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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Form 10-K
(Mark One)
|x| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2003
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 1-6352
John H. Harland Company
(Exact name of registrant as specified in its charter)
Georgia 58-0278260
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2939 Miller Road, Decatur, Georgia 30035
(Address of principal executive offices) (Zip Code)
(770) 981-9460
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------------- -----------------------------------------
Common Stock $1 par value New York Stock Exchange
Share Purchase Rights New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.| |
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes X No
The aggregate market value of the voting stock held by non-affiliates of the
Registrant as of the close of business on June 27, 2003 was $833,480,457.
The number of shares of the Registrant's Common Stock outstanding on March 3,
2004 was 27,707,350.
A portion of the Registrant's Proxy Statement for its 2004 Annual Meeting of
Shareholders is incorporated by reference in Part III hereof.
John H. Harland Company and Subsidiaries
Index to Annual Report on Form 10-K
Page
Part I
Item 1: Business 3
Item 2: Properties 8
Item 3: Legal Proceedings 9
Item 4: Submission of Matters to a Vote of Security Holders 9
Item 4A: Executive Officers of the Registrant 9
Part II
Item 5: Market for the Registrant's Common Equity and
Related Stockholder Matters 9
Item 6: Selected Financial Data 10
Item 7: Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
Item 7A: Quantitative And Qualitative Disclosures About
Market Risk 10
Item 8: Financial Statements and Supplementary Data 10
Item 9: Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure 10
Item 9A: Controls and Procedures 10
PART III
Item 10: Directors and Executive Officers of the Registrant 10
Item 11: Executive Compensation 11
Item 12: Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters 11
Item 13: Certain Relationships and Related Transactions 11
Item 14: Principal Accountant Fees and Services 12
PART IV
Item 15: Exhibits, Financial Statement Schedule and
Reports on Form 8-K 12
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PART I
ITEM 1. BUSINESS
General
John H. Harland Company (the "Company") is a Georgia corporation
incorporated in 1923. The Company is a leading provider of printed products and
software sold to financial institutions, including banks, credit unions,
brokerage houses and financial software companies. The Company's subsidiary,
Scantron Corporation ("Scantron"), is a leading provider of data collection,
testing and assessment products and maintenance services sold primarily to the
educational, financial institution and commercial markets.
The Company serves its major markets through three primary business
segments: Printed Products, Software and Services and Scantron. Each of these
three segments is described below. Reference is made to Note 14 of the Notes to
Consolidated Financial Statements in this Annual Report on Form 10-K with
respect to information concerning the Company's business segments, including
segment sales for each of the last three fiscal years.
Recent Developments
In 2003, the Company completed the acquisition of Premier Systems Inc.
("PSI"), a provider of core processing solutions for credit unions. PSI provided
these solutions through a service bureau model, which the Company believes
strengthens its position in the credit union market.
In the third quarter of 2003, the Company announced a reorganization of
its Printed Products division. The reorganization will include plant
consolidation and reduction of selling, general and administrative expenses. The
Company expects the reorganization to be completed in 2004.
The Company's three business segments introduced a number of new
products and services in 2003. The Company believes these new products and
services will help strengthen its relationships with customers and its position
in the marketplace. These new products are described below.
Printed Products
The Printed Products segment ("Printed Products") includes the
Company's checks operations, as well as its direct marketing and analytical
services businesses and computer checks and forms business. Segment sales of
$498.3 million accounted for 63% of the Company's consolidated sales in 2003.
Printed Products' traditional products are checks and forms, including
personal and business checks and computer checks, as well as internal bank
forms. Printed Products also produces a variety of financial documents in
conjunction with personal or small business financial software packages. The
analytical services business sells behavioral model services to financial
institutions, enabling them to, among other things, identify their customers
most at risk of switching financial institutions, as well as a consumer's
propensity to purchase a financial product and the financial product a consumer
is most likely to purchase next.
Printed Products has two primary competitors in the sale of checks to
financial institutions. They are national financial printers that specialize in
check printing, one of which has substantially greater sales and financial
resources than the Company. The Company believes that the competitive factors
influencing buying decisions within the Printed Products segment include pricing
(which in certain circumstances may include significant upfront contract
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incentive payments), service, quality, and the ability to increase customer
operational efficiencies and profitability. The Company lost business with some
of its larger customers in 2002 and 2003, due primarily to competitive pricing,
resulting in lower volumes and profitability. There is no assurance that the
Company will not lose other significant customers or that any such losses could
be offset by the addition of new customers. Other competitive pressures on the
Printed Products segment include the continuing expansion of alternative payment
systems such as credit cards, debit cards and other forms of electronic commerce
or on-line payment systems.
Printed Products markets its products and services primarily in the
United States. Printed Products has five distinct sales forces. One focuses on
large national financial institutions, another sells primarily to community
banks and credit unions, a third to brokerage houses, the fourth sells direct
marketing and analytical services, while the fifth concentrates on financial
software companies and office supply superstores.
At the end of the third quarter of 2003, Printed Products announced a
reorganization that is expected to be completed in 2004. As part of the
reorganization, Printed Products will reduce the number of its domestic
production facilities from 14 to 9. Printed Products also has an imprint
facility in Puerto Rico. The Company has a 51% ownership in a check-printing
company in Mexico, which has one production facility.
In 2000, Printed Products began converting its imprint facilities from
offset printing to digital printing technology. The conversion of all domestic
imprint facilities, which cost approximately $45 million, was completed by the
end of 2002. As part of the reorganization discussed above, Printed Products
plans to convert its Puerto Rico and business check facilities to digital
technology.
The Company is investing in new systems and infrastructure for Printed
Products' customer service operations, which it believes will help Printed
Products improve service and functionality for its customers and increase
revenue per unit for Printed Products. As of December 31, 2003, approximately
$45 million has been expended on these initiatives, of which approximately $32
million was capitalized. The new systems are expected to cost approximately $60
to $65 million over the four-year period ending in 2004. Although development of
these systems will continue throughout 2004, the Company expects to delay
implementation of certain system functionality in the second half of 2004 in
order to evaluate controls and processes as required by Section 404 of the
Sarbanes-Oxley Act, thereby deferring certain expenditures into 2005.
Principal raw materials used by Printed Products include safety paper,
form paper and MICR bond paper. Printed Products purchases other material, such
as vinyl, inks, checkboards, packaging material and miscellaneous supplies from
a number of suppliers. The Company believes that adequate raw materials will be
available to support Printed Products' operations.
The Company believes that the loss of any one customer in the Printed
Products segment would not have a materially adverse effect on the Company's
consolidated operations.
-4-
Software and Services
Software and Services' operations are conducted through Harland
Financial Solutions, Inc. ("HFS"), a wholly owned subsidiary of the Company, and
are composed of two primary business groups: Retail and Lending Solutions and
Core Systems. HFS sells a variety of products and services that are designed to
help its customers strengthen profitable relationships with their customers.
These products and services include lending and mortgage origination and
servicing applications, business intelligence solutions, customer relationship
management ("CRM") software, branch automation solutions and core processing
systems. Segment sales in 2003 were $176.8 million, which accounted for 23% of
the Company's consolidated sales.
Retail and Lending Solutions includes the Company's Delivery Systems,
Mortgage Solutions and Retail Solutions businesses. Delivery Systems sells loan
and deposit origination and compliance software to the financial institution
market. The Company believes Delivery Systems sells the most complete product
suite in the industry, including solutions for lending, account opening, sales
management and loan underwriting. Competition within this market varies by
financial institution size, but the Company believes Delivery Systems is a
market leader.
Mortgage Solutions provides mortgage loan origination, production and
servicing solutions. Like Delivery Systems, Mortgage Solutions is largely a
compliance business. The Company believes HFS has a leadership position in this
market segment. A new product, E3, which is a web-based platform solution for
loan production, is expected to be launched at the end of the first quarter of
2004.
Retail Solutions helps financial institutions increase the
profitability of customer relationships through CRM software and branch
automation software.
Retail Solutions' CRM software, Touche(R), is a complete
enterprise-wide solution that allows financial institutions to manage all
aspects of the customer relationship. The Company believes it is one of the most
complete CRM solutions designed specifically for financial institutions. The
Touche Analyzer(TM) module provides tools to create marketing campaigns, segment
customers by demographic criteria, determine customer and product profitability,
and provide research, reporting and campaign management. Touche Sales &
Service(TM) handles all customer contacts, sales and referral activities, as
well as problem resolution and service requests. Touche Messenger(TM) is the
interaction management component responsible for fully automated, multi-channel,
one-to-one campaign management to customers at every point of contact.
Retail Solutions' branch automation offerings include ENCORE!(R) and
EZTeller(R). These systems enhance the customer experience through tightly
integrated teller, platform and call center tools designed for banks of all
sizes.
Core Systems sells host processing application software to both credit
unions and banks. Its products centralize customer information and facilitate
high speed and reliable processing of transactions from every delivery channel.
HFS has integrated its core processing solution for credit unions, the
ULTRADATA(R) System, and its core processing solution for banks, the SPARAK(R)
System, with 12 other Harland products and services and believes that this is an
example of how HFS can differentiate itself in the market. The acquisition of
PSI expanded HFS' core processing solutions for credit unions to include the
delivery of the ULTRADATA System as a service bureau delivery option.
HFS backlog, which consists primarily of contracted products and
services prior to delivery, was $101.6 million and $43.9 million for the years
ended December 31, 2003 and 2002 respectively. The Company expects to deliver
-5-
approximately 49% of the 2003 backlog within the next twelve months. Due to the
long-term nature of certain service contracts, primarily in the Core Systems
service bureau business, the balance of the 2003 backlog will be delivered
beyond the next twelve months. Substantially all of the 2002 backlog was filled
in 2003.
The market for providing technological solutions to financial
institutions is highly competitive and fragmented. The Company believes there is
one other company that competes with all HFS business units, and there are two
other competitors whose product offerings compete with product offerings of
several, but not all, of HFS' business units. There are also other competitors
that offer one or more specialized products or services that compete with the
Software and Services segment. The Company believes that competitive factors
influencing buying decisions for HFS product offerings include product features
and functionality, customer support, price and vendor financial stability.
The Company believes that the loss of any one customer in the Software
and Services segment would not have a materially adverse effect on the Company's
consolidated operations.
Scantron
Scantron was founded in 1972 and acquired by the Company in 1988.
Scantron is a leading provider of data collection, testing and assessment and
field maintenance services. Its products and services include scannable forms,
scanning equipment, imaging software, survey services and curriculum
development, testing and assessment tools. Field maintenance services include
installation, maintenance and repairs for computers and related equipment, as
well as Scantron optical mark recognition equipment. Segment sales for 2003 were
$113.2 million, which accounted for 14% of the Company's consolidated sales.
Scantron has a solid leadership position in the in-classroom testing
and assessment market, where more than 90% of all high schools and 80% of all
colleges and universities use at least one Scantron product. In addition to the
traditional Scantron system, which consists of a scanner, forms and software,
Scantron has introduced new products for the education market including
Classroom Wizard(TM) in 2002, which the Company believes is the first real-time
testing solution for the in-classroom education market. It allows students to
take tests using handheld devices that provide instantaneous feedback to both
the student and teacher. Other new products are Performance Series(TM), which
enables educators to assess a student's grade-level proficiency in a number of
subjects and Curriculum Designer(TM), which allows educators to develop
comprehensive education plans aligned to state and national education standards.
These two products were obtained through acquisition in 2002.
Scantron also provides a total solution for customers' forms-based
transactions, including printing, distributing, processing and electronic
archiving.
Scantron's markets are diverse and competitive. In addition to the
education market, Scantron markets its products to the commercial and financial
institution markets. The Company believes Scantron is the second-largest
provider of data collection systems to commercial and educational markets in the
United States. The Company believes that factors influencing the buying
decisions within the Scantron segment include pricing, service, quality, product
offerings and the ability to customize programs.
There is a seasonal nature to Scantron's business in the educational
market, but it does not significantly affect the Company's consolidated results.
-6-
The Company believes that the loss of any one Scantron customer would
not have a materially adverse effect on the Company's consolidated operations.
Patents and Trademarks
The Company has patents on several products and processes and
trademarks on several of its products and services. While the Company believes
these patents and trademarks to be of value, it does not consider any of them to
be critical to its operations.
Foreign Sales
The Company conducts business in Mexico and Canada. Sales outside the
United States totaled $9.2 million, $10.0 million and $12.2 million for the
years ended December 31, 2003, 2002 and 2001, respectively.
Research and Development
The Company's research and development costs are primarily costs
incurred related to the development of software and the enhancement of existing
software products. Software development costs incurred prior to the
establishment of technological feasibility are expensed as incurred. Software
development costs incurred after the technological feasibility of the subject
software product has been established are capitalized. The Company incurred
expenses totaling $22.6 million, $14.5 million and $15.0 million in 2003, 2002
and 2001, respectively, for research and development activities.
Government Regulation
The Company is subject to the Gramm-Leach-Bliley Act and certain of its
implementing regulations (the "GLB Act"). Under the GLB Act, financial
institutions and their service providers are responsible for developing,
implementing and maintaining reasonable administrative, technical and physical
safeguards to protect the security, confidentiality and integrity of non-public
personal information regarding financial institution customers. The Company
believes it is in compliance with the GLB Act.
Employees
As of December 31, 2003, the Company and its subsidiaries employed
approximately 4,900 people.
Availability of Reports
The Company makes available free of charge through its website,
www.harland.com, its annual report on Form 10-K, quarterly reports on Form 10-Q
and current reports on Form 8-K and amendments to those reports filed pursuant
to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as
soon as reasonably practicable after the Company files such material with, or
furnishes it to, the SEC.
The Company's Corporate Governance Principles and Practices, Audit
Committee Charter, Governance Committee Charter and its Code of Business Conduct
and Ethics are also available on its website and are available in print to any
shareholder upon request. Requests for copies of any of these documents should
be directed in writing to Investor Relations, John H. Harland Company, P.O. Box
105250, Atlanta, Georgia 30348, or by telephone to (770) 593-5128.
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ITEM 2. PROPERTIES
As of December 31, 2003, the Company and its subsidiaries owned and
leased facilities throughout the United States and in Canada, Puerto Rico and
Mexico. The following table provides a description of the Company's principal
facilities:
Location Owned or Leased Function
- ----------------------------------------------------------------------------------
Printed Products:
Atlanta, GA Owned Corporate headquarters,
administration and sales and
marketing
Atlanta, GA Owned Information technology
Atlanta, GA Owned Operations support
Atlanta, GA Owned Production and distribution
Atlanta, GA Leased Customer service center
Bolingbrook, IL Leased Production and distribution
Clearwater, FL Owned Production and distribution
Columbia, SC Owned Production and distribution
Conyers, GA Leased Production and distribution
Edgewood, MD Leased Direct marketing services
Glen Burnie, MD Leased Production and distribution
Grapevine, TX Leased Production and distribution
Greensboro, NC Owned Production and distribution
Hato Rey, Puerto Rico Leased Production, distribution
and sales
Lakewood, CO Owned Production and distribution
Mexico City, Mexico Leased Production and distribution
Milton, WA Leased Production and distribution
Salt Lake, UT Owned Production, distribution and
customer service center
San Diego, CA Owned Production and distribution
Software & Services:
Atlanta, GA Leased Development and support
Bellevue, WA Leased Development and support
Bothell, WA Leased Development and support
Carrollton, TX Leased Development and support
Dayton, OH Leased Development and support
Denver, CO Leased Development and support
Des Moines, IA Leased Service bureau
Eagan, MN Leased Development and support
Englewood Cliffs, NJ Leased Development and support
Fargo, ND Leased Development and support
Jonesboro, AR Leased Development and support
Lake Mary, FL Leased Administration, development
and support
Orlando, FL Leased Development and support
Pleasanton, CA Leased Development and support
Portland, OR Leased Development and support
Vienna, VA Leased Development and support
Scantron:
Irvine, CA Leased Administration, production,
development and support
Omaha, NE Owned Field services, administration
and support
San Diego, CA Leased Development and support
Toronto, Ontario Leased Support
The Company's leases on the properties it does not own have expiration dates
ranging from 2005 to 2013.
-8-
ITEM 3. LEGAL PROCEEDINGS
In the ordinary course of business, the Company is subject to various
legal proceedings and claims. The Company believes that the ultimate outcome of
these matters will not have a material effect on its financial statements.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth information with respect to all
executive officers of the Company.
Name Age Office Held
Timothy C. Tuff 56 Chairman, President and Chief Executive
Officer
Arlene S. Bates 52 Senior Vice President - Human Resources
Charles B. Carden 59 Senior Vice President and Chief Financial
Officer
John T. Heald, Jr. 58 President, Harland Printed Products
John C. Walters 63 Senior Vice President, Secretary and
General Counsel
Mr. Tuff joined the Company as President and Chief Executive Officer in
1998 and was named Chairman in 2000. For the prior five years, he served as
President and Chief Executive Officer of Boral Industries, Inc., managing the
North American and European operations of Australian-based Boral, Ltd., a world
leader in building and construction materials.
Ms. Bates has been employed by the Company since 1980 and has served as
Vice President of Human Resources since 1993 and was named Senior Vice President
in 2003.
Mr. Carden joined the Company in 1999 as Vice President and Chief
Financial Officer. Mr. Carden was named Senior Vice President and Chief
Financial Officer in 2003. He previously served as Executive Vice President and
Chief Financial Officer of Mariner Post-Acute Network, a health care provider,
since 1996.
Mr. Heald joined the Company in December 2002 from Baldwin Technology
Company where he served as Chief Executive Officer for the manufacturer of
controls and accessories for the printing industry since 2001. Previously, he
served as Executive Vice President - Operations of Sappi Fine Paper NA, a
leading producer of coated fine paper for two years. He was previously employed
by Union Camp Corporation, a worldwide producer of paper and packaging products,
for 22 years, last serving as Executive Vice President - Packaging Operations.
Mr. Walters joined the Company in 1996 as Senior Vice President and
General Counsel and was named Secretary in 1999.
Mr. Tuff also serves on the Board of Directors. Officers are elected
annually and serve at the pleasure of the Board.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Company's common stock is listed on the New York Stock Exchange
under the symbol "JH." As of March 3, 2004, the Company had 3,223 shareholders
of record. See the information with respect to quarterly market information and
dividend information for the Company's common stock, which is set forth on page
-9-
F48. The Company has an established policy of making quarterly dividend payments
to shareholders. The Company expects to pay future cash dividends depending upon
the Company's pattern of growth, profitability, financial condition and other
factors which the Board of Directors may deem appropriate.
ITEM 6. SELECTED FINANCIAL DATA
See the information with respect to selected financial data on page
F48.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
See the information under the caption Management's Discussion and
Analysis of Results of Operations and Financial Condition on pages F2 through
F16.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See the information with respect to Quantitative And Qualitative
Disclosures About Market Risk on page F16 under the caption Interest Rate Risk.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See the information with respect to Financial Statements and
Supplementary Data on pages F17 through F48.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
ITEM 9A. CONTROLS AND PROCEDURES
The Company's disclosure controls and procedures are designed to ensure
that information required to be disclosed in the reports that the Company files
or submits under the Securities Exchange Act of 1934 is recorded, processed,
summarized and reported, within the time periods specified in the SEC's rules
and forms. Disclosure controls and procedures include, without limitation,
controls and procedures designed to ensure that such information is accumulated
and communicated to management, including the Chief Executive Officer and Chief
Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure.
As of the end of the period covered by this report, the Company
evaluated, under the supervision and with the participation of management,
including the Chief Executive Officer and Chief Financial Officer, the
effectiveness of the design and operation of the Company's disclosure controls
and procedures, pursuant to Exchange Act Rule 13a-14 and Rule 13a-15. Based upon
that evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective.
