1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT
Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
October 31, 1998 1-6528
- ----------------------------------- --------------------------
For the quarterly period ended Commission file number
WALLACE COMPUTER SERVICES, INC.
----------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
Delaware 36-2515832
- ------------------------------------ ------------------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
2275 Cabot Drive Lisle, Illinois 60532
- --------------------------------------------------- -----------------
(Address of Principal Executive Offices) (ZIP CODE)
(630) 588-5000 41,719,319
- --------------------------------- -------------------------------------
(Registrant's Telephone Number, (Number of Common Shares Outstanding
Including Area Code) as of November 30, 1998)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
X Yes No
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Wallace Computer Services, Inc. Page 2
FORM 10-Q
For Quarterly Period Ended October 31, 1998
Part I Financial Information
----------------------------------
Item 1. Financial Statements
- ------------------------------------
The information furnished herein reflects all adjustments which are, in
the opinion of the management, necessary to a fair statement of the
results of operations and financial position for the three months ended
October 31, 1998, subject to year-end audit by independent public
accountants. These adjustments are of a normal, recurring nature.
Wallace Computer Services, Inc. and Subsidiaries
Consolidated Income Statement (Unaudited)
For the Three Months Ended
October 31
-----------------------------------------------------------------------
% %
1998 Sales 1997 Sales
-----------------------------------------------------------------
Net Sales $384,915,000 100.0 $246,112,000 100.0
Cost and Expenses
Cost of goods sold (Note 1) 267,136,000 69.4 155,206,000 63.1
Selling and administrative expenses 63,388,000 16.5 43,243,000 17.6
Provision for depreciation and
amortization 18,736,000 4.9 13,238,000 5.4
--------------- ------ --------------- ------
Total costs and expenses 349,260,000 90.7 211,687,000 86.0
--------------- ------ --------------- ------
Operating Income 35,655,000 9.3 34,425,000 14.0
--------------- ------ --------------- ------
Interest income (301,000) (0.1) (1,217,000) (0.5)
Interest expense 7,574,000 2.0 918,000 0.4
--------------- ------ --------------- ------
Income before Income Taxes 28,382,000 7.4 34,724,000 14.1
Provision for Income Taxes (Note 4) 11,353,000 2.9 13,716,000 5.6
--------------- ------ --------------- ------
Net Income $17,029,000 4.4 $21,008,000 8.5
=========== ==== =========== ===
Basic Earnings per Share $0.40 $0.49
===== =====
Fully Diluted Earnings per Share $0.40 $0.48
===== =====
Average Common Shares Outstanding 42,746,000 43,009,000
========== ==========
Fully Diluted Common Shares Outstanding 42,854,000 43,471,000
========== ==========
Dividends Declared Per Share $0.16 $0.155
===== ======
The accompanying notes are an integral part of this statement.
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Wallace Computer Services, Inc. and Subsidiaries Page 3
Consolidated Balance Sheet
October 31, 1998 July 31, 1998
(Unaudited) (Audited)
Assets --------------------------------------------
- ------
Current Assets
Cash and cash equivalents $0 $3,501,000
Accounts receivable 303,329,000 265,519,000
Less-allowance for doubtful accounts 6,214,000 5,195,000
---------------------- ------------------
Net receivables 297,115,000 260,324,000
Inventories (Note 1) 126,364,000 120,196,000
Prepaid taxes 34,818,000 34,818,000
Advances and prepaid expenses 9,621,000 7,920,000
---------------------- ------------------
Total current assets 467,918,000 426,759,000
---------------------- ------------------
Property, plant and equipment, at cost 820,459,000 807,588,000
Less-reserves for depreciation and amortization 368,491,000 353,181,000
---------------------- ------------------
Net property, plant and equipment 451,968,000 454,407,000
---------------------- ------------------
Intangible assets arising from acquisitions 288,683,000 290,568,000
Cash surrender value of life insurance 52,781,000 48,064,000
Systems development costs 35,518,000 31,887,000
Other assets 4,954,000 5,778,000
---------------------- ------------------
Total assets $1,301,822,000 $1,257,463,000
====================== ==================
Liabilities and Stockholders' Equity
- ------------------------------------
Current Liabilities
Current portion long-term debt $1,938,000 $1,934,000
Short-term notes payable 63,321,000 35,718,000
Accounts payable 91,784,000 77,057,000
Accrued salaries, wages, profit sharing and other 87,780,000 75,193,000
---------------------- ------------------
Total current liabilities 244,823,000 189,902,000
---------------------- ------------------
Long-term debt 432,069,000 428,224,000
Deferred income taxes 50,872,000 51,971,000
Deferred compensation and retirement benefits 31,220,000 30,552,000
Other long-term liabilities 9,341,000 9,341,000
Stockholders' equity
Common stock (Note 2)- issued shares of
45,764,054 at October 31, 1998 and July 31, 1998 45,764,000 45,764,000
Additional capital 36,494,000 36,390,000
Retained earnings 547,913,000 537,751,000
Treasury stock (at cost)- 3,882,134 shares at
October 31, 1998 and 2,496,173 shares at
July 31, 1998 (96,674,000) (72,432,000)
---------------------- ------------------
Total stockholders' equity 533,497,000 547,473,000
---------------------- ------------------
Total liabilities and stockholders' equity $1,301,822,000 $1,257,463,000
====================== ==================
The accompanying notes are an integral part of this statement.
