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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
FOR THE QUARTER ENDED JUNE 30, 2004
COMMISSION FILE NO. 1-10147
THE REYNOLDS AND REYNOLDS COMPANY
OHIO 31-0421120
(State of incorporation) (IRS Employer Identification No.)
ONE REYNOLDS WAY
DAYTON, OHIO 45430
(Address of principal executive offices)
(937) 485-2000
(Telephone No.)
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 checkmark whether the registrant is an accelerated filer (as defined
in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [X] No [ ]
On June 30, 2004, 64,614,797 Class A common shares and 14,000,000 Class B common
shares were outstanding.
THE REYNOLDS AND REYNOLDS COMPANY
TABLE OF CONTENTS
PAGE
NUMBER
------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Statements of Consolidated Income (unaudited)
For the Three and Nine Months Ended June 30, 2004 and 2003 3
Condensed Consolidated Balance Sheets (unaudited)
As of June 30, 2004 and September 30, 2003 4
Condensed Statements of Consolidated Cash Flows (unaudited)
For the Nine Months Ended June 30, 2004 and 2003 5
Notes to Condensed Consolidated Financial Statements (unaudited) 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations
For the Three and Nine Months Ended June 30, 2004 and 2003 13
Item 3. Quantitative and Qualitative Disclosures about Market Risk 20
(See the caption entitled "Market Risks" included in the Management's
Discussion and Analysis of Financial Condition and Results of Operations)
Item 4. Controls and Procedures 21
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 22
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities 22
Item 6. Exhibits and Reports on Form 8-K 23
SIGNATURES 24
2
THE REYNOLDS AND REYNOLDS COMPANY
STATEMENTS OF CONSOLIDATED INCOME (UNAUDITED)
FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 2004 AND 2003
(In thousands except per share data)
Three Months Nine Months
2004 2003 2004 2003
--------- --------- --------- ---------
Net Sales and Revenues
Software $ 132,157 $ 133,218 $ 410,626 $ 404,819
Services 63,017 64,815 181,746 191,099
Documents 39,901 43,498 123,847 128,305
Financial services 7,755 8,874 24,506 27,929
--------- --------- --------- ---------
Total net sales and revenues 242,830 250,405 740,725 752,152
--------- --------- --------- ---------
Cost of Sales
Software 43,623 43,895 130,637 133,905
Services 44,443 45,218 131,311 135,430
Documents 18,672 20,411 59,361 58,587
Financial services 1,742 2,119 5,522 6,914
--------- --------- --------- ---------
Total cost of sales 108,480 111,643 326,831 334,836
--------- --------- --------- ---------
Gross Profit 134,350 138,762 413,894 417,316
Selling, General and Administrative Expenses 96,128 93,932 296,989 287,848
--------- --------- --------- ---------
Operating Income 38,222 44,830 116,905 129,468
--------- --------- --------- ---------
Other Charges (Income)
Interest expense 1,446 1,155 4,016 3,855
Interest income (372) (944) (1,432) (2,277)
Other (1,086) (1,157) (3,238) (4,442)
--------- --------- --------- ---------
Total other income (12) (946) (654) (2,864)
--------- --------- --------- ---------
Income Before Income Taxes 38,234 45,776 117,559 132,332
Provision for Income Taxes 16,215 19,571 45,361 53,564
--------- --------- --------- ---------
Net Income $ 22,019 $ 26,205 $ 72,198 $ 78,768
========= ========= ========= =========
Basic Earnings Per Common Share
Net income $ 0.34 $ 0.38 $ 1.09 $ 1.15
Average number of common shares outstanding 65,330 68,220 66,395 68,504
Diluted Earnings Per Common Share
Net income $ 0.33 $ 0.37 $ 1.05 $ 1.12
Average number of common shares outstanding 67,414 70,870 68,504 70,589
Cash Dividends Declared Per Common Share $ 0.11 $ 0.11 $ 0.33 $ 0.33
See Notes to Condensed Consolidated Financial Statements.
3
THE REYNOLDS AND REYNOLDS COMPANY
CONDENSED CONSOLIDATED BALANCE SHEETS
AS OF JUNE 30, 2004 AND SEPTEMBER 30, 2003
(In thousands)
UNAUDITED
6/30/04 9/30/03
--------- ----------
AUTOMOTIVE SOLUTIONS ASSETS
Current Assets
Cash and equivalents $ 119,351 $ 105,829
Trade accounts receivable 108,152 118,694
Other accounts receivables 10,161 21,063
Inventories 13,983 12,432
Prepaid and other assets 40,886 31,673
---------- ----------
Total current assets 292,533 289,691
Property, Plant and Equipment, less accumulated depreciation of
$132,790 at 6/30/04 and $156,674 at 9/30/03 179,151 184,691
Goodwill 48,109 41,728
Software Licensed to Customers 90,427 94,472
Acquired Intangible Assets 36,033 37,731
Other Assets 98,318 98,029
---------- ----------
Total Automotive Solutions Assets 744,571 746,342
---------- ----------
FINANCIAL SERVICES ASSETS
Cash 416 722
Finance Receivables 360,604 394,292
Other Assets 403 480
---------- ----------
Total Financial Services Assets 361,423 395,494
---------- ----------
TOTAL ASSETS $1,105,994 $1,141,836
========== ==========
AUTOMOTIVE SOLUTIONS LIABILITIES
Current Liabilities
Accounts payable $ 41,038 $ 45,917
Accrued liabilities 54,448 53,236
Deferred revenues 29,466 33,704
Income taxes 18,156 10,926
---------- ----------
Total current liabilities 143,108 143,783
Long-Term Debt 103,099 106,912
Other Liabilities 124,541 118,452
---------- ----------
Total Automotive Solutions Liabilities 370,748 369,147
---------- ----------
FINANCIAL SERVICES LIABILITIES
Notes Payable 185,747 198,768
Other Liabilities 92,326 99,010
---------- ----------
Total Financial Services Liabilities 278,073 297,778
---------- ----------
SHAREHOLDERS' EQUITY
Capital Stock 345,719 299,779
Accumulated Other Comprehensive Losses (30,784) (32,446)
Retained Earnings 142,238 207,578
---------- ----------
Total Shareholders' Equity 457,173 474,911
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,105,994 $1,141,836
========== ==========
See Notes to Condensed Consolidated Financial Statements.
4
THE REYNOLDS AND REYNOLDS COMPANY
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS (UNAUDITED)
FOR THE NINE MONTHS ENDED JUNE 30, 2004 AND 2003
(In thousands)
2004 2003
---------- ----------
AUTOMOTIVE SOLUTIONS
Cash Flows Provided By Operating Activities $ 145,336 $ 93,022
---------- ----------
Cash Flows Provided By (Used For) Investing Activities
Business combinations (12,145) (11,714)
Capital expenditures (27,025) (20,681)
Net proceeds from asset sales 10,598 31
Capitalization of software licensed to customers 0 (14,685)
Repayments from (advances to) financial services 6,255 (9,957)
---------- ----------
Net cash flows used for investing activities (22,317) (57,006)
---------- ----------
Cash Flows Provided By (Used For) Financing Activities
Additional borrowings 0 560
Principal payments on debt (5,275) (6,061)
Cash dividends paid (21,799) (22,508)
Capital stock issued 51,845 34,609
Capital stock repurchased (134,487) (86,012)
---------- ----------
Net cash flows used for financing activities (109,716) (79,412)
---------- ----------
Effect of Exchange Rate Changes on Cash 219 3,651
---------- ----------
Increase (Decrease) in Cash and Equivalents 13,522 (39,745)
Cash and Equivalents, Beginning of Period 105,829 155,295
---------- ----------
Cash and Equivalents, End of Period $ 119,351 $ 115,550
========== ==========
FINANCIAL SERVICES
Cash Flows Provided By Operating Activities $ 12,399 $ 9,760
---------- ----------
Cash Flows Provided By (Used For) Investing Activities
Finance receivables originated (108,915) (106,637)
Collections on finance receivables 115,486 113,059
---------- ----------
Net cash flows provided by investing activities 6,571 6,422
---------- ----------
Cash Flows Provided By (Used For) Financing Activities
Additional borrowings 12,248 0
Principal payments on debt (25,269) (24,904)
Advances from (repayments to) automotive solutions (6,255) 9,957
---------- ----------
Net cash flows used for financing activities (19,276) (14,947)
---------- ----------
Increase (Decrease) in Cash and Equivalents (306) 1,235
Cash and Equivalents, Beginning of Period 722 635
---------- ----------
Cash and Equivalents, End of Period $ 416 $ 1,870
========== ==========
See Notes to Condensed Consolidated Financial Statements.
