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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------
FORM 10-Q
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(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1996
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-4694
R. R. DONNELLEY & SONS COMPANY
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 36-1004130
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
77 WEST WACKER DRIVE, CHICAGO,
ILLINOIS 60601
(ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE)
OFFICES)
REGISTRANT'S TELEPHONE NUMBER (312) 326-8000
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 the
filing requirements for the past 90 days.
X
Yes------- No -------
NUMBER OF SHARES OF COMMON STOCK
OUTSTANDING
AS OF SEPTEMBER 30, 1996 150,385,660
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PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PAGE
INDEX NUMBER(S)
----- ---------
Condensed Consolidated Statements of Income (Unaudited) for the
three and nine month periods ended September 30, 1996 and
1995.......................................................... 3
Condensed Consolidated Balance Sheets as of September 30, 1996
(Unaudited) and December 31, 1995............................. 4
Condensed Consolidated Statements of Cash Flows (Unaudited) for
the nine months ended September 30, 1996 and 1995............. 5
Notes to Condensed Consolidated Financial Statements
(Unaudited)................................................... 6-8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations--Comparison of Third Quarter and First
Nine Months 1996 to 1995...................................... 9-12
Changes in Financial Condition................................. 12
Other Information.............................................. 12-13
Outlook........................................................ 14
2
R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
----------------
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(THOUSANDS OF DOLLARS, EXCEPT SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
1996 1995 1996 1995
------------ ------------ ------------ ------------
Net sales................ $ 1,602,528 $ 1,704,793 $ 4,727,024 $ 4,513,515
Cost of sales............ 1,319,346 1,366,047 3,912,957 3,666,822
------------ ------------ ------------ ------------
Gross profit............. 283,182 338,746 814,067 846,693
Selling and
administrative expenses. 157,419 170,762 520,692 461,437
Restructuring charge..... -- -- 560,632 --
------------ ------------ ------------ ------------
Earnings (loss) from
operations.............. 125,763 167,984 (267,257) 385,256
Interest expense......... 21,818 30,366 71,614 80,233
Gain on Metromail stock
offering................ -- -- (44,158) --
Other (income) expense--
net..................... (1,198) 2,240 (30,757) 5,964
------------ ------------ ------------ ------------
Earnings (loss) before
income taxes............ 105,143 135,378 (263,956) 299,059
Provision (benefit) for
income taxes............ 37,275 43,321 (9,182) 95,699
------------ ------------ ------------ ------------
Net income (loss)........ $ 67,868 $ 92,057 $ (254,774) $ 203,360
============ ============ ============ ============
Per common share:
Net income (loss)...... $ 0.45 $ 0.60 $ (1.66) $ 1.33
============ ============ ============ ============
Cash dividends......... $ 0.19 $ 0.18 $ 0.55 $ 0.50
============ ============ ============ ============
Average shares
outstanding............. 152,444,000 153,629,000 153,416,000 153,408,000
============ ============ ============ ============
See accompanying Notes to Condensed Consolidated Financial Statements.