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Wallace Computer Services, Inc. and Subsidiaries Page 4
Consolidated Statement of Cash Flows (Unaudited)
For the Three Months Ended
October 31
----------------------------------------------
1998 1997
Cash Flows from Operating Activities: --------------------------------------------
Net income from operations $17,029,000 $21,008,000
Adjustments to reconcile net income to net
cash provided by operating
activities:
Depreciation and amortization 18,736,000 13,238,000
Deferred taxes (1,099,000) (325,000)
(Gain)/loss on disposal of property (47,000) 7,000
Changes in assets and liabilities
Accounts receivable (36,791,000) (14,067,000)
Inventories (6,168,000) 694,000
Advances and prepaid expenses (1,701,000) 776,000
Prepaid taxes 0 100,000
Other assets (9,536,000) (3,320,000)
Accounts payable and other liabilities 15,279,000 (10,758,000)
Accrued income taxes 10,614,000 13,300,000
Deferred compensation and retirement benefits 668,000 (428,000)
---------------------- ----------------------
Net cash provided by operating activities 6,984,000 20,225,000
---------------------- -----------------------
Cash Flows from Investing Activities:
Capital expenditures (14,896,000) (9,193,000)
Proceeds from disposal of property 3,266,000 2,000
Net construction funds held by trustee 704,000 0
--------------------- -----------------------
Net cash used in investing activities (10,926,000) (9,191,000)
---------------------- -----------------------
Cash Flows from Financing Activities:
Treasury stock transactions (24,314,000) (2,459,000)
Cash dividends paid (6,697,000) (6,018,000)
Net proceeds from retirements of short-term debt 27,603,000 (15,000,000)
Retirement of long-term debt (151,000) 0
Proceeds from issuance of long-term debt 4,000,000 0
---------------------- ----------------------
Net cash provided by (used in) financing activities 441,000 (23,477,000)
---------------------- -----------------------
Net changes in cash and cash equivalents (3,501,000) (12,443,000)
Cash and cash equivalents at beginning of year 3,501,000 14,168,000
---------------------- -----------------------
Cash and cash equivalents at October 31 $ 0 $1,725,000
============= =============
Supplemental Disclosure:
Interest paid (net of interest capitalized) $ 3,145,000 $ 140,000
Income taxes paid (net of refunds received) 710,000 325,000
The accompanying notes are an integral part of this statement.
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Wallace Computer Services, Inc. and Subsidiaries Page 5
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Note 1 - Inventories
Inventories at October 31, 1998, and July 31, 1998, were as follows:
October 31, 1998 July 31, 1998
-------------------- ---------------
Raw materials $22,311,000 $26,200,000
Work in process 24,519,000 19,539,000
Finished products 79,534,000 74,457,000
-------------------- ---------------
$126,364,000 $120,196,000
============= =============
Certain inventories are stated on the last-in, first-out (LIFO) basis
for their labor and material content, and other inventories are stated
on the first-in, first-out (FIFO) basis.
Because the inventory determination under the LIFO method can only be
made at the end of each fiscal year based on the inventory levels and
costs at that time, interim period LIFO determinations must necessarily
be based upon management's estimates of expected year-end inventory
levels and costs.
