1999, IKON Receivables, LLC (an affiliate of the U.S. finance
subsidiary) publicly issued $751,642,000 of lease-backed notes (the "Notes")
under a $1,825,000,000 shelf registration statement. Class A-1 Notes totaling
$304,474,000 have a stated interest rate of 5.11%, Class A-2 Notes totaling
$61,579,000 have a stated interest rate of 5.60%, Class A-3 Notes totaling
$304,127,000 have a stated interest rate of 5.99% and Class A-4 Notes totaling
$81,462,000 have a stated interest rate of 6.23%. The Notes are secured by a
pool of office equipment leases or contracts and related assets (the "Asset
Pool") and the payments on the Notes are made from payments on the leases. Our
U.S. finance subsidiary received approximately $749,000,000 in net proceeds from
the sale of the Notes and used $250,000,000 of that amount to repurchase
previously sold leases. The repurchased leases were contributed as part of the
Asset Pool. Restricted cash on the balance sheet represents cash that has been
collected on the lease receivables in the Asset Pool, which must be used to
repay the Notes.
On October 7, 1999, IKON Receivables, LLC publicly issued $699,595,000 of
lease-backed notes (the "Notes") under the $1,825,000,000 shelf registration
statement. Class A-1 Notes totaling $235,326,000 have a stated interest rate of
6.14%, Class A-2 Notes totaling $51,100,000 have a stated interest rate of
6.31%, Class A-3a Notes totaling $100,000,000 have a stated interest rate of
6.59%, Class A-3b Notes totaling $240,891,000 have a variable rate (of Libor
plus 0.36% (which we have fixed at 6.58% through an interest rate swap)) and
Class A-4 Notes totaling $72,278,000 have a stated interest rate of 6.88%. Our
U.S. finance subsidiary received approximately $697,000,000 in net proceeds from
the sale of the Notes and used $275,000,000 of that amount to repurchase
previously sold leases, which were contributed as part of the Asset Pool. The
Notes are secured by a pool of office equipment leases or contracts and related
assets and the payments on the Notes are made from payments on the leases.
Future maturities of the Notes are $252,700,000, $193,944,770, $143,174,200,
$88,815,390, and $20,960,620 in fiscal 2000, 2001, 2002, 2003, and 2004,
respectively.
We are in compliance with all covenants, including financial, for all loan
agreements. Capital lease obligations and mortgages are secured by property and
equipment that had a net book value of $18,788,000 at September 30, 1999.
45
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Interest paid, including finance subsidiaries and corporate interest
allocated to discontinued operations, approximated $208,000,000, $186,000,000
and $151,000,000 for fiscal years 1999, 1998 and 1997, respectively.
9. LEASES
Equipment acquired under capital leases is included in property and equipment in
the amount of $51,307,000 in 1999 and $45,416,000 in 1998 and the related
amounts of accumulated amortization are $32,519,000 in 1999 and $19,966,000 in
1998. Related obligations are in long-term debt and related amortization is
included in depreciation.
At September 30, 1999, future minimum lease payments under noncancelable
operating leases with initial or remaining terms of more than one year were:
2000-$96,948,000; 2001-$85,597,000; 2002-$58,608,000; 2003-$36,157,000;
2004-$24,934,000; thereafter-$44,130,000.
Total rental expense was $97,423,000 in 1999, $85,646,000 in 1998 and
$81,608,000 in 1997.
10. CONTINGENCIES
On November 24, 1999 subject to formal approval by the court, we reached a
settlement with the plaintiffs in the series of purported class action
complaints which were filed in the United States District Court for the Eastern
District of Pennsylvania on behalf of our shareholders, and with the plaintiff
in a companion derivative lawsuit. The plaintiffs alleged that during the period
from January 24, 1996 to August 13, 1998, IKON and certain current and former
principal officers and employee directors publicly disseminated false and
misleading statements concerning our revenue, profitability and financial
condition in violation of the federal securities law. Under the settlement, we
will pay $111,000,000. The court has preliminarily approved the settlement. We
anticipate that a final settlement agreement will be submitted to the court and
that the court will hold a hearing on the approval of the settlement agreement
in February or March, 2000. We believe that the settlement also resolves a
purported class action claim pending in federal court in Utah. The Utah action
contains one claim purporting to be a class claim brought under the Employee
Retirement Income Security Act of 1974 ("ERISA"). The plaintiffs seek to
represent a class of persons who participated in our Retirement Savings Plan
after January 1, 1994. The class allegations in the Utah action largely mirror
the allegations made in the complaints filed in the Eastern District of
Pennsylvania.
There are other contingent liabilities for taxes, guarantees, other
lawsuits, environmental remediation claims relating to discontinued operations
and various other matters occurring in the ordinary course of business. On the
basis of information furnished by counsel and others, management believes that
none of these other contingencies will materially affect us.
11. SHAREHOLDERS' EQUITY
At September 30, 1998, we had outstanding 3,877,200 depositary shares, each
representing 1/100th of a share of Series BB conversion preferred stock with a
cumulative annual dividend of $5.04 per depositary share. On October 1, 1998,
each of the outstanding depositary shares automatically converted into 2.4972
shares of common stock per depositary share resulting in the issuance of
9,682,143 common shares. The common stock account increased by $290,170,000 to
reflect the conversion. There was no change to total shareholders' equity.
We have in place a Rights Agreement (Rights Plan) which expires on June 18,
2007, and provides for an exercise price of $204.00 per preferred stock purchase
right (individually, a "Right," and collectively, the "Rights"). A Right
entitles holders thereof to buy 1/100th of a share of our Series 12 Preferred
Stock (the "Preferred Shares").
