UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Form 10-Q
(Mark One)*
[X] Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended June 30, 1998 or [ ] Transition
report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934
for the transition period from _____ to _____
Commission file number 1-5964
IKON OFFICE SOLUTIONS, INC.
(Exact name of registrant as specified in its charter)
OHIO 23-0334400
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
P.O. Box 834, Valley Forge, Pennsylvania 19482
(Address of principal executive offices)
(Zip Code)
(610) 296-8000
(Registrant's telephone number, including area code)
NONE
(Former name, former address and former fiscal year, if changed since
last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No _____
* Applicable only to issuers involved in bankruptcy proceedings during the
preceding five years:
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes No
* Applicable only to corporate issuers:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of July 31, 1998.
Common Stock, no par value 135,556,149 shares
INDEX
IKON OFFICE SOLUTIONS, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets--June 30, 1998
and September 30, 1997
Consolidated Statements of Income--Three and nine
months ended June 30, 1998 and June 30, 1997
Consolidated Statements of Cash Flows--Nine months
ended June 30, 1998 and June 30, 1997
Notes to Consolidated Financial Statements--
June 30, 1998
Item 2. Management's Discussion and Analysis of Results
of Operations and Financial Condition and Liquidity
PART II. OTHER INFORMATION
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
PART I. FINANCIAL INFORMATION
Item 1: Financial Statements (unaudited)
IKON OFFICE SOLUTIONS, INC.
CONSOLIDATED BALANCE SHEETS
( in thousands )
June 30 September 30
ASSETS 1998 1997
Current Assets
Cash $4,633 $21,341
Accounts receivable, net 760,872 765,660
Finance receivables, net 800,919 670,784
Inventories 475,827 442,207
Prepaid expenses 108,133 101,294
Deferred taxes 122,028 124,520
---------- ----------
Total current assets 2,272,412 2,125,806
---------- ----------
Investments and Long-Term Receivables 16,482 17,508
Long-Term Finance Receivables, net 1,535,008 1,331,372
Equipment on Operating Leases, net 112,870 101,900
Property and Equipment, at cost 498,725 462,360
Less accumulated depreciation 237,809 222,815
---------- ----------
260,916 239,545
---------- ----------
Other Assets
Goodwill 1,354,736 1,348,133
Miscellaneous 155,817 159,622
---------- ----------
1,510,553 1,507,755
---------- ----------
$5,708,241 $5,323,886
========== ==========
See notes to consolidated financial statements.
IKON OFFICE SOLUTIONS, INC.
CONSOLIDATED BALANCE SHEETS
( in thousands )
June 30 September 30
LIABILITIES AND SHAREHOLDERS' EQUITY 1998 1997
Current Liabilities
Current portion of long-term debt $125,073 $60,794
Current portion of long-term debt, finance subsidiaries 645,911 251,711
Notes payable 90,677 266,979
Trade accounts payable 224,838 206,547
Accrued salaries, wages and commissions 100,711 110,628
Deferred revenues 205,050 208,612
Other accrued expenses 250,795 268,511
----------- -----------
Total current liabilities 1,643,055 1,373,782
----------- -----------
Long-Term Debt 664,567 490,235
Long-Term Debt, Finance Subsidiaries 1,433,635 1,494,043
Deferred Taxes 340,321 330,996
Other Long-Term Liabilities 138,616 153,182
Shareholders' Equity
Series BB conversion preferred stock, no par value:
3,877 depositary shares issued and outstanding 290,170 290,170
Common stock, no par value:
Authorized 300,000 shares
Issued 135,705 shares 677,681 677,681
Retained earnings 526,932 574,646
Foreign currency translation adjustment (1,198) (728)
Cost of common shares in treasury: 6/98 - 179 shares;
9/97 - 2,401 shares (5,538) (60,121)
----------- -----------
1,488,047 1,481,648
----------- -----------
$5,708,241 $5,323,886
=========== ===========
See notes to consolidated financial statements.