5
THE REYNOLDS AND REYNOLDS COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(Dollars in thousands except per share data)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The balance sheet as of September 30, 2003 is condensed financial information
taken from the annual audited financial statements as restated. The interim
financial statements are unaudited. In the opinion of management, the
accompanying interim financial statements contain all significant adjustments
necessary to present fairly the company's financial position, results of
operations and cash flows for the periods presented. These interim financial
statements should be read in conjunction with the audited financial statements
included in the company's 2003 Annual Report on Form 10-K.
(2) INVENTORIES
6/30/04 9/30/03
-------- --------
Finished products $ 13,490 $ 11,921
Work in process 377 295
Raw materials 116 216
-------- --------
Total inventories $ 13,983 $ 12,432
======== ========
(3) REORGANIZATION COSTS
On October 2, 2003, the company announced the consolidation of its automotive
Documents printing plant, located in Grand Prairie, Texas, into the company's
Celina, Ohio manufacturing facility. All employees located in Texas were offered
the opportunity to accept a position in the Ohio facility. Those not accepting
positions in Ohio were offered severance and outplacement services. Grand
Prairie document production ceased in December 2003, and 72 positions were
eliminated. During the first six months of fiscal year 2004, the company also
reorganized the Documents sales force, eliminating 37 positions, and eliminated
121 additional positions in Software Solutions development, Services and
administration.
The company had previously estimated that total costs for severance,
outplacement, relocation and other plant consolidation efforts would be about
$8,000 before income taxes in fiscal year 2004. Through March 31, 2004 the
company incurred expenses of $7,513 before income taxes or $.07 per share after
taxes and eliminated 230 positions. During the quarter ended June 30, 2004, the
company recorded income of $418 before income taxes to revise its estimate of
employee termination benefits and reduced accrued liabilities.
6
The following table summarizes reorganization costs recognized and payments made
by the company through June 30, 2004.
THREE MONTHS ENDED JUNE 30, 2004
Software
Solutions Services Documents Total
--------- -------- --------- -------
Employee Termination Benefits
Cost of sales ($ 4) ($ 26) ($ 30)
SG&A expenses (251) ($ 88) (49) (388)
-------- ------- -------- --------
Total reorganization expenses (income) ($ 255) ($ 88) ($ 75) ($ 418)
======== ======= ======== ========
NINE MONTHS ENDED JUNE 30, 2004
Cost of Sales
Employee termination benefits $ 14 $ 15 $ 810 $ 839
Other direct expenses 786 786
-------- ------- -------- --------
Total cost of sales 14 15 1,596 1,625
-------- ------- -------- --------
SG&A Expenses
Employee termination benefits 1,739 1,171 1,086 3,996
Lease obligations 379 244 9 632
Other direct expenses 185 127 530 842
-------- ------- -------- --------
Total SG&A expenses 2,303 1,542 1,625 5,470
-------- ------- -------- --------
Total Reorganization Expenses 2,317 1,557 3,221 7,095
Payments 10/1/03 - 12/31/03 (688) (685) (1,525) (2,898)
Payments 1/1/04 - 3/31/04 (682) (331) (1,125) (2,138)
Payments 4/1/04 - 6/30/04 (471) (207) (325) (1,003)
-------- ------- -------- --------
Liability 6/30/04 $ 476 $ 334 $ 246 $ 1,056
======== ======= ======== =======
7
(4) BUSINESS COMBINATIONS
In October 2003, the company purchased the outstanding shares of Incadea GmbH, a
provider of global automotive retailing software solutions. Privately-held
Incadea, based in Raubling, Germany, had annual revenues of about $6,000. The
purchase price of $6,181 was paid with cash from existing balances. During the
first quarter of fiscal year 2004, the company also repaid $5,046 of debt
assumed in the purchase of Incadea GmbH. The results of Incadea's operations
have been included in the company's financial statements since the acquisition.
At June 30, 2004, the company has recorded goodwill of $5,817 based on the
allocation of the purchase price. An independent appraisal firm was used to
determine the fair values of intangible assets.
In October 2003, the company purchased the net assets of Third Coast Media, a
provider of Web and customer relationship management software to automotive
retailers. Third Coast Media, headquartered in Richardson, Texas, had annual
revenues of about $5,000. The purchase price of $5,464 was paid with cash from
existing balances. In April 2004, the company paid an additional $500 of
purchase price based on achievement of specified operating results. Under terms
of the purchase agreement, the company may be required to make additional
payments of up to $1,800 over the next three years, contingent on the
achievement of certain operating results of the business purchased. The results
of Third Coast Media's operations have been included in the company's financial
statements since the acquisition. At June 30, 2004 the company has recorded tax
deductible goodwill of $3,149 based on the allocation of the purchase price. An
independent appraisal firm was used to determine the fair values of intangible
assets.
(5) GOODWILL AND ACQUIRED INTANGIBLE ASSETS
GOODWILL
Software
Solutions Services Documents Totals
--------- -------- --------- ------
Balances as of September 30, 2003 $22,217 $16,634 $2,877 $41,728
Business Combinations 8,966 8,966
Adjustment (2,585) (2,585)
------- ------- ------ -------
Balances as of June 30, 2004 $31,183 $14,049 $2,877 $48,109
======= ======= ====== =======
During the quarter ended March 31, 2004, the company adjusted tax benefits for a
prior business combination and recorded a deferred tax asset of $2,585 and
decreased goodwill by $2,585.
ACQUIRED INTANGIBLE ASSETS
Gross Accumulated Useful Life
Amount Amortization (years)
------ ------------ -----------
AS OF JUNE 30, 2004
Amortized intangible assets
Contractual customer relationship $33,100 $ 6,896 20
Trademarks 6,256 1,274 6-20
Other 7,605 2,758 2-15
------- -------
Total $46,961 $10,928
======= =======
AS OF SEPTEMBER 30, 2003
Amortized intangible assets
Contractual customer relationship $33,100 $ 5,655 20
Customer contract 17,700 16,493 3.67
Trademarks 5,900 1,008 20
Other 6,449 2,262 3-10
------- -------
Total $63,149 $25,418
======= =======
Aggregate amortization expense was $3,206 for the nine months ended June 30,
2004. Estimated amortization expense for the years ended September 30, is $3,863
in 2004, $2,626 in 2005, $2,626 in 2006, $2,476 in 2007 and $2,476 in 2008.
8
(6) FINANCING ARRANGEMENTS
AUTOMOTIVE SOLUTIONS
As of June 30, 2004, the company had outstanding interest rate swap agreements
with notional amounts of $100,000. These interest rate swap agreements were
designated as fair value hedges. The fair value of the company's fair value
derivative instruments was $3,220 at June 30, 2004 and $7,069 at September 30,
2003 and was included in Automotive Solutions' other assets on the condensed
consolidated balance sheets. The adjustments to record the net change in the
fair values of fair value hedges and related debt during the periods presented
were recorded in income. All existing fair value hedges were 100% effective. As
a result, there was no current impact to earnings because of hedge
ineffectiveness.
FINANCIAL SERVICES
On January 22, 2004, Reyna Funding, L.L.C., a consolidated affiliate of the
company, renewed a loan funding agreement whereby Reyna Funding, L.L.C. may
borrow funds using finance receivables purchased from Reyna Capital Corporation,
also a consolidated affiliate of the company, as security for the loan. On May
19, 2004, the securitization was modified to increase the borrowing limit from
$100,000 to $150,000. Interest is payable on a variable rate basis. This loan
funding agreement is renewable annually through January 23, 2006. As of June 30,
2004, Reyna Funding, L.L.C. had outstanding borrowings of $100,000 under this
arrangement.
