LEXMARK INTERNATIONAL INC /KY/ - 10-K Annual Report

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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, 2004

OR

[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934

Commission File No. 1-14050

LEXMARK INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)

DELAWARE 06-1308215
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)

ONE LEXMARK CENTRE DRIVE
740 WEST NEW CIRCLE ROAD
LEXINGTON, KENTUCKY 40550
(Address of principal executive offices) (Zip Code)

(859) 232-2000
(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

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 Rule 12b-2 of the Securities Exchange Act of 1934). Yes X No ___

The aggregate market value of the shares of voting common stock held by
non-affiliates of the registrant was approximately $12.5 billion based on the
closing price for the Class A common stock on the last business day of the
registrant's most recently completed second fiscal quarter.

As of March 4, 2005, there were outstanding 126,624,740 shares (excluding shares
held in treasury) of the registrant's Class A common stock, par value $.01,
which is the only class of voting common stock of the registrant, and there were
no shares outstanding of the registrant's Class B common stock, par value $.01.

DOCUMENTS INCORPORATED BY REFERENCE

Certain information in the company's definitive Proxy Statement for the 2005
Annual Meeting of Stockholders, which will be filed with the Securities and
Exchange Commission pursuant to Regulation 14A, not later than 120 days after
the end of the fiscal year, is incorporated by reference in Part III of this
Form 10-K.
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LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES

FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2004

PART I

ITEM 1. BUSINESS

GENERAL

Lexmark International, Inc., ("Lexmark" or the "company") is a Delaware
corporation and the surviving company of a merger between itself and its former
parent holding company, Lexmark International Group, Inc., ("Group") consummated
on July 1, 2000. Group was formed in July 1990 in connection with the
acquisition of IBM Information Products Corporation from International Business
Machines Corporation ("IBM"). The acquisition was completed in March 1991. On
November 15, 1995, Group completed its initial public offering of Class A common
stock and Lexmark now trades on the New York Stock Exchange under the symbol
"LXK."

Lexmark makes it easier for businesses and consumers to move information between
the digital and paper worlds. Since its inception in 1991, Lexmark has become a
leading developer, manufacturer and supplier of printing and imaging solutions
for offices and homes. Lexmark's products include laser printers, inkjet
printers, multifunction devices, associated supplies, services and solutions.
Lexmark develops and owns most of the technology for its laser and inkjet
products and associated supplies, and that differentiates the company from many
of its major competitors, including Hewlett-Packard, which purchases its laser
engines and cartridges from third-party suppliers. Lexmark also sells dot matrix
printers for printing single and multi-part forms by business users and
develops, manufactures and markets a broad line of other office imaging
products. The company operates in the office products industry. The company is
primarily managed along business and consumer market segments. Refer to Note 17
of the Notes to Consolidated Financial Statements for additional information
regarding the company's reportable segments.

Revenue derived from international sales, including exports from the United
States of America ("U.S."), make up about half of the company's consolidated
revenue, with Europe accounting for approximately two-thirds of international
sales. Lexmark's products are sold in more than 150 countries in North and South
America, Europe, the Middle East, Africa, Asia, the Pacific Rim and the
Caribbean. This geographic diversity offers the company opportunities to
participate in new markets, provides diversification to its revenue stream and
operations to help offset geographic economic trends, and utilizes the technical
and business expertise of a worldwide workforce. Currency translation has
significantly affected international revenue and cost of revenue during the past
several years. Refer to Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Effect of Currency Exchange Rates and
Exchange Rate Risk Management for more information. As the company's
international operations grow, management's attention continues to be focused on
the operation and expansion of the company's global business and managing the
cultural, language and legal differences inherent in international operations. A
summary of the company's revenue and long-lived assets by geographic area is
found in Note 17 of the Notes to Consolidated Financial Statements included in
this Annual Report on Form 10-K.

MARKET OVERVIEW(1)

Lexmark management believes that the total distributed office and home printing
output opportunity was approximately $85 billion in 2004 including hardware,
supplies and related services. This opportunity includes printers and
multifunction devices as well as a declining base of copiers and fax machines
that are increasingly being integrated into multifunction devices.

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1 Certain information contained in the "Market Overview" section has been
obtained from industry sources, public information and other internal and
external sources. Data available from industry analysts varies widely among
sources. The company bases its analysis of market trends on the data available
from several different industry analysts.

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Based on industry analyst information, Lexmark management estimates that this
market will grow annually at low- to mid-single digit percentage rates through
2008. Management believes that the integration of print/copy/fax capabilities
favors companies like Lexmark due to its experience in providing
industry-leading network printing solutions and multifunction printing products.

The Internet is positively impacting the distributed home and office printing
market opportunity in several ways. As more information is available over the
Internet, and new tools and solutions are being developed to access it, more of
this information is being printed on distributed home and office printers.
Management believes that an increasing percentage of this distributed output
includes color and graphics, which tend to increase supplies usage. Growth in
high-speed Internet access to the home, combined with the rise in digital camera
sales, is also contributing to increased photo printing on distributed devices.