IKON OFFICE SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except earnings per share)
Three Months Ended Nine Months Ended
June 30 June 30
1998 1997 1998 1997
Revenues
Net sales $721,044 $714,461 $2,236,092 $2,066,085
Service and rentals 594,806 542,395 1,740,694 1,508,304
Finance income 78,878 59,450 223,788 160,211
----------- ----------- ----------- -----------
1,394,728 1,316,306 4,200,574 3,734,600
----------- ----------- ----------- -----------
Costs and Expenses
Cost of goods sold 520,442 455,358 1,490,189 1,319,100
Service and rental costs 307,632 273,219 892,274 740,422
Finance interest expense 33,171 26,350 96,876 69,731
Selling and administrative 587,772 473,699 1,586,547 1,319,008
Loss from asset impairment 20,000 20,000
Transformation costs 16,539 22,961 54,250 98,494
----------- ----------- ----------- -----------
1,485,556 1,251,587 4,140,136 3,546,755
----------- ----------- ----------- -----------
Operating income (loss) (90,828) 64,719 60,438 187,845
Interest expense 17,684 12,089 50,956 31,895
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
taxes and extraordinary loss (108,512) 52,630 9,482 155,950
Taxes on income (19,867) 22,502 30,852 66,548
----------- ----------- ----------- -----------
Income (loss) from continuing operations before
extraordinary loss (88,645) 30,128 (21,370) 89,402
Discontinued operations 20,151
----------- ----------- ----------- -----------
Income (loss) before extraordinary loss (88,645) 30,128 (21,370) 109,553
Extraordinary loss from early extinguishment
of debt, net of tax benefit (12,156)
----------- ----------- ----------- -----------
Net Income (Loss) (88,645) 30,128 (21,370) 97,397
Less: Preferred Dividends 4,885 4,885 14,655 14,655
----------- ----------- ----------- -----------
Available to Common Shareholders $(93,530) $25,243 $(36,025) $82,742
=========== =========== =========== ===========
Basic and Diluted Earnings Per Share
Continuing Operations $(0.69) $0.19 $(0.27) $0.56
Discontinued Operations $0.15
Extraordinary loss $(0.09)
----------- ----------- ----------- -----------
$(0.69) $0.19 $(0.27) $0.62
=========== =========== =========== ===========
Cash Dividends Per Share of Common Stock $.04 $.04 $.12 $.22
=========== =========== =========== ===========
See notes to consolidated financial statements.
IKON OFFICE SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Nine Months Ended
June 30
1998 1997
Operating Activities
Income (loss) from continuing operations before extraordinary loss $(21,370) $89,402
Additions (deductions) to reconcile income (loss) from continuing
operations before extraordinary loss to net cash
provided by operating activities of continuing operations
Depreciation 101,219 77,335
Amortization 50,152 34,737
Provisions for losses on accounts receivable 46,421 18,385
Provision for deferred taxes 14,000 58,000
Writeoff of fixed assets related to transformation 3,459 24,183
Loss from asset impairment 20,000
Changes in operating assets and liabilities, net
of effects from acquisitions and divestitures:
Increase in accounts receivable (27,364) (175,078)
Increase in inventories (26,802) (105,960)
Increase in prepaid expenses (10,445) (34,241)
Increase in accounts payable, deferred
revenues and accrued expenses 19,473 7,162
Miscellaneous (9,322) 10,453
----------- -----------
Net cash provided by operating activities of continuing operations 159,421 4,378
Net cash provided by operating activities of
discontinued operations 24,174
----------- -----------
Net cash provided by operating activities 159,421 28,552
Investing activities
Proceeds from the sale of property and equipment 24,087 25,878
Payments made on deferred liabilities (7,295) (19,501)
Cost of companies acquired, net of cash acquired (41,186) (128,772)
Expenditures for property and equipment (91,228) (76,863)
Expenditures for equipment on operating leases (68,969) (51,767)
Purchase of miscellaneous assets (9,042) (10,585)
Finance subsidiaries receivables - additions (1,156,662) (1,092,435)
Finance subsidiaries receivables - collections 626,042 477,994
----------- -----------
Net cash used in investing activities of continuing operations (724,253) (876,051)
Net cash used in investing activities of discontinued operations (38,058)
----------- -----------
Net cash used in investing activities (724,253) (914,109)
Financing activities
Proceeds (payments) of short-term borrowings, net (172,398) 84,210
Proceeds from issuance of long-term debt 259,356 36,662
Proceeds from option exercises and sale of treasury shares 17,566 39,348
Proceeds from sale of finance subsidiaries lease receivables 162,095 77,251
Proceeds from discontinued operations 553,700
Long-term debt repayments (17,704) (322,971)
Finance subsidiaries debt - additions 601,892 697,215
Finance subsidiaries debt - repayments (267,890) (159,000)
Dividends paid (30,830) (43,978)
Purchase of treasury shares (3,963) (112,154)
----------- -----------
Net cash provided by financing activities of continuing operations 548,124 850,283
Net cash provided by financing activities of discontinued operations 13,882
----------- -----------
Net cash provided by financing activities 548,124 864,165
----------- -----------
Net decrease in cash (16,708) (21,392)
Cash at beginning of year 21,341 46,056
----------- -----------
Cash at end of period $4,633 $24,664
=========== ===========
See notes to consolidated financial statements.