As of June 30, 2004, Reyna Funding, L.L.C. had outstanding interest rate swap
agreements with notional amounts of $100,000 and Reyna Capital Corporation had
outstanding interest rate swap agreements with notional amounts of $5,500. These
interest rate swap agreements were designated as cash flow hedges. The fair
value of the company's cash flow derivative instruments was an asset of $7 at
June 30, 2004 and a liability of $2,422 at September 30, 2003 and was included
in Financial Services' other liabilities on the condensed consolidated balance
sheets. The adjustments to record the net change in the fair value of cash flow
hedges during the periods presented were recorded, net of income taxes, in other
comprehensive income. Fluctuations in the fair value of the derivative
instruments are generally offset by changes in the value of cash flows of the
underlying exposure being hedged because of the high degree of effectiveness of
these cash flow hedges. In fiscal year 2004, the company expects the amounts
reclassified from other comprehensive income into earnings to be immaterial to
the financial statements.
REVOLVING CREDIT AGREEMENT
On April 8, 2004, the company obtained a new $200,000 revolving credit agreement
and terminated the old agreement. The new revolving credit agreement has a five
year term. Automotive Solutions and Financial Services share this revolving
credit agreement. As of June 30, 2004, the balance outstanding on this facility
was $50,000.
(7) COMPREHENSIVE INCOME
THREE MONTHS NINE MONTHS
2004 2003 2004 2003
-------- -------- -------- --------
Net income $ 22,019 $ 26,205 $ 72,198 $ 78,768
Foreign currency translation adjustment (976) 2,161 219 3,651
Net unrealized gains on derivative contracts 978 101 1,443 462
-------- -------- -------- --------
Comprehensive income $ 22,021 $ 28,467 $ 73,860 $ 82,881
======== ======== ======== ========
9
(8) CASH FLOW STATEMENTS
Reconciliation of net income to net cash provided by operating activities.
NINE MONTHS
2004 2003
--------- ---------
AUTOMOTIVE SOLUTIONS
Net Income $ 63,656 $ 69,233
Adjustments to Reconcile Net Income to Net Cash
Provided by Operating Activities
Depreciation and amortization 35,129 25,093
Stock-based compensation expense 8,528 11,490
Deferred income taxes (4,853) 2,916
Deferred income taxes transferred (from) to Financial Services (5,791) 1,529
Losses on sales of assets 762 885
Changes in operating assets and liabilities
Accounts receivable 47,024 7,512
Inventories (1,551) (2,007)
Prepaid expenses and other current assets (3,163) (16)
Other assets 3,113 (651)
Accounts payable (6,816) (7,842)
Accrued liabilities 6,431 (12,719)
Other liabilities 2,867 (2,401)
--------- ---------
Net Cash Provided by Operating Activities $ 145,336 $ 93,022
========= =========
FINANCIAL SERVICES
Net Income $ 8,542 $ 9,535
Stock-based Compensation Expense 97 139
Deferred Income Taxes (11,542) 989
Deferred Income Taxes Transferred to (from) Automotive Solutions 5,791 (1,529)
Changes in Receivables, Other Assets and Other Liabilities 9,511 626
--------- ---------
Net Cash Provided by Operating Activities $ 12,399 $ 9,760
========= =========
10
(9) BUSINESS SEGMENTS
During the first quarter of fiscal year 2004, the company changed its reporting
segments to reflect the revised organizational structure of the company. In
executing this realignment, the company changed its method of allocating certain
revenues and expenses. Prior year financial results were restated, to the extent
possible, to reflect financial results consistent with the current year. It was
not practical to restate financial statements for all changes. The estimated
effect of these non restated items was to increase Software Solutions 2004
revenues by $2,400 and operating income by $1,800 in the third quarter and
revenues by $7,200 and operating income by $5,400 through nine months. The
offsetting unfavorable effect of these changes was included in the Services
segment.
The Software Solutions segment provides computer solutions including computer
hardware, integrated software packages, software enhancements and related
support.
The Services segment includes installation and maintenance of computer hardware,
software training and consulting services.
The Documents segment manufactures and distributes printed business forms
primarily to automotive retailers.
The Financial Services segment provides financing, principally for sales of the
company's computer solutions and services, through the company's wholly-owned
affiliates, Reyna Capital Corporation, Reyna Funding, L.L.C. and a similar
operation in Canada.
THREE MONTHS NINE MONTHS
2004 2003 2004 2003
--------- --------- --------- ---------
NET SALES AND REVENUES
Software Solutions $ 132,157 $ 133,218 $ 410,626 $ 404,819
Services 63,017 64,815 181,746 191,099
Documents 39,901 43,498 123,847 128,305
Financial Services 7,755 8,874 24,506 27,929
--------- --------- --------- ---------
Total Net Sales and Revenues $ 242,830 $ 250,405 $ 740,725 $ 752,152
========= ========= ========= =========
OPERATING INCOME (LOSS)
Software Solutions $ 30,854 $ 35,246 $ 105,295 $ 102,706
Services (3,613) (2,638) (19,876) (10,379)
Documents 6,738 7,481 17,404 21,417
Financial Services 4,243 4,741 14,082 15,724
--------- --------- --------- ---------
Total Operating Income $ 38,222 $ 44,830 $ 116,905 $ 129,468
========= ========= ========= =========
6/30/04 9/30/03
------- -------
ASSETS
Automotive Solutions $ 744,571 $ 746,342
Financial Services 361,423 395,494
---------- -----------
Total Assets $1,105,994 $ 1,141,836
========== ===========
(10) CONTINGENCIES
In 2000, the company was named one of many defendants in a cost recovery lawsuit
filed by a Potentially Responsible Party (PRP) coalition in the United States
District Court for the Southern District of Ohio regarding an environmental
remediation site in Dayton, Ohio. The court has ordered the parties to
participate in non-binding mediation. The company believes that the reasonably
foreseeable resolution of this matter will not have a material adverse effect on
the financial statements.
In fiscal year 2000, the company sold the net assets of its Information
Solutions segment to The Carlyle Group. The Carlyle Group renamed the business
Relizon Corporation. The company became secondarily liable under a new real
estate lease after being released as primary obligor for a facility leased and
paid by Relizon. This contingent liability, which matures in January
11
2006, was $1,051 as of June 30, 2004. Also in connection with the sale of these
operations to The Carlyle Group, the company remained contingently liable for a
portion of long-term debt, which is collateralized by a Relizon facility in
Canada and matures in 2007. In connection with this contingent liability, the
company secured a standby letter of credit which expires in 2007. As of June 30,
2004, the unamortized balance on this letter of credit was $1,546.
On July 23, 2004, a shareholder class action complaint was filed in the United
States District Court for the Southern District of Ohio. This complaint alleges
that the company, a current officer and a former officer violated provisions of
the Securities Exchange Act of 1934. The company denies that these allegations
have any merit and will vigorously defend against this action. It is too early
in the process for the company to make a determination as to any potential
effect on the financial statements.
(11) POSTRETIREMENT BENEFITS
In December 2003, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 132 (revised 2003),
"Employers' Disclosures about Pensions and Other Postretirement Benefits an
amendment of FASB Statements No. 87, 88, and 106." This statement revises
employers' disclosures about pension plans and other postretirement plans.
THREE MONTHS NINE MONTHS
2004 2003 2004 2003
------- ------- -------- --------
PENSION BENEFITS
Service cost $ 2,817 $ 2,137 $ 8,459 $ 6,410
Interest cost 4,211 4,260 12,642 12,779
Estimated return on plan assets (3,180) (3,117) (9,547) (9,353)
Amortization of unrecognized transitional asset 65 34 194 104
Amortization of prior service cost 196 150 587 449
Recognized net actuarial losses 982 323 2,952 970
Plan administration 220 660
Settlements 45 40 45 80
-------- -------- -------- --------
Net periodic pension cost $ 5,136 $ 4,047 $ 15,332 $ 12,099
======== ======== ======== ========
POSTRETIREMENT MEDICAL AND LIFE INSURANCE BENEFITS
Service cost $ 166 $ 121 $ 498 $ 361
Interest cost 923 1,073 2,771 3,219
Amortization of prior service cost (185) (186) (556) (557)
Recognized net actuarial losses 280 272 840 816
-------- -------- -------- --------
Net periodic postretirement medical and life insurance cost $ 1,184 $ 1,280 $ 3,553 $ 3,839
======== ======== ======== ========
During the nine months ended June 30, 2004, the company made voluntary
contributions of $9,200 to its defined benefit pension plans. The company
anticipates additional contributions of $5,000 to its pension plans in fiscal
year 2004 for a total of $14,200. In fiscal year 2004, the company changed from
the explicit method of reporting plan administration costs to the more common
implicit method of recording the costs by reducing the expected return on plan
assets by the expected costs.