There have been no significant changes in the Company's internal controls during
the period covered by this report that have materially affected, or are
reasonably likely to materially affect, the Company's internal control over
financial reporting.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information regarding Directors required herein is incorporated by
reference to the information under the captions "Election of Directors" and
"Section 16(a) Beneficial Ownership Reporting Compliance" in the Registrant's
Proxy Statement for the 2004 Annual Meeting of Shareholders (the "Proxy
Statement").
-10-
The information regarding Executive Officers required herein is
included in Part I of this Annual Report on Form 10-K and under the caption
"Section 16(a) Beneficial Ownership Reporting Compliance" in the Company's Proxy
Statement and incorporated herein by reference.
The Company has adopted a Code of Business Conduct and Ethics. A copy
of the Code of Business Conduct and Ethics is attached to this Annual Report on
Form 10-K as Exhibit 14.
ITEM 11. EXECUTIVE COMPENSATION
The information regarding executive compensation required herein is
incorporated by reference to the information under the caption "Executive
Compensation and Other Information" in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
AND RELATED STOCKHOLDER MATTERS
The following table presents information regarding securities
authorized for issuance under equity compensation plans as of December 31, 2003:
Equity Compensation Plan Information
Number of
securities
Number remaining
of available for
securities Weighted- future issuance
to be average under equity
issued upon exercise compensation
exercise of price of plans
outstanding outstanding (excluding
options, options, securities
warrants warrants reflected in
and rights and rights column (a))
Plan Category (a) (b) (c)
- ---------------------------------------------------------------------------
Equity compensation plans
approved by security holders 1,838,200 $20.54 1,204,537
Equity compensation plans
not approved by security
holders(1) 2,017,725(2) 20.47 372,789
- ---------------------------------------------------------------------------
Total 3,855,925(2) $20.50 1,577,326
===========================================================================
(1) Equity compensation plans not approved by security holders include the
Company's 2000 Stock Option Plan and the Compensation Plan for Non-Employee
Directors. See Note 9 to the Consolidated Financial Statements on page F37 for
descriptions of such plans.
(2) Does not include 129,845 unissued but allocated shares under the
Compensation Plan for Non-Employee Directors.
The other information regarding security ownership of certain
beneficial owners and management required herein is incorporated by reference to
the information under the caption "Stock Ownership of Directors and Executive
Officers and Certain Other Persons" in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Not applicable.
-11-
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information regarding principal accountant fees and services
required herein is incorporated by reference to the information under the
caption entitled "Fees Paid to Independent Auditors" in the Proxy Statement.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE, AND REPORTS ON FORM 8-K
Page in
this
Annual
Report
on Form
10-K
-------
(a)1. Financial Statements:
Consolidated Balance Sheets F17
Consolidated Statements of Income F19
Consolidated Statements of Cash Flows F20
Consolidated Statements of Shareholders' Equity F21
Notes to Consolidated Financial Statements F22
Independent Auditors' Report F46
Management's Responsibility for Financial Statements F47
Supplemental Financial Information (unaudited) F48
(a)2. Financial Statement Schedule:
Schedule II. Valuation and Qualifying Accounts S1
All other schedules have been omitted since the information required is either
in the financial statements or notes thereto or is not required.
(a)3. Exhibits
(Asterisk (*) indicates exhibit previously filed with the Securities
and Exchange Commission as indicated in parentheses and incorporated herein by
reference. Plus (+) indicates management contracts and compensatory arrangements
required to be filed pursuant to Item 15(c) of this annual report).
3.1 * Amended and Restated Articles of Incorporation (Exhibit B to
Registrant's Proxy Statement dated March 12, 1999).
3.2 * Bylaws, as amended through December 19, 2002 (Exhibit 3.2 to
the Registrant's Annual Report on Form 10-K ("10-K") for the
year ended December 31, 2002).
4.1 * Rights Agreement, dated as of December 17, 1998, between
Registrant and First Chicago Trust Company of New York
(Exhibit 4.1 to the 8-K dated July 1, 1999).
4.2 See Articles IV, V and VII of Registrant's Amended and
Restated Articles of Incorporation, filed as Exhibit 3.1, and
Articles I, V and VIII of Registrant's Bylaws, filed as
Exhibit 3.2.
10.1 * + Form of Noncompete and Termination Agreement between
Registrant and Arlene S. Bates, Charles B. Carden and John C.
Walters (Exhibit 10.1 to the 2002 10-K).
10.2 * + Employment Agreement, dated December 2, 2002, between
Registrant and John T. Heald, Jr. (Exhibit 10.2 to the 2002
10-K).
10.3 * + Noncompete and Termination Agreement, dated as of January
1, 2002, between Registrant and Timothy C. Tuff (Exhibit 10.3
to the 2001 10-K).
10.4 * + Form of Restricted Stock Agreement between Registrant and
Ms. Bates, Messrs. Carden, Heald and Walters (Exhibit 10.4 to
the 2000 10-K).
10.5 * + Restricted Stock Agreement dated April 24, 2002 between
Registrant and Mr. Tuff (Exhibit 10.6 to the 2002 10-K).
10.6 * + Supplemental Retirement Agreement, dated as of January 1,
2002, between Registrant and Mr. Tuff (Exhibit 10.7 to the
2001 10-K).
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10.7 * John H. Harland Company 1999 Stock Option Plan, as amended
(Exhibit 99.1 to the Registrant's Registration Statement on
Form S-8, dated January 14, 2000, File No. 333-94727).
10.8 * John H. Harland Company 2000 Stock Option Plan, as amended
(Exhibit 99.1 to the Registrant's Registration Statement on
Form S-8, dated November 29, 2000, File No. 333-70386).
10.9 * John H. Harland Company 2002 Stock Option Plan (Exhibit A to
the Registrant's Proxy Statement dated March 20, 2002).
10.10 John H. Harland Company Employee Stock Purchase Plan, as
amended through July 24, 2003.
10.11 * John H. Harland Company Compensation Plan for Non-Employee
Directors, as amended (Exhibit 10.12 to the 2001 10-K).
10.12 Amended and Restated Credit Agreement dated as of February 4,
2004 among Registrant and the Lenders named therein.
11.1 Computation of Per Share Earnings.+
14 Code of Business Conduct and Ethics.
21 Subsidiaries of the Registrant.
23 Consent of Deloitte & Touche, LLP.
31.1 Certification Pursuant to Rule 13a-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to Rule 13a-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K.
On November 3, 2003, the Registrant furnished to the Securities and
Exchange Commission a Report on Form 8-K dated October 29, 2003 including its
Press Release for the quarter ended September 26, 2003, as well as the
transcript of its conference call on October 30, 2003 discussing its third
quarter results.
- --------
+ Data required by SFAS No. 128, "Earnings Per Share," is provided in Note 1 to
the Consolidated Financial Statements included in this report. + Data required
by SFAS No. 128, "Earnings Per Share," is provided in Note 1 to the Consolidated
Financial Statements included in this report.
-13-
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
JOHN H. HARLAND COMPANY
/s/ J. Michael Riley 3/08/2004
- ------------------------ ---------
J. Michael Riley Date
Vice President and
Controller
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
/s/ William S. Antle III 3/8/2004 /s/ Charles B. Carden 3/8/2004
- --------------------- --------- ------------------------ ---------
William S. Antle III Date Charles B. Carden Date
Director Senior Vice President and
Chief Financial Officer
(Principal Financial Officer)
/s/ Robert J. Clanin 3/8/2004 /s/ John D. Johns 3/8/2004
- ------------------------ --------- ------------------------ ---------
Robert J. Clanin Date John D. Johns Date
Director Director
/s/ John J. McMahon, Jr. 3/3/2004
- ----------------------- --------- ------------------------ ---------
Richard K. Lochridge Date John J. McMahon, Jr. Date
Director Director
/s/ G. Harold Northrop 3/4/2004 /s/ Larry L. Prince 3/3/2004
- ----------------------- --------- ------------------------ ---------
G. Harold Northrop Date Larry L. Prince Date
Director Director
/s/ J. Michael Riley 3/8/2004 /s/ Eileen M. Rudden 3/8/2004
- ----------------------- --------- ------------------------ ---------
J. Michael Riley Date Eileen M. Rudden Date
Vice President and Director
Controller
(Principal Accounting Officer)
/s/ Jesse J. Spikes 3/8/2004 /s/ Timothy C. Tuff 3/8/2004
- ----------------------- --------- ------------------------ ---------
Jesse J. Spikes Date Timothy C. Tuff Date
Director Chairman, President and
Chief Executive Officer
(Principal Executive Officer)
-14-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
Index to Information For Inclusion
in the Annual Report on Form 10-K
for the year ended December 31, 2003
Management's Discussion and Analysis of
Results of Operations and Financial Condition F2
Consolidated Financial Statements
and Notes to Consolidated Financial Statements F17
Independent Auditors' Report F46
Management's Responsibility For Financial Statements F47
Supplemental Financial Information (Unaudited) F48
Financial Statement Schedule S1
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
John H. Harland Company (the "Company") operates its business in three
segments. The Printed Products segment ("Printed Products") includes checks,
direct marketing activities and analytical services marketed primarily to
financial institutions. The Software and Services segment ("Software &
Services") is focused on the financial institution market and includes core
processing applications and services for credit unions and community banks,
lending and mortgage origination applications, mortgage servicing applications,
branch automation applications and customer relationship management
applications. The Scantron segment ("Scantron") includes scanning equipment and
software, scannable forms, survey solutions, curriculum development, testing and
assessment tools, training and field maintenance services. Scantron sells these
products and services to the education, commercial and financial institution
markets.
Critical Accounting Policies
The Company has identified certain of its accounting policies as
critical to its business operations and the understanding of its results of
operations. These policies include revenue recognition, impairment of long-lived
assets, goodwill and other intangible assets, income taxes and stock-based
compensation.
The Company considers its revenue recognition policy as critical to its
reported results of operations primarily in its Software & Services and Scantron
segments. For software that is installed, customized and integrated by the
Company, revenue is recognized on a percentage-of-completion basis as the
services are performed. Estimates of efforts to complete a project are used in
the percentage-of-completion calculation. Due to the uncertainties inherent in
these estimates, actual results could differ from those estimates.
The Company reviews long-lived assets and certain intangible assets for
impairment when events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. In the third quarter of 2001 and in
the second quarter of 2002, the Company recorded charges of $7.8 million and
$0.3 million, respectively, before income taxes for write-downs of an equity
investment that was subsequently disposed of during the fourth quarter of 2002.
The Company makes estimates and assumptions regarding future cash flows
in its review of the carrying values of goodwill and other intangible assets to
assess recoverability. If these estimates and assumptions change in the future
(which may occur due to changes in the Company's business prospects, market
trends or other economic factors which would impact projected annual sales,
operating profit and cash flows), the Company may be required to record
impairment charges. The Company analyzes its goodwill for impairment on an
annual basis. In 2002, the Company engaged an independent valuation firm to
perform a goodwill impairment test. Based upon the analysis, there was no
impairment of goodwill. In 2003, the Company's annual review of goodwill
indicated there was no impairment.
The carrying value of the Company's net deferred tax assets (net of
valuation allowances) assumes the Company will be able to generate sufficient
future taxable income in certain tax jurisdictions. The Company may be required
to record additional valuation allowances against its deferred tax assets
resulting in additional income tax expense if the Company's estimates of future
taxable income in those jurisdictions decrease. The Company may be required to
release all or a portion of recorded valuation allowances against its deferred
tax assets resulting in lower income tax expense, except for such allowances for
deferred tax assets related to acquisitions, the release of which would reduce
goodwill. The release of valuation allowances would result from changes in the
Company's estimates of realized capital gains, utilization of state net
operating loss carryforwards and utilization of acquired tax credits subject to
annual limitations.
-F2-
The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," and related interpretations in
accounting for its stock-based compensation plans and applies the
disclosure-only provisions of the Financial Accounting Standards Board ("FASB")
Statement No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), as
amended by FASB Statement No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" ("SFAS 148"). No stock-based compensation cost is
reflected in net income for options or purchases under the employee stock
purchase plan. Pro forma disclosures of net income and earnings per share are
included in the Stock-Based Compensation section of Note 1 to the Consolidated
Financial Statements as if compensation cost for options granted under the
Company's stock-based compensation plans and purchases under the employee stock
purchase plan had been determined based on the fair value at the grant dates
consistent with the provisions of SFAS 123.
Reclassifications
During 2003, the Company reclassified certain items in its consolidated
income statements. The reclassifications affected the categories of Selling,
General and Administrative expenses and Other Income (Expense). The change
primarily reflects the reclassification of gains or losses on the sale of assets
as well as certain other expenses from Other Income (Expense) to Selling,
General and Administrative expenses. Also in 2003, the Company transferred a
business unit from Software & Services to Printed Products and transferred
certain support activities to Printed Products from the corporate operations.
Financial data for all periods presented have been reclassified for
comparability. The reclassifications and transfers had no impact on net income
or shareholders' equity as previously reported. Certain other reclassifications
have been made in the 2002 and 2001 financial statements and notes to financial
statements to conform to the 2003 classifications.
Reorganization
In September 2003, the Company announced a reorganization of its
Printed Products operations including a plan to consolidate its domestic
manufacturing operations from 14 plants to 9 plants, with the first plant
closing in the first quarter of 2004 and the last affected plant closing in the
third quarter of 2004. Two of the facilities being closed are leased. One
facility is under lease through late 2005 and the other is under lease through
mid 2010. In addition to the plant consolidation, Printed Products implemented
other staffing reductions beginning in the fourth quarter of 2003 and will
continue with additional staffing reductions throughout 2004. These actions are
primarily due to excess capacity in production facilities resulting from
efficiencies realized from digital printing technology and other production and
support systems and lower volumes attributable to the losses of certain large
customers, including a direct check marketer, and general market volume decline.
The Company believes these actions will bring its production and support
structures in line with its business levels. Management expects to achieve
savings increasing to approximately $20 million on an annual run rate basis by
the end of 2005 as a result of the reorganization.
The Company estimates net pre-tax expenses associated with the plant
consolidations will total $10.7 million consisting of employee severance ($3.1
million), revision of depreciable lives and salvage values of furniture and
equipment, asset impairment charge and disposal gains and losses ($2.2 million),
relocation and other costs ($2.8 million) and contract termination costs related
to leaseholds ($2.6 million). The other staffing reduction actions will result
in a total estimated expense of $5.9 million related to employee severance
costs.
In 2003, plant consolidation costs totaled $4.0 million, which
consisted of $2.1 million related to the revision of depreciable lives and
salvage values of furniture and equipment, $1.7 million for employee severance
costs and $0.2 million for relocation and other costs. Employee severance costs
for other staffing reduction actions totaled $2.9 million. These costs are
included in the results of operations in 2003 with plant consolidation costs
included in cost of goods sold and the other staffing reduction costs included
in selling, general and administrative expenses (see Note 5 to the Consolidated
Financial Statements).
-F3-
RESULTS OF OPERATIONS
2003 versus 2002
Sales
Consolidated sales for the years ended December 31, 2003 and 2002 were
as follows (in thousands):
2003 2002
- ----------------------------------------------------------------------
% of % of
Amount Total Amount Total
- ----------------------------------------------------------------------
Sales:
Printed Products $498,257 63.3% $526,201 68.5%
Software & Services 176,833 22.5% 135,568 17.7%
Scantron 113,236 14.4% 107,822 14.0%
Eliminations (1,658) (0.2%) (1,784) (0.2%)
- ----------------------------------------------------------------------
Total $786,668 100.0% $767,807 100.0%
======================================================================
Consolidated sales for the year ended December 31, 2003 were $786.7
million, compared to $767.8 million for the year ended December 31, 2002, an
increase of $18.9 million, or 2.5%. Software & Services and Scantron sales
increases more than offset a decrease in Printed Products sales. Sales of
products decreased $11.6 million, or 1.8%, from $652.5 million in 2002 to $640.9
million in 2003. Sales of services increased $30.5 million, or 26.5%, to $145.8
million in 2003 compared to $115.3 million in 2002. Sales of products consist of
all Printed Products sales (except for analytical services), software licensing
sales, scanning equipment and scannable forms, hosted software applications and
other products. Sales of services consist of software maintenance services,
field maintenance services, analytical and consulting services and other
services.
Printed Products sales were $498.3 million in 2003 compared to $526.2
million in 2002, a decrease of $27.9 million, or 5.3%. Lower volumes in domestic
imprint check printing operations, which decreased 9.4% in 2003 from 2002,
accounted for a majority of the decrease in Printed Product sales. The volume
decline was primarily attributable to losses of certain large customers, lower
volumes from a direct check marketer due to the loss of that business in late
2003 and general market volume decline. The Company estimates the general market
volume decline in check products due to the continuing expansion of alternative
payment systems is currently 4% to 5% on an annual basis. The impact of the
volume decline was moderated by an improvement of 3.8% in average price per unit
primarily due to a price increase implemented in July 2002 and the impact of the
loss of certain large customers that were less favorably priced. Sales of
computer checks and related products also decreased in 2003 compared to 2002 due
primarily to the loss of business with a software company in late 2002,
partially offset by the addition of business with another software company in
early 2003. Sales in direct marketing increased slightly due to higher volumes
of statement mailings, partially offset by lower volumes from credit card
promotions. Sales of analytical services also increased in 2003 compared to 2002
due primarily to services rendered to two large customers.
Software & Services sales for 2003 increased $41.3 million, or 30.4%,
from 2002, due primarily to the impact of a full year of operations for
acquisitions that were made in 2002 as well as an acquisition made in June 2003
(see Note 2 to the Consolidated Financial Statements). Excluding the impact of
acquisitions, Software & Services sales increased 2.2% in 2003 compared to 2002
due primarily to increases in sales of core processing products and services,
lending and deposit origination products and services and branch automation
applications, which more than offset decreases in sales of mortgage loan
origination, production and servicing solutions and sales of customer
relationship management software and related database marketing applications and
-F4-
add-on products. Sales of core processing products and services increased due
primarily to an increase in credit union customer installations, seat licenses
and ship and book sales as well as increased hardware sales for banking systems.
Sales of lending products and services increased primarily due to higher ship
and book sales, higher maintenance revenue and the impact of subscription
contracts over the past year. Retail solutions sales were unfavorably impacted
by a decrease in sales of customer relationship management applications,
database marketing applications and add-on products, partially offset by higher
sales of branch automation applications.
At December 31, 2003, Software & Services backlog was $101.6 million,
an increase of $57.7 million from the backlog at December 31, 2002. The increase
in backlog was due primarily to acquisitions and stronger bookings. Excluding
the impact of acquisitions, backlog increased 24.1% from December 31, 2002.
Approximately $49.7 million or 48.9% of the backlog at December 31, 2003 is
expected to be delivered over the next twelve months and $51.9 million or 51.1%
is expected to be delivered beyond the next twelve months due to the long-term
nature of certain service contracts.
Scantron sales were $113.2 million in 2003 compared to $107.8 million
in 2002, an increase of $5.4 million, or 5.0%, due primarily to a full year of
operations in 2003 from the acquisition of EdVISION in July 2002 (see Note 2 to
the Consolidated Financial Statements), increases in sales of standard forms in
the education market, imaging products and services, survey services and field
services, which were partially offset by reduced sales of custom forms. Sales of
custom forms were lower for commercial market applications and non-testing
applications in the education market due to a continuing trend in data
collection methods moving from optical mark reading to imaging and other direct
input technologies.