3
R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
------------
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
SEPTEMBER 30, 1996 AND DECEMBER 31, 1995
(THOUSANDS OF DOLLARS)
ASSETS
1996 1995
---------- -----------
Cash and equivalents............................ $ 21,567 $ 33,122
Receivables, less allowance for doubtful
accounts of $25,097 and $25,311 at September
30, 1996 and December 31, 1995, respectively... 1,202,749 1,466,159
Inventories..................................... 368,338 380,078
Prepaid expenses................................ 37,019 28,600
---------- -----------
Total current assets.......................... 1,629,673 1,907,959
---------- -----------
Property, plant and equipment, at cost.......... 4,233,454 4,120,449
Accumulated depreciation........................ (2,320,061) (2,111,461)
---------- -----------
Net property, plant and equipment............. 1,913,393 2,008,988
Goodwill and other intangibles--net............. 560,592 1,024,954
Other noncurrent assets......................... 545,659 442,909
---------- -----------
Total assets.................................. $4,649,317 $ 5,384,810
========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable................................ $ 451,894 $ 601,814
Accrued compensation............................ 96,324 126,483
Short-term debt................................. 50,000 50,000
Current and deferred income taxes............... 74,602 86,737
Other accrued liabilities....................... 535,860 265,340
---------- -----------
Total current liabilities..................... 1,208,680 1,130,374
---------- -----------
Long-term debt.................................. 1,314,358 1,560,960
Deferred income taxes........................... 252,652 300,840
Other noncurrent liabilities.................... 196,535 219,466
Shareholders' equity:
Common stock, at stated value ($1.25 par
value)....................................... 326,705 330,612
Retained earnings, net of cumulative
translation adjustments of $31,699 and
$29,031 at September 30, 1996 and December
31, 1995, respectively....................... 1,520,044 1,994,098
Unearned compensation......................... (7,371) (9,297)
Reacquired common stock, at cost.............. (162,286) (142,243)
---------- -----------
Total shareholders' equity................ 1,677,092 2,173,170
---------- -----------
Total liabilities and shareholders'
equity................................... $4,649,317 $ 5,384,810
========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements.
4
R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
------------
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30
(THOUSANDS OF DOLLARS)
1996 1995
--------- ---------
Cash flows provided by (used for) operating activities:
Net income (loss)...................................... $(254,774) $ 203,360
Restructuring charge, net of tax and minority interest. 435,380 --
Depreciation........................................... 256,995 240,014
Amortization........................................... 43,112 52,176
Gain on Metromail stock offering....................... (44,158) --
Net change in operating working capital................ 118,882 (300,650)
Net change in other assets and liabilities............. (17,472) (3,442)
Other.................................................. 2,488 5,649
--------- ---------
Net cash provided by operating activities................ 540,453 197,107
--------- ---------
Cash flows provided by (used for) investing activities:
Capital expenditures................................... (321,675) (353,664)
Proceeds from receivables from Metromail............... 248,510 --
Other investments including acquisitions, net of cash
acquired.............................................. (22,278) (53,711)
--------- ---------
Net cash used for investing activities................... (95,443) (407,375)
--------- ---------
Cash flows provided by (used for) financing activities:
Net increase (decrease) in borrowings.................. (246,603) 278,492
Disposition of reacquired common stock................. 32,420 33,191
Acquisition of common stock............................ (157,887) (27,952)
Cash dividends on common stock......................... (84,597) (76,710)
--------- ---------
Net cash provided by (used for) financing activities..... (456,667) 207,021
--------- ---------
Effect of exchange rate changes on cash and equivalents.. 102 1,909
--------- ---------
Net decrease in cash and equivalents..................... (11,555) (1,338)
--------- ---------
Cash and equivalents at beginning of period.............. 33,122 20,569
--------- ---------
Cash and equivalents at end of period.................... $ 21,567 $ 19,231
========= =========
See accompanying Notes to Condensed Consolidated Financial Statements.
5
R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
------------
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
Note 1. The condensed consolidated financial statements included herein are
unaudited (although the balance sheet at December 31, 1995 is condensed from
the audited balance sheet at that date) and have been prepared by the company
to conform with the requirements applicable to this quarterly report on Form
10-Q. Certain information and disclosures, normally included in financial
statements prepared in accordance with generally accepted accounting
principles, have been omitted as permitted by such requirements. However, the
company believes that the disclosures made are adequate to make the
information presented not misleading. These condensed consolidated financial
statements should be read in conjunction with the consolidated financial
statements and the related notes included in the company's 1995 annual report
on Form 10-K.
The condensed consolidated financial statements included herein reflect, in
the opinion of the company, all adjustments (which include only normal,
recurring adjustments) necessary to present fairly the financial information
for such periods.