(12) ACCOUNTING CHANGE
Effective October 1, 2003, the company elected to adopt the provisions of SFAS
No. 123, "Accounting for Stock-Based Compensation" and began recognizing stock
option expense in the Statements of Consolidated Income. Under the fair value
recognition provisions of SFAS No. 123, stock-based compensation cost is
measured at the grant date based on the fair value of the award and is
recognized as expense over the vesting period. SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure" provides three alternative
methods for reporting this change in accounting principle. The company elected
the retroactive restatement method which required that all periods presented be
restated to reflect stock-based compensation cost under the fair value based
accounting method of SFAS No. 123 for all awards granted, modified or settled in
fiscal years beginning after December 15, 1994. Accordingly, prior year
financial statements have been restated to reflect the adoption of SFAS No. 123.
For the three months ended June 30, 2003, income before income taxes was reduced
by
12
$3,592, the provision for income taxes was decreased by $1,548 and net income
was reduced by $2,044 (or $.03 per share). For the nine months ended June 30,
2003, income before income taxes was reduced by $11,235, the provision for
income taxes was decreased by $3,979 and net income was reduced by $7,256 (or
$.10 per share). As of September 30, 2003, deferred income tax assets were
increased by $17,781, capital stock was increased by $38,538 and retained
earnings were reduced by $20,757.
(13) ACCOUNTING STANDARDS
In May 2004, the FASB staff issued FASB Staff Position SFAS 106-2, "Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003" (the "Act"). This statement
prescribes accounting for the Act and is effective for interim periods beginning
after June 15, 2004. The company is in the process of determining whether it
would need to amend its postretirement benefit plan in order to benefit from the
new legislation. The company has elected to defer recognizing the effects of the
Act until detailed regulations necessary to implement the Act have been issued.
Accordingly, the consolidated financial statements do not reflect the effect of
the Act, if any. Authoritative guidance, when issued, could require the company
to change previously reported information.
(14) SUBSEQUENT EVENT
On July 7, 2004, the company announced that Lloyd G. Waterhouse, former Chief
Executive Officer, Chairman and President resigned as an employee and director
of the company. On July 29, 2004, the company and Mr. Waterhouse signed a
release agreement which entitled Mr. Waterhouse to receive the benefits
specified in his employment agreement with the company dated May 1, 1999 as
amended and restated December 1, 2001 and as further amended and restated as of
September 2, 2003. The company will record the estimated $2,600 cost of these
benefits during the fourth quarter of fiscal year 2004.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED JUNE 30, 2004 AND 2003
(In thousands except employee and per share data)
SIGNIFICANT EVENTS
ACCOUNTING CHANGE
Effective October 1, 2003, the company elected to adopt the provisions of
Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for
Stock-Based Compensation" and began recognizing stock option expense in the
Statements of Consolidated Income. Under the fair value recognition provisions
of SFAS No. 123, stock-based compensation cost is measured at the grant date
based on the fair value of the award and is recognized as expense over the
vesting period. SFAS No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" provides three alternative methods for reporting this
change in accounting principle. The company elected the retroactive restatement
method which required that all periods presented be restated to reflect
stock-based compensation cost under the fair value based accounting method of
SFAS No. 123 for all awards granted, modified or settled in fiscal years
beginning after December 15, 1994. Accordingly, prior year financial statements
have been restated to reflect the adoption of SFAS No. 123. See Note 12 to the
Condensed Consolidated Financial Statements for additional disclosures about
this accounting change.
SEGMENT REPORTING
During the first quarter of fiscal year 2004, the company changed its reporting
segments to reflect the revised organizational structure of the company. In
executing this realignment, the company changed its method of allocating certain
revenues and expenses. Prior year financial results were restated to the extent
possible to reflect financial results consistent with the current year. See Note
9 to the Condensed Consolidated Financial Statements for additional disclosures
regarding business segments.
REORGANIZATION COSTS
On October 2, 2003, the company announced the consolidation of its automotive
Documents printing plant, located in Grand Prairie, Texas, into the company's
Celina, Ohio manufacturing facility. All employees located in Texas were offered
the opportunity to accept a position in the Ohio facility. Those not accepting a
position in Ohio were offered severance and outplacement services. Grand Prairie
document production operations ceased in December 2003 and 72 positions were
eliminated. During the first quarter of fiscal year 2004, the company also
reorganized the Documents sales force, eliminating 37 positions, and eliminated
109 additional positions in Software Solutions development, Services and
administration. During the second quarter of fiscal year 2004, an additional 12
positions were eliminated, primarily in Services.
13
The company had previously estimated that costs for severance, outplacement,
relocation and other plant consolidation efforts would total about $8,000 or
$.07 per share after taxes in fiscal year 2004. During the second quarter of
fiscal year 2004, the company incurred pretax expense of $1,267 or $.01 per
share after taxes and during the first six months of fiscal year 2004, the
company incurred pretax expense of $7,513 or $.07 per share after taxes. During
the quarter ended June 30, 2004, the company recorded income of $418 before
income taxes to revise its estimate of employee termination benefits and reduced
accrued liabilities. See Note 3 to the Condensed Consolidated Financial
Statements for additional disclosure about these reorganization costs.
BUSINESS COMBINATIONS
In October 2003, the company purchased the outstanding shares of Incadea GmbH, a
provider of global automotive retailing software solutions. Privately-held
Incadea, based in Raubling, Germany, had annual revenues of about $6,000. The
purchase price of $6,181 was paid with cash from existing balances. During the
first quarter of fiscal year 2004, the company also repaid $5,046 of debt
assumed in the purchase of Incadea GmbH.
In October 2003, the company purchased the net assets of Third Coast Media, a
provider of Web and customer relationship management software to automotive
retailers. Third Coast Media, headquartered in Richardson, Texas, had annual
revenues of about $5,000. The purchase price of $5,464 was paid with cash from
existing balances. In April 2004, the company paid an additional $500 of
purchase price based on achievement of specified operating results. Under terms
of the purchase agreement, the company may be required to make additional
payments of up to $1,800 over the next three years, contingent on the
achievement of certain operating results of the business purchased. See Note 4
to the Condensed Consolidated Financial Statements for more information on
business combinations.
SUBSEQUENT EVENT
On July 7, 2004, the company announced that Lloyd G. Waterhouse, former Chief
Executive Officer, Chairman and President resigned as an employee and director
of the company. On July 29, 2004, the company and Mr. Waterhouse signed a
release agreement which entitled Mr. Waterhouse to receive the benefits
specified in his employment agreement with the company dated May 1, 1999 as
amended and restated December 1, 2001 and as further amended and restated as of
September 2, 2003. The company will record the estimated $2,600 cost of these
benefits during the fourth quarter of fiscal year 2004.
RESULTS OF OPERATIONS
CONSOLIDATED SUMMARY
Three Months Nine Months
--------------------------------------------- -----------------------------------------
2004 2003 Change % Change 2004 2003 Change % Change
--------- --------- ---------- -------- -------- -------- --------- ---------
Net sales and revenues $ 242,830 $ 250,405 ($ 7,575) -3% $740,725 $752,152 ($11,427) -2%
Gross profit $ 134,350 $ 138,762 ($ 4,412) -3% $413,894 $417,316 ($ 3,422) -1%
% of revenues 55.3% 55.4% 55.9% 55.5%
SG&A expenses $ 96,128 $ 93,932 $ 2,196 2% $296,989 $287,848 $ 9,141 3%
% of revenues 39.6% 37.5% 40.1% 38.3%
Operating income $ 38,222 $ 44,830 ($ 6,608) -15% $116,905 $129,468 ($12,563) -10%
% of revenues 15.7% 17.9% 15.8% 17.2%
Net income $ 22,019 $ 26,205 ($ 4,186) -16% $ 72,198 $ 78,768 ($ 6,570) -8%
Basic earnings per share $ 0.34 $ 0.38 ($ 0.04) -11% $ 1.09 $ 1.15 ($ 0.06) -5%
Diluted earnings per share $ 0.33 $ 0.37 ($ 0.04) -11% $ 1.05 $ 1.12 ($ 0.07) -6%
Consolidated net sales and revenues declined from last year in both the third
quarter and nine months of fiscal year 2004. In the third quarter, revenues
declined in all four segments. For the nine months, slight growth in Software
Solutions revenues was offset by revenue declines in the other three segments.