IKON OFFICE SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
Note 1: Basis of Presentation
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and the instructions to Form 10-Q and Rule
10-01 of Regulation S-X. In the opinion of management, all adjustments
(consisting of normal recurring accruals and the unusual charges described in
note 8) considered necessary for a fair presentation have been included. For
further information, refer to the consolidated financial statements and
footnotes thereto included in the Company's annual report on Form 10-K for the
year ended September 30, 1997. Certain prior year amounts have been reclassified
to conform with the current year presentation.
Note 2: Debt
On January 16, 1998, the Company's credit agreement with several
banks was amended to increase the amount available from $400 million to $600
million and to extend the termination to January 16, 2003. There were no other
significant changes to the terms of the agreement.
On October 27, 1997, the Company completed a $250 million
underwritten public debt offering consisting of $125 million 6.75% notes due
November 1, 2004 and $125 million 7.3% notes due November 1, 2027. The 6.75%
notes were sold at a discount to yield 6.794% and carry a make-whole call
provision with a five basis-points premium. The 7.3% notes were also sold at a
discount to yield 7.344% and carry a make-whole call provision with a 15
basis-points premium. The proceeds of the offering were used to repay short-term
borrowings.
Note 3: Discontinued Operations
Discontinued operations of the Company represent the operations of
Unisource Worldwide, Inc. ("Unisource"), which was spun off as a separate public
company on December 31, 1996. The results of discontinued operations, included
in the Company's results of operations for the nine months ended June 30, 1997,
are as follows (in thousands):
Three Months Ended
December 31, 1996
Revenues $1,728,533
Income before taxes $34,743
Tax expense 14,592
----------
Net income $20,151
==========
In December 1996, Unisource repaid $553.5 million of intercompany debt
outstanding with the Company and the Unisource stock was distributed to IKON
shareholders. Equity of the Company was reduced by $952.3 million, which
represented the equity of Unisource at December 31, 1996.
IKON OFFICE SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998
Note 4: Extraordinary Loss on Early Extinguishment of Debt
On December 2, 1996, Unisource borrowed under its new credit facility
to repay $553.5 million of intercompany debt with the Company. The Company
prepaid debt in the amount of $514 million from these funds. Early repayment of
this debt resulted in certain prepayment penalties. Total prepayment penalties
of $18.7 million and related tax benefits of $6.5 million are reflected as an
extraordinary loss on early extinguishment of debt on the Statement of Income
for the nine months ended June 30, 1997.
Note 5: Transformation Costs
In September 1995, the Company announced its transformation program to
change its 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. In
March 1997, the Company announced that it was accelerating the transformation
program. As a result, the Company began to separately disclose these costs as a
component of operating expenses on the Statement of Income. The Company expects
to substantially complete the transformation program by the end of fiscal 1998.
The transformation involves a variety of activities which the Company believes
will ultimately lower administrative costs and improve gross margins through the
creation of marketplace-focused field operations with greater attention to
customer sales and service. These activities include 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 in the first nine months of fiscal 1998
of $54.3 million relate principally to severance and other employee-related
costs, including temporary labor ($36.7 million), facility consolidation costs,
including lease buyouts and write-offs of leasehold improvements ($12.2 million)
and technology conversion costs ($5.4 million). Transformation costs of $98.5
million for the first nine months of fiscal 1997 consist primarily of severance
and other employee-related costs, including temporary labor and costs related to
consultants assisting in the transformation ($40.1 million), facility
consolidation costs, including lease buyouts and write-offs of leasehold
improvements ($13.1 million), technology conversion costs, including write-off
of the SAP computer platform pilot ($34.7 million) and costs incurred to adopt
the IKON name worldwide ($10.6 million).