The Rights Plan further provides that the Rights will be exercisable and
will trade separately from shares of our common stock only if a person or group
(an "Acquiring Person") acquires beneficial ownership of 15% or more of the
shares of our common stock or commences a tender or exchange offer that would
result in such a person or group owning 15% or more of the shares of our common
stock (a "Flip-in Event"). Only when one or more of these events occur will
shareholders receive certificates for the Rights.
If any person actually acquires 15% or more of the shares of common stock,
other than through a tender or exchange offer for all shares of common stock
that provides a fair price and other terms for such shares, or if a 15%-or-more
shareholder engages in certain "self-dealing" transactions or engages in a
merger or other business combination in which we survive and shares of our
common stock remain outstanding, the other shareholders will be able to exercise
the Rights and buy shares of our common stock having twice the value of the
exercise price of the Rights. The Rights Plan allows shareholders, upon action
by a majority of the Continuing Directors (Continuing Directors are, in general,
directors who were members of the Board of Directors prior to a Flip-in Event),
to exercise their Rights for 50% of the shares of common stock otherwise
purchasable upon surrender to us of the Rights so exercised and without other
payment of exercise price.
46
The Board of Directors can redeem the Rights for $.01 per Right and to
provide that the Rights may only be redeemed by majority vote of the Continuing
Directors.
The Rights, in general, may be redeemed at any time prior to the tenth day
following public announcement that a person has acquired a 15% ownership
position in shares of our common stock.
12. INCOME TAXES
Provision for income taxes:
Fiscal Year Ended September 30 (in thousands) 1999 1998 1997
- ---------------------------------------------------------------------------------------------------------------------------------
Current Deferred Current Deferred Current Deferred
- ---------------------------------------------------------------------------------------------------------------------------------
Federal $12,175 $ 27,569 $(5,034) $ 781 $(2,983) $78,770
Foreign 4,446 (2,056) 2,857 1,350 2,032 4,940
State 3,963 (542) 1,540 7,369 (361) 8,353
- ---------------------------------------------------------------------------------------------------------------------------------
Income Taxes $20,584 $ 24,971 $ (637) $9,500 $(1,312) $92,063
- ---------------------------------------------------------------------------------------------------------------------------------
The components of deferred income tax assets and liabilities, including
finance
subsidiaries, were as follows:
September 30 (in thousands) 1999 1998
- ---------------------------------------------------------------------------------------------------
Deferred tax liabilities:
Depreciation and lease
income recognition $495,997 $492,616
Other, net 25,989 18,617
- ---------------------------------------------------------------------------------------------------
Total deferred tax liabilities 521,986 511,233
Deferred tax assets:
Accrued liabilities 228,212 174,533
Net operating loss carryforwards 62,273 138,475
Tax credit carryforwards 57,972 45,462
- ---------------------------------------------------------------------------------------------------
Total deferred tax assets 348,457 358,470
Valuation allowance 63,625 60,116
- ---------------------------------------------------------------------------------------------------
Net deferred tax assets 284,832 298,354
- ---------------------------------------------------------------------------------------------------
Net deferred tax liabilities $237,154 $212,879
- ---------------------------------------------------------------------------------------------------
Net operating loss carryforwards consist primarily of state carryforwards
of $510,000,000 principally expiring in years 2000 through 2019 and federal
carryforwards of $47,000,000 expiring in 2019. Valuation allowances have been
established against state carryforwards and other tax credit carry forwards.
Pre-tax income (loss) from domestic and foreign operations was $75,500,000 and
$3,891,000, respectively in fiscal 1999, $(75,383,000) and $1,196,000,
respectively, in fiscal 1998 and $195,803,000 and $17,310,000, respectively in
fiscal 1997.
A reconciliation of income tax expense at the U.S. federal statutory income
tax rate to actual income tax expense is as follows:
Fiscal Year Ended September 30
(in thousands) 1999 1998 1997
- -----------------------------------------------------------------------------
Tax at statutory rate $27,787 $(25,965) $74,590
State income taxes, net of
U.S. federal tax benefit 2,035 8,371 8,098
Goodwill 14,555 14,601 10,656
Loss from asset impairment
and acquisition
related charges 10,807
Foreign including credits (1,395) (1,725) (1,279)
Other 2,573 2,774 (1,314)
- -----------------------------------------------------------------------------
$45,555 $ 8,863 $90,751
- -----------------------------------------------------------------------------
Net income tax payments (refunds) for all operations, including
discontinued, amounted to $7,855,000 in 1999, $(4,051,000) in 1998, and
$(22,081,000) in 1997.
Undistributed earnings of the Company's foreign subsidiaries were
approximately $50,000,000 at September 30, 1999. Those earnings are considered
to be indefinitely reinvested and, therefore, no provision has been recorded for
U.S. federal and state income taxes.
47
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share from continuing operations:
September 30 (in thousands) 1999 1998 1997
- -------------------------------------------------------------------------------------
Numerator:
Income (loss) from
continuing operations $ 33,836 $ (83,050) $122,362
Preferred stock dividends 19,540 19,540
- -------------------------------------------------------------------------------------
Numerator for continuing
operations basic earnings
per share--income (loss)
available to common
shareholders 33,836 (102,590) 102,822
Effect of dilutive securities:
Convertible loan notes 329
- -------------------------------------------------------------------------------------
Numerator for continuing
operations diluted
earnings per share--
income (loss) available
to common shareholders
after assumed conversions $ 33,836 $(102,590) $103,151
- -------------------------------------------------------------------------------------
Denominator:
Denominator for basic
earnings per share-
weighted average shares 148,673 135,145 133,261
Effect of dilutive securities:
Employee stock options 140 1,112
Contingently issuable shares 190
Convertible loan notes 273
- -------------------------------------------------------------------------------------
Dilutive potential common
shares 330 1,385
- -------------------------------------------------------------------------------------
Denominator for diluted
earnings per share-
adjusted weighted average
shares and assumed
conversions 149,003 135,145 134,646
- -------------------------------------------------------------------------------------
Basic earnings (loss)
per share from
continuing operations $ 0.23 $ (0.76) $ 0.77
- -------------------------------------------------------------------------------------
Diluted earnings (loss)
per share from
continuing operations $ 0.23 $ (0.76) $ 0.77
- -------------------------------------------------------------------------------------
48
For additional disclosures regarding the preferred stock and employee stock
options, see Notes 11 and 14.