Gross Profit
Consolidated gross profit and gross profit by segment for the years
ended December 31, 2003 and 2002 were as follows (in thousands):
2003 2002
- ----------------------------------------------------------------------
% of % of
Amount Sales(a) Amount Sales(a)
- ----------------------------------------------------------------------
Gross Profit:
Printed Products $199,126 40.0% $206,586 39.3%
Software & Services 120,294 68.0% 96,415 71.1%
Scantron 62,428 55.1% 61,434 57.0%
- ----------------------------------------------------------------------
Total $381,848 48.5% $364,435 47.5%
======================================================================
(a) Percentage of sales for each segment is calculated using sales for that
segment.
Consolidated gross profit of $381.8 million in 2003 increased $17.4
million, or 4.8%, from $364.4 million in 2002 and increased as a percentage of
sales from 47.5% in 2002 to 48.5% in 2003. The increase in consolidated gross
profit was the result of a favorable change in sales mix, cost management and
productivity improvement initiatives.
Printed Products gross profit decreased $7.5 million, or 3.6%, in 2003
from 2002 but increased as a percentage of sales from 39.3% to 40.0% in 2003.
The decrease in gross profit occurred primarily in domestic imprint check
operations due to plant consolidation costs and reduced volume, an unfavorable
change in mix in direct marketing activities and decreases in sales of computer
checks and related products partially offset by increases in analytical services
gross profit. The improvement in gross profit as a percentage of sales was due
primarily to efficiencies realized from digital printing technology, process
improvements and a favorable change in price and product mix. As stated earlier,
Printed Products gross profit was unfavorably impacted in 2003 by plant
consolidation costs of $4.0 million, which were incurred primarily during the
fourth quarter of 2003. These plant consolidation costs relate to a plan to
consolidate Printed Products manufacturing operations from 14 plants to 9 plants
-F5-
during 2004 (see Note 5 to the Consolidated Financial Statements). Excluding the
impact of the plant consolidation costs, Printed Products gross profit decreased
$3.5 million or 1.7% in 2003 from 2002 and as a percentage of sales was 40.8% in
2003.
Software & Services gross profit for 2003 increased $23.9 million, or
24.8%, over 2002, due primarily to acquisitions. As a percentage of sales,
Software & Services gross profit decreased to 68.0% for 2003 compared to 71.1%
for 2002 due primarily to the impact of acquired operations and a change in
sales mix. Excluding the impact of acquisitions, Software & Services gross
profit increased approximately 1.3% in 2003 compared to 2002 primarily due to an
increase in sales in bank core processing applications and branch automation
applications for financial institutions.
Scantron gross profit increased by $1.0 million, or 1.6%, over 2002 to
$62.4 million in 2003 due primarily to the addition of the former EdVISION
products and services acquired in July 2002. As a percentage of sales, Scantron
gross profit decreased from 57.0% for 2002 to 55.1% in 2003 due primarily to an
unfavorable change in sales mix and to costs and production inefficiencies
experienced during a facility relocation that occurred in the first quarter of
2003.
Selling, General and Administrative Expenses ("SG&A")
Consolidated SG&A for the years ended December 31, 2003 and 2002 were
as follows (in thousands):
2003 2002
- ----------------------------------------------------------------------
% of % of
Amount Sales(a) Amount Sales(a)
- ----------------------------------------------------------------------
SG&A:
Printed Products $129,698 26.0% $118,240 22.5%
Software & Services 99,544 56.3% 77,845 57.4%
Scantron 36,548 32.3% 31,664 29.4%
Corporate 23,368 37,325
- ----------------------------------------------------------------------
Total $289,158 36.8% $265,074 34.5%
======================================================================
(a) Percentage of sales for each segment is calculated using sales for that
segment.
Consolidated SG&A increased by $24.1 million, or 9.1%, from $265.1
million in 2002 to $289.2 million in 2003. These expenses as a percentage of
sales were 36.8% in 2003 compared to 34.5% in 2002.
Printed Products SG&A increased $11.5 million, or 9.7%, in 2003 over
2002 due in part to $2.9 million of reorganization costs incurred during the
fourth quarter of 2003 (see Note 5 to the Consolidated Financial Statements),
increased selling and marketing activities and customer care activities,
partially offset by an $0.8 million gain realized in the third quarter of 2003
on the sale of a former check printing facility. Also, Printed Products SG&A in
2003 included $2.1 million of incentive compensation costs that were classified
as corporate costs in prior years.
Software & Services SG&A increased $21.7 million, or 27.9%, in 2003
over 2002 due primarily to the impact of acquisitions and to increased
expenditures related to product development of a mortgage services application.
Also in 2003, Software & Services SG&A included $2.2 million of incentive
compensation costs that were classified as corporate costs in prior years.
Scantron's SG&A increased $4.9 million, or 15.4%, in 2003 compared to
2002 due primarily to the acquisition of EdVISION, increased selling and
marketing expenses related to developing a national sales force for software
products and services in the education market and increased product development
costs.
-F6-
Corporate SG&A decreased $14.0 million, or 37.4%, in 2003 compared to
2002 due primarily to decreases in stock-based compensation costs related to
restricted stock grants and the transfer in 2003 of certain incentive
compensation costs to Printed Products and Software & Services that were
classified as corporate costs in prior years. Stock-based compensation totaled
$2.4 million in 2003 compared to $9.9 million in 2002. The decrease in
stock-based compensation was due primarily to expenses resulting from the
accelerated vesting of certain restricted stock grants in 2002 (see Note 9 to
the Consolidated Financial Statements). These grants vested as a result of the
Company's favorable stock price performance.
Amortization of Other Intangible Assets/Acquired In-Process Research and
Development Charge
Amortization of other intangible assets increased to $3.3 million in
2003 compared to $2.6 million in 2002 due primarily to the impact of acquired
operations partially offset by the impact of certain intangible assets that were
fully amortized during 2002. In 2002, the Company wrote off $3.0 million of
acquired in-process research and development costs related to the acquisition of
INTERLINQ (See Note 2 to the Consolidated Financial Statements).
Consolidated Income from Operations
Consolidated income from operations decreased $4.4 million, or 4.7%, to
$89.4 million for 2003 from $93.8 million for 2002 due primarily to Printed
Products SG&A staffing reduction costs of $2.9 million in 2003 and other
increases in SG&A in 2003 discussed above, partially offset by the impact of an
acquired in-process research and development charge in 2002.
Other Income (Expense)
Other Income (Expense) decreased by $5.9 million from an expense of
$8.5 million for 2002 to an expense of $2.6 million for 2003. The decrease was
due primarily to gains on sales of investments of $3.0 million in 2003 (see Note
1 to the Consolidated Financial Statements) and a loss of $1.8 million in 2002
on the disposition of equity and debt investments in Netzee, Inc. ("Netzee").
Interest expense decreased $0.9 million from 2002 primarily due to lower
interest rates during 2003 compared with 2002, which was partially offset by the
impact of higher average borrowings.
Consolidated Income Before Income Taxes
Consolidated income before income taxes increased $1.5 million, or
1.8%, to $86.8 million for 2003 from $85.3 million for 2002. The impact of
investment gains in 2003 and investment losses in 2002 more than offset the
decrease in consolidated income from operations in 2003.
Income Taxes
The Company's consolidated effective income tax rates were 35.5% and
38.5% for 2003 and 2002, respectively. The lower effective income tax rate for
2003 resulted primarily from the release of a valuation allowance related to the
utilization of capital loss carryforwards, a reduction in the effective state
tax rate, a favorable renewal of an industrial revenue grant related to the
Company's operations in Puerto Rico and a reduction of certain estimated
permanent tax differences. The effective tax rate for 2002 included favorable
adjustments related to state tax credits and adjustments related to prior years
due to the resolution of an IRS examination, which were partially offset by the
impact of an in-process research and development charge that was nondeductible
for tax purposes. See Note 7 to the Consolidated Financial Statements for
factors affecting the tax rate in each year.
-F7-
Net Income and Earnings Per Share
The Company's net income for 2003 was $56.0 million compared to $52.4
million for 2002, an increase of $3.6 million, or 6.9%. Basic and diluted
earnings per share were $2.02 and $1.97, respectively, for 2003 compared to
basic and diluted earnings per share of $1.80 and $1.73, respectively, for 2002.
Net income for 2003 included pre-tax charges totaling $6.9 million related to
the Printed Products reorganization, equivalent to $0.15 per share on a diluted
basis, and a $3.0 million pre-tax gain on the sale of investments equivalent to
$0.11 per share on a diluted basis. Net income for 2002 included pre-tax charges
totaling $13.0 million, equivalent to $0.30 per share on a diluted basis related
to accelerated vesting of certain restricted stock grants, an in-process
research and development charge related to an acquisition, and the loss on the
disposition of debt and equity investments resulting from the sale of Netzee.
Lower weighted average shares outstanding in 2003 compared to 2002 also had a
favorable impact on basic and diluted earnings per share in 2003. The lower
shares outstanding were primarily the result of the Company's share repurchase
program (see Note 8 to the Consolidated Financial Statements).
RESULTS OF OPERATIONS
2002 versus 2001
Sales
Consolidated sales for the years ended December 31, 2002 and 2001 were
as follows (in thousands):
2002 2001
- ----------------------------------------------------------------------
% of % of
Amount Total Amount Total
- ----------------------------------------------------------------------
Sales:
Printed Products $526,201 68.5% $528,371 71.1%
Software & Services 135,568 17.7% 120,227 16.2%
Scantron 107,822 14.0% 95,907 12.9%
Eliminations (1,784) (0.2%) (1,302) (0.2%)
- ----------------------------------------------------------------------
Total $767,807 100.0% $743,203 100.0%
======================================================================
Consolidated sales for the year ended December 31, 2002 were $767.8
million compared to $743.2 million for the year ended December 31, 2001, an
increase of $24.6 million, or 3.3%. Software & Services and Scantron sales
increases more than offset a decrease in Printed Products sales. Sales of
products, which consist of all of Printed Products sales (except for analytical
services), software licensing sales, scanning equipment and scannable forms and
other products, were $652.5 million in 2002 compared to $636.1 million in 2001,
an increase of $16.4 million, or 2.6%. Sales of services, which consist of
software maintenance services, field maintenance services, analytical and
consulting services and other services were $115.3 million in 2002 compared to
$107.1 million in 2001, an increase of $8.2 million, or 7.6%.
Printed Products sales were $526.2 million in 2002 compared to $528.4
million in 2001, a decrease of $2.2 million, or 0.4%. Lower volumes in domestic
check printing operations, which decreased 6.6% in 2002 from 2001, accounted for
a majority of the decrease in sales. The volume decline was primarily
attributable to a loss of market share and a decline in orders received from a
direct check marketer. The impact of these two factors was moderated by an
improvement of 5.1% in average price per unit due to lower volume with a direct
check marketer that is less favorably priced than traditional customers, and
also due to price increases. Sales in direct marketing operations also decreased
due to the general economic slowdown, which resulted in lower credit card
promotions and fewer openings of online brokerage accounts. The sales decreases
were partially offset by an increase in sales of analytical services in 2002
compared to 2001 and by sales of computer checks and related products, which
increased in 2002 compared to 2001 due to a fulfillment program for a software
customer initiated in late 2001 and increases in the computer checks commercial
referral business.
-F8-
Software & Services sales increased from $120.2 million in 2001 to
$135.6 million in 2002, an increase of $15.4 million, or 12.8%, primarily due to
the acquisitions of Easy Systems, SPARAK and INTERLINQ (see Note 2 to the
Consolidated Financial Statements) and also to increased sales of core
processing applications, customer relationship management applications and
branch automation applications. Sales of lending and account opening
applications increased slightly in 2002 compared to 2001, primarily due to a
trend of a higher proportion of term license agreements during 2001 and the
first six months of 2002 whereby revenue recognition was deferred from the
current period into future periods. This trend changed during the latter portion
of 2002 with a higher proportion of ship and book sales, which are recognized as
revenue when shipped. The change during the latter portion of 2002 was enough to
offset the effect of higher term license sales during the first six months of
2002. Sales of mortgage lending solutions increased in 2002 due to the INTERLINQ
acquisition, which was partially offset by the decision of a major customer to
bring software development in-house in late 2001.
Scantron sales were $107.8 million in 2002 compared to $95.9 million in
2001, an increase of $11.9 million, or 12.4%. The increase was due in part to
the Scanning Systems and EdVISION acquisitions made by Scantron during 2001 and
2002 (see Note 2 to the Consolidated Financial Statements), internal growth in
field services and growth in sales of imaging products. Increases in sales of
scannable forms were offset by reduced sales of optical mark reading equipment
due to a continuing trend in data collection methods moving from optical mark
reading to imaging and other direct input technologies.
Gross Profit
Consolidated gross profit and gross profit by segment for the years
ended December 31, 2002 and 2001 were as follows (in thousands):
2002 2001
- ----------------------------------------------------------------------
% of % of
Amount Sales(a) Amount Sales(a)
- ----------------------------------------------------------------------
Gross Profit:
Printed Products $206,586 39.3% $201,038 38.0%
Software & Services 96,415 71.1% 85,024 70.7%
Scantron 61,434 57.0% 54,624 57.0%
- ----------------------------------------------------------------------
Total $364,435 47.5% $340,686 45.8%
======================================================================
(a) Percentage of sales for each segment is calculated using sales for that
segment.
Consolidated gross profit increased by $23.7 million, or 7.0%, from
$340.7 million in 2001 to $364.4 million in 2002 and increased as a percentage
of sales from 45.8% in 2001 to 47.5% in 2002. The increase in consolidated gross
profit was the result of a favorable change in sales mix, cost management and
productivity improvement initiatives including process improvements and new
digital printing technology.
Printed Products gross profit increased $5.5 million, or 2.8%, in 2002
from 2001 and increased as a percentage of sales from 38.0% in 2001 to 39.3% in
2002, a result of the combination of an increase in average price per unit and
cost reductions resulting from process improvements and new digital printing
technology. The increase in Printed Products gross profit in 2002 from 2001
occurred primarily in its checks operations and was partially offset by a
decrease in gross profit in direct marketing operations due primarily to the
decrease in direct marketing sales.
Software & Services gross profit increased $11.4 million, or 13.4%, in
2002 from 2001 and, as a percent of sales, increased to 71.1% in 2002 from 70.7%
in 2001 primarily due to acquired businesses with higher gross profit, increased
sales of products and services, and cost management activities.
-F9-
Scantron gross profit increased by $6.8 million, or 12.5%, in 2002 over
2001 and as a percentage of sales remained constant at 57.0% in 2002 and 2001
due to stable margins in existing products and services.
Selling, General and Administrative Expenses
Consolidated SG&A for the years ended December 31, 2002 and 2001 were
as follows (in thousands):
2002 2001
- ----------------------------------------------------------------------
% of % of
Amount Sales(a) Amount Sales(a)
- ----------------------------------------------------------------------
SG&A:
Printed Products $118,240 22.5% $109,955 20.8%
Software & Services 77,845 57.4% 74,593 62.0%
Scantron 31,664 29.4% 27,353 28.5%
Corporate 37,325 25,866
- ----------------------------------------------------------------------
Total $265,074 34.5% $237,767 32.0%
======================================================================
(a) Percentage of sales for each segment is calculated using sales for that
segment.
Consolidated SG&A totaled $265.1 million in 2002 compared to $237.8
million in 2001, an increase of $27.3 million, or 11.5%. As a percentage of
sales, SG&A increased from 32.0% in 2001 to 34.5% in 2002. The increase occurred
in all business segments and Corporate.
Printed Products SG&A increased $8.3 million, or 7.5%, in 2002 over
2001 due primarily to higher expenses for customer care initiatives. Customer
care initiatives were focused on improving systems that support sales, marketing
and customer service. Printed Products SG&A was also unfavorably impacted in
2002 by higher costs associated with the move of customer service activities
in-house, which were provided by an outside provider in prior years, increases
in marketing expenditures, upgrade expenses for the Company's financial and
human resource systems and severance expenses related to management reductions
in 2002.
Software & Services SG&A increased $3.3 million, or 4.4%, in 2002 over
2001 due primarily to the impact of acquisitions, which was partially offset by
cost management activities.
Scantron SG&A increased $4.3 million, or 15.8%, in 2002 over 2001 due
primarily to the impact of the EdVISION acquisition.
Corporate SG&A increased $11.5 million, or 44.3%, in 2002 over 2001 due
primarily to stock-based compensation costs related to restricted stock grants,
incentive compensation costs and a favorable adjustment to the provision for
uncollectible accounts in 2001. Stock-based compensation costs totaled $9.9
million in 2002 compared to $5.3 million in 2001 primarily due to accelerated
vesting of restricted stock grants during 2002 that vested as a result of the
Company's favorable stock price performance (see Note 9 to the Consolidated
Financial Statements). Incentive compensation costs increased $1.4 million in
2002 over 2001 related to achievement of certain performance objectives in 2002
in Corporate, Printed Products and Software & Services operations. In 2001, the
Company recorded a favorable adjustment to its provision for uncollectible
account of $1.8 million related to improvements in the Company's collection
activities.
Amortization of Intangible Assets/Acquired In-Process Research and
Development Charge
Amortization of intangible assets in 2002 decreased by $11.4 million
from 2001 primarily due to the elimination of goodwill amortization in 2002 as
a result of the adoption of the FASB Statement No. 142, "Goodwill and
-F10-
Other Intangible Assets" ("SFAS 142") (see Note 3 to the Consolidated Financial
Statements). In 2002, the Company wrote off $3.0 million of acquired in-process
research and development costs related to the acquisition of INTERLINQ (see Note
2 to the Consolidated Financial Statements).
Consolidated Income from Operations
Consolidated income from operations increased $4.9 million, or 5.4%, to
$93.8 million in 2002 from $88.9 million in 2001 due to the elimination of
goodwill amortization in 2002, which was partially offset by increases in SG&A
expenses discussed above and the write-off of acquired in-process research and
development costs in 2002.
Other Income (Expense)
Other Income (Expense) decreased from an expense of $18.1 million in
2001 to an expense of $8.5 million in 2002. The decrease was primarily due to a
$7.8 million write-down in 2001 of the Company's equity investment in Netzee and
to decreased interest expense. Interest expense was lower in 2002 due to lower
interest rates and lower average levels of debt outstanding in 2002 compared
with 2001. In December 2002, the Company realized a loss of $1.8 million on the
disposition of debt and equity investments resulting from the sale of Netzee.
Consolidated Income Before Income Taxes
Consolidated income before income taxes increased $14.5 million, or
20.4%, to $85.3 million in 2002 compared to $70.8 million in 2001 as a result of
the aforementioned items.
Income Taxes
The Company's effective income tax rate was 38.5% in 2002 and 45.0% in
2001. The decrease in the effective tax rate was primarily due to the
elimination of goodwill amortization in 2002, most of which was nondeductible
for tax purposes, and to a $1.3 million valuation allowance included in 2001 for
a portion of the capital loss tax benefit related to the write-down of the
investment in Netzee. The tax rate in 2002 was also affected by state tax
credits and favorable adjustments related to prior years resulting from the
resolution of an IRS examination for the years 1996 through 1998, which were
partially offset by the impact of the in-process research and development charge
that was nondeductible for tax purposes. See Note 7 to the Consolidated
Financial Statements for factors affecting the tax rate in each year.
Net Income and Earnings Per Share
Net income for 2002 was $52.4 million compared to $39.0 million for
2001. Basic and diluted earnings per share for 2002 were $1.80 and $1.73,
respectively, compared to basic and diluted earnings per share of $1.34 and
$1.31, respectively, in 2001. Net income for 2002 included charges related to
accelerated vesting of certain restricted stock grants, net of the resulting
reduction of amortization expense, an in-process research and development charge
related to an acquisition, and the loss on the disposition of debt and equity
investments resulting from the sale of Netzee. These adjustments reduced diluted
earnings per share by $0.28. Net income for 2001 included charges for the
write-down of the investment in Netzee, costs associated with accelerated
vesting of certain restricted stock grants and severance costs related to a
plant consolidation, all of which reduced diluted earnings per share by $0.27.