Note 6: Earnings (Loss) Per Share
The following table sets forth the computation of basic and diluted
earnings (loss) per share from continuing operations (in thousands):
For the fiscal quarter ended 6/30/98 6/30/97
Numerator:
Income (loss) from continuing operations $ (88,645) $ 30,128
Preferred stock dividends 4,885 4,885
------------- ------------
Numerator for continuing operations
basic earnings (loss) per share - income
(loss) available to common shareholders (93,530) 25,243
Effect of dilutive securities:
Convertible loan notes 83
------------- ------------
Numerator for continuing operations
diluted earnings (loss) per share - income
(loss) available to common shareholders
after assumed conversions $ (93,530) $ 25,326
============= ============
IKON OFFICE SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998
Note 6: Earnings (Loss) Per Share (continued)
Denominator:
Weighted average shares 135,465 132,781
Contingently issuable shares 116
------------- ------------
Denominator for basic earnings (loss)
per share - weighted average shares 135,581 132,781
Effect of dilutive securities:
Additional contingently issuable shares
Employee stock options 771
Convertible loan notes 287
------------- ------------
Dilutive potential common shares 1,058
Denominator for diluted earnings (loss) per
share - adjusted weighted average
shares and assumed conversions 135,581 133,839
============= ============
Basic earnings (loss) per share from
continuing operations ($0.69) $0.19
============= ============
Diluted earnings (loss) per share from
continuing operations ($0.69) $0.19
============= ============
For the nine months ended 6/30/98 6/30/97
Numerator:
Income (loss) from continuing operations $ (21,370) $ 89,402
Preferred stock dividends 14,655 14,655
------------- ------------
Numerator for continuing operations
basic earnings (loss) per share - income
(loss) available to common shareholders (36,025) 74,747
Effect of dilutive securities:
Convertible loan notes 249
------------- ------------
Numerator for continuing operations
diluted earnings (loss) per share - income
(loss) available to common shareholders
after assumed conversions $ (36,025) $ 74,996
============= ============
Denominator:
Weighted average shares 134,681 133,410
Contingently issuable shares 118
------------- ------------
Denominator for basic earnings (loss) per
share - weighted average shares 134,799 133,410
Effect of dilutive securities:
Additional contingently issuable shares
Employee stock options 1,259
Convertible loan notes 268
------------- ------------
Dilutive potential common shares 1,527
Denominator for diluted earnings (loss) per
share - adjusted weighted average
shares and assumed conversions 134,799 134,937
============= ============
IKON OFFICE SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONT.)
JUNE 30, 1998
Note 6: Earnings (Loss) Per Share (continued)
Basic earnings (loss) per share from
continuing operations ($0.27) $0.56
====== =====
Diluted earnings (loss) per share from
continuing operations ($0.27) $0.56
====== =====
Basic and diluted loss per share amounts are the same in fiscal 1998
because the effect, if any, of securities considered in the diluted computation
would be antidilutive.
The Company's Series BB conversion preferred stock is excluded from the
diluted calculation for 1997 because the effect of adding 9,682,144 shares and
deleting the preferred dividends to reflect assumed conversion would be
antidilutive.
Note 7: Income Taxes
Tax expense for the first nine months of fiscal 1998 was $31.0 million
on income before taxes of $9.5 million. The unusual effective tax rate of 325%
is the result of the impact of non-tax deductible items (primarily goodwill
amortization and loss from asset impairment) in relation to lower income before
taxes.
Note 8: Unusual Charges and Restatement of Second Quarter Results
The Company completed an in-depth review of its operations during
August 1998 and determined that it was necessary and appropriate to take charges
to earnings totaling $110 million on a pre-tax basis. Of those charges, $94
million was applied against earnings for the quarter ended June 30, 1998 and $16
million against the quarter ended March 31, 1998, which has been restated. The
charges related to increased accounts receivable reserves ($20 million),
increased lease default reserves ($28 million), an asset impairment in a
technology service company involved in high-end software development ($20
million), adjustments related to a breakdown in internal controls at four
operating units ($19 million third quarter, $16 million second quarter) and
adjustments at other operating units ($7 million).
The Company has restated earnings for the quarter ended March 31, 1998
to reflect the $16 million charge ($9 million net of income taxes). Restated net
income for the quarter ended March 31, 1998 is $30.3 million ($.19 per share)
compared to previously reported net income of $39.3 million ($.25 per share).
Item 2: Management's Discussion and Analysis of Results of Operations and
Financial Condition and Liquidity
IKON sells, rents and leases photocopiers, digital printers and other
automated office equipment for use in both traditional and integrated office
environments. IKON also provides outsourcing and imaging services and offers
consulting, design, computer networking and technology training for the
networked office environment.