Note 2 - Stock Options
As of October 31, 1998, options to purchase 2,190,545 shares of common
stock were outstanding and 2,755,712 shares of common stock were
available for future grants under the Company's Stock Incentive and
Employee Stock Purchase Plans.
The Company has authorized 100,000,000 shares of common stock and
issued 45,764,054 as of October 31, 1998. Of these shares, 3,882,134
were held in treasury as of October 31, 1998. The number of shares held
in treasury at July 31, 1998 was 2,496,173.
Note 3 - Comprehensive Income
In June 1997, Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" (SFAS No. 130) was issued. The
provisions of SFAS No. 130 were adopted in the first quarter of 1999.
This statement establishes standards for the reporting and display of
comprehensive income and its components in a full set of financial
statements. This statement is intended to report a measure of all
changes in shareholders' equity that result from either recognized
transactions and other economic events, excluding capital stock
transactions, that impact shareholders' equity. Implementation of this
disclosure standard has not affected the Company's financial position,
results of operations or the manner in which financial information is
currently presented.
Note 4 - Income Taxes
Effective November 1, 1997, the Company increased its effective tax
rate from 39.5% to 40.0%. The income tax rate had been 39.5% since
August 1, 1996. The effective tax rate increased due to higher goodwill
amortization expense, which is not tax deductible.
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Wallace Computer Services, Inc. and Subsidiaries Page 6
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Note 5 - Financial Instruments
The Company entered into a treasury rate lock agreement to reduce the
potential impact on changes in interest rates on an anticipated bond
issuance. At October 31, 1998 the agreement, which had a notional
amount of $200 million, had a deferred unrealized loss of $19.9
million. The deferred unrealized loss will be amortized as a yield
adjustment over the life of the related debt issuance. See Note 6 --
Subsequent Events for further discussion.
Note 6 - Subsequent Events
The Company offered $200 million of Senior Notes to institutional
investors in a private placement. On December 7, 1998, the notes were
priced and subscribed to, subject to final due diligence.
Of the total $200 million, $135 million are expected to mature in 10
years and $65 million are expected to mature in 7 years. The notes are
fully subscribed and will carry an all-inclusive effective rate of
8.3%. The costs of issuance and an $18.3 million loss of the treasury
rate lock will be amortized over 7 and 10 years respectively and have
been included in that rate. The Company expects the transaction will
close and fund by January 15, 1999.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
- --------------------------------------------------------------------------------
Results of Operations
------------------------------
For the three month period ended October 31, 1998, net sales increased
56.4% to $384,915,000. Acquisitions accounted for 47% of the increase,
primarily from the Graphic Industries ("Graphic") acquisition which was
effective in the second quarter of last fiscal year. Unit growth
accounted for nearly 10% of the increase, while lower paper prices had
the effect of reducing sales by approximately 1%.
Sales to W.I.N. and Select Services customers totalled 38% of the first
quarter's sales which is comparable to the percentage in the fourth
quarter of fiscal year 1998 and up from 34% in the third quarter of
fiscal year 1998. Comparisons to the first quarter of last year are
difficult due to the acquisition and continued integration of Graphic.
Commercial printing, which accounted for only 4% of sales to W.I.N. and
Select Services customers in the first quarter of last year, now
accounts for over 10% of the sales.
Net income for the first quarter decreased 18.9% to $17,029,000 or 40
cents per share, from $21,008,000 or 49 cents per share basic and 48
cents per share diluted in first quarter fiscal 1998. Graphic continues
to perform as expected and was accretive to earnings per share after
acquisition-related interest and goodwill amortization.
Cost of sales for the quarter was 69.4% of sales for the quarter as
compared to 63.1% in the first quarter of last year. This increase
primarily reflects the higher direct manufacturing labor and overhead
costs traditionally associated with the short to medium run commercial
printing business as compared to the Company's traditional business.
Since the Graphic acquisition, cost of goods sold for the Company has
been in the range of 67.4% to 69.6%.
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Wallace Computer Services, Inc. and Subsidiaries Page 7
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
- --------------------------------------------------------------------------------
Increased costs in the forms and office products categories have also
impacted the overall cost of sales percentage. In the second half of
last fiscal year, the Company was impacted by lower margins in
commodity-type sales with non-contract customers. This margin decrease
was a significant cause for the increase in cost of sales from 63.1% in
the first quarter to a fourth quarter cost of sales of 68.2%. These
form sales of a commodity nature are not part of the Company's
long-term strategy. As such, the Company has focused on expanding and
improving the margins of the contract customer base. Without Graphic,
the current quarter's cost of sales was 67.3%, which is lower than the
pre-Graphic cost of sales percentage of 68.2% in the fourth quarter of
last fiscal year. The majority of that improvement came from increased
margins in sales to W.I.N. and Select Services accounts.