Net income for 2001 also included goodwill amortization equivalent to $0.34 per
share. Effective January 1, 2002, goodwill amortization was discontinued as a
result of the adoption of SFAS 142 (see Note 3 to the Consolidated Financial
Statements).
-F11-
FINANCIAL CONDITION, CAPITAL RESOURCES AND LIQUIDITY
Sources and Uses of Cash
The Company has historically generated positive cash flows from its
operations and continually evaluates uses of such cash flows to strengthen
shareholder value through a combination of internal development, acquisitions,
repurchases of stock and repayment of debt. Cash flows provided from operations
in 2003 decreased $65.6 million to $74.7 million from $140.3 million in 2002 due
primarily to $44.0 million of refundable contract incentive payments made in
2003 compared with $7.6 million of such payments in 2002, changes in deferred
income taxes and changes in working capital, which were partially offset by a
$10.0 million increase in net income adjusted for depreciation and amortization.
The primary uses of cash in 2003 were for repurchases of stock ($39.1 million),
capital expenditures ($28.1 million), a reduction of borrowed amounts ($17.0
million), the acquisition of Premier Systems, Inc. ($11.3 million) and dividend
payments to shareholders ($9.8 million).
In March 2000, the Company's Board of Directors authorized the purchase
of 2,900,000 shares of the Company's outstanding common stock. In January 2003,
the Board authorized the repurchase of an additional 3,000,000 shares. Shares
purchased under these programs may be held in treasury, used for acquisitions,
used to fund the Company's stock benefit and compensation plans or for other
corporate purposes. In 2003, the Company purchased a total of 1,569,532 shares
under these programs at a cost of $39.1 million or an average cost of $24.92 per
share. Of the total shares purchased in 2003, 1,147,554 shares concluded the
authorization approved in 2000 to purchase 2,900,000 shares and the remaining
421,978 shares were purchased under the authorization approved in 2003 to
purchase 3,000,000 shares.
Purchases of property, plant and equipment totaled $28.1 million in
2003, a decrease of $4.0 million compared to 2002 and were primarily for
customer care infrastructure initiatives. In 2002, purchases of property, plant
and equipment were primarily for customer care infrastructure initiatives and
for digital printing equipment. The Company's customer care infrastructure
initiatives focus on improving systems that support sales, marketing and
customer service to ensure exceptional service and added functionality for the
Company's call centers. The Company currently estimates it will spend
approximately $60 to $65 million on customer care infrastructure initiatives
over the four year period ending in 2004. As of December 31, 2003, $45.4 million
has been expended on these initiatives, of which $32.0 million was capitalized.
The Company currently estimates it will spend approximately $15 to $20 million
on customer care infrastructure initiatives in 2004. Although development of
customer care infrastructure will continue throughout 2004, the Company expects
to delay implementation of certain functionality in the second half of 2004 in
order to evaluate controls and processes as required by Section 404 of the
Sarbanes-Oxley Act, thereby deferring certain expenditures into 2005.
In February 2004, the Company amended its credit facility (the "Credit
Facility") with a syndicate of banks increasing the amount from $325.0 million
to $425.0 million. The Credit Facility is comprised of a $100.0 million term
loan and a $325.0 million revolving loan, both of which mature in 2009. The term
loan requires annual repayments of $5.0 million, therefore the Credit Facility
will decrease by $5.0 million per annum to $400.0 million at the 2009 maturity
date. The Credit Facility may be used for general corporate purposes, including
acquisitions, and includes both direct borrowings and letters of credit. The
Credit Facility is unsecured and the Company presently pays a commitment fee of
0.175% on the unused amount of the Credit Facility. Borrowings under the Credit
Facility bear interest, at the Company's option, based upon one of the following
indices (plus a margin as defined): the Federal Funds Rate, the SunTrust Bank
Base Rate or LIBOR. The Credit Facility has certain financial covenants
including, among other items, leverage, fixed charge and minimum net worth
requirements. The Credit Facility also has restrictions that limit the Company's
ability to incur additional indebtedness, grant security interests or sell its
assets beyond certain amounts.
-F12-
At December 31, 2003, the Company's previous credit facility consisted
of $127.1 million in outstanding cash borrowings and $5.1 million in outstanding
letters of credit. At December 31, 2003, the Company's previous credit facility
permitted borrowings of $325.0 million, and had $192.8 million of availability.
As discussed above, the amount of the Company's previous credit facility was
increased by $100.0 million to $425.0 million in February 2004 thereby
increasing the Company's borrowing capacity. The average interest rate in effect
on outstanding cash borrowings at December 31, 2003, including the effect of the
Company's interest rate hedging program (see Note 12 to the Consolidated
Financial Statements), was 2.94%. At December 31, 2003, the Company had $8.5
million in cash and cash equivalents. The Company believes that its current cash
position, funds from operations and the availability of funds under its Credit
Facility will be sufficient to meet anticipated requirements for working
capital, dividends, capital expenditures and other corporate needs. Management
is not aware of any condition that would materially alter this trend.
The Company also believes that it possesses sufficient unused debt
capacity and access to equity capital markets to pursue additional acquisition
opportunities if funding beyond that available under the Credit Facility were
required.
Contractual Obligations and Commitments
The following table aggregates the Company's contractual obligations
and commitments with definitive payment terms, which will require significant
cash outlays in the future. The commitment amounts are as of December 31, 2003
(in millions):
Payments Due by Period
---------------------------------------------------------
Contractual Less than More than
Obligations Total 1 year 1-3 years 3-5 years 5 years
- ---------------------------------------------------------------------------
Long-term debt $127.2 $ 5.1 $ 10.0 $ 10.0 $102.1
Operating leases 84.0 13.7 23.0 19.9 27.4
Capital leases 0.1 0.1 - - -
Purchase obligations 1.7 1.7 - - -
Acquisition related
contingent payments 2.0 - 2.0 - -
Other long-term
liabilities 8.7 0.4 0.9 0.9 6.5
- ---------------------------------------------------------------------------
Total $223.7 $ 21.0 $ 35.9 $ 30.8 $136.0
===========================================================================
The Company's long-term debt obligations are described in Note 6 to the
Consolidated Financial Statements. The Company's operating and capital lease
obligations are described in Note 13 to the Consolidated Financial Statements.
The Company has obligations, under contracts and purchase orders, to purchase
goods or services, which are not recorded as obligations in the Company's
Consolidated Financial Statement until contract terms take effect. The Company
has acquisition related contingent payments that are described in Note 2 to the
Consolidated Financial Statements. The Company's other long-term liabilities
obligations are primarily for unfunded deferred compensation contracts with
certain current and former officers.
The Company has postretirement benefit plans, which are described in
Note 11 to the Consolidated Financial Statements. At December 31, 2003, the
Company's accrued postretirement costs totaled $13.7 million. Because the
determination of this amount is affected by changes in plan demographics and
assumptions, it does not represent expected liquidity needs and has not been
included in the above table of obligations. The Company expects to fund $1.6
million to these plans each year during 2004 through 2008 and expects to fund
$7.5 million to these plans during 2009 through 2013.
At December 31, 2003, the Company had a net non-current deferred tax
liability of $5.1 million. Deferred income tax liabilities are temporary
differences between financial statement and tax bases of assets and liabilities
and do not directly relate to the amount of income taxes to be paid in future
periods. Therefore these liabilities have not been included in the above table
of obligations.
-F13-
The Company has entered into a contract with a customer that contains
provisions that call for future payments to the customer if the Company does not
meet certain performance measures. The contract also contains provisions that
call for the reduction or elimination of the Company's payment obligations if
the customer does not meet certain performance requirements. The Company does
not anticipate any payments pursuant to these contract provisions at this time.
ACCUMULATED OTHER COMPREHENSIVE LOSS
As of December 31, 2003, the Company's accumulated other comprehensive
loss was $0.7 million and consisted primarily of foreign currency translation
adjustments and fair value adjustments to cash flow hedging instruments.
ACQUISITIONS
All acquisitions in 2003, 2002 and 2001 were paid for with cash
provided from operating activities and proceeds from the Company's previous
credit facility. The acquisitions were accounted for using the purchase method
of accounting and, accordingly, the results of operations of the acquired
businesses have been included in the Company's operations since the particular
acquisition closing dates (see Note 2 to the Consolidated Financial Statements).
2004 OUTLOOK
Net income during the first half of 2004 is expected to be less than
net income during the comparable period of 2003 due to anticipated lower
earnings in Printed Products. Reorganization expenses and anticipated
inefficiencies related to plant consolidation activities during the first half
of 2004 are expected to more than offset improved profitability in Software &
Services and Scantron operations. The Company expects more favorable results in
the second half of 2004 compared with the same period in 2003. Net income for
the full year of 2004 is expected to be slightly lower than 2003 net income.
The Printed Products segment income is expected to improve during the
year as cost reductions are implemented and after the bulk of the reorganization
expenses and expenses required to support the increased use of an outsourcing
model by many financial institutions have been incurred. Some duplicate costs
will be incurred earlier in the year as the remaining plants are staffed up in
anticipation of the actual closure of the plants already announced. The
increased use of an outsourcing model by many financial institutions, which is
expected to have a favorable impact on revenue per unit later in the year, and
anticipated growth in other areas should contribute to a favorable earnings
trend.
The Software & Services segment income is expected to improve in 2004
as a result of a full-year impact of a 2003 acquisition as well as the impact of
new products and services including a new mortgage product scheduled for release
during the first half of 2004.
The Scantron segment is expected to benefit from continuing strong
sales of traditional products as well as growth in the sales of existing and new
technology products. Scantron should also benefit from cost reduction
initiatives implemented throughout 2003.
The Company believes cash flow will remain strong in all business units
in 2004. The Company currently estimates that capital expenditures will be in
the range of $27 million to $32 million. The Company believes refundable
contract payments in 2004 will be made at a higher level than existed before
2003, but expects such payments to be less than in 2003 depending upon the
timing and extent of new contracts in 2004. The Company currently expects
depreciation and amortization will total approximately $80 million in 2004, a
$17 million increase over 2003, primarily due to the amortization of refundable
contract payments (see Note 1 to the Consolidated Financial Statements). The
Company expects its effective tax rate will be approximately 38% in 2004.
-F14-
RISK FACTORS AND CAUTIONARY STATEMENTS
When used in this report and in subsequent filings by the Company with
the Securities and Exchange Commission, in the Company's press releases and in
written or oral statements made by authorized representatives of the Company,
the words or phrases "believe," "should result," "are expected to," "will
continue," "is anticipated," "estimate," "project" or similar expressions are
intended to identify "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements are
necessarily subject to certain risks and uncertainties, including, but not
limited to, those discussed below that could cause actual results to differ
materially from the Company's historical experience and its present expectations
or projections. Caution should be taken not to place undue reliance on any such
forward-looking statements, which speak only as of the date such statements are
made and which may or may not be based on historical experiences and/or trends
which may or may not continue in the future. The Company does not undertake and
specifically declines any obligation to update any forward-looking statements to
reflect events or circumstances occurring after the date of such statements or
to reflect the occurrence of unanticipated events.
Various factors may affect the Company's financial performance,
including, but not limited to, those factors discussed below which could cause
the Company's actual results for future periods to differ from any opinions,
statements or projections expressed with respect thereto. Such differences could
be material and adverse. Many variables will impact the ability to achieve sales
levels, improve service quality, achieve production efficiencies and reduce
expenses in Printed Products. These include, but are not limited to, the
continuing upgrade of the Company's customer care infrastructure and systems
used in the Company's manufacturing, sales, marketing, customer service and call
center operations.
Several factors outside the Company's control could negatively impact
check revenues. These include the continuing expansion of alternative payment
systems such as credit cards, debit cards and other forms of electronic commerce
or on-line payment systems. Check revenues may continue to be adversely affected
by continued consolidation of financial institutions, competitive check pricing
including significant up-front contract incentive payments, and the impact of
governmental laws and regulations. There can be no assurances that the Company
will not lose significant customers or that any such losses could be offset by
the addition of new customers.
While the Company believes substantial growth opportunities exist in
the Software & Services segment, there can be no assurances that the Company
will achieve its revenue or earnings growth targets. The Company believes there
are many risk factors inherent in its Software & Services business, including
but not limited to the retention of employee talent and customers. Also,
variables exist in the development of new Software & Services products,
including the timing and costs of the development effort, product performance,
functionality, product acceptance, competition, the Company's ability to
integrate acquired companies, and general changes in economic conditions or U.S.
financial markets.
Several factors outside of the Company's control could affect results
in the Scantron segment. These include the rate of adoption of new electronic
data collection solutions and testing and assessment methods, which could
negatively impact forms, scanner sales and related service revenue. The Company
continues to develop products and services that it believes offer
state-of-the-art electronic data collection and testing and assessment
solutions. However, variables exist in the development of new testing methods
and technologies, including the timing and costs of the development effort,
product performance, functionality, market acceptance, adoption rates,
competition, the Company's ability to integrate acquired companies, and the
funding of education at the federal, state and local levels, all of which could
have an impact on the Company's business.
-F15-
As a matter of due course, the Company and its subsidiaries are subject
to various federal and state tax examinations. The Company believes that it is
in compliance with the various federal and state tax regulations imposed and
such returns and reports filed with respect to such tax regulations are
materially correct. The results of these various federal and state tax
examinations could produce both favorable and unfavorable adjustments to the
Company's total tax expense either currently or on a deferred basis. At such
time when a favorable or unfavorable adjustment is known, the effect on the
Company's consolidated financial statements is recorded.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
All financial instruments held by the Company are held for purposes
other than trading. The Company is exposed primarily to market risks related to
interest rates.
Interest Rate Risk
The Company is exposed to interest rate risk on its variable rate debt.
At December 31, 2003, the Company had outstanding variable rate debt of $127.1
million. In order to manage its exposure to fluctuations in interest rates, the
Company has entered into interest rate swap agreements, which allow it to raise
funds at floating rates and effectively swap them into fixed rates. The notional
principal amount of interest rate swaps outstanding was $59.0 million at
December 31, 2003 and $114.0 million at December 31, 2002. These derivative
financial instruments are viewed as risk management tools and are entered into
for hedging purposes only. The Company does not use derivative financial
instruments for trading or speculative purposes. The Company believes that its
interest rate risk at December 31, 2003 was minimal. The impact on annual
results of operations of a hypothetical one-point interest rate change on the
outstanding debt as of December 31, 2003 would be approximately $681,000.
The fair value of the swaps, which represent what the Company would
have to pay to terminate the swaps, reflected a loss of $0.4 million ($0.3
million net of income taxes) at December 31, 2003. The fair value of the swaps
was recognized on the balance sheet in other liabilities with a corresponding
charge to accumulated other comprehensive income, a component of shareholders'
equity. Charges and credits to other comprehensive income will net to zero over
the term of interest rate swap agreements.
ACCOUNTING PRONOUNCEMENTS
See Note 1 to the Consolidated Financial Statements regarding the
impact of recent accounting pronouncements on the Company's financial condition
and results of operations.
-F16-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
December 31,
2003 2002
- -------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 8,525 $ 19,218
Accounts receivable from customers, less
allowance for doubtful accounts of $1,902
and $2,814 60,338 58,871
Inventories:
Raw materials 13,028 15,593
Work in process 920 414
Finished goods 1,569 2,184
Deferred income taxes 32,517 26,977
Property held for sale 2,626 4,295
Prepaid expenses 11,096 7,430
Other 4,727 3,843
- -------------------------------------------------------------------------------
Total current assets 135,346 138,825
- -------------------------------------------------------------------------------
INVESTMENTS AND OTHER ASSETS:
Investments 208 3,917
Goodwill - net 217,749 210,462
Intangible assets - net 16,835 14,127
Refundable contract payments 52,933 23,281
Other 19,473 25,860
- -------------------------------------------------------------------------------
Total investments and other assets 307,198 277,647
- -------------------------------------------------------------------------------
PROPERTY, PLANT AND EQUIPMENT:
Land 3,121 3,121
Buildings and improvements 45,654 44,907
Machinery and equipment 271,596 259,950
Furniture and fixtures 17,147 15,718
Leasehold improvements 12,498 12,637
Additions in progress 6,156 4,351
- -------------------------------------------------------------------------------
Total property, plant and equipment 356,172 340,684
Less accumulated depreciation and amortization 231,739 206,469
- -------------------------------------------------------------------------------
Property, plant and equipment - net 124,433 134,215
- -------------------------------------------------------------------------------
TOTAL $566,977 $550,687
===============================================================================
-F17-
CONSOLIDATED BALANCE SHEETS (continued)
December 31,
2003 2002
-------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 26,030 $ 22,599
Deferred revenues 57,745 53,311
Accrued liabilities:
Salaries, wages and employee benefits 30,376 31,039
Taxes 17,669 18,817
Other 29,602 21,320
- -------------------------------------------------------------------------------
Total current liabilities 161,422 147,086
- -------------------------------------------------------------------------------
LONG-TERM LIABILITIES:
Long-term debt 122,059 144,106
Deferred income taxes 5,087 1,750
Other 22,966 23,751
- -------------------------------------------------------------------------------
Total long-term liabilities 150,112 169,607
- -------------------------------------------------------------------------------
Total liabilities 311,534 316,693
- -------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES (see Note 13)
SHAREHOLDERS' EQUITY:
Preferred stock, authorized 500,000
shares of $1.00 par value, none issued - -
Common stock, authorized 144,000,000 shares of
$1.00 par value, 37,907,497 shares issued 37,907 37,907
Additional paid-in capital 7,788 5,245
Retained earnings 448,688 409,110
Accumulated other comprehensive income (loss):
Foreign currency translation adjustments (454) (829)
Unrealized gains (losses) on investments - net (8) 1,834
Fair value of cash flow hedging
instruments - net (273) (1,335)
Unamortized restricted stock awards (5,408) (5,785)
- -------------------------------------------------------------------------------
488,240 446,147
Less 10,413,501 and 9,544,064 shares in
treasury, at cost 232,797 212,153
- -------------------------------------------------------------------------------
Total shareholders' equity 255,443 233,994
- -------------------------------------------------------------------------------
TOTAL $566,977 $550,687
===============================================================================
See Notes to Consolidated Financial Statements.
-F18-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
Years ended December 31,
2003 2002 2001
- ----------------------------------------------------------------------------------
Sales:
Product sales $ 640,872 $ 652,543 $ 636,069
Service sales 145,796 115,264 107,134
- ----------------------------------------------------------------------------------
Total sales 786,668 767,807 743,203
- ----------------------------------------------------------------------------------
Cost of sales:
Cost of products sold 355,397 363,557 365,771
Cost of services sold 49,423 39,815 36,746
- ----------------------------------------------------------------------------------
Total cost of sales 404,820 403,372 402,517
- ----------------------------------------------------------------------------------
Gross Profit 381,848 364,435 340,686
Selling, general and administrative
expenses 289,158 265,074 237,767
Amortization of goodwill - - 11,229
Amortization of other intangible assets 3,292 2,594 2,764
Acquired in-process research and
development charge - 3,000 -
- ----------------------------------------------------------------------------------
Income From Operations 89,398 93,767 88,926
- ----------------------------------------------------------------------------------
Other Income (Expense):
Interest expense (5,711) (6,608) (10,295)
Gain (loss) on sale of investments 2,977 (1,785) -
Investment write-down - (303) (7,848)
Other - net 105 184 38
- ----------------------------------------------------------------------------------
Total (2,629) (8,512) (18,105)
- ----------------------------------------------------------------------------------
Income Before Income Taxes 86,769 85,255 70,821
Income taxes 30,803 32,823 31,847
- ----------------------------------------------------------------------------------
Net Income $ 55,966 $ 52,432 $ 38,974
==================================================================================
Earnings Per Common Share:
Basic $ 2.02 $ 1.80 $ 1.34
Diluted $ 1.97 $ 1.73 $ 1.31
==================================================================================
See Notes to Consolidated Financial Statements.