Results of Operations
The discussion of the results of operations reviews the continuing
operations of the Company as reported in the Consolidated Statements of Income.
Three and Nine Months Ended June 30, 1998
Compared with the Three and Nine Months Ended June 30, 1997
Results of operations for the third quarter and year-to-date of fiscal
1998 compared to the third quarter and year-to-date of fiscal 1997 were as
follows:
Three Months Ended Nine Months Ended
June 30 % June 30 %
1998 1997 Change 1998 1997 Change
(in millions)
REVENUES $1,395 $1,316 6.0% $4,201 $3,735 12.5%
====== ====== ====== ======
INCOME (LOSS) BEFORE TAXES:
Operating income (loss), excluding
transformation costs ($74.3) $87.7 $114.7 $286.3 (59.9%)
Transformation costs (16.5) (23.0) (54.3) (98.5)
----- ----- ----- -----
Operating income (loss) (90.8) 64.7 60.4 187.8
Interest expense (17.7) (12.1) (50.9) (31.9)
----- ----- ----- -----
($108.5) $52.6 $9.5 $155.9 (93.9%)
====== ====== ====== ======
THIRD QUARTER:
The Company's third quarter revenues increased $79 million, or 6.0%
over the third quarter of fiscal 1997. Net sales, which includes equipment
revenue, increased $7 million or .9%. Equipment revenues have been impacted by
increasing competition, which is driving sales prices down, although the Company
continues to maintain its market share. As a result of the recent acceleration
of the shift from black and white analog product to digital product, prices are
falling for black and white analog sales. Service and rental revenue increased
$52 million or 9.7%. This increase resulted from increases in equipment service
revenue, outsourcing and systems integration consulting. Finance income
increased $19 million, or 32.7% due to the growth in the lease portfolio.
Revenues from the Company's operations outside the U.S. were $181
million for the third quarter of fiscal 1998 compared to $169 million for the
same period of the prior fiscal year. The Company's European operations
accounted for $4 million of the increase, while Canadian revenues increased $6
million and other foreign operations revenue increased $2 million in the third
quarter of fiscal 1998 compared to the third quarter of fiscal 1997.
The Company's operating income decreased by $155.5 million compared to
the prior year's quarter. Excluding transformation costs, operating income
decreased $162.0 million to a $74.3 million loss for the third quarter of fiscal
1998 compared to $87.7 million of income in the prior year. The Company
completed an in-depth review of its operations during August 1998 and determined
that it was necessary and appropriate to take charges to earnings totaling $110
million on a pre-tax basis. $94 million of those charges were applied against
third quarter 1998 earnings and $16 million against second quarter earnings,
which have been restated. These adjustments relate 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 is 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 relates primarily to certain business units which are
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 service company involved in high-end software
development, 3) $19 million of third quarter adjustments related to the
breakdown in the execution of internal controls at four operating units (these
breakdowns also caused the $16 million charge in the second quarter), and 4) $7
million of adjustments at other operating units. Excluding the third quarter
charges, pre-transformation operating income would have been $19.8 million,
which is substantially below the prior year's pre-transformation third quarter
operating income of $87.7 million. This decrease relates primarily to gross
margin declines in equipment sales due to increasing competition in the
high-end, black and white and new digital products. Gross margins in the third
quarter of fiscal 1998 were 38.2%, 40.3% exclusive of unusual charges, compared
to 42.7% in the prior year. Gross margins are lower this quarter than the
previous quarter due to competitive pricing in equipment sales and because the
lower margin outsourcing and technology services business have become a larger
part of the revenue mix. The Company expects this trend to continue as gross
margins continue to be impacted by these factors. Selling and administrative
expense as a percent of revenue was 42.1% in the third quarter of fiscal 1998
compared to 36.0% in the third quarter of fiscal 1997. Adjusted for unusual
charges, selling and administrative expense to revenue would have been 38.9%,
which is still an increase over the third quarter of fiscal 1997. The Company
intends to reduce the selling and administrative expense to revenue relationship
by focusing on increased sales productivity and implementation of an expense
reduction program.
Costs associated with the Company's transformation program decreased $7
million in the third quarter of fiscal 1998 compared to the third quarter of
fiscal 1997. Severance and other employee costs decreased $4 million and
facility consolidation costs decreased $3 million in the third quarter of fiscal
1998 compared to the third quarter of fiscal 1997.