Note 2. Components of the company's inventories at September 30, 1996 and
December 31, 1995 were as follows:
(THOUSANDS OF
DOLLARS)
------------------
1996 1995
-------- --------
Raw materials and manufacturing supplies.................... $193,041 $230,694
Work in process............................................. 264,959 213,741
Finished goods.............................................. 27,938 34,041
Progress billings........................................... (58,651) (47,549)
LIFO reserve................................................ (58,949) (50,849)
-------- --------
Total inventories....................................... $368,338 $380,078
======== ========
Note 3. The following provides supplemental cash flow information:
(THOUSANDS OF
DOLLARS)
------------------
NINE MONTHS ENDED
SEPTEMBER 30
------------------
1996 1995
-------- --------
Cash flow data:
Interest paid, net of capitalized interest................. $ 54,927 $ 61,235
Income taxes paid.......................................... $ 56,845 $ 63,706
6
Note 4. In the first half of 1996, the company provided for the
restructuring and realignment of its gravure printing operations in North
America, the repositioning of other businesses, the write-down of certain
equipment, and the impairment of intangible assets and investments in non-core
businesses. These actions resulted in pre-tax charges of $560 million ($435
million after taxes and a minority interest benefit). Approximately $195
million of the charges related to the gravure platform realignment and
approximately $233 million related to other manufacturing restructuring. Pre-
tax cash outlays associated with the restructuring and realignment charges are
expected to total approximately $177 million and will be incurred in 1996 and
1997. In addition, the company has recognized the impairment of approximately
$133 million in equipment, intangibles and investments in non-core businesses.
The impairment loss was calculated based on the excess of the carrying amount
of the assets over the assets' fair values. The fair value of an asset is
generally determined as the discounted estimates of future cash flows
generated by the asset. Reflected in the total charges is $127 million to
reposition Stream International's worldwide operations.
The following table presents the components of the company's restructuring
reserves along with charges against these reserves from their establishment
until September 30, 1996 (in thousands of dollars):
WRITEDOWN OF
PROPERTY AND
ORIGINAL INVESTMENTS RESTRUCTURING
RESTRUCTURING TO FAIR CASH RESERVES AS OF
RESERVES VALUE PAYMENTS SEPTEMBER 30, 1996
------------- ------------ -------- ------------------
Restructuring loss on
writedown of property,
plant and equipment,
and
other assets........... $250,731 $(250,731) $ -- $ --
Restructuring
expenditures to
reposition
operations and close
facilities............. 176,960 -- (22,751) 154,209
Impairment loss on
intangible assets and
investments............ 132,941 (132,941) -- --
-------- --------- -------- --------
Total restructuring
reserves........... $560,632 $(383,672) $(22,751) $154,209
======== ========= ======== ========
Note 5. On June 19, 1996, Metromail (the company's previously wholly-owned
subsidiary, which is a leading provider of market-oriented consumer
information and reference services) completed an initial public offering of
13.8 million shares of its common stock at $20.50 per share. As a result of
the offering, the company's interest in Metromail has been reduced to
approximately 38%. Approximately $250 million of the proceeds from the
completed offering were used by Metromail to retire certain indebtedness owed
to the company. The company in turn used the payment from Metromail to pay
down debt and for general corporate purposes. The transaction resulted in a
pre-tax gain for the company of approximately $44 million and a deferred tax
provision of approximately $18 million. As a result of this transaction, the
company has changed its method of accounting for Metromail from consolidation
to the equity method, effective July 1, 1996. Under the equity method, the
company recognizes in income its proportionate share of the net income of
Metromail ($2 million in the 1996 third quarter). Metromail had net sales and
operating earnings of $63 million and $9 million, respectively, in the third
quarter of 1995 and $174 million and $24 million, respectively, in the first
nine months of 1995. Metromail's 1996 net sales and operating earnings were
$126 million and $13 million, respectively, through the date of the initial
public offering.