-F19-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Years ended December 31,
2003 2002 2001
- -----------------------------------------------------------------------------------
OPERATING ACTIVITIES:
Net income $ 55,966 $ 52,432 $ 38,974
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation 39,534 36,853 33,259
Amortization 23,649 19,772 28,062
Investment write-down - 303 7,848
Stock-based compensation 2,351 9,895 5,318
Tax benefits from stock-based compensation 1,883 3,119 1,100
Acquired in-process research and
development charge - 3,000 -
Gain on sale of assets (1,169) (170) (52)
(Gain) loss on sale of investments (2,977) 1,785 -
Deferred income taxes (2,251) 10,578 2,174
Other - net (657) (466) 3,436
Changes in assets and liabilities net of
effects of businesses acquired:
Accounts receivable 229 10,629 28,028
Inventories and other current assets (2,507) 7,335 19,152
Deferred revenues 1,254 5,336 (15,568)
Accounts payable and accrued liabilities 3,446 (12,496) (17,988)
Refundable contract payments (44,022) (7,559) (11,818)
- ------------------------------------------------------------------------------------
Net cash provided by operating activities 74,729 140,346 121,925
- ------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Purchases of property, plant and equipment (28,072) (32,090) (47,503)
Proceeds from sale of property, plant and equipment 3,119 1,926 418
Proceeds from sale of investments 4,985 - -
Payments for acquisition of businesses -
net of cash acquired (11,303) (94,485) (7,509)
Note receivable 1,002 93 1,983
Other - net (246) 23 1,458
- ------------------------------------------------------------------------------------
Net cash (used in) investing activities (30,515) (124,533) (51,153)
- ------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Credit facility borrowings 278,243 250,112 166,773
Credit facility payments (295,186) (230,112) (227,773)
Repayment of long-term debt (88) (125) (6,477)
Repurchases of stock (39,107) (27,707) (10,092)
Issuance of treasury stock 10,714 11,439 6,925
Dividends paid (9,836) (8,777) (8,728)
Debt issuance costs paid (18) (18) (58)
Other - net 371 (1,503) 274
- ------------------------------------------------------------------------------------
Net cash (used in) financing activities (54,907) (6,691) (79,156)
- ------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (10,693) 9,122 (8,384)
Cash and cash equivalents at beginning of year 19,218 10,096 18,480
- ------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 8,525 $ 19,218 $ 10,096
====================================================================================
Supplemental cash flow information:
Interest paid $ 5,607 $ 5,767 $ 10,617
Income taxes paid 32,485 19,808 24,612
===================================================================================
See Notes to Consolidated Financial Statements.
-F20-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years ended December 31, 2003, 2002, and 2001
------------------------------------------------------------------------------
(In thousands, except share Accumulated Unamortized
and per share amounts) Additional Other Restricted Total
Common Paid-in Retained Comprehensive Treasury Stock Shareholders'
Stock Capital Earnings Income (Loss) Stock Awards Equity
- --------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2000 $37,907 $ - $343,998 $ 5,084 $(214,033) $(1,591) $171,365
Net income 38,974 38,974
Other comprehensive income (loss):
Foreign currency
translation adjustments 508 508
Unrealized losses on investments,
net of $660 in tax benefits (7,993) (7,993)
Reclassification for investment
write-down included in net
income, net of $393 in
tax benefits 7,455 7,455
Changes in fair value of cash
flow hedging instruments,
net of $860 in tax benefits (1,344) (1,344)
-------------
Comprehensive income 37,600
-------------
Cash dividends, $0.30 per share (8,728) (8,728)
Repurchase of 505,146 shares of
stock (10,092) (10,092)
Issuance of 910,289 shares of
treasury stock under stock
compensation plans (1,636) (2,080) 22,069 (11,432) 6,921
Other 1,636 (1,483) 4,805 4,958
- --------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2001 37,907 - 372,164 3,710 (203,539) (8,218) 202,024
Net income 52,432 52,432
Other comprehensive income (loss):
Foreign currency
translation adjustments (1,025) (1,025)
Unrealized losses on investments,
net of $334 in tax benefits (3,182) (3,182)
Reclassification for investment
gain and write-down included
in net income, net of $8
in tax benefits 158 158
Changes in fair value of cash
flow hedging instruments,
net of $6 in tax provision 9 9
-------------
Comprehensive income 48,392
-------------
Cash dividends, $0.30 per share (8,777) (8,777)
Repurchase of 1,307,300 shares of
stock (27,707) (27,707)
Issuance of 741,026 shares of
treasury stock under stock
compensation plans (138) (5,091) 23,484 (6,816) 11,439
Other 5,383 (1,618) (4,391) 9,249 8,623
- --------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2002 37,907 5,245 409,110 (330) (212,153) (5,785) 233,994
Net income 55,966 55,966
Other comprehensive income (loss):
Foreign currency
translation adjustments 376 376
Unrealized gain on investments,
net of $22 in tax benefits 980 980
Reclassification for investment
gains included in net income,
net of $155 in tax provisions (2,823) (2,823)
Changes in fair value of cash
flow hedging instruments,
net of $679 in tax provision 1,062 1,062
-------------
Comprehensive income 55,561
-------------
Cash dividends, $0.35 per share (9,836) (9,836)
Repurchase of 1,569,532 shares of
stock (39,107) (39,107)
Issuance of 700,095 shares of
treasury stock under stock
compensation plans (88) (6,512) 18,580 (1,266) 10,714
Other 2,631 (40) (117) 1,643 4,117
- --------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 2003 $37,907 $ 7,788 $448,688 $ (735) $(232,797) $(5,408) $255,443
==========================================================================================================================
See Notes to Consolidated Financial Statements.
-F21-
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Significant Accounting Policies
Consolidation
The consolidated financial statements include the financial statements
of John H. Harland Company and its majority-owned subsidiaries (the "Company").
Intercompany balances and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Cash Equivalents
The Company considers all highly liquid debt instruments with a
maturity, when purchased, of three months or less to be cash equivalents.
Inventories
Inventories are stated at the lower of cost or market. Cost of
inventory for checks and related forms is determined by average costing. Cost of
scannable forms and hardware component parts inventories is determined by the
first-in, first-out method. Cost of data entry terminals is determined by the
specific identification method.
Impairment of Long-Lived Assets
Assets held for disposal are carried at the lower of carrying amount or
fair value, less estimated cost to sell such assets. The Company reviews
long-lived assets and certain intangible assets for impairment when events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable.
Investments
The Company classifies all of its investments as available-for-sale
securities. Such investments consist of U.S. corporate securities and other
equity interests which are stated at market value, with unrealized gains and
losses on such investments reflected, net of tax, as other comprehensive income
in shareholders' equity. Realized gains and losses on investments are included
in earnings and are derived using the specific identification method. If the
market value of an investment declines below its cost, the Company evaluates
whether the decline is temporary or other than temporary. The Company considers
several factors in determining whether a decline is temporary including the
length of time market value has been below cost, the magnitude of the decline,
financial prospects of the business and the Company's intention to hold the
security. If a decline in market value of an investment is determined to be
other than temporary, the carrying amount is written down and included in
current earnings. In June 2002 and September 2001, the Company determined that
the decline in market value of Netzee, Inc. ("Netzee") was other than temporary.
Accordingly, the Company's investment in Netzee was written down resulting in a
recognized loss of $0.3 million in 2002 and $7.8 million in 2001. In December
2002, the Company realized a $1.8 million loss on the disposition of debt and
equity investments resulting from the sale of Netzee. In 2003, the Company sold
its investments in U.S. corporate securities and recorded a gain before income
taxes of $3.0 million.
-F22-
The following is a summary of investments at December 31, 2003 and 2002
(in thousands):
Available-for-sale securities
-----------------------------
Cost Market Value
- --------------------------------------------------------------
2003
Other equity investments $ 222 $ 208
- --------------------------------------------------------------
Total 222 208
==============================================================
2002
Corporate equity securities 1,734 3,611
Other equity investments 222 306
- --------------------------------------------------------------
Total $ 1,956 $ 3,917
==============================================================
Goodwill and Other Intangible Assets
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement No. 141, "Business Combinations" ("SFAS 141") and Statement No. 142,
"Goodwill and Other Intangible Assets" ("SFAS 142"), which address, among other
things, accounting for goodwill and other intangible assets. On July 1, 2001,
the Company adopted SFAS 141 and adopted the portions of SFAS 142 that were
effective for goodwill and intangible assets acquired after June 30, 2001.
Effective January 1, 2002, the Company adopted the remaining portions of SFAS
142 and discontinued amortizing goodwill (see Note 3 for the effects of adopting
this standard).
Goodwill represents the excess of acquisition costs over the fair value
of net assets of businesses acquired. Goodwill acquired prior to July 1, 2001
was amortized on a straight-line basis (over periods ranging from 11 to 40
years) through 2001 after which time amortization of goodwill was discontinued.
The Company reviews goodwill for impairment annually in accordance with the
provisions of SFAS 142. In 2002, the Company engaged an independent valuation
firm to perform a goodwill impairment test. Based on the analysis, there was no
impairment of goodwill upon adoption of SFAS 142. In 2003, the Company's annual
review of goodwill indicated there was no impairment.
Other intangible assets consist primarily of purchased customer lists,
developed technology, content and trademarks that were acquired in business
combinations. Other intangible assets are generally amortized on a straight-line
basis over periods ranging from four to ten years. Amortization periods of other
intangible assets are periodically reviewed to determine whether events or
circumstances warrant revision to estimated useful lives. Carrying values of
other intangible assets are periodically reviewed to assess recoverability based
on expectations of undiscounted cash flows and operating income for each related
business unit.
Refundable Contract Payments
Certain contracts with the Company's customers involve up-front
payments to the customer. These payments are amortized as a reduction of sales
over the life of the related contract and are refundable from the customer on a
pro-rata basis if the contract is terminated.
Software and Other Development Costs
The Company expenses research and development costs, including
expenditures related to development of software products that do not qualify for
capitalization. Research and development costs, which are primarily costs
incurred related to the development of software, totaled $22.6 million, $14.5
million and $15.0 million in 2003, 2002 and 2001, respectively.
Software development costs incurred prior to the establishment of
technological feasibility are expensed as incurred. Software development costs
incurred after the technological feasibility of the subject software product has
-F23-
been established are capitalized in accordance with FASB Statement No. 86,
"Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise
Marketed." Capitalized software development costs are amortized on a
product-by-product basis using the estimated economic life of the product on a
straight-line basis over three to six years. Unamortized software development
costs in excess of estimated future net revenues from a particular product are
written down to their estimated net realizable value.
The Company accounts for costs to develop or obtain computer software
for internal use in accordance with Accounting Standards Executive Committee
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use," which requires certain costs to be
capitalized.
Property, Plant and Equipment
Property, plant and equipment are carried at cost. Depreciation of
buildings is computed primarily by the declining balance method. Depreciation of
equipment, furniture and fixtures is calculated by the straight-line or
sum-of-the-years digits method. Leasehold improvements are amortized by the
straight-line method over the life of the lease or the life of the property,
whichever is shorter. The Company capitalizes the qualifying costs of software
developed or obtained for internal use. Depreciation is computed for internal
use software by using the straight-line method over three to seven years.
Depreciation expense was $39.5 million, $36.9 million and $33.3 million
in 2003, 2002 and 2001, respectively.
Self-Insurance
The Company is primarily self-insured for workers' compensation and
group medical costs. Provisions for losses expected under these programs are
recorded based on the Company's estimates of the aggregate liabilities for the
claims incurred. Payments for claims beyond one year have been discounted. As of
December 31, 2003 and 2002, the combined liabilities for workers compensation
and group medical liability were $9.6 million and $8.8 million, respectively.
Risk Management Contracts
The Company recognizes all derivatives at fair value as either assets
or liabilities in the consolidated balance sheets and changes in the fair values
of such instruments are recognized currently in earnings unless specific hedge
accounting criteria are met. If specific hedge accounting criteria are met, the
Company recognizes the changes in fair value of these instruments in other
comprehensive income.
The Company uses derivative financial instruments to manage interest
rate risk. On the date the interest rate derivative contract is entered into,
the Company designates the derivative as either a fair value hedge or a cash
flow hedge. The Company formally documents the relationship between hedging
instruments and the hedged items, as well as its risk-management objectives and
strategy for undertaking various hedge transactions. The Company links all
hedges that are designated as fair value hedges to specific assets or
liabilities on the balance sheet or to specific firm commitments. The Company
links all hedges that are designated as cash flow hedges to forecasted
transactions or to floating-rate liabilities on the balance sheet. The Company
also assesses, both at the inception of the hedge and on an on-going basis,
whether the derivatives that are used in hedging transactions are highly
effective in offsetting changes in fair values or cash flows of hedged items.
Should it be determined that a derivative is not highly effective as a hedge,
the Company will discontinue hedge accounting prospectively.
During 2003, 2002 and 2001, the Company recorded the changes in values
related to cash flow hedges in other comprehensive income and such changes were
not material. In 2003, 2002 and 2001, the Company did not have any hedging
instruments that were designated as fair value hedges.
-F24-
Translation of Foreign Currencies
Financial statement accounts that are maintained in foreign currencies
are translated into U.S. dollars. Assets and liabilities denominated in foreign
currencies are translated at end-of-period exchange rates. Results of operations
denominated in foreign currencies are translated using average exchange rates
for the year. The resulting currency translation adjustments are reported in
accumulated other comprehensive income. Realized currency exchange gains and
losses resulting from transactions are included in earnings as incurred and were
not significant in 2003, 2002 or 2001. The Company considers undistributed
earnings of foreign subsidiaries to be permanently invested. As a result, no
income taxes have been provided on these undistributed earnings or on the
foreign currency translation adjustments recorded as a part of other
comprehensive income.
Revenue Recognition
The Company recognizes product and services revenue when persuasive
evidence of a non-cancelable arrangement exists, delivery has occurred and/or
services have been rendered, the price is fixed or determinable, collectibility
is reasonably assured, legal title and economic risk is transferred to the
customer and when an economic exchange has taken place.
For multiple-element software arrangements, total revenue is allocated
to each element based on the fair value method or the residual method when
applicable. Under the fair value method, the total revenue is allocated among
the elements based upon the relative fair value of each element as determined
through vendor-specific objective evidence. Under the residual method, the fair
value of the undelivered maintenance, training and other service elements, as
determined based on vendor-specific objective evidence, is deferred and the
remaining (residual) arrangement is recognized as revenue at the time of
delivery. Maintenance fees are deferred and recognized ratably over the
maintenance period, which is usually twelve months. Training revenue is
recognized as the services are performed.
Revenue from licensing of software under usage-based contracts is
recognized ratably over the term of the agreement or on an actual usage basis.
Revenue from licensing of software under limited term license agreements is
recognized ratably over the term of the agreement.
For software that is installed and integrated by the Company or
customer, revenue is recognized upon shipment assuming functionality has already
been proven and there are no customizations that would cause a substantial
acceptance risk. For software that is installed, customized and integrated by
the Company, revenue is recognized on a percentage-of-completion basis as the
services are performed. Estimates of efforts to complete a project are used in
the percentage-of-completion calculation. Due to the uncertainties inherent in
these estimates, actual results could differ from those estimates.
The contractual terms of software sales do not provide for product
returns or allowances. However, on occasion, the Company may allow for returns
or allowances primarily in the case of a new product release. Provisions for
estimated returns and sales allowances are established by the Company
concurrently with the recognition of revenue and are based on a variety of
factors including actual return and sales allowance history and projected
economic conditions. The Company has not incurred any significant amount of
returns or sales allowances in 2003, 2002 or 2001.
Service revenues are comprised of revenues derived from software
maintenance agreements, field maintenance services, core processing service
bureau deliverables, analytical services, consulting services and training
services.
-F25-
Shipping and Handling
Revenue received from shipping and handling fees is reflected in net
sales. Costs related to shipping and handling are included in cost of goods
sold.
Stock-Based Compensation
The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") and related
interpretations in accounting for its stock-based compensation plans and applies
the disclosure-only provisions of FASB Statement No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), as amended by FASB Statement No. 148,
"Accounting for Stock-Based Compensation-Transition and Disclosure" ("SFAS
148").
The Company recognizes stock-based compensation expense for restricted
stock granted to employees and also for the deferred compensation plan for
non-employee directors. No stock-based compensation cost is reflected in net
income for options or purchases under the employee stock purchase plan. Had
compensation cost for options granted under the Company's stock-based
compensation plans and purchases under the employee stock purchase plan been
determined based on the fair value at the grant dates consistent with SFAS 123,
the Company's net income and earnings per share would have changed to the pro
forma amounts listed below (in thousands, except per share amounts):
2003 2002 2001
- ---------------------------------------------------------------------------
Net income:
As reported $ 55,966 $ 52,432 $ 38,974
Add: stock-based compensation
expense included in reported
net income, net of tax 1,434 6,036 3,244
Deduct: stock-based compensation
expense determined under the
fair value based method for
all awards, net of tax (5,809) (11,117) (4,497)
- ---------------------------------------------------------------------------
Pro forma net income $ 51,591 $ 47,351 $ 37,721
===========================================================================
Earnings per common share:
As reported
Basic $ 2.02 $ 1.80 $ 1.34
Diluted $ 1.97 $ 1.73 $ 1.31
Pro forma
Basic $ 1.86 $ 1.63 $ 1.30
Diluted $ 1.85 $ 1.61 $ 1.27
See Note 9 for more information regarding the Company's stock
compensation plans and the assumptions used to prepare the pro forma information
presented above.
-F26-
Earnings Per Common Share
Earnings per common share for the years ended December 31, 2003, 2002
and 2001 have been computed under the provisions of FASB Statement No. 128,
"Earnings Per Share." The computation of basic and diluted earnings per share
was as follows (in thousands, except per share amounts):
2003 2002 2001
- ----------------------------------------------------------------------------
Computation of basic earnings per common share:
- ----------------------------------------------------------------------------
Numerator
Net income $ 55,966 $ 52,432 $ 38,974
- ----------------------------------------------------------------------------
Denominator
Weighted average shares outstanding 27,624 29,026 29,000
Weighted average deferred shares
outstanding under non-employee
directors compensation plan 116 95 73
- ----------------------------------------------------------------------------
Weighted average shares outstanding - basic 27,740 29,121 29,073
- ----------------------------------------------------------------------------
Earnings per share - basic $ 2.02 $ 1.80 $ 1.34
============================================================================
Computation of diluted earnings per common share:
- ----------------------------------------------------------------------------
Numerator
Net income available to shareholders $ 55,966 $ 52,432 $ 39,143(a)
- ----------------------------------------------------------------------------
Denominator
Weighted average shares outstanding-basic 27,740 29,121 29,073
Dilutive effect of stock options and
restricted stock 671 1,123 911
- ----------------------------------------------------------------------------
Weighted average shares outstanding - diluted 28,411 30,244 29,984
- ----------------------------------------------------------------------------
Earnings per share - diluted $ 1.97 $ 1.73 $ 1.31
============================================================================
(a) Adjusted for the effect of the interest on the conversion of subordinated
debt.
The potentially dilutive common shares relate to options and restricted
stock granted under stock compensation plans. Potentially dilutive common shares
that were not included in the calculation of diluted earnings per share for
2003, 2002 and 2001 because they were anti-dilutive were 77,530, 57,000 and
151,000, respectively.
Income Taxes
The Company recognizes a liability or asset for the deferred tax
consequences of temporary differences between financial statement and tax bases
of assets and liabilities. A valuation allowance is provided for deferred tax
assets for which realization cannot be considered likely.