Operating income from foreign operations was $7.2 million for the third
quarter of fiscal 1998, excluding the effects of the unusual charges, down $5.6
million from $12.8 million for the third quarter of fiscal 1997. European
operations decreased by $.3 million in the third quarter, while Canadian
operating income decreased $6.7 million. Other foreign operations increased $1.4
million in the third quarter of fiscal 1998. There was no material effect of
foreign currency exchange rate fluctuations on the results of operations in the
second quarter of fiscal 1998 compared to the second quarter of fiscal 1997.
NINE MONTHS:
The Company's revenues for the nine months ended June 30, 1998
increased $466 million, or 12.5% over the first nine months of fiscal 1997. This
increase consists of increased net sales of $170 million, or 8.2%, increased
service and rental revenue of $232 million, or 15.4% and increased finance
income of $64 million, or 39.7%.
Revenues from the Company's operations outside the U.S. were $548
million for the first nine months of fiscal 1998 compared to $483 million for
the same period of the prior fiscal year. The Company's European operations
accounted for $35 million of the increase, while Canadian revenues increased $24
million and other foreign operations revenue increased $6 million in the first
nine months of fiscal 1998 compared to the first nine months of fiscal 1997.
For the nine months ended June 30, 1998, the Company's operating income
decreased by $127.4 million compared to the prior year. Excluding transformation
costs, operating income decreased $171.6 million to $114.7 million for the first
nine months of fiscal 1998 compared to $286.3 million in the prior year. As
noted above, the Company took charges to earnings of $110 million on a pre-tax
basis in fiscal 1998. Excluding these charges, pre-transformation operating
income would have been $226.4 million, which is a decrease from the prior year
of 20.9%. The year to date operating income has been impacted by the third
quarter issues discussed above.
Costs associated with the Company's transformation program decreased
approximately $44 million in the first nine months of fiscal 1998 compared to
the first nine months of fiscal 1997. The first nine months of fiscal 1997
transformation costs included the write-off of cost related to the abandoned SAP
computer pilot program of $23 million and costs incurred to adopt the IKON name
worldwide of $10 million. Other technology conversion costs, severance and other
employee costs and facility consolidation costs decreased a net $11 million in
the first nine months of fiscal 1998 compared to the same period in the prior
year.
Operating income from foreign operations was $30.6 million for the nine
months ended June 30, 1998, excluding the effects of the unusual charges, down
$4.4 million from the prior year's nine month period. European operations
increased by $4.9 million in the first nine months, while Canadian operating
income decreased $12.7 million and other foreign operations increased $3.4
million in the first nine months of fiscal 1998. There was no material effect of
foreign currency exchange rate fluctuations on the results of operations in the
first nine months of fiscal 1998 compared to the first nine months of fiscal
1997.
Acquisitions
In the third quarter of fiscal 1998, the Company completed 4
acquisitions, bringing total year-to-date acquisitions to 31. Of the 31
companies acquired this fiscal year, nine were outsourcing and imaging
companies, ten were systems integration companies and 12 were traditional copier
companies. Acquisition activity has been put on hold for six to nine months in
North America as management concentrates on improving operations.
Other
Interest expense increased $5.6 million in the third quarter of fiscal
1998 and $19.1 million year-to-date. The increased expense is due to higher debt
levels from investment in working capital, acquisitions and the share repurchase
program which began in the third quarter of fiscal 1997.
Income before taxes decreased by $161.1 million in the third quarter
and $146.4 million year-to-date over the prior year, 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 the
third quarter and nine months ended June 30, 1998. Tax expense for the first
nine months of fiscal 1998 was $31.0 million on income before taxes of $9.5
million. The unusual effective tax rate of 325% is the result of the impact of
non-tax deductible items (primarily goodwill amortization and loss from asset
impairment) in relation to lower income before taxes.
The Company used the proceeds of a December 2, 1996 intercompany debt
repayment of $553.5 million from its discontinued operation, Unisource, to
prepay $514 million of corporate debt. The Company recorded an extraordinary
charge of $12.2 million after tax ($18.7 million pretax) in the first quarter of
fiscal 1997 primarily for prepayment penalties relating to its early
extinguishment of certain corporate debt.