The backlog of new orders for Software Solutions and Services computer systems
products and deferred revenues (orders shipped, but not yet recognized in
revenues) was approximately $48,000 at June 30, 2004 compared to $45,000 at
March 31, 2004, $47,000 at December 31, 2003 and $65,000 at September 30, 2003.
Gross profit declined for both the quarter and nine months. For the third
quarter, gross profit declined for all segments primarily because of the
declines in revenues. Year-to-date Software Solutions gross profit increased as
higher recurring revenues overcame higher amortization expenses for Reynolds
Generations Series Suite(R) software. However, gross profit declined because of
lower sales for the other three segments. Documents gross profit was negatively
affected by $1,596 of plant consolidation costs incurred during the first six
months of fiscal year 2004. SG&A expenses exceeded last year
14
primarily because of higher research and development expenses as no software
development costs were capitalized during fiscal year 2004. Research and
development expenses were approximately $24,000 in the third quarter of fiscal
year 2004 and $68,000 through nine months, versus $17,000 and $53,000 last year,
respectively. Third quarter SG&A expenses included $1,590 of consulting expenses
related to reengineering the company's order to cash processes. Targeted
benefits of this project are reduced costs, increased productivity and improved
customer service. Year-to-date SG&A expenses also included $5,470 of
reorganization and plant consolidation expenses. Excluding these reorganization
and plant consolidation expenses, year-to-date SG&A expenses were $291,519 or
39.4% of revenues. Operating income reflected the investments in research and
development, productivity efforts and the lower revenues.
Other income declined from last year in the third quarter primarily because of
lower interest income as the prior year included a positive adjustment to the
present value of a receivable. Year-to-date other income was less than a year
ago because last year's second quarter included a $1,369 gain on the company's
sale of its investment in Credit Online. The effective income tax rate was 38.6%
in fiscal year 2004, compared to 40.5% last year. In the first quarter of fiscal
year 2004, the tax rate reflected a $1,859 reduction of income taxes, primarily
related to Ohio income tax legislation enacted during the quarter ended December
31, 2003. The 2003 tax rate reflected $3,400 of higher state income tax expense
($2,210 net of federal income tax benefits) related to Ohio tax legislation
enacted in June 2003. Excluding the effects of these items, the effective tax
rate was 40.2% in 2004 compared to 38.8% in 2003. The increase in the 2004 tax
rate over prior 2004 estimates and last year resulted primarily from lower
earnings from previous estimates and last year, thus increasing the effect of
permanent items and the greater impact of international tax rates resulting from
the October 2003 purchase of Incadea GmbH. The decline in net income reflected
the sales and expense items previously discussed. Earnings per share declined by
a lower percentage than net income because of the effect of share repurchases
which continued to lower the number of common shares outstanding.
SOFTWARE SOLUTIONS
Three Months Nine Months
---------------------------------------- ----------------------------------------
2004 2003 Change % Change 2004 2003 Change % Change
-------- -------- ------- -------- --------- -------- ------ --------
Net sales and revenues $132,157 $133,218 ($1,061) -1% $ 410,626 $404,819 $5,807 1%
Gross profit $ 88,534 $ 89,323 ($ 789) -1% $ 279,989 $270,914 $9,075 3%
% of revenues 67.0% 67.1% 68.2% 66.9%
SG&A expenses $ 57,680 $ 54,077 $3,603 7% $ 174,694 $168,208 $6,486 4%
% of revenues 43.7% 40.6% 42.6% 41.5%
Operating income $ 30,854 $ 35,246 ($4,392) -12% $ 105,295 $102,706 $2,589 3%
% of revenues 23.3% 26.5% 25.6% 25.4%
During the first quarter of fiscal year 2004, the company changed its reporting
segments to reflect the revised organizational structure of the company. In
executing this realignment, the company changed its method of allocating certain
revenues and expenses. It was not practical to restate financial statements for
all changes. The estimated effect of these non restated items was to increase
Software Solutions 2004 revenues by $2,400 and operating income by $1,800 in the
third quarter and revenues by $7,200 and operating income by $5,400 through nine
months. The offsetting unfavorable effect of these changes was included in the
Services segment. See Note 9 to the Condensed Consolidated Financial Statements
for additional disclosures about segment reporting.
Third quarter revenues declined slightly from last year as recurring software
revenues increased 7% while one-time hardware and software sales declined 26%.
Year-to-date revenues increased slightly over last year as recurring software
revenues increased 10% while one-time hardware and software sales declined 22%.
Recurring revenues reflected the favorable benefit of the non restated items
previously mentioned for both the third quarter and nine months. Recurring
revenues grew primarily because of growth in Reynolds Web Solutions revenues
(which is converting to a recurring revenue model), higher ERA(R) software
support revenues primarily because of additional applications supported, growth
of Contact Management revenues because of greater volume and the October 2003
acquisition of Third Coast Media. The year-to-date revenue growth also reflects
the January 2003 addition of Internet Lead Management (which resulted from a
license agreement between the company and Microsoft Corporation in January
2003). The company also implemented an annual price increase effective March 1,
2004 to offset inflation. One-time hardware and software sales declined from
last year for both the quarter and nine months primarily as a result of fewer
sales of ERA and related peripherals. Year-to-date one-time software sales also
declined as a result of the transition of Reynolds Web Solutions to a recurring
revenue model (the first half of last year was still predominately a one-time
sales recognition model).
Gross profit declined from last year consistent with the revenue decline in the
third quarter. Year-to-date gross profit increased
15
more than revenues because of the relatively stronger growth in higher margin
recurring revenues. In 2004, cost of sales included $3,274 of higher
amortization expenses in the third quarter and $9,821 year-to-date related to
Reynolds Generations Series Suite software. SG&A expenses increased over last
year primarily because of higher research and development expenses as the
company did not capitalize any software development costs during fiscal year
2004. SG&A expenses benefited from lower selling expenses, primarily the result
of the change in allocation methodology among reporting segments. SG&A expenses
also included $2,303 of reorganization costs year-to-date. See Note 3 to the
Condensed Consolidated Financial Statements for a discussion of these
reorganization costs. Excluding these reorganization costs, SG&A expenses were
$172,391 or 42.0% of revenues for nine months. Operating income declined in the
third quarter primarily because of higher research and development expenses,
partially offset by the favorable effect of the non restated items. Year-to-date
operating income increased slightly as growth in recurring revenues, the effect
of the non restated items and lower selling expenses, more than offset higher
research and development expenses and reorganization costs. Excluding the
reorganization costs, fiscal year 2004 operating income was $107,612 or 26.2% of
revenues through nine months.
SERVICES
Three Months Nine Months
-------------------------------------- ----------------------------------------
2004 2003 Change % Change 2004 2003 Change % Change
-------- -------- -------- -------- --------- -------- ------ --------
Net sales and revenues $ 63,017 $64,815 ($1,798) -3% $181,746 $191,099 ($9,353) -5%
Gross profit $ 18,574 $19,597 ($1,023) -5% $ 50,435 $ 55,669 ($5,234) -9%
% of revenues 29.5% 30.2% 27.8% 29.1%
SG&A expenses $ 22,187 $22,235 ($ 48) 0% $ 70,311 $ 66,048 $4,263 6%
% of revenues 35.2% 34.3% 38.7% 34.5%
Operating income (loss) ($ 3,613) ($ 2,638) ($ 975) ($ 19,876) ($ 10,379) ($9,497)
% of revenues -5.7% -4.1% -10.9% -5.4%
During the first quarter of fiscal year 2004, the company changed its reporting
segments to reflect the revised organizational structure of the company. In
executing this realignment, the company changed its method of allocating certain
revenues and expenses. It was not practical to restate financial statements for
all changes. The estimated effect of these non restated items was to reduce
Services 2004 revenues by $2,400 and operating income by $1,800 in the third
quarter and revenues by $7,200 and operating income by $5,400 through nine
months. The offsetting favorable benefit of these changes was included in the
Software Solutions segment. See Note 9 to the Condensed Consolidated Financial
Statements for additional disclosures about segment reporting.