New Accounting Standards
In April 2002, the FASB issued Statement No. 145, "Rescission of FASB
Statements 4, 44 and 64, Amendment to FASB Statement 13, and Technical
Corrections" ("SFAS 145"). One of the major changes of SFAS 145 is to change the
accounting for the classification of gains and losses from the extinguishment of
debt. The Company adopted SFAS 145 on January 1, 2003 and uses APB Opinion No.
30, "Reporting the Results of Operations--Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions" in determining whether such extinguishment of debt may
be classified as extraordinary. Adoption of SFAS 145 did not have a material
effect on the Company's financial position or results of operations.
In June 2002, the FASB issued Statement No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities" ("SFAS 146"). SFAS 146 requires
-F27-
recording costs associated with exit or disposal activities at their fair values
when a liability has been incurred. Under previous guidance, certain exit costs
were accrued upon management's commitment to an exit plan, which is generally
before an actual liability has been incurred. The Company adopted SFAS 146 on
January 1, 2003. Adoption of SFAS 146 did not have a material effect on the
Company's financial position or results of operations. The Company has applied
the provisions of SFAS 146 to the Company's reorganization actions initiated in
September 2003 (see Note 5).
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Guarantees of
Indebtedness of Others" ("FIN 45"), which requires companies to recognize, at
the inception of a guarantee, a liability for the fair value of the obligation
undertaken in issuing the guarantee. FIN 45 provides specific guidance
identifying the characteristics of contracts that are subject to its guidance in
its entirety from those only subject to the initial recognition and measurement
provisions. The recognition and measurement provisions of FIN 45 are effective
on a prospective basis for guarantees issued or modified after December 31,
2002. The Company adopted the recognition and measurement provisions of FIN 45
on January 1, 2003. Adoption of these provisions did not have a material effect
on the Company's financial position or results of operations.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation
of Variable Interest Entities" ("FIN 46"). FIN 46 provides accounting
requirements for business enterprises to consolidate related entities in which
they are determined to be the primary beneficiary as a result of their variable
economic interests. The interpretation provides guidance in judging multiple
economic interests in an entity and in determining the primary beneficiary. FIN
46 is effective immediately for all new variable interest entities created or
acquired after January 31, 2003. For variable interest entities created or
acquired prior to February 1, 2003, the provisions of FIN 46 must be applied in
2004. In December 2003, the FASB published a revision to FIN 46 ("FIN 46R") to
clarify some of the provisions of the interpretation and to defer the effective
date for certain entities. Under the guidance of FIN 46R, entities that do not
have an interest in structures that are commonly referred to as special purpose
entities are required to apply the provisions of the interpretation in financial
statements for periods ending after March 14, 2004. The Company adopted certain
provisions of FIN 46 during the second quarter of 2003 and this adoption did not
have a material effect on the Company's financial position or results of
operations. The Company believes that the adoption of the remaining provisions
of FIN 46 will not have a material effect on its financial position or results
of operations.
In April 2003, the FASB issued Statement No. 149, "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities" ("SFAS 149").
SFAS 149 amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under FASB Statement No. 133, "Accounting
for Derivative Instruments and Hedging Activities." SFAS 149 requires that
contracts with comparable characteristics be accounted for similarly for
contracts entered into or modified after June 30, 2003. The Company adopted SFAS
149 on July 1, 2003. Adoption of SFAS 149 did not have a material effect on the
Company's financial position or results of operations.
In May 2003, the FASB issued Statement No. 150, "Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and Equity"
("SFAS 150"). SFAS 150 requires that an issuer classify financial instruments
that are within its scope as a liability (or an asset in some circumstances)
instead of equity as previously classified. SFAS 150 is effective for financial
instruments entered into or modified after May 31, 2003 and otherwise effective
at the beginning of the first interim period beginning after June 15, 2003. As a
result of concerns over implementation and measurement issues, the FASB
unanimously decided on October 29, 2003 to defer the application of SFAS 150 to
certain non-controlling interests of limited-life entities that are consolidated
in the financial statements. Adoption of SFAS 150 did not have a material effect
on the Company's financial position or results of operations.
-F28-
Reclassifications
During the third quarter of 2003, the Company reclassified certain
items in its consolidated income statements. The reclassifications affected the
categories of Selling, General and Administrative expenses and Other Income
(Expense). The change primarily reflects the reclassification of gains or losses
on the sale of assets as well as certain other expenses from Other Income
(Expense) to Selling, General and Administrative expenses. Financial data for
all periods presented have been reclassified for comparability. The
reclassifications had no impact on net income or shareholders' equity as
previously reported. Certain other reclassifications have been made in the 2002
and 2001 financial statements and notes to financial statements to conform to
the 2003 classifications.
2. Acquisitions
All acquisitions in 2003, 2002 and 2001 were paid for with cash
provided from operating activities and proceeds from the Company's credit
facility. The results of operations of each acquired business have been included
in the Company's operations beginning as of the date of the particular
acquisition.
2003 Acquisition
On June 3, 2003, Harland Financial Solutions, Inc. ("HFS"), a wholly
owned subsidiary of the Company, extended its core systems offering with the
acquisition of 100% of the equity of Premier Systems, Inc. ("PSI") for
approximately $11.3 million, net of cash acquired. The fair value of assets and
liabilities at the date of acquisition consisted of non-deductible goodwill of
$9.5 million, customer list of $6.0 million (estimated useful life of ten
years), other assets of $4.3 million and assumed liabilities of $8.5 million.
The allocation of purchase price is subject to refinement as the Company
finalizes the valuation of certain assets and liabilities. The pro forma effects
on the results of operations for the acquisition were not material. PSI was a
provider of core processing service bureau deliverables that were based on HFS'
widely used ULTRADATA(R) System. With the addition of PSI, HFS now provides core
processing applications and services to more than 1,000 financial institutions.
2002 Acquisitions
On October 15, 2002, HFS, acquired 100% of the equity in INTERLINQ
Software Corporation ("INTERLINQ") for approximately $23.0 million, net of cash
acquired. INTERLINQ was a leading provider of mortgage loan origination,
production and servicing solutions. As part of the acquisition, the Company
acquired in-process research and development costs totaling $3.0 million, which
were immediately expensed following the acquisition. These costs represented the
fair value of certain acquired research and development projects that were
determined to have not reached technological feasibility. As a result of the
acquisition, the Company believes HFS has a leadership position in the mortgage
loan origination market and good growth opportunity in the mortgage servicing
market.
On September 20, 2002, HFS extended its core systems offering with the
acquisition of certain assets and related liabilities of SPARAK Financial
Systems, LLC ("SPARAK") for approximately $31.9 million, net of cash acquired.
The acquisition agreement included a contingent purchase payment not to exceed
$2.0 million to be made in the event certain growth targets were achieved as
defined in the agreement. As of December 31, 2003, the end of the measurement
period, those growth targets were not achieved and as a result, no contingent
payments will be made. SPARAK was a leading provider of integrated hardware and
software systems for community banks. The acquisition was completed to build on
the HFS leadership position in the financial institutions market and add
additional value for SPARAK's existing customers.
On July 24, 2002, Scantron Corporation ("Scantron"), a wholly owned
subsidiary of the Company, acquired 100% of the equity in EdVISION Corporation
("EdVISION") for approximately $28.8 million, net of cash acquired. Related to
the acquisition of EdVISION, the Company entered into an incentive agreement
with certain individuals that includes contingent payments to be made in the
event certain growth targets are achieved as defined in the incentive agreement.
These contingent payments, which will not exceed $2.0 million, are payable
-F29-
during or before 2005 and will be expensed at the time of payment to the extent
such payments are ultimately made. As of December 31, 2003, no contingent
payments have been made. EDVISION was a leading provider of curriculum
development and assessment tools for the education industry. This acquisition
expands Scantron's ability to offer advanced testing and assessment tools in the
education market.
On May 28, 2002, HFS acquired 100% of the equity in Easy Systems, Inc.
("Easy Systems") for approximately $10.8 million, net of cash acquired. Easy
Systems was a software solutions company that provided turnkey branch automation
solutions for the community bank market. The addition of Easy Systems allows HFS
to offer financial institutions proven and leading-edge solutions to help them
strengthen customer relationships while improving operations.
The combined purchase price for net assets acquired through
acquisitions in 2002 totaled $94.5 million, net of cash acquired. The following
table summarizes the estimated fair values of the assets acquired and
liabilities assumed on the acquisition dates (in thousands):
Weighted Average
Useful Life
Value in Years
- ---------------------------------------------------------------
Current assets $ 8,751
Property, plant and equipment 1,653
Goodwill 79,063
Intangible assets:
Developed technology 13,570 6
Customer lists 6,150 9
Acquired in-process
research and development 3,000 -
Trademarks 3,800 10
Content 2,300 10
--------
Total intangible assets 28,820
Other assets 7,219
- ---------------------------------------------------------------
Total assets acquired 125,506
- ---------------------------------------------------------------
Current liabilities 24,872
Other liabilities 6,149
- ---------------------------------------------------------------
Total liabilities assumed 31,021
- ---------------------------------------------------------------
Net assets $ 94,485
===============================================================
The allocation of purchase price to intangible assets included $3.0
million for acquired in-process research and development costs that were written
off at the date of acquisition. Those write-offs are disclosed separately in the
statements of income. The remaining $25.8 million of acquired intangible assets
have a weighted average useful life of approximately 7.7 years.
The allocations of the purchase price to the assets and liabilities
acquired in 2002 resulted in $79.1 million allocated to goodwill of which $26.4
million is expected to be deductible for tax purposes. Goodwill of $54.2 million
and $24.9 million was assigned to the Company's Software & Services and Scantron
business segments, respectively.
-F30-
The following unaudited pro forma summary presents information as if
the acquisitions of the businesses acquired in 2002 occurred at the beginning of
that year, as well as the beginning of the immediately preceding year (in
thousands, except per share amounts):
(Unaudited) 2002 2001
- -----------------------------------------------------------
Sales $ 798,663 $ 793,312
Net income $ 48,805 $ 31,423
Earnings per common share:
Basic $ 1.68 $ 1.08
Diluted $ 1.61 $ 1.06
The unaudited pro forma summary for all periods presented includes
adjustments for increased amortization of intangible assets and increased
interest expense. The pro forma summary also includes the write-off of acquired
in-process research and development costs totaling $3.0 million for each of the
years ended December 31, 2002 and 2001. The unaudited pro forma summary does not
purport to be indicative of either the results of operations that would have
occurred had the acquisitions taken place at the beginning of the periods
presented or of future results.
2001 Acquisitions
In March 2001, Scantron acquired 100% of the equity in ImTran, Inc.
("ImTran"). ImTran was a data collection and document capture solutions firm
specializing in automated data collection and document imaging. In October 2001,
the Company's Printed Products segment acquired the assets of DocuPrint,
Incorporated ("DocuPrint"). DocuPrint produced forms for major financial
institutions. Also in October 2001, the Company's Scantron subsidiary acquired
substantially all the assets of the Scanning Systems division of Associated
Business Products, Inc., a subsidiary of Global DocuGraphix, Inc., for
approximately $6.0 million in cash.
Assets acquired through acquisitions in 2001 totaled $7.5 million. Of
the total 2001 consideration paid, $5.8 million was allocated to goodwill of
which $5.7 million was assigned to the Scantron segment. The pro forma effects
on results of operations for the 2001 business acquisitions were not material.
3. Goodwill and Intangible Assets
Under SFAS 142, goodwill and intangible assets with indefinite lives
are no longer amortized but are tested at least annually for impairment.
Separable intangible assets with definitive lives will continue to be amortized
over their useful lives.
The following presents a reconciliation of net income and earnings per
share information for the years ended December 31, 2003, 2002 and 2001 adjusted
for the provisions of SFAS 142 to exclude the amortization of goodwill and other
indefinite-lived intangible assets (in thousands, except per share amounts):
-F31-
2003 2002 2001
- -------------------------------------------------------------------------
Net income:
As reported $ 55,966 $ 52,432 $ 38,974
Add: Goodwill amortization,
net of tax effect - - 10,366
- -------------------------------------------------------------------------
Adjusted net income $ 55,966 $ 52,432 $ 49,340
=========================================================================
Basic earnings per share:
As reported $ 2.02 $ 1.80 $ 1.34
Goodwill amortization $ - $ - $ 0.36
Adjusted $ 2.02 $ 1.80 $ 1.70
Diluted earnings per share:
As reported $ 1.97 $ 1.73 $ 1.31
Goodwill amortization $ - $ - $ 0.34
Adjusted $ 1.97 $ 1.73 $ 1.65
The changes in the carrying amounts of goodwill by business segment for
the years ended December 31, 2003 and 2002 are as follows (in thousands):
Printed Software & Consoli-
Products Services Scantron dated
- --------------------------------------------------------------------------
Balances as of
December 31, 2001 $ 24,572 $ 82,128 $ 18,709 $125,409
Goodwill acquired
during 2002 - 56,176 24,945 81,121
Purchase price
allocation
adjustments - net 137 3,795 - 3,932
- --------------------------------------------------------------------------
Balances as of
December 31, 2002 24,709 142,099 43,654 210,462
Goodwill acquired
during 2003 - 9,537 - 9,537
Purchase price
allocation
adjustments - net - (2,162) (88) (2,250)
- --------------------------------------------------------------------------
Balances as of
December 31, 2003 $ 24,709 $149,474 $ 43,566 $217,749
==========================================================================
Intangible assets with definitive lives at December 31, 2003 and 2002
were comprised of the following (in thousands):
December 31, 2003 December 31, 2002
------------------------------ -----------------------------
Gross Net Gross Net
Carrying Accum. Carrying Carrying Accum. Carrying
Amount Amort. Amount Amount Amort. Amount
- -------------------------------------------------------------------------
Developed
technology $24,787 $(11,851) $12,936 $25,467 $ (7,460) $18,007
Customer
lists 25,900 (12,366) 13,534 26,033 (15,587) 10,446
Trademarks 3,800 (499) 3,301 3,800 (119) 3,681
Content 2,300 (327) 1,973 2,300 (97) 2,203
- -------------------------------------------------------------------------
Total $56,787 $(25,043) $31,744 $57,600 $(23,263) $34,337
=========================================================================
Carrying amounts of developed technology and content are included in
the other assets caption on the balance sheets and the related amortization
expense is included in the cost of goods sold caption on the statements of
income.
-F32-
Aggregate amortization expense for intangible assets totaled $8.8
million and $7.5 million for the years ended December 31, 2003 and 2002,
respectively.
The estimated intangible amortization expense for each of the next five
years beginning January 1, 2004 is as follows (in thousands):
Year Amount
- --------------------------------------------------------------------
2004 $ 8,377
2005 5,968
2006 5,452
2007 4,630
2008 3,144
Thereafter 4,173
- --------------------------------------------------------------------
Total $31,744
====================================================================
4. Property Held for Sale
At December 31, 2003, property held for sale consisted of the Company's
Printed Products facility in St. Louis, Missouri. At December 31, 2002, property
held for sale consisted of Printed Products facilities in Portland, Oregon and
St. Louis, Missouri. These facilities were closed in 2002 as part of a
production consolidation program and reclassified as held for sale during 2002.
In 2003, the Company sold the Portland facility and realized a pre-tax gain of
$0.8 million, which was included as a reduction of selling, general and
administrative expenses on the statements of income. Management is actively
marketing the sale of the St. Louis facility and believes this facility will be
sold within the next 12 months.
Property held for sale at December 31, 2003 and 2002 consists of the
following (in thousands):
2003 2002
- ---------------------------------------------------------------
Land $ 190 $ 434
Buildings and improvements 2,362 3,775
Machinery and equipment 50 50
Furniture and fixtures 24 36
- ---------------------------------------------------------------
Property held for sale $2,626 $4,295
===============================================================
5. Reorganization
In September 2003, the Company announced a reorganization of its
Printed Products operations including a plan to consolidate its domestic
manufacturing operations from 14 plants to 9 plants, with the first plant
closing in the first quarter of 2004 and the last affected plant closing in the
third quarter of 2004. Two of the facilities being closed are leased. One
facility is under lease through late 2005 and the other is under lease through
mid 2010. In addition to the plant consolidation, Printed Products implemented
other staffing reductions beginning in the fourth quarter of 2003 and will
continue with additional staffing reductions throughout 2004. These actions are
primarily due to excess capacity in production facilities resulting from
efficiencies realized from digital printing technology and other production and
support systems and lower volumes attributable to the losses of certain large
customers including a direct check marketer and general market volume decline.
The Company estimates net pre-tax expenses associated with the plant
consolidations will total $10.7 million consisting of employee severance ($3.1
million), revision of depreciable lives and salvage values of furniture and
equipment, asset impairment charge and disposal gains and losses ($2.2 million),
relocation and other costs ($2.8 million) and contract termination costs related
to leaseholds ($2.6 million). The other staffing reduction actions will result
in a total estimated expenses of $5.9 million related to employee severance
costs. The Company believes these actions will bring its production and support
structures in line with its business levels.
-F33-
In 2003, plant consolidation costs totaled $4.0 million, which
consisted of $2.1 million related to the revision of depreciable lives and
salvage values of furniture and equipment, $1.7 million for employee severance
costs and $0.2 million for relocation and other costs. Employee severance costs
for other staffing reduction actions totaled $2.9 million. These costs are
included in the results of operations in 2003 with plant consolidation costs
included in cost of goods sold and the other staffing reduction costs included
in selling, general and administrative expenses.
Severance and other cash payments made in 2001 and 2002 related
primarily to costs recognized in 2000 when the Company reorganized into three
distinct segments.
The following reconciles the beginning and ending liability balances
for 2003, 2002 and 2001 related to these actions and are included in the other
accrued liabilities caption on the balance sheet (in thousands):
Charged to Utilized
Beginning Costs and -------------------- Ending
Balance Expenses Cash Non-Cash Balance
- ----------------------------------------------------------------------------------
2001
Segment reorganization:
Employee severance $ 3,115 $ - $ (2,982) $ (87) $ 46
Other 181 - (125) - 56
- ----------------------------------------------------------------------------------
Total 3,296 - (3,107) (87) 102
==================================================================================
2002
Segment reorganization:
Employee severance 46 - (46) - -
Other 56 - (56) - -
- ----------------------------------------------------------------------------------
Total 102 - (102) - -
==================================================================================
2003
Plant consolidation:
Employee severance - 1,730 (71) - 1,659
Revision of
depreciable lives
and salvage values - 2,138 - (2,138) -
Relocation and other
costs - 82 (82) - -
Staffing reduction
actions:
Employee severance - 2,901 (1,776) - 1,125
- ----------------------------------------------------------------------------------
Total $ - $ 6,851 $ (1,929) $ (2,138) $ 2,784
==================================================================================
6. Long-Term Debt
In February 2004, the Company amended its credit facility (the "Credit
Facility") with a syndicate of banks increasing the amount from $325.0 million
to $425.0 million. The Credit Facility is comprised of a $100.0 million term
loan and a $325.0 million revolving loan, both of which mature in 2009. The term
loan requires annual repayments of $5.0 million. As a result, the Credit
Facility will decrease by $5.0 million per annum to $400.0 million at the 2009
maturity date. The Credit Facility may be used for general corporate purposes,
including acquisitions, and includes both direct borrowings and letters of
credit. The Credit Facility is unsecured and the Company presently pays a
commitment fee of 0.175% on the unused amount of the Credit Facility. Borrowings
under the Credit Facility bear interest, at the Company's option, based upon one
of the following indices (plus a margin as defined): the Federal Funds Rate, the
SunTrust Bank Base Rate or LIBOR. The Credit Facility has certain financial
covenants including, among other items, leverage, fixed charge and minimum net
-F34-
worth requirements. The Credit Facility also has restrictions that limit the
Company's ability to incur additional indebtedness, grant security interests or
sell its assets beyond certain amounts. In order to reflect the terms of the
amended Credit Facility, the Company reclassified $122.0 million of its
outstanding debt at December 31, 2003 to long-term.