Earnings per common share, assuming dilution, decreased from $.19 per
share for the third quarter of fiscal 1997 to a loss per share of $.69 for the
third quarter of fiscal 1998. Excluding transformation costs, earnings per
common share, assuming dilution, decreased from $.30 per share for the third
quarter of fiscal 1997 to a loss per share of $.61 in the third quarter of
fiscal 1998. Year-to-date, earnings per share from continuing operations,
assuming dilution, decreased from $.56 per share for the first nine months of
fiscal 1997 to a loss per share of $.27 for the first nine months of fiscal
1998. Excluding transformation costs, year-to-date earnings per share from
continuing operations, assuming dilution, decreased from $1.03 per share for the
first nine months of fiscal 1997 to a loss per share of $.01 in the first nine
months of fiscal 1998. Including income from discontinued operations and the
extraordinary loss on the extinguishment of debt, year-to-date earnings per
share, assuming dilution, of the Company were $.62 for the first nine months of
fiscal 1997.
Financial Condition and Liquidity
Net cash provided by operating activities for the first nine months of
fiscal 1998 was $159 million. During the same period, the Company used $724
million in cash for investing activities, which included net finance subsidiary
activity of $531 million, acquisition activity at a cash cost of $41 million and
capital expenditures for property and equipment of $91 million and capital
expenditures for equipment on operating leases of $69 million. Cash provided by
financing activities includes $69 million net increase in corporate debt and
$334 million increase in finance subsidiaries debt. Debt, excluding finance
subsidiaries, was $880 million at June 30, 1998, an increase of $62 million from
the debt balance at September 30, 1997 of $818 million. The debt to capital
ratio, excluding finance subsidiaries, was 37.2% at June 30, 1998 compared to
35.6% at September 30, 1997. The Company has established goals to reduce working
capital and related debt levels.
On January 16, 1998, the Company amended its December 16, 1996 credit
agreement to increase the borrowing limit from $400 million to $600 million. As
of June 30, 1998, short-term borrowings supported by the agreement totaled $78
million. In October 1997, the Company completed a $250 million two tranche
underwritten public offering consisting of $125 million 6.75% notes due November
1, 2004 and $125 million 7.3% notes due November 1, 2027. The 6.75% notes were
sold at a discount to yield 6.794% and carry a make-whole call provision with a
five basis-points premium. The 7.3% notes were also sold at a discount to yield
7.344% and carry a make-whole call provision with a 15 basis-points premium. The
proceeds of the offering were used to repay short-term borrowings. The Company
also has $700 million available for either stock or debt offerings under its
shelf registration statement.
Finance subsidiaries debt grew by $333.8 million from September 30,
1997, a result of increased leasing activity. During the nine months ended June
30, 1998, the U.S. finance subsidiary issued an additional $132.5 million under
its medium term notes program, net of repayments. At June 30, 1998, $1.7 billion
of medium term notes were outstanding with a weighted interest rate of 6.5%,
while $1.3 billion remains available under this program. Under its $275 million
asset securitization programs, the U.S. finance subsidiary sold $78.8 million in
direct financing leases during the first nine months of fiscal 1998, replacing
those leases liquidated and leaving the amount of contracts sold unchanged. On
April 30, 1998, the Company entered into a CN$175 million asset securitization
agreement for direct financing lease receivables of its Canadian finance
subsidiary. CN$98.2 million (approximately $83.3 million) of direct financing
leases were sold under this agreement through June 30, 1998.
The Company filed shelf registrations for 10 million shares of common
stock in April 1997 and 5 million shares of common stock in March 1996. Shares
issued under these registration statements are being used for acquisitions.
Approximately 5.6 million shares have been issued under these shelf
registrations through June 30, 1998, leaving 9.4 million shares available for
issuance.
On April 17, 1997, the Company announced that it may repurchase from
time to time as much as five percent of the outstanding IKON common stock in
open market transactions. Through fiscal 1997, the Company repurchased 4.4
million common shares for $109.7 million. An additional 150,000 shares were
repurchased under this program during the third quarter of fiscal 1998 for $3.3
million.
On August 14, 1998, Standard and Poor's lowered its credit ratings one
level on the Company and IOS Capital, Inc. to "BBB+" from "A-" and Moody's
Investor Service lowered its credit ratings one level on the Company and IOS
Capital, Inc. from "A3" to "Baa1".
The Company believes that its 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, stock repurchases and costs associated with the
Company's transformation program. For the remainder of the fiscal year, the
Company expects to incur $20 million to $30 million of expense to substantially
complete its transformation initiatives.
Forward-Looking Information
This document contains, and other materials filed or to be filed by the
Company with the Commission which are incorporated by reference herein, as well
as information included in oral statements or other written statements made or
to be made by the Company, contain or will contain or include, disclosures which
are forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the 1934 Exchange Act.