Options to purchase 5,687,226, 5,972,215 and 2,757,105 shares of common
stock were outstanding during fiscal 1999, 1998 and 1997, respectively, but were
not included in the computation of diluted earnings per share because the effect
would be antidilutive.
Our Series BB conversion preferred stock was excluded from the dilutive
calculations in fiscal years 1998 and 1997 because the effect of adding
9,682,143 shares and deleting the preferred dividends to reflect assumed
conversions would be antidilutive.
14. STOCK OPTIONS
Employee stock options are granted at or above the market price at dates of
grant which does not require us to recognize any compensation expense. These
options expire in ten years and generally vest over five years. The proceeds of
options exercised are credited to shareholders' equity. As permitted by SFAS
123, we continue to account for stock options in accordance with APB 25. A plan
for our non-employee directors enables participants to receive their annual
directors' fees in the form of options to purchase shares of common stock at a
discount. The discount is equivalent to the annual directors' fees and is
charged to expense.
Changes in common shares under option were:
Weighted
Shares Average Price
- ---------------------------------------------------
September 30, 1996 5,283,640 $27.45
Unisource Spin-off
Adjustment 952,043 23.53
Granted 1,395,757 38.96
Exercised (894,601) 16.85
Cancelled
Unisource Spin-off (943,103) 32.34
Other (219,045) 26.39
- ---------------------------------------------------
September 30, 1997 5,574,691 26.53
Granted 983,614 27.66
Exercised (377,374) 15.49
Cancelled (248,768) 31.76
- ---------------------------------------------------
September 30, 1998 5,932,163 27.18
Granted 3,337,833 14.65
Exercised (79,534) 11.73
Cancelled (2,489,489) 25.93
- ---------------------------------------------------
September 30, 1999 6,700,973 $21.59
- ---------------------------------------------------
Available for Grant 1,095,691
- ---------------------------------------------------
In connection with the separation of Unisource from Alco, stock options
that were not exercised prior to the effective date of the Distribution were
adjusted. Optionholders who remained employees of IKON retained their options to
purchase IKON shares. The number of shares subject to, and the exercise price
of, each IKON option was adjusted based upon a formula that preserved the
inherent intrinsic value and vesting and term provisions of such options.
Optionholders who became employees of Unisource after the Distribution were
given the opportunity to receive options to purchase shares of Unisource common
stock in lieu of their Alco options or had their options cancelled.
The following is provided to comply with the disclosure requirements of
SFAS 123. If we had elected to recognize compensation costs based on the fair
value at the date of grant, consistent with the provisions of SFAS 123, our net
income (loss) and earnings (loss) per share would have been reduced to the
following pro forma amounts :
Fiscal year ended September 30
(in thousands, except
per share data) 1999 1998 1997
- ------------------------------------------------------------------------------
Income (loss) from
continuing operations
before extraordinary loss $30,811 $(90,653) $117,615
Income from discontinued
operations 19,871
Income (loss) before
extraordinary loss 30,811 (90,653) 137,486
Basic and diluted earnings (loss) per share
Continuing operations $ .21 $ (.82) $ .73
Discontinued operations .15
Extraordinary loss (.09)
- ------------------------------------------------------------------------------
Net Income (Loss) $ .21 $ (.82) $ .79
- ------------------------------------------------------------------------------
The pro forma effect on net income may not be representative of the pro
forma effect on net income of future years because the SFAS 123 method of
accounting for pro forma compensation expense has not been applied to options
granted prior to October 1, 1995.
The weighted-average fair values at date of grant for options granted
during fiscal years 1999, 1998 and 1997 were $9.80,$13.66 and $15.49,
respectively, and were estimated using the Black-Scholes option-pricing model.
The following assumptions were applied for periods before the Unisource spin-off
and subsequent to the Unisource spin-off, fiscal 1998 and 1999, respectively:
(i) expected dividend yields of 1.4%, .6%, .7% and 1.2% (ii) expected volatility
rates of 29.1%, 31.8%, 46.5% and 47.7%, and (iii) expected lives of 5.4 years,
5.7 years (subsequent to spin-off, fiscal 1998 and fiscal 1999). The risk-free
interest rates applied for fiscal 1999, 1998 and 1997 were 4.5%, 5.7% and 6.4%,
respectively.
49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes information about stock options outstanding at
September 30, 1999:
Options Outstanding Options Exercisable
----------------------------------------------------------------------
Number Weighted-Average Weighted-Average Number Weighted-Average
Range of Outstanding Remaining Exercise Exercisable Exercise
Exercise Prices at 9/30/99 Contractual Life Price at 9/30/99 Price
$ 7.50-$12.50 1,008,247 9.1 years $10.07 227,245 $11.97
12.56- 17.13 2,854,691 8.3 15.57 500,386 14.16
18.14- 33.47 1,566,027 7.3 26.97 777,043 26.12
34.28- 56.42 1,272,008 6.5 37.60 680,718 37.33
15. PENSION AND STOCK PURCHASE PLANS
We sponsor defined benefit pension plans for the majority of our employees. The
benefits generally are based on years of service and compensation. We fund at
least the minimum amount required by government regulations. The cost of these
plans, together with contributions to defined contribution pension plans ($0 in
1999, $108,000 in 1998 and $861,000 in 1997) charged to continuing operations
amounted to $26,080,000 for 1999, $18,202,000 for 1998 and $17,623,000 for 1997.