The laser product market primarily serves business customers. Laser products can
be divided into two major categories -- shared workgroup products and lower
priced desktop products. Shared work group products are typically attached
directly to large workgroup networks, while lower priced desktop products are
attached to personal computers ("PCs") or small workgroup networks. The shared
workgroup products include color and monochrome laser printers and multifunction
devices that are easily upgraded to include additional input and output
capacity, additional memory and storage, and typically include high-performance
internal network adapters. Most shared workgroup products also have
sophisticated network management software tools and some printers now include
multifunction upgrades that enable copy/fax/scan to network capabilities. At the
end of 2004, the company estimated its installed base of laser printers at 5.9
million units versus 5.2 million units at year-end 2003.(2)

Laser printer unit growth in recent years has generally exceeded the growth rate
of laser printer revenue due to unit growth in lower priced desktop laser
printers and unit price reductions, and management believes this trend will
continue. This pricing pressure is partially offset by the tendency of customers
in the shared workgroup laser market to add higher profit margin optional
features including network adapters, document management software, additional
memory, paper handling and multifunction capabilities. Pricing pressure is also
partially offset by the opportunity to provide business solutions and services
to customers who are increasingly looking for assistance to better manage and
leverage their document-related costs and output infrastructure.

The inkjet product market is predominantly a consumer market but also includes
business users who may choose inkjet products as a lower-priced alternative or
supplement to laser products for personal desktop use. Additionally, over the
past few years, the number of consumers seeking to print digitally captured
images in their homes has driven significant growth in the photo printer and
all-in-one products. Key factors promoting this trend are greater affordability
of photo products along with improvements in photo printing -- the print speed,
quality and print permanence. Growth in inkjet product revenue has been slower
than unit growth due to price reductions, which management expects to continue.
At the end of 2004, the company estimated its installed base of inkjet products
at 53 million units versus 47 million units at the end of 2003.(2)

The markets for dot matrix printers and most of the company's other office
imaging products, including supplies for select IBM branded printers,
aftermarket supplies for competitors'

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2 Over the last few years, Lexmark has provided estimates of its laser and
inkjet installed base on an annual basis, usually in January of each year.
These estimates are derived from detailed models, which contain numerous
assumptions requiring the use of management's judgment, such as ink and toner
usage, economic life of the products, retirement rates and product mix. The
company continually updates these models internally and revises the
assumptions as new information is discovered. While these installed base
amounts reflect management's best estimate when published, they are subject to
change based on subsequent receipt of additional or different data, or changes
in the underlying assumptions. The mix of products within the installed base
can materially impact the resulting level of supplies consumption. There can
be no assurance that any of the assumptions are correct and management's
estimates of the installed base may differ materially from the actual
installed base. Management undertakes no responsibility to update the public
disclosure of its estimate of the installed base as new information is
continuously discovered.

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products and typewriter supplies, continue to decline as these markets mature,
and the underlying product installed bases are replaced.

STRATEGY

Lexmark's strategy is based on a business model of building an installed base of
printers and multifunction products that generate demand for its related
supplies and services. Management believes that Lexmark has unique strengths
related to this business model, which have allowed it to grow faster than the
market over the past several years and achieve above average profitability in
the office and home printing output markets.

First, Lexmark is exclusively focused on distributed home and office network or
desktop computer printing and related solutions. Management believes that this
focus has enabled Lexmark to be more responsive and flexible than competitors at
meeting specific customer and channel partner needs.

Second, Lexmark internally develops all three of the key technologies in the
distributed printing business, including inkjet, monochrome laser and color
laser. Lexmark is also recognized as an industry leader in critical software
competencies related to printing, network connectivity/management and enhancing
document workflow. The company's technology platform has historically allowed it
to be a leader in product price/performance and also build unique capabilities
into its products that enable it to offer unique solutions (combining hardware,
software and professional services) for specific customer groups. This breadth
of technology capabilities has also enabled Lexmark to offer an extensive
product line alternative to the industry leader, Hewlett-Packard.

Third, Lexmark has leveraged its technological capabilities and its commitment
to flexibility and responsiveness to build strong relationships with
large-account customers and channel partners, including major retail chains,
distributors, direct-response catalogers and value-added resellers. Lexmark's
path-to-market includes industry focused consultative sales and services teams
that deliver unique and differentiated solutions to both large accounts and
channel partners that sell into the company's target industries. Retail-centric
teams also have enabled Lexmark to meet the specific needs of major retail
partners and have resulted in the company winning numerous "best supplier"
awards over the last few years.

Lexmark's business market strategy requires that it provide its array of
high-quality, technologically advanced products and solutions at competitive
prices. Lexmark continually enhances its products to ensure that they function
efficiently in increasingly complex enterprise network environments. It also
provides flexible tools to enable network administrators to improve
manageability. Lexmark's business target markets include large corporations,
small and medium businesses and the public sector. Lexmark's business market
strategy also requires that it continually identify and focus on
industry-specific issues and processes so that it can differentiate itself by
offering unique industry solutions and related services.

The company's consumer market strategy is to generate demand for Lexmark
products by offering high-quality, competitively priced products that present an
exceptional value to consumers and businesses primarily through retail channels.
It is a combination of innovative technology and customer insight that
differentiates Lexmark from its competitors. Lexmark leverages this unique
approach to create printing solutions that make it easier for consumers and
small business owners to create, share and manage information and images.
Lexmark plans to invest in brand building efforts including core product
offerings, advertising campaigns and public relations events that reinforce
Lexmark's unique value proposition.

Because of Lexmark's exclusive focus on printing solutions, the company has
successfully formed alliances and original equipment manufacturer ("OEM")
arrangements with many companies, including Dell, IBM and Lenovo. The entrance
of a competitor that is also exclusively

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focused on printing solutions could have a material adverse impact on the
company's strategy and financial results.

The company's strategy for dot matrix printers and other office imaging products
is to continue to offer high-quality products while managing cost to maximize
cash flow and profit.