Long-term debt consisted of the following as of December 31, 2003 and
2002 (in thousands):
2003 2002
- -------------------------------------------------------------------------
Credit Facility $ 127,057 $ 144,000
Other 101 189
- -------------------------------------------------------------------------
Total 127,158 144,189
Less current portion 5,099 83
- -------------------------------------------------------------------------
Long-term debt $ 122,059 $ 144,106
=========================================================================
At December 31, 2003, the Credit Facility consisted of $127.1 million
in outstanding cash borrowings and $5.1 million in outstanding letters of
credit. At December 31, 2003, the Company's previous credit facility permitted
borrowings of $325.0 million and had $192.8 million of availability.
Subsequently, the Company's previous credit facility was amended, as described
above, increasing by $100.0 million to an amount of $425.0 million. The average
interest rate in effect on outstanding cash borrowings at December 31, 2003 and
2002, including the effect of the Company's interest rate hedging program (see
Note 12), was 2.94% and 3.98%, respectively.
Other long-term debt relates to other miscellaneous obligations. At
December 31, 2003, the Company believes it was in compliance with the covenants
associated with all debt instruments. Annual maturities of long-term debt during
the next five years are $5.1 million in 2004 and $5.0 million annually during
the years 2005 through 2008.
7. Income Taxes
The income tax provision (benefit) for the years ended December 31,
2003, 2002 and 2001 consisted of the following (in thousands):
2003 2002 2001
- -------------------------------------------------------------------------
Current:
Federal $ 28,457 $ 19,806 $ 25,747
State 4,597 2,439 3,926
- -------------------------------------------------------------------------
Total 33,054 22,245 29,673
- -------------------------------------------------------------------------
Deferred:
Federal (1,994) 9,001 2,119
State (257) 1,577 55
- -------------------------------------------------------------------------
Total (2,251) 10,578 2,174
- -------------------------------------------------------------------------
Total income taxes $ 30,803 $ 32,823 $ 31,847
=========================================================================
The Company utilized net operating losses, capital losses and tax
credits of $8,623,000, $5,685,000 and $6,551,000 in the calculation of current
tax expense for the years ended December 31, 2003, 2002 and 2001, respectively.
-F35-
The tax effects of significant items comprising the Company's net deferred tax
assets as of December 31 were as follows (in thousands):
2003 2002
- ---------------------------------------------------------------------------
Current deferred tax asset:
Accrued vacation $ 3,067 $ 3,021
Deferred revenues 1,732 1,570
Accrued liabilities 3,757 4,023
Benefit of net operating loss carryforwards 20,162 12,332
Allowance for doubtful accounts 733 1,307
Other 3,066 4,724
- --------------------------------------------------------------------------
Total 32,517 26,977
- --------------------------------------------------------------------------
Non-current deferred tax asset (liability):
Difference between book and tax basis
of long term assets (28,175) (26,671)
Deferred revenues 2,627 2,844
Deferred compensation 2,516 2,344
Postretirement benefits obligation 5,419 5,342
Capital loss carryforwards 25,753 27,927
Benefit of net operating loss carryforwards 12,514 14,770
Other 2,476 2,251
- --------------------------------------------------------------------------
Total 23,130 28,807
Valuation allowance (28,217) (30,557)
- --------------------------------------------------------------------------
Non-current deferred tax liability (5,087) (1,750)
- --------------------------------------------------------------------------
Net deferred tax asset $ 27,430 $ 25,227
==========================================================================
At December 31, 2003 and 2002, the total of all deferred tax assets was
$135.2 million and $123.3 million, respectively, and the total of all deferred
tax liabilities was $79.5 million and $67.5 million, respectively.
At December 31, 2003, there was a $2.5 million valuation allowance for
federal and state net operating losses, which will be recorded as a reduction to
goodwill if utilized. During 2001, the Company utilized approximately $1.7
million of capital losses recognized in a prior year to offset unrealized
capital gains associated with investments recorded in other comprehensive
income.
At December 31, 2003, the Company had net operating and capital loss
carryforwards and other tax credits available for federal and state income tax
purposes, which expire as indicated below (in thousands):
Net Operating Loss
Year of Carryforwards Capital Loss
Expiration Federal State Carryforwards Other Total
- -------------------------------------------------------------------------
2004 $ - $ - $ 67,719 $ - $ 67,719
2005 - 2007 - - 4,724 204 4,928
2008 - 2019 4,217 4,297 - 830 9,344
2020 - 2023 73,246 - - 318 73,564
No expiration - - - 49 49
- -------------------------------------------------------------------------
Total $ 77,463 $ 4,297 $ 72,443 $ 1,401 $155,604
=========================================================================
A substantial amount of these federal tax carryforwards were acquired
in the acquisitions the Company made in 2000 and 2002. Therefore, utilization of
these tax carryforwards is subject to an annual limitation under the Internal
Revenue Code and Regulations.
The Company has established a valuation allowance for certain net
operating loss and capital loss carryforwards. Management believes that, based
on a number of factors, the available objective evidence creates uncertainty
regarding the utilization of these carryforwards.
-F36-
The following reconciles the income tax provision at the U.S. federal
income tax statutory rate of 35% to that in the financial statements (in
thousands):
2003 2002 2001
- -------------------------------------------------------------------------
Statutory rate $ 30,369 $ 29,839 $ 24,787
State and local income taxes, net
of federal income tax benefit 2,804 2,396 2,669
Non-deductible goodwill
amortization - - 3,156
Change in valuation allowance (2,600) 65 1,789
In-process research and development
charge - 1,050 -
Benefits from tax credits (1,117) (593) (441)
Other - net 1,347 66 (113)
- --------------------------------------------------------------------------
Income tax provision $ 30,803 $ 32,823 $ 31,847
==========================================================================
The reduction in the valuation allowance in 2003 was a result of the
utilization of capital loss carryforwards for which a valuation allowance had
been recorded in 2001. The valuation allowance increased in 2001 as certain
capital loss carryforwards were not expected to be utilized before their
expiration.
8. Shareholders' Equity
In March 2000, the Company's Board of Directors authorized the purchase
of 2,900,000 shares of the Company's outstanding common stock. In January 2003,
the Board authorized the purchase of an additional 3,000,000 shares. Shares
purchased under these programs may be held in treasury, used for acquisitions,
used to fund the Company's stock benefit and compensation plans or for other
corporate purposes.
In 2003, the Company purchased a total of 1,569,532 shares under these
programs at a cost of $39.1 million or an average cost of $24.92 per share. Of
the total shares purchased in 2003, 1,147,554 shares concluded the authorization
approved in 2000 to purchase 2,900,000 million shares and the remaining 421,978
shares were purchased under the authorization approved in 2003 to purchase
3,000,000 shares.
In 1999, the Company renewed its Shareholder Rights Agreement. The
rights were distributed as a dividend at the rate of one right for each share of
common stock of the Company held by shareholders of record. Each right entitles
shareholders to buy, upon occurrence of certain events, $180.00 worth of common
stock for $90.00, subject to adjustment based on the market value of such common
stock at that time. The rights generally will be exercisable only if a person or
group acquires beneficial ownership of 15% or more of the Company's common
stock, or commences a tender or exchange offer that, upon consummation, would
result in a person or group owning 30% or more of the Company's common stock.
Under certain circumstances the rights are redeemable at a price of $0.001 per
right. The rights expire on July 5, 2009.
9. Stock Compensation Plans
Under the Company's Employee Stock Purchase Plan ("ESPP"), the Company
is authorized to issue up to 5,100,000 shares of common stock to its employees,
most of whom are eligible to participate. Under the ESPP, eligible employees may
exercise an option to purchase shares of Company stock through payroll
deductions. The option price is 85% of the lower of the beginning-of-quarter or
end-of-quarter market price. During 2003, 2002, and 2001, employees exercised
options to purchase 154,953, 111,883 and 116,450 shares, respectively. Options
granted under the ESPP were at prices ranging from $18.99 to $22.67 in 2003,
$18.30 to $24.51 in 2002 and $12.03 to $18.62 in 2001. At December 31, 2003,
there were 484,482 shares of common stock reserved for issuance under the ESPP.
-F37-
Under the Company's 1999 Stock Option Plan, the Company may grant stock
options to key employees to purchase shares of Company stock at no less than the
fair market value of the stock on the date of the grant or issue restricted
stock to such employees. The Company is authorized to issue up to 2,000,000
shares of common stock under the plan. Stock options have a maximum life of ten
years and generally vest ratably over a five-year period beginning on the first
anniversary date of the grant. Upon adoption of the 1999 plan, the Company
terminated a previous plan except for options outstanding thereunder. Options
granted under such plan are generally exercisable ratably over a five-year
period beginning on the first anniversary of the date of grant, and have a
maximum life of ten years. Certain options granted in 1998 and 1999 vest per
specified schedules beginning one to five years from the date of the grant.
In 2000, the Company adopted the 2000 Stock Option Plan which
authorizes the issuance of up to 3,000,000 shares through stock options and
grants of restricted stock. The 2000 Plan is substantially similar to the 1999
Plan, except that the Company's executive officers are ineligible to receive
options or stock grants thereunder.
In 2002, the Company adopted the 2002 Stock Option Plan which
authorizes the issuance of up to 1,000,000 shares through stock options and
grants of restricted stock. The 2002 plan is substantially similar to the 1999
plan.
As of December 31, 2003, there were 4,901,857 shares of common stock
reserved for issuance under these stock option plans.
Restricted stock grants generally vest over a period of five years,
subject to earlier vesting if the Company's common stock outperforms the S&P 500
in two of three consecutive years. Unearned compensation is recorded at the date
of the award based on the market value of shares issued and is amortized over
the period of restriction. The certificates covering the restricted stock are
not issued until the restrictions lapse but the shares have all the rights of
other shares of common stock, subject to certain restrictions. The restricted
stock is generally forfeited if the employee is terminated for any reason prior
to the lapse in restrictions, other than death or disability.
In December 2002, the conditions for early vesting were met on 120,450
shares after the Company's common stock outperformed the S&P 500 in 2002 and
2001.
In February 2001, the Company effected a voluntary program allowing
certain officers to exchange certain options for a grant of restricted stock.
Options to purchase 840,000 shares with a weighted average exercise price of
$24.09 were exchanged for 295,905 shares of restricted stock. At the same time,
an additional 105,500 shares of restricted stock were granted to such officers
as part of an annual grant. These shares of restricted stock vest to the extent
of one third of the grant when the closing stock price reaches at least $22.50
for ten consecutive trading days and two thirds of the grant vest when the
closing stock price similarly reaches at least $27.00. In August 2001, the
vesting conditions for one third of these shares were met and, in February 2002,
the vesting conditions on the remaining two thirds were met.
In April 2002, upon approval of the 2002 Stock Option Plan by the
Company's shareholders, the Company's Chief Executive Officer was granted 50,000
restricted shares. The restrictions expire annually on 12,500 shares beginning
in December 2002 and are subject to earlier vesting if the Company's common
stock outperforms the S&P 500 in two of three consecutive years. All restricted
stock granted to the Company's Chief Executive Officer vests in the event of a
change in control, termination of employment without cause or resignation for
good reason. He was also granted an option at such time to purchase 400,000
shares at $31.00 per share. This option has a ten-year life and was fully vested
and exercisable at the date of grant.
In 1998, the Board of Directors granted 50,000 restricted shares of the
Company's common stock to the Company's Chief Executive Officer. The
restrictions expired on 25,000 shares in October 2001, on 12,500 shares in
October 2002 and on the remaining 12,500 shares in October 2003.
-F38-
A summary of option transactions during the three years ended December
31, 2003, follows:
Weighted
Average
Exercise
Shares Price
- -------------------------------------------------------------------------
Outstanding - December 31, 2000 4,501,650 $ 17.47
Options granted 627,500 14.32
Options canceled (1,319,950) 21.91
Options exercised (372,601) 18.85
- -------------------------------------------------------------------------
Outstanding - December 31, 2001 3,436,599 16.36
Options granted 1,656,675 24.84
Options canceled (438,300) 18.25
Options exercised (566,749) 16.11
- -------------------------------------------------------------------------
Outstanding - December 31, 2002 4,088,225 19.63
Options granted 712,675 21.73
Options canceled (460,525) 20.07
Options exercised (484,450) 15.38
- -------------------------------------------------------------------------
Outstanding - December 31, 2003 3,855,925 $ 20.50
=========================================================================
The following table summarizes information pertaining to options
outstanding and exercisable as of December 31, 2003:
Options Outstanding
- -------------------------------------------------------------------------
Weighted
Average Weighted
Remaining Average
Range of Contractual Exercise
Exercise Prices Options Life(Years) Price
- -------------------------------------------------------------------------
$12.75 to $13.94 817,100 5.80 $ 13.51
$14.31 to $15.44 423,950 6.23 15.18
$16.38 to $20.00 331,100 5.10 19.64
$20.06 to $24.03 1,552,075 8.35 21.74
$24.24 to $31.88 731,700 8.21 29.15
- -------------------------------------------------------------------------
Total 3,855,925 7.27 $ 20.50
=========================================================================
Options Exercisable
- -------------------------------------------------------------------------
Weighted
Average
Range of Exercise
Exercise Prices Options Price
- -------------------------------------------------------------------------
$12.75 to $13.94 590,500 $ 13.44
$14.31 to $15.44 186,250 15.19
$16.38 to $20.00 299,800 19.83
$20.06 to $24.03 253,885 22.23
$24.24 to $31.88 485,000 30.74
- -------------------------------------------------------------------------
Total 1,815,435 $ 20.53
=========================================================================
-F39-
A summary of restricted stock transactions during the three years ended
December 31, 2003, follows:
Weighted
Average
Shares Fair Value
- -------------------------------------------------------------------------
Outstanding - December 31, 2000 154,400 $ 14.24
Restricted stock issued 501,055 23.04
Restrictions lifted (158,800) 22.36
Restricted stock forfeited (7,700) 15.18
- -------------------------------------------------------------------------
Outstanding - December 31, 2001 488,955 20.61
Restricted stock issued 310,600 24.08
Restrictions lifted (413,055) 21.53(a)
Restricted stock forfeited (88,600) 19.11
- -------------------------------------------------------------------------
Outstanding - December 31, 2002 297,900 23.39
Restricted stock issued 124,200 21.77
Restrictions lifted (25,000) 21.84
Restricted stock forfeited (63,400) 22.68
- -------------------------------------------------------------------------
Outstanding - December 31, 2003 333,700 $ 23.04
=========================================================================
(a)Does not include the impact of $3.85 per share related to restrictions lifted
on 267,205 shares where a new measurement of compensation cost based on the
market value on the vesting date was required by FASB Interpretation No. 44
provisions related to income tax withholdings. Such cost was included in the
results of operations in 2002.
The Company has a deferred compensation plan for its non-employee
directors covering a maximum of 200,000 shares. At December 31, 2003 and 2002,
there were 176,757 and 180,385 shares, respectively, reserved for issuance of
which 129,845 and 106,800 shares, respectively, were allocated but unissued. The
remaining 46,912 and 73,585 shares, respectively, were reserved and unallocated
under the directors compensation plan.
For the years ended December 31, 2003, 2002 and 2001, the Company
recognized expense related to stock-based compensation (for restricted stock
granted to employees and the deferred compensation plan for non-employee
directors) of $2,351,000, $9,895,000 and $5,318,000, respectively.
Pro forma compensation costs (see Note 1) associated with options
granted under the ESPP were estimated based on the discount from market value.
The following presents the estimated weighted average fair value of options
granted and the weighted average assumptions used under the Black-Scholes option
pricing model for each of the years ended December 31, 2003, 2002 and 2001:
2003 2002 2001
- -------------------------------------------------------------------
Fair value per option $ 8.07 $10.33 $7.65
Weighted average assumptions:
Dividend yield 1.4% 1.2% 1.6%
Expected volatility 40.8% 41.0% 33.2%
Risk-free interest rate 4.0% 4.8% 5.0%
Expected life (years) 5.2 5.8 8.5
10. Employee Retirement and Savings Plans
The Company's Master 401(k) Plan and Trust ("401(k) plan") is a defined
contribution 401(k) plan with an employer match covering any employee of the
Company or a participating affiliate. Participants may contribute on a pretax
and after-tax basis, subject to maximum IRS limits and not exceeding 17% of
annual compensation. The Company matches employee contributions at the rate of
$0.50 for every dollar contributed up to a maximum Company-matching contribution
of 3% of qualified annual compensation. The Company recognized matching
contributions to the 401(k) plan of $4.8 million in 2003, $4.2 million in 2002
and $3.3 million in 2001. Additional contributions may be made from accumulated
and/or current net profits. In 2003, 2002 and 2001, additional contributions to
the 401(k) plan of $1.8 million, $1.4 million and $1.0 million, respectively,
were recognized by the Company.
-F40-
The Company has a non-qualifying deferred compensation plan similar to
the 401(k) plan. This plan provides an opportunity for eligible employees to
contribute additional amounts for retirement savings once they have reached the
maximum contribution amount in the 401(k) plan. The Company's contributions to
this plan during 2003, 2002 and 2001 were not significant.
The Company has unfunded deferred compensation agreements with certain
current and former officers. The present value of cash benefits payable under
the agreements is being accrued over the periods of active employment and
totaled $3.2 million at December 31, 2003 and $3.6 million at December 31, 2002.
The charges to expense for these agreements were not significant.
11. Postretirement Benefits
The Company sponsors two unfunded defined postretirement benefit plans
that cover certain salaried and nonsalaried employees. One plan provides health
care benefits and the other provides life insurance benefits. The medical plan
is contributory and contributions are adjusted annually based on actual claims
experience. For retirees who retired prior to December 31, 2002 with twenty or
more years of service at December 31, 2000, the Company contributes
approximately 50% of the cost of providing the medical plan. For all other
retirees, the Company's intent is that the retirees provide the majority of the
actual cost of providing the medical plan. The Company's retiree medical plan
provides prescription drug benefits that may be affected by the Medicare
Prescription Drug, Improvement, and Modernization Act of 2003 ("the Act"),
signed into law in December 2003. In accordance with FASB Staff Position FAS
106-1, "Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003", the effects of
the Act on the Company's medical plans have not been included in the measurement
of accumulated postretirement benefit obligation or net periodic postretirement
benefit cost for 2003. Specific authoritative guidance from the FASB on the
accounting for the federal subsidy is pending and that guidance, when issued,
may require the Company to restate previously reported information and may
require an amendment to the Company's plans to benefit from the Act. The life
insurance plan is noncontributory.
As of December 31, 2003 and 2002, the accumulated postretirement
benefit obligation ("APBO") under such plans was $23.4 million and $19.5
million, respectively. Measurement dates of December 31, 2003 and December 31,
2002 were used for these plans. The following table reconciles the plans'
beginning and ending balances of the APBO and reconciles the plans' status to
the accrued postretirement health care and life insurance liability reflected on
the balance sheet as of December 31 (in thousands):
2003 2002
- ----------------------------------------------------------------------
APBO as of January 1:
Retirees $ 19,514 $ 17,383
Fully eligible participants - 3,376
- ----------------------------------------------------------------------
19,514 20,759
Net change in APBO:
Interest costs 1,397 1,419
Benefits paid (2,454) (2,031)
Retiree contributions 970 893
Change in discount rate 3,927 (1,526)
- ----------------------------------------------------------------------
Total net change in APBO 3,840 (1,245)
- ----------------------------------------------------------------------
APBO as of December 31:
Retirees 23,354 19,514
Unrecognized net actuarial loss (9,645) (5,999)
- ----------------------------------------------------------------------
Accrued postretirement cost -
included in other liabilities $ 13,709 $ 13,515
======================================================================
-F41-
Net periodic postretirement costs ("NPPC") are summarized as follows
(in thousands):
2003 2002 2001
- -----------------------------------------------------------------------
Interest on APBO $ 1,397 $ 1,419 $ 1,433
Net amortization 281 251 225
- -----------------------------------------------------------------------
Total $ 1,678 $ 1,670 $ 1,658
=======================================================================
In 2000, the Company eliminated employer subsidies for all future
retirees except those that had twenty or more years of service as of December
31, 2000 and retired prior to December 31, 2002.