Services revenues declined from last year for the third quarter primarily
because of the effect of non restated items previously mentioned. Year-to-date
revenues declined as a result of both the effect of non restated items and lower
Campaign Management Services revenues which resulted from the loss of a customer
in April 2003. The third quarter and nine month revenue declines were partially
offset by higher consulting revenues, up 16% in the third quarter and 7%
year-to-date, as well as increased revenues from credit services.
Gross profit declined from last year for both the quarter and nine months
primarily because of the decline in revenues. Additionally, the company has
incurred higher implementation costs associated with Reynolds Generations Series
Suite, the company's new retail management system. SG&A expenses were
essentially the same as last year in the third quarter as higher selling
expenses, primarily the result of the change in allocation methodology among
reporting segments, were offset by lower general and administrative expenses.
Year-to-date, SG&A expenses included $1,542 of reorganization costs in 2004. See
Note 3 to the Condensed Consolidated Financial Statements for a discussion of
these reorganization costs. Excluding the reorganization costs, SG&A expenses
were $68,769 or 37.8% of revenues year-to-date. SG&A expenses for the nine
months also included higher marketing costs in the first quarter of 2004
associated with Networkcar and a higher allocation of selling expenses as
previously discussed. Operating losses reflected the negative effect of the non
restated items and the additional implementation costs associated with Reynolds
Generations Series Suite. These operating losses were partially offset by sales
growth in credit services and improved performance of consulting services.
Consulting services lost $1,000 in the third quarter compared to a loss of
$3,700 last year and lost $4,400 year-to-date versus a loss of $11,500 a year
ago. Consulting services benefited from lower amortization expenses versus last
year. Amortization expenses declined $1,200 in the third quarter and $2,400
year-to-date. Excluding reorganization costs, Services fiscal year 2004
operating losses were $18,319 year-to-date.
16
DOCUMENTS
Three Months Nine Months
--------------------------------------- -----------------------------------------
2004 2003 Change % Change 2004 2003 Change % Change
-------- -------- --------- -------- -------- -------- --------- --------
Net sales and revenues $ 39,901 $ 43,498 ($ 3,597) -8% $123,847 $128,305 ($ 4,458) -3%
Gross profit $ 21,229 $ 23,087 ($ 1,858) -8% $ 64,486 $ 69,718 ($ 5,232) -8%
% of revenues 53.2% 53.1% 52.1% 54.3%
SG&A expenses $ 14,491 $ 15,606 ($ 1,115) -7% $ 47,082 $ 48,301 ($ 1,219) -3%
% of revenues 36.3% 35.9% 38.0% 37.6%
Operating income $ 6,738 $ 7,481 ($ 743) -10% $ 17,404 $ 21,417 ($ 4,013) -19%
% of revenues 16.9% 17.2% 14.1% 16.7%
Documents sales declined from last year for both the third quarter and nine
months. Sales declined about $1,000 in both the quarter and nine months because
of the company's decision to stop selling low margin stock continuous and copy
paper products. The remainder of the decrease in sales resulted from lower
volume of business forms which more than offset the effect of price increases
since last year. The company expects the sales of certain documents to continue
to decline as advances in technology continue. Gross profit reflected the sales
decline for both the quarter and nine months. Year-to-date cost of sales also
included plant consolidation costs of $1,596 which lowered gross profit further.
These costs were incurred as the Grand Prairie, Texas, printing plant was
consolidated into the Celina, Ohio, manufacturing facility. This consolidation
was completed in the second quarter of fiscal year 2004. SG&A expenses included
lower selling costs as a result of lower sales. Year-to-date SG&A expenses also
included costs of $1,625 associated with the plant consolidation and the sales
force reorganization. See Note 3 to the Condensed Consolidated Financial
Statements for a discussion of these reorganization costs. Excluding these plant
consolidation and sales reorganization costs, SG&A expenses were $45,457 or
36.7% of revenues year-to-date. Operating income was less than last year
primarily because of the lower sales. Year-to-date operating income was also
reduced by the plant consolidation and sales force reorganization costs.
Excluding these plant consolidation and sales force reorganization costs, fiscal
year 2004 operating income was $20,625 or 16.7% of sales through nine months.
FINANCIAL SERVICES
Three Months Nine Months
-------------------------------------- ----------------------------------------
2004 2003 Change % Change 2004 2003 Change % Change
-------- -------- ------- -------- --------- -------- ------ --------
Net sales and revenues $ 7,755 $ 8,874 ($1,119) -13% $ 24,506 $27,929 ($3,423) -12%
Gross profit $ 6,013 $ 6,755 ($ 742) -11% $ 18,984 $21,015 ($2,031) -10%
% of revenues 77.5% 76.1% 77.5% 75.2%
SG&A expenses $ 1,770 $ 2,014 ($ 244) -12% $ 4,902 $ 5,291 ($ 389) -7%
% of revenues 22.8% 22.7% 20.0% 18.9%
Operating income $ 4,243 $ 4,741 ($ 498) -11% $ 14,082 $15,724 ($1,642) -10%
% of revenues 54.7% 53.4% 57.5% 56.3%
Financial Services revenues declined from last year for both the three and nine
month periods primarily because of lower average interest rates. Gross profit
declined from last year for the quarter and year-to-date because of the decline
in revenues. Interest rate spreads were 4.3% in the third quarter and 4.5%
year-to-date, compared to 5.1% and 5.2%, respectively, for the same periods a
year ago. SG&A expenses were less than last year for both the third quarter and
nine months as the result of lower bad debt expenses. Bad debt expenses were
$910 in the third quarter compared to $1,150 last year and $2,335 for nine
months versus $2,565 a year ago. Operating income was less than last year for
both the quarter and nine months because of the declines in revenues.
LIQUIDITY AND CAPITAL RESOURCES
AUTOMOTIVE SOLUTIONS CASH FLOWS (EXCLUDING FINANCIAL SERVICES)
The company's balance of cash and equivalents was $119,351 at June 30, 2004.
Cash flows from operating activities were $145,336 during the nine months ended
June 30, 2004 and resulted primarily from net income, adjusted for non cash
charges such as depreciation and amortization. Collections of both trade
accounts receivable and other accounts receivable also contributed significantly
to cash flow from operations. Cash flows used for investing activities included
the company's purchases of Third Coast Media and Incadea GmbH for a combined
$12,145. An additional $5,046 of Incadea debt repayments is included in
financing activities. Cash flows used for investing activities also included
capital expenditures of $27,025, partially offset by proceeds from asset sales
of $10,598. Fiscal year 2004 capital expenditures (net of proceeds from asset
sales) in the ordinary course of business are anticipated to be about $26,000,
including about $8,000 for expansion of an existing office building. Fiscal year
2004 estimated capital expenditures are less than previously forecasted because
a greater
17
portion of office building expenditures will not occur until 2005. See the
Shareholders' Equity caption of this analysis regarding the payment of dividends
and share repurchases.
FINANCIAL SERVICES CASH FLOWS
Financial Services operating cash flows, collections on finance receivables and
additional borrowings were invested in new finance receivables primarily for the
company's computer systems, used to make scheduled debt repayments and used to
make dividend payments to Automotive Solutions.
CAPITALIZATION
The company's ratio of total debt (total Automotive Solutions debt) to
capitalization (total Automotive Solutions debt plus shareholders' equity) was
18.4% at both June 30, 2004 and September 30, 2003. During the first quarter of
fiscal year 2004, the company repaid $5,046 of debt assumed in the purchase of
Incadea GmbH. Remaining credit available under a committed revolving credit
agreement was $150,000 at June 30, 2004. In addition to this committed credit
agreement, the company also has a variety of other short-term credit lines
available. Management estimates that cash balances, cash flow from operations
and cash available from existing credit agreements will be sufficient to fund
normal operations over the next year. Cash balances are placed in short-term
investments until needed.