PRODUCTS

Laser Products

Lexmark offers a wide range of monochrome and color laser printers,
multifunction products, and associated features, software, and application
solutions. In 2004, Lexmark announced the T430, a monochrome laser printer
designed for general-purpose printing in small workgroups. With print speeds of
up to 32 pages per minute ("ppm"), and reliable, high-capacity input, this
product is ideal for small and medium businesses ("SMBs") and small workgroups
in large enterprises requiring business-class paper handling and versatility.
The T634 and T632 monochrome laser printers with print speeds of up to 45 and 40
ppm, respectively, are designed to support large and medium workgroups and have
optional paper input and output features, including a stapler and offset
stacker. The T630, with print speeds of up to 35 ppm, is designed to support
medium and small workgroups. For the personal and SMB sectors of the market,
Lexmark announced a new lineup of monochrome desktop laser printers: the E332n,
E330 and E232. With the E332n and E330 having print speeds of up to 27 ppm and
the E232 with print speeds of up to 22 ppm, they are designed for home office,
SMB and large enterprise desktop printing needs. The monochrome laser printer
line extends into the wide format sector of the market with the W820 and W812.
With print speeds of up to 45 ppm, the W820 is supported with an array of paper
handling and finishing options that make it well suited for departmental
printing needs. The W812 is a small workgroup printer designed for wide format
and specialty printing applications with print speeds of up to 26 ppm.

In 2004, the company also announced the C510 color laser printer. At a print
speed of up to 30 ppm in monochrome and eight ppm in color, this printer is
designed for small workgroups in enterprises and SMBs. The company's new C760
and C762 color laser printers, designed for medium and large workgroups, feature
the company's internally developed color laser technology and can print up to 25
ppm in both monochrome and color. The C912 prints both monochrome and color
pages at speeds up to 28 ppm and supports printing on tabloid-size paper.

Lexmark's entry laser multifunction product is the X215 designed for desktop
requirements at an affordable price. In 2004, Lexmark introduced the X422, which
is a compact, network-ready multifunction product for workgroups and the X762e,
a high-speed color multifunction product for workgroups. The company also
introduced, in 2004, the X830e and X832e multifunction products, two advanced
workflow solution platforms designed for large departments. These devices
support finishing, printing on tabloid-size paper and monochrome print speeds of
up to 35 ppm and 45 ppm, respectively. In early 2005, the company announced the
X632s, X634e and X634dte multifunction products. At a monochrome print speed of
up to 40 ppm, the X632s provides affordable device consolidation for workgroups.
The X634e class of products provides fast monochrome print speeds of up to 45
ppm and features the easy to use e-Task touch-screen interface. Other
multifunction products offered by the company include the X912e, a wide format
device offering high-speed color multifunction capability. The N4050e, a
low-cost, printer server providing wireless networking capabilities, was
announced by the company in 2004. MarkVision Professional, Lexmark's print
management software that provides remote configuration, monitoring and problem
resolution of network print devices, can be used with all business printers and
multifunction products. Application solution options that support Web, bar code,
encrypted data and Intelligent Printer Data Stream ("IPDS") printing are also
available for most

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of the printers in the "T", "W", "C" and "X" families of business laser printers
to support specific customer environments.

The company continues to offer the Lexmark Document Solutions Suite, which is
designed to minimize the expense and inefficiencies of manual, paper-based
processes that are costly and time-intensive. The Lexmark Document Solutions
Suite integrates three distinct document solutions, which work separately or
together as an integrated solution. The Lexmark Document Distributor helps
improve information workflow by capturing and moving documents faster, more
efficiently and more accurately into a broader range of network systems. The
Lexmark Document Producer is an e-forms solution that empowers customers to take
control of the presentation and delivery of output from almost any host system
and thus avoid the cost of preprinted forms. The Lexmark Document Portal enables
users of a Lexmark multifunction product to find, view and print network
documents when and where they need them. The suite enables the graphical e-Task
interface featured on Lexmark network multifunction products to be tailored to
an individual, workgroup, business or industry, using friendly and descriptive
icons that allow users to quickly identify and select the appropriate work
process. It also extends this interface and e-workflow capability to workstation
users of the X6170, X215 and X422 multifunction products. Early in 2004, the
company also introduced the Lexmark Workgroup OCR Solution, which enables users
to easily transform paper information into versatile, electronic documents that
can be efficiently shared and used.

Inkjet Products

In 2004, the company broadened its consumer product line with the next
generation of its "P" line of photo products, "X" line of all-in-one products
and "Z" line of inkjet printers. Lexmark's inkjet introductions included a wide
range of innovative functions and photo features, as well as proven technology,
such as the Accu-Feed paper handling system.