Year over year, the Forms and Labels segment's sales increased 7.7% to
$199.3 million, with operating income of $24.6 million and operating
margin of 12.3%. The Print Management segment's sales increased 203.7%
to $185.6 million due to the inclusion of Graphic, with operating
income of $11.1 million and operating margin of 6.0%.
Selling and administration expenses for the quarter were 16.5% versus
17.6% last year. The Company continues to leverage its selling and
administrative expenses over the larger sales base. Since the
acquisition of Graphic, selling and administrative expenses have been
in the range of 16.3% to 16.8%. This year's total includes $512,000 of
Year 2000 related programming expenses compared to $480,000 in the
first quarter of last year. Total year 2000 expenses through the first
quarter 1999 were $3.5 million. We anticipate expensing a total of $1.7
million during the second and third quarters of fiscal 1999. The
Company does not anticipate that the costs of remediation will have a
material effect on its financial condition.
The Year 2000 project is currently on schedule for completion prior to
April 30, 1999. The Company is continuing to test material systems for
compliance and, as needed, will develop contingency plans for areas of
concern. This will be possible due to the early completion date of the
project. The Company does not expect the year 2000 issue as it relates
to internal systems to have a material effect on operations.
Depreciation and amortization for the quarter was $18,736,000 or 4.9%
of sales versus $13,238,000 or 5.4% of sales in the first quarter a
year ago. Virtually the entire dollar increase is related to Graphic
depreciation and goodwill amortization. Since the Graphic acquisition,
depreciation and amortization has been in the range of 4.6% to 5.0%.
The objective of the Company's Print Management segment is to leverage
the asset base acquired in the Graphic transaction and improve the
utilization of those assets.
Interest expense for the quarter increased by $6,655,000 from the same
period one year ago. The current quarter includes $6,770,000 related to
the Graphic acquisition. Interest income for the quarter decreased
$916,000 from the first quarter of last year. The first quarter of last
year includes a positive adjustment of $800,000 for the cash surrender
value of life insurance policies.
Some of the financial ratios for the twelve months ended October 31,
1998 were: Return on Net Sales of 4.7%, Return on Average Assets of
6.9%, and Return on Equity of 13.5%. Those same ratios before adding
Graphic were: Return on Net Sales of 6.8%, Return on Average Assets of
9.4%, and Return on Equity of 13.4%.
8
Wallace Computer Services, Inc. and Subsidiaries Page 8
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations (continued)
- --------------------------------------------------------------------------------
Liquidity and Capital Resources
------------------------------------------
Working capital decreased by $13,762,000 from July 31, 1998, primarily
due to the increase in short-term notes payable, the proceeds of which
were used to fund the stock repurchase program. The current ratio at
October 31, 1998 was 1.9 to 1.
Of the outstanding debt as of October 31, 1998, $400,000,000 has been
borrowed under a five-year Credit Agreement ("Credit Facility"), which
provides for a maximum aggregate principal amount available to be
borrowed of $500,000,000. In addition to the credit facility, the
Company has unsecured money market lines of $125,000,000, under which
$63,320,000 was borrowed at October 31, 1998. The maximum amount as
authorized by the Board of Directors for short-term borrowing under the
Credit Facility and the money market lines is limited to $600,000,000.
The borrowings under the Credit Facility are classified as long-term
debt as of October 31, 1998 since the Company has the intent and
ability to carry that debt long-term. The $63,320,000 from the
unsecured money market lines is classified as short-term debt.
Of the remaining long-term debt, $23,500,000 is made up of industrial
revenue bonds at rates ranging from 3.15% to 3.20%. The balance of
$10,508,000 relates to acquisitions, $2,000,000 to the former owners of
acquired businesses, with the rest being long-term debt from the
Graphic acquisition. Total debt currently represents 48.2% of total
capitalization.
The Company entered into a treasury rate lock agreement to manage the
exposure from interest rate movements related to the issuance of debt.