The weighted average assumptions used to determine benefit obligations
as of December 31 were as follows:
2003 2002
- ----------------------------------------------------------------------
Discount rate 6.0% 6.5%
The weighted average assumptions used to determine NPPC for years ended
December 31 were as follows:
2003 2002 2001
- -----------------------------------------------------------------------
Discount rate 6.5% 7.0% 7.5%
The following trend rate assumptions were used as of December 31:
2003 2002
- ----------------------------------------------------------------------
Health care cost trend rate:
Assumed for next year 9.0% 12.0%
Rate to which the cost trend rate is
assumed to decline (the ultimate
trend rate) 5.0% 5.0%
Year that the rate reaches the ultimate
trend rate 2009 2009
Participant contributions trend rates:
Assumed for next year 12.0% 30.0%
Rate to which the contribution trend rate
is assumed to decline (the ultimate
trend rate) 5.0% 5.0%
Year that the rate reaches the ultimate
trend rate 2009 2009
The medical cost and participant contributions trend rate assumptions
could have a significant effect on amounts reported. A change in the assumed
trend rate of 1 percentage point would have the following effects (in
thousands):
1 Percentage Point 1 Percentage Point
Increase Decrease
- ----------------------------------------------------------------------
Effect on total interest cost $ 125 $ (105)
Effect on postretirement benefit
obligation 2,080 (1,755)
The Company expects to contribute $1.6 million to the plans in 2004.
The following reflects the estimated future benefit payments net of estimated
participant contributions that are expected to be paid:
Year(s) Amount
- ----------------------------------------------------------------------
2004 $ 1,552
2005 1,628
2006 1,585
2007 1,581
2008 1,575
2009 - 2013 7,478
-F42-
12. Financial Instruments
The Company's financial instruments include cash and cash equivalents,
investments, receivables, accounts payable, borrowings and interest rate risk
management contracts.
At December 31, 2003 and 2002, the fair values of cash and cash
equivalents, receivables, accounts payable and short-term debt approximated
carrying values because of the short-term nature of these instruments. The
carrying values of investments, long-term debt and interest rate swaps
approximate their fair value. The fair values of interest rate swaps were
liabilities of $0.4 million and $2.2 million at December 31, 2003 and 2002,
respectively.
During 2002 and 2001, the Company entered into interest rate swap
agreements to manage its exposure to interest rate movements by effectively
exchanging floating rate payments for fixed rate payments without the exchange
of the underlying principal. The interest rate swaps are directly matched
against U.S. dollar LIBOR contracts outstanding under the Company's Credit
Facility and are reset quarterly. The differential between fixed and variable
rates to be paid or received is accrued as interest rates change in accordance
with the agreements and recognized over the life of the agreements as an
adjustment to interest expense. The interest rate swaps mature in 2004. The
amended Credit Facility matures in 2009. The Company will continue to evaluate
the need to manage its exposure to interest rate movements and may enter into
additional interest rate swap agreements from time to time.
At December 31, 2003 and 2002, the notional principal amount of
interest rate swaps outstanding was $59.0 million and $114.0 million,
respectively. The fair value of the swaps is reported on the balance sheet in
other liabilities. The net change in fair value of the swaps at December 31,
2003 and 2002 is reported in other comprehensive income. The swaps are highly
effective and no significant amounts for hedge ineffectiveness were reported in
net income during 2003 and 2002.
The Company periodically reviews its positions with, and the credit
quality of, the financial institutions that are counterparties to its financial
instruments, and does not anticipate nonperformance by the counterparties. The
Company would not realize a material loss as of December 31, 2003 in the event
of nonperformance by any one counterparty. The Company enters into transactions
only with financial institution counterparties that have a minimum long-term
credit rating of A- or A3 as defined by Standard and Poor's or Moody's Investors
Service, respectively. In addition, the Company limits the amount of investment
credit exposure with any one institution.
13. Commitments and Contingencies
In the ordinary course of business, the Company is subject to various
legal proceedings and claims. The Company believes that the ultimate outcome of
these matters will not have a material effect on its financial statements.
Total rental expense was $17.4 million in 2003, $15.9 million in 2002
and $15.8 million in 2001. Minimum annual rentals under noncancelable leases at
December 31, 2003 are as follows (in thousands):
Capital Operating
Year Leases Leases
- -------------------------------------------------------------------
2004 $ 53 $ 13,667
2005 2 12,613
2006 - 10,414
2007 - 10,019
2008 - 9,926
Thereafter 27,367
- -------------------------------------------------------------------
Total $ 55 $ 84,006
===================================================================
At December 31, 2003, imputed interest on capital leases was $2,000 and
the present value of minimum capital lease payments was $53,000.
-F43-
In connection with an acquisition in 2002, the Company has entered into
an agreement to pay up to $2.0 million during and prior to 2005. These payments
are contingent on certain growth targets being met (see Note 2).
The Company has entered into a contract with a customer that contains
provisions that call for future payments to the customer if the Company does not
meet certain performance measures. The contract also contains provisions that
call for the reduction or elimination of the Company's payment obligations if
the customer does not meet certain performance requirements. The Company does
not anticipate any payments pursuant to these contract provisions at this time.
14. Business Segments
The Company operates its business in three segments. The Printed
Products segment ("Printed Products") includes checks, direct marketing
activities and analytical services marketed primarily to financial institutions.
The Software and Services segment ("Software & Services") is focused on the
financial institution market and includes core processing applications and
services for credit unions and community banks, lending and mortgage origination
applications, mortgage servicing applications, branch automation applications
and customer relationship management applications. The Scantron segment
represents products and services sold by the Company's Scantron subsidiary
including scanning equipment and software, scannable forms, survey solutions,
curriculum development, testing and assessment tools, training and field
maintenance services. Scantron sells these products and services to the
education, commercial and financial institution markets.
In 2003, the Company transferred its analytical services business unit
from Software & Services to Printed Products and also transferred certain
support activities to Printed Products from corporate operations. Accordingly,
prior period results reflect reclassifications to conform to the 2003
presentation.
The Company's operations are primarily in the United States and Puerto
Rico. There were no significant intersegment sales. The Company does not have
sales to any individual customer greater than 10% of total Company sales. Equity
investments, as well as foreign assets, are not significant to the consolidated
results of the Company. The Company's accounting policies for segments are the
same as those described in Note 1.
Management evaluates segment performance based on segment income or
loss before income taxes. Segment income or loss excludes interest income,
interest expense, certain other non-operating gains and losses, all of which are
considered corporate items. Prior to 2003, certain incentive compensation for
segment management was considered to be a corporate expense. Corporate assets
consist primarily of cash and cash equivalents, deferred income taxes,
investments and other assets not employed in production.
-F44-
Summarized financial information for 2003, 2002 and 2001 is as follows
(in thousands):
Business Segment
------------------------------
Printed Software & Corporate & Consoli-
Products Services Scantron Eliminations dated
- -----------------------------------------------------------------------------------
2003
Sales $ 498,257 $ 176,833 $ 113,236 $ (1,658) $ 786,668
Income (loss) 69,282(1) 17,741(1) 25,644 (25,898) 86,769
Identifiable assets 236,328 216,026 74,309 40,314 566,977
Depreciation and other
amortization 46,250 11,789 4,050 1,094 63,183
Capital expenditures 20,802 3,758 3,353 159 28,072
2002
Sales $ 526,201 $ 135,568 $ 107,822 $ (1,784) $ 767,807
Income (loss) 87,790 13,810 29,232 (45,577) 85,255
Identifiable assets 221,892 202,674 77,169 48,952 550,687
Depreciation and other
amortization 41,671 9,522 2,844 2,588 56,625
Acquired in-process research
and development charge - 3,000 - - 3,000
Capital expenditures 26,214 2,073 3,702 101 32,090
2001
Sales $ 528,371 $ 120,227 $ 95,907 $ (1,302) $ 743,203
Income (loss) 88,854 (258) 25,282 (43,057) 70,821
Identifiable assets 244,592 130,581 41,003 56,070 472,246
Amortization of goodwill 1,165 9,136 928 - 11,229
Depreciation and other
amortization 35,833 8,618 3,053 2,588 50,092
Capital expenditures 42,473 2,097 2,831 102 47,503
(1) Includes certain incentive compensation costs of $2.1 million and $2.2
million for Printed Products and Software & Services, respectively, that were
included in Corporate prior to January 1, 2003.
-F45-
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of
John H. Harland Company:
We have audited the accompanying consolidated balance sheets of John H.
Harland Company and subsidiaries as of December 31, 2003 and 2002, and the
related consolidated statements of income, cash flows and shareholders' equity
for each of the three years in the period ended December 31, 2003. Our audits
also included the financial statement schedule listed in the Index at Item 15
(a) 2. These financial statements and the financial statement schedule are the
responsibility of the Company's management. Our responsibility is to express an
opinion on the financial statements and the financial statement schedule based
on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly,
in all material respects, the financial position of John H. Harland Company and
subsidiaries as of December 31, 2003 and 2002, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2003, in conformity with accounting principles generally accepted
in the United States of America. Also, in our opinion, such financial statement
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
As discussed in Notes 1 and 3 to the Consolidated Financial Statements,
on January 1, 2002, the Company changed its method of accounting for goodwill to
conform to Statement of Financial Accounting Standards No. 142, "Goodwill and
Other Intangible Assets," and on January 1, 2003, the Company changed its
method of accounting for exit and disposal activities to conform to Statement of
Financial Accounting Standards No. 146, "Accounting for Costs Associated with
Exit or Disposal Activities."
/s/ Deloitte & Touche LLP
- --------------------------
Deloitte & Touche LLP
Atlanta, Georgia
February 27, 2004
-F46-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
The financial statements included in this report were prepared by the
Company in conformity with accounting principles generally accepted in the
United States of America. Management's best estimates and judgments were used,
where appropriate. Management is responsible for the integrity of the financial
statements and for other financial information included in this report. The
financial statements have been audited by the Company's independent auditors,
Deloitte & Touche LLP. As set forth in their report, their audits were conducted
in accordance with auditing standards generally accepted in the United States of
America and formed the basis for their opinion on the accompanying financial
statements. They consider the Company's control structure and perform such tests
and other procedures as they deem necessary to express an opinion on the
fairness of the financial statements.
The Company maintains a control structure which is designed to provide
reasonable assurance that assets are safeguarded and that the financial records
reflect the authorized transactions of the Company. As a part of this process,
the Company has an internal audit function which assists management in
evaluating and monitoring the adequacy and effectiveness of the control
structure.
The Audit Committee of the Board of Directors is composed of directors
who are neither officers nor employees of the Company. The Committee meets
periodically with management, internal audit and the independent auditors to
discuss audit matters, the Company's control structure and financial reporting
matters. Internal audit and the independent auditors have full and free access
to the Audit Committee.
/s/ Timothy C. Tuff /s/ Charles B. Carden
- ------------------------- -------------------------
Timothy C. Tuff Charles B. Carden
Chairman, President and Senior Vice President and
Chief Executive Officer Chief Financial Officer
February 27, 2004
-F47-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
Supplemental Financial Information (Unaudited)
(In thousands except per share amounts)
SELECTED QUARTERLY FINANCIAL DATA, DIVIDENDS PAID AND STOCK PRICE RANGE
------------Quarter ended --------
March 28 June 27 September 26 December 31
- -------------------------------------------------------------------------------
2003(a):
Sales $ 193,425 $ 192,428 $ 192,494 $ 208,321
Gross profit 93,832 93,501 94,317 100,198
Net income 13,179 11,250 14,695 16,842(b)
Per common share:
Basic earnings 0.47 0.41 0.53 0.61
Diluted earnings 0.46 0.40 0.52 0.59
Dividends paid 0.075 0.075 0.10 0.10
Stock market price:
High 24.65 26.59 27.92 29.04
Low 20.25 23.00 24.45 25.79
------------Quarter ended --------
March 29 June 28 September 27 December 31
- -------------------------------------------------------------------------------
2002(a):
Sales $ 185,572 $ 184,486 $ 189,636 $ 208,113
Gross profit(c) 85,226 85,756 91,184 102,269
Net income 8,787 12,923 15,992 14,730(d)
Per common share:
Basic earnings 0.30 0.44 0.55 0.51
Diluted earnings 0.29 0.42 0.53 0.50
Dividends paid 0.075 0.075 0.075 0.075
Stock market price:
High 30.95 34.81 30.99 27.97
Low 21.00 28.20 22.89 18.20
(a) In 2002, the Company acquired four businesses and in 2003, the Company
acquired one business (see Note 2 to the Consolidated Financial Statements).
(b) Fourth quarter 2003 results include $4.1 million after income taxes for
reorganization costs and $2.7 million after income taxes for a gain on
the sale of investments (see Notes 1 and 5 to the Consolidated Financial
Statements).
(c) See the Reclassifications section of Note 1 to the Consolidated
Financial Statements regarding the reclassification of certain expenses
in the consolidated income statements.
(d) Fourth quarter 2002 results include a $3.0 million charge after income
taxes for acquired in-process research and development costs related to
the acquisition of INTERLINQ and a $1.1 million loss after income taxes
on debt and equity investments related to the sale of Netzee, Inc. (see
Notes 1 and 2 to the Consolidated Financial Statements).
SELECTED FINANCIAL DATA
---------- Year ended December 31 ---------
2003 2002 2001 2000 1999
- -------------------------------------------------------------------------------
Sales $786,668 $767,807 $743,203 $720,677 $702,512
Net income 55,966 52,432 38,974 28,697 42,684
Total assets 566,977 550,687 472,246 528,548 397,933
Long-term debt 127,059 144,106 124,118 191,617 106,446
Per common share:
Basic earnings 2.02 1.80 1.34 1.01 1.39
Diluted earnings 1.97 1.73 1.31 1.00 1.37
Cash dividends 0.35 0.30 0.30 0.30 0.30
Average number of
shares outstanding:
Basic 27,740 29,121 29,073 28,469 30,638
Diluted 28,411 30,244 29,984 28,832 31,261
Earnings per share are calculated based on the weighted average number of
shares outstanding during the applicable period. The Company's common stock
(symbol: JH) is listed on the New York Stock Exchange. At December 31, 2003
there were 4,599 shareholders of record.
See Note 1 to the Consolidated Financial Statements regarding an investment
write-down in 2002 and 2001, Note 2 to the Consolidated Financial Statements
regarding acquisitions in 2003, 2002 and 2001 and Note 5 to the Consolidated
Financial Statements regarding reorganization charges in 2003.
-F48-
JOHN H. HARLAND COMPANY AND SUBSIDIARIES
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(In thousands of dollars)
- ---------------------------------------------------------------------------------------------
COLUMN A COLUMN B ---- COLUMN C ---- COLUMN D COLUMN E
ADDITIONS BALANCE
BALANCE CHARGED TO CHARGED TO AT END
AT BEGINNING COSTS AND OTHER OF
DESCRIPTION OF PERIOD EXPENSES ACCOUNTS(1) DEDUCTIONS(2) PERIOD
- ---------------------------------------------------------------------------------------------
Year Ended December 31, 2003
Allowance for doubtful accounts $ 2,814 $ (27) $ 46 $ 931 $ 1,902
======= ======== ======= ======= =======
Year Ended December 31, 2002
Allowance for doubtful accounts $ 4,819 $ (915) $ 710 $ 1,800 $ 2,814
======= ======== ======= ======= =======
Year Ended December 31, 2001
Allowance for doubtful accounts $ 4,272 $ 606 $ 696 $ 755 $ 4,819
======= ======== ======= ======= =======
Notes:
(1) Represents recovery of previously written-off and credit balance accounts
receivable and balances established at acquisition related to accounts
receivable of acquired operations.
(2) Represents write-offs of uncollectible accounts receivable.
-S1-
EXHIBIT LIST
Exhibit Description
3.1 * Amended and Restated Articles of Incorporation (Exhibit B to
Registrant's Proxy Statement dated March 12, 1999).
3.2 * Bylaws, as amended through December 19, 2002 (Exhibit 3.2 to
the Registrant's Annual Report on Form 10-K ("10-K") for the
year ended December 31, 2002).
4.1 * Rights Agreement, dated as of December 17, 1998, between
Registrant and First Chicago Trust Company of New York
(Exhibit 4.1 to the 8-K dated July 1, 1999).
4.2 See Articles IV, V and VII of Registrant's Amended and
Restated Articles of Incorporation, filed as Exhibit 3.1, and
Articles I, V and VIII of Registrant's Bylaws, filed as
Exhibit 3.2.
10.1 * + Form of Noncompete and Termination Agreement between
Registrant and Arlene S. Bates, Charles B. Carden and John C.
Walters (Exhibit 10.1 to the 2002 10-K).
10.2 * + Employment Agreement, dated December 2, 2002, between
Registrant and John T. Heald, Jr.(Exhibit 10.2 to the 2002
10-K).
10.3 * + Noncompete and Termination Agreement, dated as of January 1,
2002, between Registrant and Timothy C. Tuff (Exhibit 10.3
to the 2001 10-K).
10.4 * + Form of Restricted Stock Agreement between Registrant and
Ms. Bates, Messrs. Carden, Heald and Walters (Exhibit 10.4 to
the 2000 10-K).
10.5 * + Restricted Stock Agreement dated April 24, 2002 between
Registrant and Mr. Tuff (Exhibit 10.6 to the 2002 10-K).
10.6 * + Supplemental Retirement Agreement, dated as of January 1,
2002, between Registrant and Mr. Tuff (Exhibit 10.7 to the
2001 10-K).
10.7 * John H. Harland Company 1999 Stock Option Plan, as amended
(Exhibit 99.1 to the Registrant's Registration Statement on
Form S-8, dated January 14, 2000, File No. 333-94727).
10.8 * John H. Harland Company 2000 Stock Option Plan, as amended
(Exhibit 99.1 to the Registrant's Registration Statement on
Form S-8, dated November 29, 2000, File No. 333-70386).
10.9 * John H. Harland Company 2002 Stock Option Plan (Exhibit A to
the Registrant's Proxy Statement dated March 20, 2002).
10.10 John H. Harland Company Employee Stock Purchase Plan, as
amended through July 24, 2003.
10.11 * John H. Harland Company Compensation Plan for Non-Employee
Directors, as amended (Exhibit 10.12 to the 2001 10-K).
10.12 Amended and Restated Credit Agreement dated as of February 4,
2004 Among Registrant and the Lenders named therein.
11.1 Computation of Per Share Earnings.+
- --------
+ Data required by SFAS No. 128, "Earnings Per Share," is provided in Note 1 to
the Consolidated Financial Statements included in this report. + Data required
by SFAS No. 128, "Earnings Per Share," is provided in Note 1 to the Consolidated
Financial Statements included in this report.
Exhibit Description
14 Code of Business Conduct and Ethics.
21 Subsidiaries of the Registrant.
23 Consent of Deloitte & Touche, LLP.
31.1 Certification Pursuant to Rule 13a-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification Pursuant to Rule 13a-14(a), as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
* Indicates exhibit previously filed with the Securities and Exchange Commission
as indicated in parentheses and incorporated herein by reference
-X2-