The next generation of Lexmark's "P" photo products changed the game for photo
printing at home. The P6250 Photo Center All-in-One and the P915 Home Photo
printer bring home the power and simplicity of retail photo kiosks -- all
without leaving home. Both products have an innovative industrial design and are
infused with features that make the photo printing process quick and intuitive.
These products deliver six-color 4 x 6 inch borderless photos in as fast as 38
seconds and include innovative features such as a 2.5 inch color liquid crystal
display ("LCD") and a photo scan guide, which helps consumers determine exactly
where to place their 4 x 6 inch image on the scanner for easy sharing via e-mail
or digital photo editing. The PictBridge port and memory card readers allow for
PC-free photo printing. The company's "P" series was also enhanced by the
introduction of the P315 Snapshot 4 x 6 inch photo printer -- a portable photo
studio that does not connect to a computer. Consumers can print borderless, 35mm
quality images directly from digital cameras with PictBridge or memory cards in
any room of the home or in their office. The Lexmark P315 also comes with an
adjustable 2.5 inch color LCD and allows easy editing for customized prints that
can be produced in as fast as 38 seconds.(3)

The "P" series was further strengthened with the introduction in the P6250 and
P915 of Lexmark's exclusive line of inks under the brand "Evercolor". Evercolor
is a unique six-color hybrid ink system that combines the broad color gamut of
dyes with the permanence of pigment inks. Wilhelm Institute, a world renowned
expert on photo preservation, test results show that Lexmark photos last 65
years in normal display conditions and 200+ years in photo albums.(4)

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3 In Quickprint mode and excluding processing time. Actual print speeds will
vary depending on system configuration, software, image complexity, print mode
and page coverage.

4 Based on accelerated fade resistance testing of photos either displayed
indoors under glass or stored in photo albums. Photos must be printed on
Lexmark Premium Glossy Photo Paper using an Evercolor ink system that includes
a Lexmark Color Cartridge and an Evercolor Photo Cartridge. Actual resistance
to fading will vary based upon factors such as light intensity and type,
humidity, temperature, air quality, drying time, glass, matting, album
materials, print media and image.

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Evercolor inks can also be used in the new generation of Lexmark's X5200 Series
all-in-one and Z810 series inkjet printers, which offer dramatically improved
photo features. They offer a robust feature set and photo capabilities with
borderless and optional six-color printing. These products were engineered to
print quality photos fast -- four color 4 x 6 inch borderless photos on glossy
photo paper in as fast as 32 seconds.(3) The sheet-fed Lexmark X4270 is designed
for demanding small office/home office professionals seeking a compact solution
that accommodates a wide variety of needs. It replaces five pieces of office
equipment (phone, fax, printer, copier and scanner) and delivers best-in-class
black print speeds of up to 19 ppm.

Lexmark strengthened its line of products designed for the SMB sector of the
market with the launch of the X7170 Office Productivity All-in-One. The Lexmark
X7170 combines hardware and software functionality to give SMB professionals a
productivity edge. The innovative Lexmark Productivity Suite software helps
users to create, manage and edit documents quickly and easily, which allows
professionals to accomplish more in less time. In addition, the X7170 comes with
a host of standard productivity features such as the 50-sheet automatic document
feeder for distributing multi-page faxes and scanning of multi-page documents to
e-mail.

Dot Matrix Products

The company continues to market several dot matrix printer models for customers
who print multi-part forms.

Supplies

The company designs, manufactures and distributes a variety of cartridges and
other supplies for use in its installed base of laser, inkjet and dot matrix
printers. Lexmark is currently the exclusive source for new printer cartridges
for the printers it manufactures. The company's revenue and profit growth from
its supplies business is directly linked to the company's ability to increase
the installed base of its laser and inkjet products and customer usage of those
products. Lexmark is an industry leader with regard to the recovery,
remanufacture, reuse and recycling of used supplies cartridges, helping to keep
empty cartridges out of landfills. Attaining that leadership position was made
possible by the company's various empty cartridge collection programs around the
world. Lexmark continues to launch new programs and expand existing cartridge
collection programs to further expand its remanufacturing business and this
environmental commitment.

The company also offers a broad range of other office imaging supplies products,
applying both impact and non-impact technology.

Service and Support

Lexmark offers a wide range of product and professional services to complement
the company's line of printing products, including maintenance, consulting,
systems integration and distributed fleet management capabilities. The company
works in collaboration with its business partners and customers to develop and
implement comprehensive, customized printing solutions. Distributed fleet
management services allow organizations to outsource fleet management, technical
support, supplies replenishment and maintenance activities to Lexmark.

The company's printer products generally include a warranty period of at least
one year, and customers typically have the option to purchase an extended
warranty.

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MARKETING AND DISTRIBUTION

Lexmark employs large-account sales and marketing teams whose mission is to
generate demand for its business printing solutions and services, primarily
among large corporations as well as the public sector. Sales and marketing teams
focus on industries such as financial services, retail/pharmacy, manufacturing,
government, education and health care. Those teams, in conjunction with the
company's development and manufacturing teams, are able to customize printing
solutions to meet customer specifications for printing electronic forms, media
handling, duplex printing and other document workflow solutions. The company
distributes its products to business customers primarily through its
well-established distributor network, which includes such distributors as Ingram
Micro, Tech Data, SYNNEX and Northamber. The company's products are also sold
through solution providers, which offer custom solutions to specific markets,
and through direct response resellers.

The company's international sales and marketing activities for the business
market are organized to meet the needs of the local jurisdictions and the size
of their markets. Operations in the United States, Australia, Canada, Latin
America and western Europe focus on large account demand generation with orders
filled through distributors and retailers.

The company's business printer supplies and other office imaging products are
generally available at the customer's preferred point-of-purchase through
multiple channels of distribution. Although channel mix varies somewhat
depending upon the geography, substantially all of the company's business
supplies products sold commercially in 2004 were sold through the company's
network of Lexmark-authorized supplies distributors and resellers, who sell
directly to end-users or to independent office supply dealers.