The components of net periodic pension cost for the Company-sponsored
defined benefit pension plans are:
Fiscal Year Ended September 30
(in thousands) 1999 1998 1997
- ------------------------------------------------------------------------------
Components of Net
Periodic Benefit Cost
Service cost $ 29,185 $ 21,977 $ 19,208
Interest cost on projected
benefit obligation 21,741 19,710 18,373
Expected return on assets (25,134) (22,312) (19,928)
Amortization of net
obligation (asset) (1,248) (1,248) (1,248)
Amortization of prior
service cost 1,493 1,381 1,217
Recognized net actuarial
(gain) loss (52) (1,414) (860)
- ------------------------------------------------------------------------------
Net periodic pension cost 25,985 18,094 16,762
Cost of shutdown benefits 95
- ------------------------------------------------------------------------------
Total pension cost $ 26,080 $ 18,094 $ 16,762
- ------------------------------------------------------------------------------
Assumptions used in accounting for the Company-sponsored defined benefit pension
plans were:
1999 1998 1997
- ------------------------------------------------------------------------------
Weighted average
discount rates 7.5% 7.0% 7.75%
Rates of increase
in compensation levels 6.0% 5.5% 6.25%
Expected long-term
rate of return on assets 10.0% 10.0% 10.0%
The funded status and amounts recognized in the Consolidated Balance Sheets for
the Company-sponsored defined benefit pension plans were:
September 30 (in thousands) 1999 1998
- ----------------------------------------------------------------
Change in Benefit Obligation
Benefit obligation at beginning of year $312,275 $260,369
Service cost 29,185 21,977
Interest cost 21,741 19,710
Amendments 1,044 3,459
Actuarial (gain) loss (5,492) 21,749
Benefits paid (15,561) (15,575)
Change due to curtailment,
settlement or special
termination benefits 95
Translation adjustment (246) 586
- ----------------------------------------------------------------
Benefit obligation at end of year $343,041 $312,275
- ----------------------------------------------------------------
Change in Plan Assets
Fair value of plan assets at
beginning of year $285,859 $258,027
Actual return on plan assets 37,995 31,004
Employer contribution 2,470 13,668
Expenses (2,300) (1,701)
Benefits paid (15,561) (15,575)
Translation adjustment (300) 436
- ----------------------------------------------------------------
Fair value of plan assets
at end of year $308,163 $285,859
- ----------------------------------------------------------------
Funded Status $(34,878) $(26,416)
Unrecognized net actuarial
(gain) loss (47,111) (26,817)
Unrecognized net obligation (4,997) (6,245)
Unrecognized prior service cost 14,620 14,783
Adjustment to recognize
minimum pension liability (1,650) (1,519)
- ----------------------------------------------------------------
Net amount recognized $(74,016) $(46,214)
- ----------------------------------------------------------------
Amounts recognized on
the balance sheets
Accrued benefit obligation $(72,366) $(44,695)
Accumulated other
comprehensive income (1,650) (1,519)
- ----------------------------------------------------------------
Net amount recognized $(74,016) $(46,214)
- ----------------------------------------------------------------
50
The projected benefit obligation and fair value of plan assets for the
pension plans with projected benefit obligations in excess of plan assets were
$337,586,000, and $301,012,000 at September 30, 1999 and $293,628,000, and
$262,846,000 at September 30, 1998. The accumulated benefit obligation and fair
value of plan assets for pension plans with accumulated benefit obligations in
excess of plan assets were $34,053,000 and $18,936,000 at September 30, 1999 and
$11,955,000 and $0 at September 30, 1998.
Under the Benefits Agreement with Unisource, we assumed certain benefit
obligations and related assets for retirees and terminated vested employees of
Unisource which totaled approximately $105,000,000.
Substantially all of the pension plan assets at September 30, 1999, are
invested in listed stocks, including our common stock having a fair value of
$13,176,000.
The majority of our employees were eligible to participate in our
Retirement Savings Plan (RSP). The RSP allows employees to invest 1% to 16% of
regular compensation before taxes in six different investment funds. We
contribute an amount equal to two-thirds of the employees' investments, up to 6%
of regular compensation, for a maximum company match of 4%. All our
contributions are invested in our common shares. Employees vest in a percentage
of our contribution after two years of service, with full vesting at the
completion of five years of service. There was a similar plan for eligible
management employees, which was terminated in fiscal 1999. The cost of the plans
charged to continuing operations amounted to $31,205,000 in 1999, $35,949,000 in
1998 and $31,026,000 in 1997.
We have a Long-Term Incentive Compensation Plan (LTIP) pursuant to which
key management employees have been granted performance-based cash awards, which
are earned upon achieving predetermined performance objectives during three-year
intervals, and time-based restricted stock awards, which are earned upon the
fulfillment of vesting requirements. The value of these performance-based awards
is charged to expense over the related plan period. In fiscal 1999, 1998 and
1997, cash awards totaling $1,012,500, $7,445,500 and $4,819,500, respectively,
were granted to LTIP participants and in fiscal 1999 stock awards of $7,603,000
were granted, of which $1,503,000 were amortized, $587,000 were cancelled and
$5,513,000 are included in unearned compensation at September 30, 1999. In
connection with these plans, the Company expensed $1,503,000 in fiscal 1999, $0
in fiscal 1998 and $3,111,000 in fiscal 1997.