Note 6. On October 31, 1996, Donnelley Enterprise Solutions Incorporated
(DESI), a wholly-owned subsidiary of the company and a single-source provider
of integrated information management services to professional service
organizations, announced that the initial public offering of approximately 2.9
million shares of its common stock was priced at $25 per share. Upon
completion of the offering (which is expected to occur on November 5, 1996),
the company's interest in DESI will be reduced to approximately 43% (34% if
the underwriters' over-allotment option is exercised in full). The
7
company expects to receive approximately $50 million ($60 million if the
underwriters' over-allotment option is exercised in full) from the net
proceeds of the shares sold by it and from repayment of amounts owed to it by
DESI, which will be used for general corporate purposes. The company estimated
that the transaction will result in a pre-tax gain to the company of
approximately $30 million, or $20 million after taxes ($35 million, or $25
million after taxes, if the underwriters' over-allotment is exercised in
full). Upon completion of this transaction, the company will change its method
of accounting for DESI from consolidation to the equity method. Under the
equity method, the company will recognize in income its proportionate share of
the net income of DESI. DESI's net sales and operating earnings are not
material to the consolidated results of the company.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
COMPARISON OF THIRD QUARTER 1996 TO THIRD QUARTER 1995
ABOUT THE COMPANY
R.R. Donnelley & Sons Company is a world leader in distributing, managing and
reproducing print and digital information for the publishing, retailing,
merchandising and information technology markets worldwide. The company is the
largest commercial printer headquartered in North America, with approximately
38,000 employees in 26 countries on five continents.
The company is organized into the following business sectors, which accounted
for the following sales results during the third quarter of 1996:
Commercial Print Sector, which includes consumer and trade magazines
($276 million, or 17% of 1996 third quarter consolidated net sales), and
catalogs, retail advertising circulars and direct mail products ($353
million, or 22% of 1996 third quarter consolidated net sales).
Global Commercial Print Sector, which includes the company's commercial
print operations outside the United States--in Europe, Latin America and
Asia ($85 million, or 5% of 1996 third quarter consolidated net sales).
Information Management Sector, which includes Book Publishing Services
($190 million, or 12% of 1996 third quarter consolidated net sales),
Telecommunications ($168 million, or 11% of 1996 third quarter consolidated
net sales), and Financial Services ($103 million, or 6% of 1996 third
quarter consolidated net sales), as well as the company's Digital Division,
the 77 Capital venture-capital fund, creative design and communication
services and a variety of information services ($43 million, or 3% of 1996
third quarter consolidated net sales).
Stream International, the world's largest software manufacturer, marketer
and technical-support and services provider, approximately 80% owned by the
company, formed in April 1995 from the merger of the company's Global
Software Services business with Corporate Software Inc. ($383 million, or
24% of 1996 third quarter consolidated net sales).
NET SALES BY BUSINESS UNIT
(AS A PERCENTAGE OF CONSOLIDATED NET SALES)
THREE MONTHS NINE MONTHS
ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------- --------------
1996 1995 1994 1996 1995 1994
---- ---- ---- ---- ---- ----
Stream International/Global Software Services... 24 24 11 25 21 12
Catalogs, Retail, Direct-Mail................... 22 22 25 20 21 25
Consumer & Trade Magazines...................... 17 17 22 17 19 22
Book Publishing................................. 12 12 15 11 12 14
Telecommunications.............................. 11 9 9 10 10 10
Financial Services.............................. 6 5 6 6 5 7
Global Commercial Print......................... 5 5 5 5 5 4
Other........................................... 3* 6 7 6 7 6
*Reflects the company's reduced ownership in
Metromail
CONSOLIDATED RESULTS OF OPERATIONS
The company reported third quarter 1996 net income of $68 million, a 26%
decline from last year's third quarter. Earnings per share decreased $0.15 to
$0.45. Third quarter net sales of $1.6 billion were down 6% from the year-
earlier quarter.
9
For the nine months, the company reported a net loss of $255 million, or
$1.66 per share, reflecting $560 million in pre-tax restructuring charges
($435 million after taxes and minority interest benefit) recorded in the first
half, primarily to realign gravure operations in North America and reposition
Stream International. These charges were partially offset by a $44 million
pre-tax gain ($26 million after taxes) on the initial public offering of
Metromail Corporation common shares in the second quarter. Excluding the
restructuring charges and the Metromail gain, net income declined by 24% from
last year's first nine months to $154 million. Earnings per share decreased
$0.32 to $1.01. Nine month net sales of $4.7 billion were up 5% from the year-
earlier period.