For the consumer market, the company distributes its inkjet products and
supplies primarily through more than 15,000 retail outlets worldwide. The
company's sales and marketing activities are organized to meet the needs of the
various geographies and the size of their markets. In the United States,
products are distributed through large discount store chains such as Wal-Mart
and Target, as well as consumer electronics stores such as Best Buy and Circuit
City, office superstores such as Staples and OfficeMax, and wholesale clubs such
as Sam's Club. The company's western European operations distribute products
through major information technology resellers such as Northamber, and in large
markets through key retailers such as Media Markt in Germany, Dixon's in the
United Kingdom and Carrefour in France. Australian and Canadian marketing
activities focus on large retail account demand generation, with orders filled
through distributors or resellers, whereas Latin American marketing activities
are mostly conducted through retail sales channels.

For both the business and consumer markets, the company's eastern European,
Middle East and African regions are primarily served through strategic
partnerships and distributors. Asia Pacific markets (excluding Australia) are
served through a combination of Lexmark sales offices, strategic partnerships
and distributors.

The company also sells its products through numerous alliances and OEM
arrangements, including Dell, IBM and Lenovo.

Lexmark launched an advertising campaign in the fourth quarter of 2004. The core
message of the campaign is that Lexmark is the company that makes printing
easier. The company believes that this campaign will build brand image and
awareness, and in the long term will support the execution of its strategic
initiatives.

During fiscal 2004, one customer, Dell, accounted for $570 million, or 10.7
percent of the company's total revenue. Sales to Dell are included in both the
business and consumer market segments. In 2003 and 2002, no single customer
accounted for 10 percent or more of total revenue.

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COMPETITION

The company continues to develop and market new and innovative products at
competitive prices. New product announcements by the company's principal
competitors, however, can have, and in the past, have had, a material adverse
effect on the company's financial results. Such new product announcements can
quickly undermine any technological competitive edge that one manufacturer may
enjoy over another and set new market standards for price, quality, speed and
functionality. Furthermore, knowledge in the marketplace about pending new
product announcements by the company's competitors may also have a material
adverse effect on the company as purchasers of printers may defer buying
decisions until the announcement and subsequent testing of such new products.

In recent years, the company and its principal competitors, many of which have
significantly greater financial, marketing and/or technological resources than
Lexmark, have regularly lowered prices on printers and are expected to continue
to do so. The company is vulnerable to these pricing pressures, which could
jeopardize the company's ability to grow or maintain market share and, if not
mitigated by cost and expense reductions, may result in lower profitability. The
company expects that as it competes more successfully with its larger
competitors, the company's increased market presence may attract more frequent
challenges, both legal and commercial, from its competitors, including claims of
possible intellectual property infringement.

The distributed printing market is extremely competitive. The distributed laser
printing market is dominated by Hewlett-Packard, which has a widely recognized
brand name and has been estimated to hold approximately 40 percent of the market
as measured in annual units shipped. With the convergence of traditional printer
and copier markets, major laser competitors now include traditional copier
companies such as Canon, Ricoh and Xerox. Other laser competitors include
Brother, Samsung, Konica Minolta and Kyocera Mita.

The company's primary competitors in the inkjet product market are
Hewlett-Packard, Epson and Canon, who together account for approximately 75 to
80 percent of worldwide inkjet product sales. As with laser printers, if pricing
pressures are not mitigated by cost and expense reductions, the company's
ability to grow or maintain market share and its profitability could be
adversely affected. In addition, the company must compete with these same
vendors for retail shelf space allocated to printers and their associated
supplies.

Although Lexmark is currently the exclusive supplier of new printer cartridges
for its laser and inkjet products, there can be no assurance that other
companies will not develop new compatible cartridges for Lexmark products. In
addition, refill and remanufactured alternatives for some of the company's
cartridges are available and, although generally offering inconsistent quality
and reliability, compete with the company's supplies business. As the installed
base of laser and inkjet products grows and matures, the company expects
competitive refill and remanufacturing activity to increase.

The market for other office imaging products is also highly competitive and the
impact printing sector of the supplies market is declining. Although the company
has rights to market certain IBM branded supplies until December 2007, there are
many independent ribbon and toner manufacturers competing to provide compatible
supplies for IBM branded printing products. The revenue and profitability from
the company's other office imaging products is less relevant than it has been
historically. Management believes that the operating income associated with its
other office imaging products will continue to decline.

MANUFACTURING

The company operates manufacturing control centers in Lexington, Kentucky, and
Geneva, Switzerland, and has manufacturing sites in Boulder, Colorado; Orleans,
France; Rosyth,

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Scotland; Juarez and Chihuahua, Mexico; and Lapu-Lapu City, Philippines. The
company also has customization centers in each of the major geographies it
serves. The company's manufacturing strategy is to retain control over processes
that are technologically complex, proprietary in nature and central to the
company's business model, such as the manufacture of inkjet cartridges, at
company-owned and operated facilities. The company shares some of its technical
expertise with certain manufacturing partners, many of whom have facilities
located in China, which collectively provide the company with substantially all
of its printer production capacity. Lexmark oversees these manufacturing
partners to ensure that products meet the company's quality standards and
specifications.

The company's development operations for laser printer supplies are located in
Lexington, Kentucky, and Boulder, Colorado. The company's manufacturing
operations for toner and photoconductor drums are located in Boulder, Colorado.
The company also manufactures toner in Orleans, France. Over time, the company
has made significant capital investments to expand toner and photoconductor drum
capabilities. Laser printer cartridges are assembled by a combination of
in-house and third-party contract manufacturers in the major geographies served
by the company. The manufacturing control center for laser printer supplies is
located in Geneva, Switzerland.