16. SEGMENT REPORTING
In fiscal 1999, we adopted SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information". SFAS No. 131 establishes standards for
reporting information about operating segments in annual financial statements
and requires selected information about operating segments to be reported in
interim financial statements. It also establishes standards for related
disclosures about products and services, geographic areas, and major customers.
An operating segment is defined as a component of an enterprise that engages in
business activities from which it may earn revenues and incur expenses, and
whose results are regularly reviewed by the enterprise's chief operating
decision maker to decide how to allocate resources to the segment and assess its
performance. Under SFAS No. 131, the Company's reportable segments are IKON
North America and IKON Europe.
The IKON North America operating segment provides copiers, printers, and
other office equipment and services, as well as facilities management,
throughout North America. This segment also includes the Company's captive
finance subsidiaries in North America.
The IKON Europe operating segment provides customers with total office
solutions, including copiers and printer systems, computer networking,
print-on-demand services, facilities, hardware and software product interfaces
and electronic file conversion throughout Europe. This segment also includes the
Company's captive finance subsidiary in Europe.
Other includes Document Services and Technology Services in North America.
Document Services focuses on print-on-demand services and electronic file
conversion. Technology Services provides design, planning and support services
for network platforms and IT integration projects and education and training.
The accounting policies of the operating segments are the same as those
described in the summary of significant accounting policies.
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The table below presents segment information for the years ended September 30,
1999, 1998 and 1997:
IKON IKON
(in millions) North America Europe Other Total
- -----------------------------------------------------------------------------------------------------------
Year Ended September 30, 1999
Revenues from external customers $3,701.8 $508.9 $1,014.3 $5,225.0
Finance income 276.5 20.6 297.1
Intersegment revenues 16.0 2.4 18.4
Finance interest expense 117.4 9.3 126.7
Depreciation expense 90.3 9.9 25.3 125.5
Segment operating income 360.2 28.1 10.2 398.5
Segment assets 4,287.4 703.9 576.6 5,567.9
Expenditures for fixed assets 111.4 9.7 27.4 148.5
Year Ended September 30, 1998
Revenues from external customers 3,964.8 411.2 984.9 5,360.9
Finance income 250.4 17.4 267.8
Intersegment revenues 18.4 8.4 26.8
Finance interest expense 120.5 8.6 129.1
Depreciation expense 95.2 8.8 30.5 134.5
Segment operating income (loss) 215.8 31.7 (2.2) 245.3
Segment assets 4,223.7 643.3 606.1 5,473.1
Expenditures for fixed assets 153.4 14.6 34.7 202.7
Year Ended September 30, 1997
Revenues from external customers 3,906.1 364.8 657.8 4,928.7
Finance income 188.8 10.9 199.7
Intersegment revenues 0.1 0.1
Finance interest expense 93.7 5.0 98.7
Depreciation expense 79.6 9.7 15.5 104.8
Segment operating income 425.7 29.2 48.3 503.2
Segment assets 3,985.0 495.6 566.7 5,047.3
Expenditures for fixed assets 127.8 11.2 20.9 159.9
Operating income comprises revenue less related costs and expenses.
Headquarters expense consists primarily of unallocated general corporate
expenses and amortization expense consists of goodwill and other intangible
amortization related to acquisitions. Reconciliation of segment revenue,
operating income and assets to consolidated revenue, income (loss) before income
taxes and assets, respectively, for the years ended September 30, 1999, 1998 and
1997 is as follows (in millions):
For the year ended September 30, 1999 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------
Revenues
Total external revenues for
reportable segments $4,210.7 $4,376.0 $4,270.9
Finance income 297.1 267.8 199.7
Other revenues 1,014.3 984.9 657.8
Intersegment revenues for
reportable segments 16.0 18.4 0.1
Other intersegment revenues 2.4 8.4
Elimination of intersegment
revenues (18.4) (26.8) (0.1)
- ------------------------------------------------------------------------------------------------------------------------------
Total consolidated revenues $5,522.1 $5,628.7 $5,128.4
- ------------------------------------------------------------------------------------------------------------------------------
Operating Income
Total operating income for
reportable segments $ 388.3 $ 247.5 $ 454.9
Other operating income (loss) 10.2 (2.2) 48.3
Unallocated amounts:
Headquarters expense (84.6) (108.4) (67.1)
Amortization expense (62.2) (62.4) (48.6)
Litigation settlement expense (101.1)
Transformation expense (78.0) (126.9)
Interest expense (71.2) (70.7) (47.5)
- ------------------------------------------------------------------------------------------------------------------------------
Income (loss) before
income taxes $ 79.4 $ (74.2) $ 213.1
- ------------------------------------------------------------------------------------------------------------------------------
Assets
Total assets for
reportable segments $4,991.3 $4,867.0 $4,480.6
Other assets 576.6 606.1 566.7
Headquarters assets 233.4 289.7 276.6
- ------------------------------------------------------------------------------------------------------------------------------
Total consolidated assets $5,801.3 $5,762.8 $5,323.9
- ------------------------------------------------------------------------------------------------------------------------------
52
Other Significant Items:
Segment Consolidated
(in millions) Totals Other Headquarters Totals
- ------------------------------------------------------------------------------------------------------------------------------
Year ended
September 30, 1999
Depreciation expense $ 100.2 $ 25.3 $ 9.1 $134.6
Expenditures for
fixed assets 121.1 27.4 7.3 155.8
Year ended
September 30, 1998
Depreciation expense 104.0 30.5 5.6 140.1
Expenditures for
fixed assets 168.0 34.7 9.5 212.2
Year ended
September 30, 1997
Depreciation expense 89.3 15.5 3.2 108.0
Expenditures for
fixed assets 139.0 20.9 33.3 193.2
The following is revenue and long-lived asset information by geographic area as
of and for the years ended September 30:
(in millions) 1999 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------
Revenues
United States $4,728.0 $4,893.8 $4,467.7
United Kingdom 371.3 301.3 273.5
Canada 243.3 280.6 270.7
Other 179.5 153.0 116.5
- ------------------------------------------------------------------------------------------------------------------------------
$5,522.1 $5,628.7 $5,128.4
- ------------------------------------------------------------------------------------------------------------------------------
1999 1998 1997
- ------------------------------------------------------------------------------------------------------------------------------
Long-lived assets
United States $1,368.1 $1,452.7 $1,461.6
United Kingdom 274.7 289.5 239.3
Canada 121.3 86.5 85.4
Other 101.8 79.1 62.9
- ------------------------------------------------------------------------------------------------------------------------------
$1,865.9 $1,907.8 $1,849.2
- ------------------------------------------------------------------------------------------------------------------------------
As a result of the dynamics of our business, we are reviewing our management
model and structure which will result in adjustments to our segment discussion
for fiscal 2000. We anticipate the following changes: IKON Document Services
will be split into Business Document Services ("BDS"), Legal Document Services
("LDS") and Business Imaging Services ("BIS"). BDS will be included in IKON
North America and LDS and BIS will remain in other.