On January 22, 2004, Reyna Funding, L.L.C., a consolidated affiliate of the
company, renewed a loan funding agreement, whereby Reyna Funding, L.L.C. may
borrow funds using finance receivables purchased from Reyna Capital Corporation,
also a consolidated affiliate of the company, as security for the loan. On May
19, 2004, the securitization was modified to increase the borrowing limit from
$100,000 to $150,000. Interest is payable on a variable rate basis. This loan
funding agreement is renewable annually through January 23, 2006. The
outstanding borrowings under this arrangement were included with Financial
Services notes payable on the Condensed Consolidated Balance Sheets. As of June
30, 2004, the balance outstanding on this facility was $100,000.
The company has consistently produced operating cash flows sufficient to fund
normal operations. These operating cash flows result from stable operating
margins and a high percentage of recurring revenues which require relatively low
capital investment. Debt instruments have been used primarily to fund business
combinations and Financial Services receivables. As of June 30, 2004, the
company could issue an additional $130,000 of notes under a shelf registration
statement on file with the Securities and Exchange Commission. Management
believes that its strong balance sheet and cash flows should help maintain an
investment grade credit rating that should provide access to capital sufficient
to meet the company's cash requirements beyond the next year. During the quarter
ended March 31, 2004, Moody's Investors Service lowered the company's senior
unsecured rating to Baa2 from Baa1. Standard and Poors maintained a rating of
BBB. The company does not expect this action to have a material effect on the
company's financial statements or its ability to access capital markets. On
April 8, 2004, the company obtained a new $200,000 revolving credit agreement
and terminated the old agreement. The new revolving credit agreement has a
five-year term and less restrictive covenants than the prior agreement. As of
June 30, 2004, the balance outstanding on this facility was $50,000. See Note 6
to the Condensed Consolidated Financial Statements for additional disclosures
regarding the company's debt instruments.
SHAREHOLDERS' EQUITY
The company lists its Class A common shares on the New York Stock Exchange.
There is no principal market for the Class B common shares. The company also has
an authorized class of 60,000 preferred shares with no par value. As of June 30,
2004, no preferred shares were outstanding and there were no agreements or
commitments with respect to the sale or issuance of these shares, except for
preferred share purchase rights described in the company's annual report on Form
10-K for the fiscal year ended September 30, 2003.
Dividends are typically declared each November, February, May and August and
paid in January, April, June and September. Dividends per Class A common share
must be twenty times the dividends per Class B common share and all dividend
payments must be simultaneous. The company has paid dividends every year since
the company's initial public offering in 1961.
During the three months ended June 30, 2004, the company repurchased 1,403 Class
A common shares for $40,477 (an average price of $28.85 per share).
Year-to-date, the company repurchased 4,795 Class A common shares for $134,486
(an average price of $28.05 per share). As of June 30, 2004, the company could
repurchase an additional 3,370 Class A common shares under existing board of
directors' authorizations.
18
APPLICATION OF CRITICAL ACCOUNTING POLICIES
The company's Consolidated Financial Statements and Notes to Consolidated
Financial Statements are prepared in accordance with accounting principles
generally accepted in the United States of America. Preparing financial
statements and applying accounting policies requires management to make
judgments, estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses. Critical accounting policies for the company
include revenue recognition, accounting for software licensed to customers,
accounting for long-lived assets, accounting for income taxes and accounting for
retirement benefits.
REVENUE RECOGNITION
Sales of computer hardware and business forms products are recorded when title
passes upon shipment to customers. Revenues from software license fees are
accounted for in accordance with American Institute of Certified Public
Accountants (AICPA) Statement of Position (SOP) 97-2, "Software Revenue
Recognition." The company recognizes revenue when (i) persuasive evidence of an
arrangement exists; (ii) delivery has occurred or services have been rendered;
(iii) the sales price is fixed or determinable; and (iv) collectibility is
reasonably assured. Service revenues, which include computer hardware
maintenance, software support, training, consulting and Web hosting are recorded
ratably over the contract period or as services are performed. The application
of SOP 97-2 requires judgment, including whether a software arrangement includes
multiple elements (as defined in Emerging Issues Task Force (EITF) Issue No.
00-21, "Revenue Arrangements with Multiple Deliverables"), and if so, whether
vendor-specific objective evidence of fair value exists for those elements.
Software revenues which do not meet the criteria set forth in EITF Issue No.
00-3, "Application of AICPA SOP 97-2 to Arrangements That Include the Right to
Use Software Stored on Another Entity's Hardware," are recorded ratably over the
contract period as services are provided.
SOFTWARE LICENSED TO CUSTOMERS
The company capitalizes certain costs of developing its software products in
accordance with SFAS No. 86, "Accounting for the Costs of Computer Software to
Be Sold, Leased, or Otherwise Marketed." SFAS No. 86 specifies that costs
incurred in creating a computer software product should be charged to expense
when incurred, as research and development, until technological feasibility has
been established for the product. Technological feasibility is established
either by creating a detail program design or a tested working model. Judgment
is required in determining when technological feasibility of a product is
established. The company follows a standard process for developing software
products. This process has five phases: selection, definition, development,
delivery and general customer acceptability (GCA). When using proven technology,
management believes that technological feasibility is established upon the
completion of the definition phase (detail program design). When using newer
technology, management believes that technological feasibility is established
upon completion of the delivery phase (tested working model). Once technological
feasibility is established, software development costs are capitalized until the
product is available for general release to customers (GCA). Software
development costs consist primarily of payroll and benefits for both employees
and outside contractors. Upon general release of a software product,
amortization is determined based on the larger of the amounts computed using (a)
the ratio that current gross revenues for each product bears to the total of
current and anticipated future gross revenues for that product, or (b) the
straight-line method over the remaining estimated economic life of the product,
ranging from three to seven years.
LONG-LIVED ASSETS
The company has completed numerous business combinations over the years. These
business combinations result in the acquisition of intangible assets and the
recognition of goodwill on the company's Consolidated Balance Sheet. The company
accounts for these assets under the provisions of SFAS No. 141, "Business
Combinations" and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No.
142 requires that goodwill not be amortized, but instead tested for impairment
at least annually. The Statement also requires recognized intangible assets with
finite useful lives to be amortized over their useful lives. Long-lived assets,
goodwill and intangible assets are reviewed for impairment annually or whenever
events or circumstances indicate that the carrying amount of an asset may not be
recoverable from future cash flows. Future cash flows are forecasted based on
management's estimates of future events and could be materially different from
actual cash flows. If the carrying value of an asset is considered impaired, an
impairment charge is recorded for the amount by which the carrying value of the
asset exceeds its fair value.
INCOME TAXES
The company accounts for income taxes under the provisions of SFAS No. 109,
"Accounting for Income Taxes." The objectives of accounting for income taxes are
to recognize the amount of taxes payable or refundable for the current year and
deferred tax liabilities and assets for the future tax consequences of events
that have been recognized in the company's financial statements or tax returns.
Judgment is required in assessing the future tax consequences of events that
have been
19
recognized in the company's financial statements or tax returns. Fluctuations in
the actual outcome of these future tax consequences could materially impact the
company's financial position or its results of operations.