The company's development for inkjet printer supplies is located in Lexington,
Kentucky, while the manufacturing operations are located in Rosyth, Scotland;
Juarez and Chihuahua, Mexico; and Lapu-Lapu City, Philippines. The manufacturing
control center for inkjet supplies is located in Geneva, Switzerland. Over time,
the company has made significant capital investments to expand inkjet supplies
production capacity and capabilities.

MATERIALS

The company procures a wide variety of components used in the manufacturing
process, including semiconductors, electro-mechanical components and assemblies,
as well as raw materials, such as plastic resins. Although many of these
components are standard off-the-shelf parts that are available from multiple
sources, the company often utilizes preferred supplier relationships to better
ensure more consistent quality, cost and delivery. Typically, these preferred
suppliers maintain alternate processes and/or facilities to ensure continuity of
supply. The company generally must place commitments for its projected component
needs approximately three to six months in advance. The company occasionally
faces capacity constraints when there has been more demand for its products than
initially projected. From time to time, the company may be required to use air
shipment to expedite product flow, which can adversely impact the company's
operating results. Conversely, in difficult economic times, the company's
inventory can grow as market demand declines.

Many components of the company's products are sourced from sole suppliers,
including certain custom chemicals, microprocessors, electro-mechanical
components, application specific integrated circuits and other semiconductors.
In addition, the company sources some printer engines and finished products from
OEMs. Although the company plans in anticipation of its future requirements,
should these components not be available from any one of these suppliers, there
can be no assurance that production of certain of the company's products would
not be disrupted. Such a disruption could interfere with the company's ability
to manufacture and sell products and materially adversely affect the company's
business. Conversely, during economic slowdowns, the company may build inventory
of components as demand decreases.

RESEARCH AND DEVELOPMENT

The company's research and development activity is focused on laser and inkjet
printers, multifunction products, associated supplies, features, software and
related technologies. The company has accelerated its investment in research and
development to support new product

9

initiatives and to advance current technologies and expects this to continue.
The company's primary research and development activities are conducted in
Lexington, Kentucky; Boulder, Colorado; Cebu City, Philippines; and Kolkotta,
India. In the case of certain products, the company may elect to purchase
products or key components from third-party suppliers rather than develop them
internally.

The company is committed to being a technology leader in its targeted areas and
is actively engaged in the design and development of new products and
enhancements to its existing products. Its engineering efforts focus on laser,
inkjet and connectivity technologies, as well as design features that will
increase performance, improve ease of use and lower production costs. Lexmark
also develops related applications and tools to enable it to efficiently provide
a broad range of services. The process of developing new technology products is
complex and requires innovative designs that anticipate customer needs and
technological trends. Research and development expenditures were $313 million in
2004, $266 million in 2003 and $248 million in 2002. The company must make
strategic decisions from time to time as to which new technologies will produce
products in market sectors that will experience the greatest future growth.
There can be no assurance that the company can continue to develop the more
technologically advanced products required to remain competitive.

BACKLOG

Although the company experiences availability constraints from time to time for
certain products, the company generally fills its orders within 30 days of
receiving them. Therefore, the company usually has a backlog of less than 30
days at any one time, which the company does not consider material to its
business.

EMPLOYEES

As of December 31, 2004, the company had approximately 13,400 full-time
equivalent employees worldwide of which 4,400 are located in the U.S. and the
remaining 9,000 are located in Europe, Canada, Latin America, Asia, and the
Pacific Rim. None of the U.S. employees are represented by a union. Employees in
France are represented by a Statutory Works Council. Substantially all regular
employees have been granted stock options.

AVAILABLE INFORMATION

The company makes available, free of charge, electronic access to all documents
(including annual reports on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K and any amendments to those reports as well as any
beneficial ownership filings) filed with the Securities and Exchange Commission
("SEC" or the "Commission") by the company on its website at
http://investor.lexmark.com as soon as reasonably practicable after such
documents are filed.

10

EXECUTIVE OFFICERS OF THE REGISTRANT

The executive officers of the company and their respective ages, positions and
years of service with the company are set forth below.

Dr. Curlander has been a Director of the company since February 1997. Since
April 1999, Dr. Curlander has been Chairman of the Board of the company. In May
1998, Dr. Curlander was elected President and Chief Executive Officer of the
company. Prior to such time, Dr. Curlander served as President and Chief
Operating Officer and Executive Vice President, Operations of the company.

Mr. Morin has been Executive Vice President and Chief Financial Officer of the
company since January 2000. From January 1996 to January 2000, Mr. Morin was
Vice President and Chief Financial Officer of the company.

Mr. Rooke has been Executive Vice President and President of the company's
Printing Solutions and Services Division since October 2002. Prior to such time
and since May 2001, Mr. Rooke served as Vice President and President of the
Printing Solutions and Services Division. From December 1999 to May 2001, Mr.
Rooke was Vice President and President of the company's Business Printer
Division, and from June 1998 to December 1999, Mr. Rooke was Vice President and
President of the company's Imaging Solutions Division.

Mr. Bahous has been Vice President and President of the company's Consumer
Printer Division since March 2003. Prior to such time and since May 2001, Mr.
Bahous served as Vice President of Customer Services. From January 1999 to May
2001, Mr. Bahous served as Vice President and General Manager, Customer Services
Europe.

Mr. Bork has been Vice President, Tax of the company since May 2001. From
October 1996 to May 2001, he was Director of Taxes of the company.

Mr. Cole has been Vice President and General Counsel of the company since July
1996 and Corporate Secretary since February 1996.