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
17. FINANCIAL INSTRUMENTS
We use financial instruments in the normal course of our business, including
derivative financial instruments, for purposes other than trading. These
financial instruments include debt, commitments to extend credit and interest
rate and currency swap agreements. The notional or contractual amounts of these
commitments and other financial instruments are discussed below.
Concentration of Credit Risk
We are subject to credit risk through trade receivables, lease receivables and
short-term cash investments. Credit risk with respect to trade and lease
receivables is minimized because of a large customer base and its geographic
dispersion. Short-term cash investments are placed with high-credit quality
financial institutions and in short duration corporate and government debt
securities funds. By policy, we limit the amount of credit exposure in any one
type of investment instrument.
Interest Rate and Currency Swap Agreements
We have interest rate swap agreements relating to financial instruments of our
U.S. finance subsidiary, having total principal/notional amounts of $225,000,000
and $300,000,000 at September 30, 1999 and 1998, respectively, with fixed rates
from 5.48% to 6.16% at both September 30, 1999 and 1998. We also have Canadian
dollar denominated interest rate swap agreements having a total principal/
notional amount of CN$98,248,000 ($66,966,000 and $64,185,000 at September 30,
1999 and 1998), respectively, with fixed rates from 7.43% to 7.74% at both
September 30, 1999 and 1998. We are required to make payments to the
counterparties at the fixed rate stated in the agreements and in return we
receive payments at variable rates.
We have interest rate swap agreements relating to financial instruments of
our Canadian finance subsidiary. These swaps have a principal/notional amount of
CN$182,294,000 ($124,252,000) and CN$143,421,000 ($93,700,000) at September 30,
1999 and 1998, respectively. We are required to make variable rate payments to
counterparties based on the one-month commercial paper rate plus .25% and
receive payments at the one-month bankers' acceptance rate.
We also entered into cross-currency swap agreements to exchange pounds
sterling ((pound)46,500,000) for Canadian dollars (CN$98,248,000) at both
September 30, 1999 and 1998. We are required to make pounds sterling payments at
fixed rates from 9.53% to 9.90% in exchange for Canadian dollar payments at
fixed rates from 9.02% to 9.38%.
We are exposed to credit loss in the event of nonperformance by the
counterparties to the swap agreements. However, we do not anticipate
nonperformance by the counterparties.
The following methods and assumptions were used by us in estimating fair
value disclosures for financial instruments.
Cash, Notes Payable and Long-Term Receivables
The carrying amounts reported in the consolidated balance sheets approximate
fair value.
Long-Term Debt
The fair value of long-term debt instruments is estimated using a discounted
cash flow analysis. For more information on these instruments, refer to Note 8.
Off-Balance-Sheet Instruments
Fair values for our off-balance-sheet instruments (interest rate and currency
swaps) are based on the termination of the agreements.
The carrying amounts and fair values of our financial instruments are as
follows:
1999 1998
September 30 (in thousands) Carrying Amount Fair Value Carrying Amount Fair Value
- --------------------------------------------------------------------------------------------------
Long-term debt:
Bond issues $ 588,582 $ 473,835 $ 588,478 $ 496,470
Private placement debt 55,000 50,257 55,000 52,789
Bank debt 45,298 45,168 45,121 46,074
Sundry notes, bonds and mortgages 104,427 102,072 53,611 53,029
Finance subsidiaries' debt 2,003,209 1,939,596 2,100,637 2,090,472
Interest rate and currency swaps (12,607) (22,487)
54
18. SUBSEQUENT EVENT
As described in Note 10, subject to formal approval by the court, we have
reached a settlement with the plaintiffs in the series of purported class action
complaints which were filed in the United States District Court for the Eastern
District of Pennsylvania on behalf of our shareholders, and with the plaintiff
in a companion derivative lawsuit. Under the settlement, we will pay
$111,000,000. We have recorded a charge of $101,106,000 in fiscal 1999 related
to the settlement, which consists of the $111,000,000 settlement plus
$10,106,000 of legal fees offset by $20,000,000 of insurance proceeds. This does
not include a $20,000,000 insurance claim which we are pursuing against another
insurance carrier. Reflecting payment of a portion of the legal fees, the
balance sheet at September 30, 1999, includes $117,652,000 in accrued
shareholder litigation settlement and $16,546,000 of insurance proceeds
receivable (which is included in prepaid expenses and other current assets).