Excluding the restructuring charges, the company's 1996 third-quarter and
nine-month operating earnings performance declined primarily due to a drop in
by-product revenue; developments that affected the performance of Stream
International, primarily the slower-than-expected corporate demand for new
systems and software and substantially reduced demand for printed product and
diskette replication, as well as software price competition; and the company's
reduced ownership of Metromail following the second-quarter public offering.
CONSOLIDATED NET SALES
Net sales for the third quarter decreased $102 million, or 6%, to $1.6
billion, reflecting significantly lower paper prices (down $133 million), the
company's reduced ownership of Metromail following the second-quarter public
offering ($63 million of sales in 1995's third quarter) and lower by-product
revenue (down $20 million). In addition, Stream International's sales
decreased by $26 million, primarily reflecting reduced demand for software
documentation printing and diskette replication. These decreases were
partially offset by higher volume across most business units.
Net sales from foreign operations represented $239 million, or 15%, of net
sales in the third quarter, down 12% from $273 million, or 16%, of net sales
in the year-earlier quarter. The decrease in foreign sales reflected lower
sales volume in Stream International's foreign locations and lower volume in
Latin America due to continued recessionary conditions in Argentina and
Brazil.
Net sales for the nine months increased $214 million, or 5%, to $4.7
billion, reflecting the inclusion of Corporate Software Inc. (CSI) beginning
in April 1995. This increase was partially offset by lower by-product revenue
(down $50 million), the company's reduced ownership of Metromail following the
public offering ($174 million of sales in the first nine months of 1995 versus
$126 million of sales in 1996 through the date of the public offering) and
lower paper prices (down $13 million).
Net sales from foreign operations represented approximately $765 million, or
16%, of net sales in the first nine months, up from $744 million, or 16%, of
net sales in the year-earlier period.
CONSOLIDATED EXPENSES
Gross profit for the third quarter decreased by $56 million, or 16%, to $283
million due to the revenue and by-product variations as noted above.
Amortization expense decreased 48% to $10 million, primarily reflecting the
impact of goodwill writedowns taken during the first half restructuring.
Selling and administrative expenses decreased 8% to $157 million, reflecting
the company's reduced ownership of Metromail ($17 million of expenses),
partially offset by an increase in volume-related expenses in Financial
Services. The ratio of selling and administrative expenses to net sales
remained consistent with the year-earlier quarter at 10%. Net interest expense
decreased $9 million to $22 million, reflecting both lower interest rates and
lower average debt balances.
For the first nine months, gross profit decreased by $33 million, or 4%, to
$814 million primarily reflecting lower by-product revenue (down $50 million).
Amortization expense decreased 17% to $43 million, primarily reflecting the
impact of goodwill writedowns taken during the first half restructuring.
Selling and administrative expenses increased 13% to $521 million, primarily
due to the
10
inclusion of CSI beginning in April 1995 ($37 million of expenses in the 1996
first quarter) and higher volume-related expenses in Financial Services,
partially offset by the company's reduced ownership of Metromail ($17 million
of expenses). The ratio of selling and administrative expenses to net sales, at
11% in the first nine months, increased from the 1995 ratio of 10% reflecting
higher expenses at Stream International (partly due to the inclusion of CSI
beginning in April 1995). Net interest expense decreased $9 million to $72
million, reflecting lower interest rates and lower average debt balances. Other
income increased $37 million, primarily due to $17 million of minority interest
benefits related to the restructuring charges and $18 million of gains on the
sales of investments in the company's venture-capital portfolio.