Mr. Goodnight has been Vice President, Asia Pacific and Latin America since June
2001. From May 1998 to June 2001, Mr. Goodnight served as Vice President and
Corporate Controller of the company.

Mr. Pelini has been Vice President and Treasurer of the company since July 2003.
Mr. Pelini was employed by the company from 1991 to 1998 and was Assistant
Treasurer of the company from

11

1996 to 1998. Prior to rejoining the company in July 2003, Mr. Pelini was Senior
Vice President of Finance for Convergys Corporation. Mr. Pelini held various
finance positions with Convergys from 1998 to 2003, including that of Vice
President and Treasurer.

Mr. Stromquist has been Vice President and Corporate Controller of the company
since July 2001. From July 1999 to July 2001, Mr. Stromquist served as Vice
President of Alliances/OEM in the company's Consumer Printer Division. From
November 1998 to July 1999, he served as Vice President of Finance for the
company's Consumer Printer Division. Mr. Stromquist is the husband of Jeri I.
Stromquist, Vice President of Human Resources of the company.

Ms. Stromquist has been Vice President of Human Resources of the company since
February 2003. From January 2001 to February 2003, Ms. Stromquist served as Vice
President of Worldwide Compensation and Resource Programs in the company's Human
Resources department. From November 1998 to January 2001, she served as Vice
President of Finance for the company's Business Printer Division. Ms. Stromquist
is the wife of Gary D. Stromquist, Vice President and Corporate Controller of
the company.

INTELLECTUAL PROPERTY

The company's intellectual property is one of its major assets and the ownership
of the technology used in its products is important to its competitive position.
Lexmark seeks to establish and maintain the proprietary rights in its technology
and products through the use of patents, copyrights, trademarks, trade secret
laws, and confidentiality agreements.

The company holds a portfolio of approximately 1,000 U.S. patents and
approximately 550 pending U.S. patent applications. The company also holds over
2,600 foreign patents and pending patent applications. The inventions claimed in
these patents and patent applications cover aspects of the company's current and
potential future products, manufacturing processes, business methods and related
technologies. The company is developing a portfolio of patents that protects its
product lines and offers the possibility of entering into licensing agreements
with others.

The company has a variety of intellectual property licensing and cross-licensing
agreements with a number of third parties. Certain of the company's material
license agreements, including those that permit the company to manufacture some
of its current products, terminate as to specific products upon certain "changes
of control" of the company.

The company has trademark registrations or pending trademark applications for
the name LEXMARK in approximately 70 countries for various categories of goods.
Lexmark also owns a number of trademark applications and registrations for
various product names. The company holds worldwide copyrights in computer code,
software and publications of various types. Other proprietary information is
protected through formal procedures, which include confidentiality agreements
with employees and other entities.

The company's success depends in part on its ability to obtain patents,
copyrights and trademarks, maintain trade secret protection and operate without
infringing the proprietary rights of others. While Lexmark designs its products
to avoid infringing the intellectual property rights of others, current or
future claims of intellectual property infringement, and the expenses resulting
therefrom, could materially adversely affect its business, operating results and
financial condition. Expenses incurred by the company in obtaining licenses to
use the intellectual property rights of others and to enforce its intellectual
property rights against others also could materially affect its business,
operating results and financial condition. In addition, the laws of some foreign
countries may not protect Lexmark's proprietary rights to the same extent as the
laws of the United States.

12

ENVIRONMENTAL AND REGULATORY MATTERS

The company's operations, both domestically and internationally, are subject to
numerous laws and regulations, particularly relating to environmental matters
that impose limitations on the discharge of pollutants into the air, water and
soil and establish standards for the treatment, storage and disposal of solid
and hazardous wastes. Over time, the company has implemented numerous programs
to recover, remanufacture and recycle certain of its products and intends to
continue to expand on initiatives that have a positive effect on the
environment. The company is also required to have permits from a number of
governmental agencies in order to conduct various aspects of its business.
Compliance with these laws and regulations has not had, and in the future is not
expected to have, a material effect on the capital expenditures, earnings or
competitive position of the company. There can be no assurance, however, that
future changes in environmental laws or regulations, or in the criteria required
to obtain or maintain necessary permits, will not have an adverse effect on the
company's operations.

ITEM 2. PROPERTIES

The company's corporate headquarters and principal development facilities are
located on a 386 acre campus in Lexington, Kentucky. At December 31, 2004, the
company owned or leased 7.2 million square feet of administrative, sales,
service, research and development, warehouse and manufacturing facilities
worldwide. The properties are used by both the business and consumer segments of
the company. Approximately 4.6 million square feet is located in the United
States and the remainder is located in various international locations. The
company's principal international manufacturing facilities are in Mexico, the
Philippines, Scotland and France. The principal domestic manufacturing facility
is in Colorado. The company leases facilities for software development in India
and the Philippines. The company owns approximately 61 percent of the worldwide
square footage and leases the remaining 39 percent. The leased property has
various lease expiration dates. The company believes that it can readily obtain
appropriate additional space as may be required at competitive rates by
extending expiring leases or finding alternative space.

None of the property owned by the company is held subject to any major
encumbrances and the company believes that its facilities are in good operating
condition.