Such forward-looking statements address, among other things, strategic
initiatives (including plans for enhancing the Company's business through new
acquisitions, information technology systems, sales strategies, market growth
plans, margin enhancement initiatives, capital expenditures and financing
sources). Such forward-looking information is based upon management's current
plans or expectations and is subject to a number of uncertainties and risks that
could significantly affect current plans, anticipated actions and the Company's
future financial condition and results. These uncertainties and risks include,
but are not limited to, those relating to risks and uncertainties relating to
conducting operations in a competitive environment; delays, difficulties,
technological changes, management transitions and employment issues associated
with consolidation of business operations; managing a program to acquire and
integrate new companies, including companies with technical services and
products that are relatively new to the Company, and also including companies
outside the U.S., which present additional risks relating to international
operations; debt service requirements (including sensitivity to fluctuations in
interest rates); and general economic conditions. As a consequence, current
plans, anticipated actions and future financial condition and results may differ
from those expressed in any forward-looking statements made by or on behalf of
the Company.
PART II. OTHER INFORMATION
Item 5. Other Information
TIMELY SUBMISSION OF STOCKHOLDER PROPOSALS
The Securities and Exchange Commission ("SEC") requires a
registrant to give stockholders notice of deadlines for timely submission of
certain types of stockholder proposals that stockholders wish to present for a
vote at a registrant's annual meeting. These deadlines are set based on certain
SEC rules as they relate to the registrant's annual meeting and proxy statement
mailing dates and relevant provisions of its charter and by-laws. Set forth
below are the deadlines applicable to Company stockholders. The Company's Board
has not yet acted to set a 1999 annual meeting date; the following dates are
based on an assumed meeting date of February 4, 1999 and an assumed proxy
statement mailing date of December 24, 1998 for the Company's 1999 Annual
Meeting.
Stockholder proposals submitted outside the process of Rule
14a-8 under the Securities Exchange Act of 1934, as amended, must be received by
November 10, 1998, or they will be considered untimely.
In the event a stockholder does not timely notify the Company
concerning stockholder proposals, the Company will have the right to exercise
its discretionary authority (through the right conferred upon its proxies) to
vote against such stockholder proposal.
Item 6. Exhibits and Reports on Form 8-K
(a) The following Exhibits are furnished pursuant to Item 601 of
Regulation S-K:
Exhibit No. (27) Financial Data Schedule
Exhibit No. (99) Press Release Dated August 14, 1998
(b) Reports on Form 8-K
On April 27, 1998, the registrant filed a Current Report on Form
8-K to file, under Item 5 of the form, its press release dated
April 22, 1998 which reported earnings for the fiscal quarter ended
March 31, 1998, provided earnings estimates for the remainder of
IKON's 1998 fiscal year and provided additional information
regarding its business, acquisitions and transformation process.
On June 29, 1998, the registrant filed a Current Report on Form 8-K
to file, under Item 5 of the form, its press release dated June 29,
1998, indicating that IKON anticipates earnings will be
significantly lower than the First Call consensus estimate of $.34
per share for the quarter ending June 30, 1998 and that IKON
expects to release third quarter earnings on July 22, 1998.
On July 10, 1998, the registrant filed a Current Report on Form 8-K
to file, under Item 5 of the form, its press release dated July 9,
1998 announcing the appointment of James J. Forese as IKON's
President, Chief Executive Officer and a member of the Board of
Directors. IKON also announced that Richard A. Jalkut, who has been
a director of IKON since 1996, has been appointed non-executive
Chairman. John E. Stuart, who had served as IKON's Chairman,
President and Chief Executive Officer, has resigned his positions
with IKON.
On August 5, 1998, the registrant filed a Current Report on Form
8-K to file, under Item 5 of the form, its press release dated
August 4, 1998, stating that IKON is in the process of conducting
the full review of operations previously announced and that IKON's
third quarter results will be announced on August 14, 1998.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized. This report has also been signed by the
undersigned in his capacity as the chief accounting officer of the Registrant.
IKON OFFICE SOLUTIONS, INC.
Date August 14, 1998 /s/ Michael J. Dillon
-------------------------- ---------------------
Michael J. Dillon
Vice President and Controller
(Chief Accounting Officer)
INDEX TO EXHIBITS
Exhibit Number
(27) Financial Data Schedule
(99) Press Release dated August 14, 1998