SUMMARY OF CONSOLIDATED EXPENSE TRENDS
THIRD QUARTER ENDED
SEPTEMBER 30, % INCREASE % INCREASE
(THOUSANDS OF DOLLARS) 1996 (DECREASE) 1995 (DECREASE) 1994
- ---------------------- ---------- ---------- ---------- ---------- ----------
Cost of materials....... $782,828 (6)% $835,098 64% $ 508,422
Cost of manufacturing... 446,174 4% 431,043 8% 399,575
Depreciation............ 80,387 (1)% 80,921 24% 65,494
Amortization............ 9,957 (48)% 18,985 17% 16,217
Selling and
administrative......... 157,419 (8)% 170,762 39% 122,830
Net interest expense.... 21,818 (28)% 30,366 115% 14,155
NINE MONTHS ENDED
SEPTEMBER 30, % INCREASE % INCREASE
(THOUSANDS OF DOLLARS) 1996 (DECREASE) 1995 (DECREASE) 1994
- ---------------------- ---------- ---------- ---------- ---------- ----------
Cost of materials....... $2,275,818 7% $2,122,030 51% $1,402,832
Cost of manufacturing... 1,337,032 7% 1,252,601 10% 1,134,169
Depreciation............ 256,995 7% 240,014 26% 190,731
Amortization............ 43,112 (17)% 52,176 25% 41,868
Selling and
administrative......... 520,692 13% 461,437 30% 355,980
Net interest expense.... 71,614 (11)% 80,233 109% 38,354
RESULTS OF OPERATIONS OF PRINT-RELATED BUSINESSES AND OF STREAM INTERNATIONAL
Print-Related Businesses
The company's print-related businesses (all business sectors other than
Stream International, and excluding Metromail) had third quarter net sales of
$1.2 billion, a $13 million or 1% decrease from last year's third quarter net
sales. The decrease was attributable primarily to significantly lower paper
prices (down $122 million) and decreased by-product revenue (down $19 million),
partially offset by higher volume across most business units. The print-related
businesses had operating income of $134 million, an 8% decrease from the same
quarter in 1995. The decrease was attributable primarily to lower by-product
revenue (down $19 million).
For the nine months, the company's print-related businesses had net sales of
$3.4 billion, a $40 million or 1% increase over last year's net sales. The
increase was attributable primarily to higher volume in Financial Services and
Telecommunications, partially offset by the decrease in by-product revenue
(down $47 million) and lower paper prices (down $13 million). Excluding the
restructuring charges, the print-related businesses had nine-month operating
income of $299 million, a 14% decrease from the year-earlier period. The
decrease primarily reflected the reduction in by-product revenue (down $47
million).
Stream International
Stream International had third quarter net sales of $383 million, a 6%
decrease from last year's third quarter net sales of $408 million, and an
operating loss of $9 million, compared to operating income of $13 million in
the same quarter in 1995. The decreases were attributable primarily to the
11
slower-than-expected corporate demand for new systems and software and
substantially reduced demand for printed product and diskette replication, as
well as software price competition.
For the nine months, Stream International had net sales of $1.2 billion, a
23% increase over last year's net sales of $1.0 billion. The increase reflected
the inclusion of revenues from CSI beginning in April 1995 and increased demand
for help-desk services. Excluding the restructuring charges, Stream
International had an operating loss of $19 million for the nine months,
compared to operating income of $15 million for the same period in 1995. The
decrease was attributable to the unfavorable market factors mentioned above.
CHANGES IN FINANCIAL CONDITION
LIQUIDITY AND CAPITAL RESOURCES
For the nine months, cash flow from operating activities was $540 million, up
$343 from the year-earlier period. Of this amount, operating working capital
reductions provided cash of $119 million, compared to a $301 million use of
cash during the first nine months of 1995. This improvement primarily resulted
from decreases in receivables and inventories in 1996 versus increases in these
components during 1995 (primarily due to the impact of paper prices). In
addition, the company received $250 million immediately following the public
offering of Metromail, in repayment of debt owed by Metromail. Management
believes that the company's cash flow and borrowing capacity are sufficient to
fund current operations and growth. Capital expenditures for the nine months
totaled $322 million, including purchases of equipment to meet specific
customer needs and purchases related to improving manufacturing productivity
and efficiency. Full year capital spending is expected to be between $475
million and $500 million.