POSTRETIREMENT BENEFITS
The company sponsors defined benefit pension plans for most employees. The
company also sponsors a defined benefit medical plan and a defined benefit life
insurance plan for certain employees. The company's postretirement plans are
described in the company's annual report on Form 10-K for the fiscal year ended
September 30, 2003. The company accounts for its postretirement benefit plans
according to SFAS No. 87, "Employers' Accounting for Pensions" and SFAS No. 106,
"Employers' Accounting for Postretirement Benefits Other Than Pensions." These
statements require the use of actuarial models that allocate the cost of an
employee's benefits to individual periods of service. The accounting under SFAS
No. 87 and SFAS No. 106 therefore requires the company to recognize costs before
the payment of benefits. Certain assumptions must be made concerning future
events that will determine the amount and timing of the benefit payments. Such
assumptions include the discount rate, the expected long-term rate of return on
plan assets, the rate of future compensation increases and the healthcare cost
trend rate. In addition, the actuarial calculation includes subjective factors
such as withdrawal and mortality rates to estimate the projected benefit
obligation. The actuarial assumptions used may differ materially from actual
results due to changing market and economic conditions, higher or lower
withdrawal rates or longer or shorter life spans of participants. These
differences may result in a significant impact on the amount of postretirement
benefit expense recorded in future periods. The company annually evaluates the
assumptions used to determine postretirement benefit expense for its qualified
and non-qualified defined benefit plans. The company adjusted assumptions used
to measure the amount of postretirement benefit expense, reducing the discount
rate from 7.25% in fiscal year 2003 to 6.0% in fiscal year 2004 and reducing the
expected long-term rate of return on plan assets from 9.0% in fiscal year 2003
to 8.25% in fiscal year 2004. The company is not required to make minimum
contributions to its postretirement plans in fiscal year 2004, although the
company may elect to make contributions. See the company's annual report on Form
10-K for the fiscal year ended September 30, 2003, for more detail disclosures
regarding postretirement benefits, including relevant assumptions used to
determine expense and future obligations. The company's net periodic pension
expense was $5,136 for the three months and $15,332 through the nine months
ended June 30, 2004, compared to $4,047 and $12,099, respectively, a year ago.
The company's net periodic postretirement medical and life insurance expense was
$1,184 for the quarter ended June 30, 2004, and $3,553 fiscal year-to-date
versus $1,280 and $3,839, respectively, for the same periods last year.
MARKET RISKS
INTEREST RATES
The Automotive Solutions portion of the business borrows money, as needed,
primarily to fund business combinations. Generally the company borrows under
fixed rate agreements with terms of ten years or less. During fiscal year 2002,
the company entered into $100,000 of interest rate swaps to reduce the effective
interest expense on outstanding long-term debt. In this transaction the company
effectively converted 7% fixed rate debt into variable rate debt, which averaged
3.6% in the third quarter and 3.5% during the first nine months of fiscal year
2004. These interest rate swap agreements were designated as fair value hedges.
The company does not use financial instruments for trading purposes.
The Financial Services segment of the business, including Reyna Funding L.L.C.,
a consolidated affiliate of the company, obtains borrowings to fund the
investment in finance receivables. These fixed rate receivables generally have
repayment terms of five years. The company funds finance receivables with debt
that has repayment terms consistent with the maturities of the finance
receivables. Generally the company attempts to lock in the interest spread on
the fixed rate finance receivables by borrowing under fixed rate agreements or
using interest rate management agreements to manage variable interest rate
exposure. The company does not use financial instruments for trading purposes.
During the first nine months of fiscal year 2004, Reyna Funding, L.L.C. entered
into $26,607 of interest rate swaps to replace maturing interest rate swaps.
Because fixed rate finance receivables are primarily funded with fixed rate debt
or its equivalent (variable rate debt that has been fixed with interest rate
swaps), management believes that a one percentage point move in interest rates
would not have a material effect on the company's financial statements. See Note
6 to the Condensed Consolidated Financial Statements for additional disclosures
regarding the company's debt instruments and interest rate management
agreements.
FOREIGN CURRENCY EXCHANGE RATES
The company has foreign-based operations, primarily in Canada, which accounted
for 8% of net sales and revenues in the first nine months of fiscal year 2004.
In the conduct of its foreign operations, the company has intercompany sales,
expenses and loans between the U.S. and its foreign operations and may receive
dividends denominated in different currencies. These transactions expose the
company to changes in foreign currency exchange rates. At June 30, 2004, the
company had no
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foreign currency exchange contracts outstanding. Based on the company's overall
foreign currency exchange rate exposure at June 30, 2004, management believes
that a 10% change in currency rates would not have a material effect on the
company's financial statements.
ACCOUNTING STANDARDS
See Note 13 to the Condensed Consolidated Financial Statements for a discussion
of the effect of accounting standards that the company has not yet adopted.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Certain statements in this Management's Discussion and Analysis of the Financial
Condition and Results of Operations constitute forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995. The
forward-looking statements are based on current expectations, estimates,
forecasts and projections of future company or industry performance based on
management's judgment, beliefs, current trends and market conditions.
Forward-looking statements made by the company may be identified by the use of
words such as "expects," "anticipates," "intends," "plans," "believes," "seeks,"
"estimates" and similar expressions. Forward-looking statements are not
guarantees of future performance and involve certain risks, uncertainties and
assumptions which are difficult to predict. Actual outcomes and results may
differ materially from what is expressed, forecasted or implied in any
forward-looking statement. The company undertakes no obligation to update any
forward-looking statements, whether as a result of new information, future
events or otherwise. See also the discussion of factors that may affect future
results contained in the company's Current Report on Form 8-K filed with the SEC
on August 11, 2000, which is incorporated herein by reference.
CONTROLS AND PROCEDURES
The company's management, including the Acting Chief Executive Officer and Chief
Financial Officer, conducted an evaluation of the effectiveness of disclosure
controls and procedures as required by Securities Exchange Act Rule 13a-15 (b)
as of the end of the period covered by this quarterly report. Based on that
evaluation, the Acting Chief Executive Officer and Chief Financial Officer
concluded that the disclosure controls and procedures are effective in ensuring
that all material information required to be filed in this quarterly report has
been made known to them in a timely fashion. There has been no change in the
company's internal control over financial reporting that occurred during the
fiscal period covered by this quarterly report that has materially affected, or
is reasonably likely to materially affect, the company's internal control over
financial reporting.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The information included in Note 10 to the Condensed Consolidated Financial
Statements of this Quarterly Report on Form 10-Q is incorporated by reference.
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES (IN THOUSANDS EXCEPT PER SHARE DATA)
On August 12, 2003, the company's board of directors authorized the repurchase
of 8,000 additional Class A common shares. This authorization has no fixed
expiration date and was in addition to previously approved authorizations. As of
June 30, 2004, the company could repurchase an additional 3,370 Class A common
shares under this board of directors' authorization. No other authorizations for
share repurchase were outstanding as of June 30, 2004. During the three months
ended June 30, 2004, the company repurchased $40,477 of Class A common shares as
follows.
Total Shares Maximum Number
Shares Average Purchased During of Shares Remaining
Program Purchased Price the Period as for Purchase as
Approval During Paid Part of a Publicly Part of a Publicly
Date Month Period (per Share) Announced Program Announced Program
- -------- ------------- --------- ----------- ----------------- -------------------
8/12/03 April 2004 246 $28.98 246 4,528
8/12/03 May 2004 1,157 $28.82 1,157 3,370
8/12/03 June 2004 0 $00.00 0 3,370
------ ------
8/12/03 Total Quarter 1,403 $28.85 1,403
====== ======
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Agreement with Lloyd G. Waterhouse, former Chief Executive
Officer, Chairman and President as of July 29, 2004
10.2 Amendment No. 3 to Loan Funding Agreement
10.3 Credit Agreement
31.1 Certification
31.2 Certification
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 April 21, 2004, the company filed a report on Form 8-K that
included the company's April 21, 2004, press release announcing
financial results for the quarter ended March 31, 2004.
On May 5, 2004, the company filed a report on Form 8-K that included
the company's May 4, 2004, press release announcing a third quarter
dividend and a change in its board of directors and certain board
committees.
On June 24, 2004, the company filed a report on Form 8-K that
included the company's June 24, 2004, press release announcing a
revised earnings outlook.
On July 7, 2004, the company filed a report on Form 8-K that
included the company's July 7, 2004 press release announcing that
Chief Executive Officer, Chairman and President Lloyd G. Waterhouse
had resigned as an employee and director of the company and that the
Board of Directors appointed Philip A. Odeen as Chairman and Acting
Chief Executive Officer.
On July 21, 2004, the company filed a report on Form 8-K that
included the company's July 21, 2004, press release announcing
financial results for the quarter ended June 30, 2004.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE REYNOLDS AND REYNOLDS COMPANY
Date August 13, 2004 /S/ PHILIP A. ODEEN
------------------------------
Philip A. Odeen
Acting Chief Executive Officer
and Chairman
Date August 13, 2004 /S/ DALE L. MEDFORD
------------------------------
Dale L. Medford
Executive Vice President,
Chief Financial Officer and
Chief Administrative Officer
24