QUARTERLY FINANCIAL SUMMARY
First Second Third Fourth
(unaudited, in millions except per share data) Quarter (a) Quarter (b) Quarter (c) Quarter (d) Total
- ------------------------------------------------------------------------------------------------------------------------------------
1999
Revenues $ 1,396.4 $ 1,372.6 $ 1,385.5 $ 1,367.6 $5,522.1
Gross profit 542.1 508.2 515.8 508.7 2,074.8
Income (loss) before taxes 53.6 35.3 51.0 (60.5) 79.4
Net income (loss) $ 28.7 $ 22.9 $ 27.3 $ (45.1) $ 33.8
- ------------------------------------------------------------------------------------------------------------------------------------
Basic earnings (loss) per share $ .19 $ .15 $ .18 $ (.30) $ .23
- ------------------------------------------------------------------------------------------------------------------------------------
Diluted earnings (loss) per share $ .19 $ .15 $ .18 $ (.30) $ .23
- ------------------------------------------------------------------------------------------------------------------------------------
Dividends per share $ .04 $ .04 $ .04 $ .04 $ .16
Common stock price
High/Low 10 11/16-6 3/8 16 3/8-8 5/8 15 13/16-11 11/16 15 15/16-10 3/8 16 3/8-6 3/8
1998
Revenues $ 1,374.3 $ 1,431.6 $ 1,394.7 $ 1,428.1 $5,628.7
Gross profit 535.5 544.7 480.9 481.3 2,042.4
Transformation costs 19.5 18.2 16.5 23.8 78.0
Income (loss) before taxes 65.4 52.6 (108.5) (83.7) (74.2)
Net income (loss) $ 37.0 $ 30.3 $ (88.7) $ (61.7) $ (83.1)
- ------------------------------------------------------------------------------------------------------------------------------------
Basic earnings (loss) per share $ .24 $ .19 $ (.69) $ (.49) $ (.76)
- ------------------------------------------------------------------------------------------------------------------------------------
Diluted earnings (loss) per share $ .24 $ .19 $ (.69) $ (.49) $ (.76)
- ------------------------------------------------------------------------------------------------------------------------------------
Dividends per share $ .04 $ .04 $ .04 $ .04 $ .16
Common stock price
High/Low 31 15/16-24 1/2 35 3/16-26 36 1/4-14 3/8 15 3/4-5 1/16 36 1/4-5 1/16
(a) First quarter fiscal 1999 results include a $14,333,000 gain on an asset
securitization.
(b) Second quarter fiscal 1998 results include $16,000,000 of unusual
adjustments.
(c) Third quarter fiscal 1998 results include pretax charges for increases
to accounting estimates for lease default and accounts receivable
reserves of $48,000,000 ($28,000,000 for lease defaults and $20,000,000
for accounts receivable). Also included are a loss of $20,000,000
related to an asset impairment at a Technology Services company engaged
in the development of high-end custom software applications and other
adjustments of approximately $26,000,000.
(d) Fourth quarter of fiscal 1999 results include pre-tax charges of
$101,106,000 related to a litigation settlement and the fourth quarter
fiscal 1998 results include pretax charges of $40,400,000 for expenses
related to the closing of underperforming branches, executive severance
packages and the settlement of lawsuits.
55
CORPORATE FINANCIAL SUMMARY
Ten-Year
(in millions, except per share data, Compound
shareholders of record, employees) Growth 1999 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------
Continuing Operations
Revenues 21.5% $5,522.1 $5,628.7 $5,128.4 $4,099.8
Gross profit 20.9 2,074.8 2,042.4 1,990.8 1,551.1
% of revenues 37.6 36.3 38.8 37.8
Selling and administrative 20.3 1,823.1 1,947.9 1,603.3 1,219.6
% of gross profit 87.9 95.4 80.5 78.6
Operating income (loss) 20.2 150.6 (3.5) 260.6 310.1
% of revenues 2.7 (.1) 5.1 7.6
Income (loss) before taxes 24.2 79.4 (74.2) 213.1 272.9
% of revenues 1.4 (1.3) 4.2 6.7
Effective income tax rate (%) 57.4 --(f) 42.6 39.6
Income (loss) 16.6 33.8 (83.1) 122.4 164.9
% of revenues .6 (1.5) 2.4 4.0
Earnings (loss) per share
Basic .23 (.76) .77 1.13
Diluted .23 (.76) .77 1.12
Capital expenditures 16.1 155.8 212.2 193.2 146.6
Depreciation and amortization 20.0 196.9 202.5 156.6 118.6
- ----------------------------------------------------------------------------------------------------------------
Discontinued Operations and Extraordinary Items
Income (loss) $ 8.0 $ 45.8
Earnings (loss) per share
Basic .06 .37
Diluted .06 .35
- ----------------------------------------------------------------------------------------------------------------
Total Operations and Extraordinary Items
Net income (loss) $ 33.8 $ (83.1) $ 130.4 $ 210.7
Earnings (loss) per share
Basic .23 (.76) .83 1.50
Diluted .23 (.76) .83 1.47
- ----------------------------------------------------------------------------------------------------------------
Share Activity
Dividends per share $ 0.16 $ 0.16 $ 0.26 $ 0.56
Per share book value 3.1% 9.79 8.30 8.94 14.94
Return on shareholders' equity % 2.3 (8.8) 7.8 13.8
Weighted average shares (basic) 148.7 135.1 133.3 125.9
Adjusted weighted average shares (diluted) 149.0 135.1 134.6 130.4
Shareholders of record 14,495 14,990 15,089 15,033
- ----------------------------------------------------------------------------------------------------------------
Supplementary Information
Days sales outstanding (d) 40.4 44.0 44.5 34.2
Inventory turns (d) 8.0 6.7 6.3 5.7
Current ratio 1.1 1.3 1.5 1.2
Pretax return on capital employed % 4.5 (.1) 8.5 14.8
Pretax return on capital employed, excluding
finance subsidiaries % 0.5 (5.0) 10.0 19.0
Working capital 1.4% $ 186.3 $ 495.4 $ 752.0 $ 251.2
Total assets 16.2 5,801.3 5,762.8 5,323.9 5,384.6
Total debt 22.0 2,862.3 2,956.6 2,563.8 2,158.4
% of capitalization 66.2 67.4 63.4 48.9
Total debt, excluding finance subsidiaries 11.2 859.0 855.9 818.0 1,031.4
% of capitalization 37.0 37.5 35.6 31.4
Serial preferred stock
Employees (e) 39,400 43,700 40,900 43,100
- ----------------------------------------------------------------------------------------------------------------
(a) Excludes the effect of the sale of IMMOS in fiscal 1994 and Unisource
restructuring costs in fiscal 1993.