In conjunction with a private placement note offering in the second
quarter, the Company will settle on the treasury rate lock agreement
related to that note offering. See Note 5 and Note 6 to the
Consolidated Financial Statements for further discussion related to the
treasury rate lock agreement and the related debt offering. The
proceeds of the note issue will be used to pay down borrowings under
the Credit Facility.
Capital expenditures for the quarter totalled $14,896,000. For the full
fiscal year, capital expenditures are expected to be $49.0 million,
which are expected to be financed through internally generated funds
and by borrowing against our revolving credit facility.
Stockholders' equity decreased 2.6% to $533,497,000 at October 31,
1998.
Current inventory levels are believed to be in-line with the inventory
levels necessary to satisfy customer demand. The Company anticipates
having adequate sources of supply of raw materials to meet future
business requirements.
Common Stock
-------------------
On September 10, 1998, the Board of Directors increased the annualized
dividend rate to $0.64 per share, a 3.2% increase from fiscal 1998.
During the first quarter of fiscal 1999, the Company purchased
1,392,000 shares of Wallace common stock. Total repurchases against the
$100 million authorized by the Board in June, 1997 have been $44.3
million.
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Wallace Computer Services, Inc. and Subsidiaries Page 9
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Part II Other Information
---------------------------------
Items 1 through 3 None
- ----------------------
Item 4 Submission of Matters to a Vote of Security Holders
- -----------------------------------------------------------
The Company held its annual meeting of stockholders on November 4, 1998. The
results of the two proposals put to a shareholder vote are as follows:
1) Election of two directors for the class of directors.
For Withheld
-------------- ------------
Bettye Martin Musham 37,634,874 338,434
Andrew J. McKenna, Jr. 37,636,458 336,850
2) Ratification of the appointment of Arthur Andersen LLP as the Company's
independent public accountants for the fiscal year 1999.
For Against Abstain
-------------- ------------ ---------
37,825,762 60,339 87,207
Item 5 Other Information
- ----------------------------------
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995: Certain statements in this filing and elsewhere (such as in other filings
by the Company with the Securities and Exchange Commission, press releases,
presentations by the Company or its management, and oral statements) may
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. All statements, other than statements
of historical facts, that address activities, events, or developments that the
Company expects or anticipates may occur in the future, including such things
as future capital expenditures (including the amount and nature thereof),
business strategy and measures to implement strategy, competitive strengths,
goals, expansion and growth of the Company's and its subsidiaries' business
and operations, plans, references to future success and other such matters are
forward-looking statements. These forward-looking statements involve known and
unknown risks, uncertainties, and other factors which may cause the actual
results, performance or achievements of the Company to materially differ from
any future results, performance or achievements expressed or implied by such
forward-looking statements. Such factors include, among other things, general
economic, market or business conditions, changes in laws or regulations; the
opportunities (or lack thereof) that may be presented to and pursued by the
Company and its subsidiaries; successful integration of acquisitions; labor
market conditions; changes in postal rates and paper prices; the ability of the
Company to retain its customers who generally do not operate under long-term
contracts with the Company; the potential unpredictability of the
Company's net sales due to seasonal and other factors which can lead to
fluctuations in quarterly and annual operating results; the ability of the
Company to keep pace with technological advancements in the industry; the
effect of technical advancements on the demand for the Company's goods and
services; and the risk of damage to the Company's data centers and
manufacturing facilities or interruptions in the Company's telecommunications
links.
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Wallace Computer Services, Inc. and Subsidiaries Page 10
Notes to Consolidated Financial Statements
October 31, 1998
(Unaudited)
Item 6 Exhibits and Reports on Form 8-K
- ------------------------------------------------------
(a) Exhibits
27.1 Financial Data Schedule.
(b) Reports on Form 8-K
No reports on Form 8-K have been filed by the Company during the
quarter ended October 31, 1998.
11
Page 11
SIGNATURES
---------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
WALLACE COMPUTER SERVICES, INC.
December 15, 1998 /s/ Robert J. Cronin
- --------------------- -----------------------------------------------
Date Robert J. Cronin
Chairman of the Board and Chief Executive Officer
December 15, 1998 /s/ Michael T. Leatherman
- --------------------- -----------------------------------------------
Date Michael T. Leatherman
Executive Vice President, Chief Administrative Officer,
and Chief Financial Officer
(Principal Accounting Officer)