At September 30, 1996, the company had an available credit facility of $550
million with a number of banks. This credit facility provides support for the
issuance of commercial paper and other credit needs. In addition, certain
subsidiaries of the company had credit facilities with unused borrowing
capacities totaling approximately $130 million at September 30, 1996.
On July 25, 1996, the company's Board of Directors authorized the repurchase
and retirement of shares of its common stock with an aggregate purchase price
of up to $250 million through June 27, 1997, in addition to the company's
ordinary purchases of approximately 1.5 million shares annually for issuance
under various employee stock plans. During the third quarter, the company
repurchased and retired 3.1 million shares in open market transactions at an
average price of $33.30, for an aggregate purchase price of $104 million. Thus,
authorization remains for the repurchase and retirement of additional shares
with an aggregate purchase price of up to $146 million.
OTHER INFORMATION
Metromail--On June 19, 1996, Metromail completed an initial public offering
of its common stock. As a result of the offering, the company's interest in
Metromail had been reduced to approximately 38%. Approximately $250 million of
the proceeds from the completed offering were used by Metromail to retire
certain indebtedness owed to the company. The company in turn used the payment
from Metromail to pay down debt and for general corporate purposes. The
transaction resulted in a pre-tax gain of approximately $44 million ($26
million after taxes). As a result of this transaction, the company has changed
its method of accounting for Metromail from consolidation to the equity method.
Under the equity method, the company will recognize in income its proportionate
share of the net income of Metromail. Metromail had net sales and operating
earnings of $63 million and $9 million, respectively, in the third quarter of
1995, and $174 million and $24 million, respectively, in the first nine months
of 1995. Metromail's 1996 net sales and operating earnings were $126 million
and $13 million, respectively, through the date of the public offering. In the
fourth quarter of 1995, the company's results included Metromail's net sales
and operating earnings of $73 million and $12 million, respectively.
12
Corporate Restructurings--On March 28, 1996, the company announced a $512
million pre-tax charge to first quarter earnings ($411 million after taxes and
a minority interest benefit) to restructure and realign its gravure operations
in North America, resposition other businesses, and write down certain
equipment, investments in non-core businesses and intangible assets.
Approximately $195 million of the charge is related to the gravure platform
realignment. Approximately $189 million is related to other manufacturing
restructuring, including approximately $92 million to reposition Stream
International's worldwide operations. Additionally, the company wrote down
approximately $128 million in equipment, intangibles and investments in non-
core businesses, in accordance with SFAS 121.
On July 25, 1996, the company announced a $48 million pre-tax restructuring
charge ($24 million after taxes and a minority interest benefit) primarily to
restructure Stream International's software manufacturing, printing, kitting
and fulfillment operations. The restructuring reflects changes in customer
demand, which is shifting from disk-based media and printed materials to CD-
ROM and other forms of electronic media, packaging and delivery.
Pre-tax cash outlays associated with the restructuring and realignment
charges are expected to total approximately $177 million and will be incurred
in 1996 and 1997 ($23 million of this amount has been paid through September
30, 1996). The remaining $383 million relates to non-cash items, mainly the
write-down of fixed assets and goodwill. Because of this write-down, 1996
depreciation and amortization expenses will be approximately $11 million
(before taxes) less than they would have been had the charges not been
incurred. The company expects the restructuring and related actions to
generate increasing cost reductions in future years, growing to an annual
amount of approximately $75 million to $100 million in 1998.
Human Resources and Plant Closings--As part of the first-half restructuring
discussed above, the company has commenced the discontinuation of catalog and
magazine printing operations in the United Kingdom and closed Stream
International's Crawfordsville, IN documentation printing and diskette
replication operations. In addition, as part of the first-half restructuring,
the company announced plans to close or consolidate four other operations,
including gravure-printing plants in Newton, NC and Casa Grande, AZ; a book
prepress operation in Barbados; and a stand-alone book bindery in Scranton,
PA. Through these actions, the Metromail public offering and other
streamlining initiatives underway, the company expects to reduce its workforce
by approximately 15% before the end of 1997 (from the 41,000 employees as of
December 31, 1995). Almost half of these reductions have occurred during the
first nine months of 1996.