(b) Includes unusual pretax charges relating to the Hillman Companies of
$10,323,000.
(c) Excludes gain on sale of Alco Health Services Corporation of pretax -
$96,800,000; net income - $61,900,000.
(d) Continuing operations only.
(e) Includes discontinued operations.
(f) Not meaningful.
Note: Unless otherwise noted ratios and operating results include the effect of:
fiscal 1999 - shareholder litigation charge ($101,106,000) and gain on asset
securitization ($14,333,000), operating income ($86,773,000), net income
($58,130,000), diluted earnings per share ($0.39); fiscal 1998 - transformation
and special charges, operating income ($230,400,000), net income ($156,969,000),
diluted earnings per share ($1.16); fiscal 1997 - transformation charges,
operating income ($126,908,000), net income ($82,490,000), diluted earnings per
share ($0.61); fiscal 1996 - transformation charges, operating income
($21,423,000), net income ($13,925,000), diluted earnings per share ($0.11);
fiscal 1994 - loss on sale of investment in IMMOS, pretax income ($115,265,000),
net income ($95,086,000), diluted earnings per share ($.87); fiscal 1993 -
Unisource restructuring costs, operating income ($175,000,000), net income
($112,875,000), diluted earnings per share ($1.14).
56
1995 1994 1993 1992 1991 1990 1989
- ---------------------------------------------------------------------------------
$3,091.6 $2,391.1 $1,723.1 $1,354.2 $1,127.4 $1,018.6 $789.3
1,162.4 926.7 680.3 550.6 441.1 412.4 311.6
37.6 38.8 39.5 40.7 39.1 40.5 39.5
950.2 750.1 561.0 460.8 383.3 378.9 287.7
81.7 80.9 82.5 83.7 86.9 91.9 92.3
212.2 59.4 116.8 96.5 57.8 28.8 23.9
6.9 2.5 6.8 7.1 5.1 2.8 3.0
190.5 43.3 101.4 85.1 40.4 8.3(b) 9.1
6.2 1.8 5.9 6.3 3.6 0.8 1.2
39.6 95.4 39.6 39.4 39.0 40.7 20.0
115.0 2.0 61.3 51.6 24.6 4.9(b) 7.3
3.7 0.1 3.6 3.8 2.2 0.5 0.9
0.87 (0.09) 0.53 0.54 0.27 0.05(b) 0.08
0.86 (0.09) 0.52 0.53 0.26 0.05 0.08
91.1 79.0 64.3 36.9 33.4 40.5 35.1
87.4 67.4 51.3 42.3 43.1 38.0 32.1
- ---------------------------------------------------------------------------------
$88.7 $74.5 ($58.6) $47.5 $94.1 $88.6 $160.2
0.78 0.68 (0.60) 0.49 1.01 0.97 1.73
0.76 0.68 (0.59) 0.49 1.00 0.95 1.69
- ---------------------------------------------------------------------------------
$203.7 $76.5 $2.6 $99.1 $118.7 $93.5(b) $167.5
1.65 0.59 (0.07) 1.03 1.28 1.02 1.81
1.62 0.59 (0.07) 1.02 1.26 1.00 1.77
- ---------------------------------------------------------------------------------
$ 0.52 $0.50 $0.48 $0.46 $0.44 $0.42 $0.38
12.06 10.50 8.55 9.11 8.91 8.20 7.25
15.8 15.1 11.6 11.6 15.0 13.4 16.6(c)
114.3 109.3 97.3 96.3 92.7 91.3 92.5
116.5 109.3 98.7 97.7 94.1 93.3 94.5
15,099 14,348 13,999 13,726 14,096 14,152 13,410
- ---------------------------------------------------------------------------------
33.6 30.2 32.9 32.3 33.8 34.8 37.6
6.3 5.7 5.1 5.2 4.8 4.7 4.3
1.1 1.3 1.1 1.3 1.9 1.7 1.5
17.1 15.9(a) 13.5(a) 15.1 15.3 18.5 19.4(c)
21.1 18.6(a) 15.8(a) 17.5 17.6 20.9 21.1(c)
$144.7 $171.5 $87.2 $140.4 $299.9 $216.9 $161.9
4,110.3 2,897.7 2,734.2 1,944.0 1,703.0 1,544.0 1,295.8
1,499.3 949.2 1,240.0 805.4 548.1 469.2 391.2
44.2 40.7 54.5 48.0 39.8 38.3 37.8
681.7 484.3 825.7 504.9 327.4 309.6 296.7
26.5 25.9 44.4 36.6 28.3 29.0 31.5
0.3 1.6 2.9 4.9 7.4
39,200 33,100 30,200 24,800 19,800 21,700 20,500
- ---------------------------------------------------------------------------------
57