Donnelley Enterprise Solutions Incorporated--On October 31, 1996, Donnelley
Enterprise Solutions Incorporated (DESI), a wholly-owned subsidiary of the
company and a single-source provider of integrated information management
services to professional service organizations, announced that the initial
public offering of approximately 2.9 million shares of its common stock was
priced at $25 per share. Upon completion of the offering (which is expected to
occur on November 5, 1996), the company's interest in DESI will be reduced to
approximately 43% (34% if the underwriters' over-allotment option is exercised
in full). The company expects to receive approximately $50 million ($60
million if the underwriters' over-allotment option is exercised in full) from
the net proceeds of the shares sold by it and from repayment of amounts owed
to it by DESI, which will be used for general corporate purposes. The Company
estimated that the transaction will result in a pre-tax gain to the company of
approximately $30 million, or $20 million after taxes ($35 million, or $25
million after taxes, if the underwriters' over-allotment is exercised in
full). Upon completion of this transaction, the company will change its method
of accounting for DESI from consolidation to the equity method. Under the
equity method, the company will recognize in income its proportionate share of
the net income of DESI. DESI's net sales and operating earnings are not
material to the consolidated results of the company.
13
OUTLOOK
The commercial printing business in North America (the company's primary
geographic market) is highly competitive in most product categories and
geographic regions. Industry analysts consider most commercial print markets
to have excess capacity. Competition is largely based on price, quality and
servicing the special needs of customers.
Management believes the company's prospects in the fourth quarter of 1996
will be challenging. Results will continue to be negatively impacted by lower
paper prices as compared to 1995, the company's reduced ownership of Metromail
and resulting change in accounting treatment, as well as reduced by-product
revenue (which is expected to be $10 million lower than the fourth quarter of
1995, assuming the continuation of current trends). Stream International's
results will continue to be affected by reduced demand for software updates
and software price competition, in addition to the significantly decreased
demand for software documentation printing and diskette replication. Stream
International continues to pursue methods to capitalize on the electronic and
digital opportunities in the software market.
As previously mentioned, due to the fixed asset and goodwill write-downs
associated with the first-half restructuring charges, 1996 depreciation and
amortization expenses will be approximately $11 million (pre-tax) less than
they would have been had the charges not been incurred. The company expects
the restructuring and related actions to generate increasing cost reductions
in future years, growing to an annual amount of approximately $75 million to
$100 million in 1998.
Additionally, legislation was passed in the third quarter by the United
States Congress to reduce and eventually eliminate the deduction for interest
on loans borrowed against corporate-owned life insurance (COLI). The company
has used this deduction for several years. The company's 1996 tax provision
will be $13 million higher than it would have been had this legislative change
not occurred. The company is currently assessing the impact of the change on
future years.
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PART II
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
10(a) 1986 Stock Incentive Plan, as amended*
10(b) 1991 Stock Incentive Plan, as amended*
10(c) 1995 Stock Incentive Plan, as amended*
10(d) 1993 Stock Purchase Plan for Selected Managers and Key Staff
Employees, as amended*
10(e) 1993 Stock Ownership Plan for Non-Employee Directors, as
amended*
10(f) Form of premium priced option agreement with certain executive
officers, as amended*
10(g) Amendment to Memorandum of Agreement and Understanding among
Stream International Holdings, Inc., R. R. Donnelley & Sons
Company and Rory J. Cowan*
27 Financial Data Schedule
- --------
*Management contract or compensatory plan or arrangement
(b) No current Report on Form 8-K was filed during the third quarter of 1996.
15
SIGNATURE
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THE
REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE
UNDERSIGNED THEREUNTO DULY AUTHORIZED.
R. R. Donnelley & Sons Company
/s/ Peter F. Murphy
By __________________________________
Peter F. Murphy
Corporate Controller
(Authorized Officer and
Chief Accounting Officer)
November 1, 1996
Date __________________________
16