ITEM 3. LEGAL PROCEEDINGS

On December 30, 2002, the company filed a lawsuit against Static Control
Components, Inc. ("SCC") in the U.S. District Court for the Eastern District of
Kentucky (the "District Court") alleging that certain SCC products infringe the
company's copyrights and are in violation of the Digital Millennium Copyright
Act. On February 27, 2003, the District Court granted the company's motion
requesting a preliminary injunction ordering SCC to cease making, selling or
otherwise trafficking in the specified products. On March 31, 2003, SCC appealed
the District Court's decision to the Sixth Circuit Court of Appeals (the
"Circuit Court") and on October 26, 2004 a three judge panel of the Circuit
Court vacated the preliminary injunction and remanded the case back to the
District Court for further proceedings. On November 9, 2004, the company filed a
petition with the Circuit Court requesting an en banc rehearing (a rehearing by
all of the eligible Circuit Court judges) of the original three judge panel's
decision. On February 15, 2005, the Circuit Court denied the company's petition
for an en banc rehearing.

On February 28, 2003, SCC filed a lawsuit against the company in the U.S.
District Court for the Middle District of North Carolina alleging that the
company engaged in anti-competitive and monopolistic conduct and unfair and
deceptive trade practices in violation of the Sherman Act, the Lanham Act and
various North Carolina state laws. That lawsuit was dismissed on October 15,
2003. On December 23, 2003, these claims were asserted against the company as
counterclaims in the company's case against SCC pending in the U.S. District
Court for the

13

Eastern District of Kentucky. SCC is seeking damages in excess of $100 million.
The company believes that the claims by SCC are without merit, and intends to
vigorously defend against them.

The company is also party to various litigation and other legal matters,
including claims of intellectual property infringement and various purported
consumer class action lawsuits alleging, among other things, various product
defects and false and deceptive advertising claims, that are being handled in
the ordinary course of business. In addition, various governmental authorities
have from time to time initiated inquiries and investigations, some of which are
ongoing, concerning the activities of participants in the markets for printers
and supplies. The company intends to continue to cooperate fully with those
governmental authorities in these matters.

Although it is not reasonably possible to estimate whether a loss will occur as
a result of these legal matters, or if a loss should occur, the amount of such
loss, the company does not believe that any legal matters to which it is a party
is likely to have a material adverse effect on the company's financial position
or results of operations. However, there can be no assurance that any pending
legal matters or any legal matters that may arise in the future would not have a
material adverse effect on the company's financial position or results of
operations.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None

14

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES

MARKET INFORMATION

Lexmark's Class A common stock is traded on the New York Stock Exchange under
the symbol LXK. As of March 4, 2005, there were 1,488 holders of record of the
Class A common stock and there were no holders of record of the Class B common
stock. Information regarding the market prices of the company's Class A common
stock appears in Part II, Item 8, Note 18 of the Notes to Consolidated Financial
Statements.

DIVIDEND POLICY

The company has never declared or paid any cash dividends on the Class A common
stock and has no current plans to pay cash dividends on the Class A common
stock. The payment of any future cash dividends will be determined by the
company's board of directors in light of conditions then existing, including the
company's earnings, financial condition and capital requirements, restrictions
in financing agreements, business conditions, tax laws, certain corporate law
requirements and various other factors.

ISSUER PURCHASES OF EQUITY SECURITIES

(1) In October 2004, the company received authorization from the board of
directors to repurchase an additional $1.0 billion of its Class A common
stock for a total repurchase authority of $2.4 billion. As of December 31,
2004, there was approximately $0.9 billion of share repurchase authority
remaining. This repurchase authority allows the company, at management's
discretion, to selectively repurchase its stock from time to time in the
open market or in privately negotiated transactions depending upon market
price and other factors. During the fourth quarter of 2004, the company
repurchased approximately 1.6 million shares at a cost of approximately $139
million. For the year ended December 31, 2004, the company repurchased
approximately 3.2 million shares at a cost of approximately $281 million. As
of December 31, 2004, since the inception of the program, the company had
repurchased approximately 38.0 million shares for an aggregate cost of
approximately $1.5 billion.

15

EQUITY COMPENSATION PLAN INFORMATION

The following table provides information about the company's equity compensation
plans as of December 31, 2004:

(Number of Securities in millions)

(1) The numbers in this column represent the weighted average exercise price of
stock options only.

(2) As of December 31, 2004, of the approximately 11.9 million awards
outstanding under the equity compensation plans approved by stockholders,
there were approximately 11.4 million stock options (of which 11,175,000 are
employee stock options and 249,000 are nonemployee director stock options),
290,000 restricted stock units and supplemental deferred stock units, 21,000
voluntarily deferred performance shares that were earned as of the end of
2000, and 164,000 elective deferred stock units (of which 122,000 are
employee elective deferred stock units and 42,000 are nonemployee director
elective deferred stock units) that pertain to voluntary elections by
certain members of management to defer all or a portion of their annual
incentive compensation and by certain nonemployee directors to defer all or
a portion of their annual retainer, chair retainer and/or meeting fees, that
would have otherwise been paid in cash.

(3) Of the 8.9 million shares available, 6.5 million relate to employee plans
(of which 3.0 million may be granted as full-value awards), 0.1 million
relate to the nonemployee director plan and 2.3 million relate to the
employee stock purchase plan.

(4) The company has only one equity compensation plan which has not been
approved by its stockholders, the Lexmark International, Inc. Broad-Based
Employee Stock Incentive Plan (the "Broad-Based Plan"). The Broad-Based
Plan, which was established on December 19, 2000, provides for the issuance
of up to 1.6 million shares of the company's common stock pursuant to stock
incentive awards (including stock options, stock appreciation rights,
performance awards, restricted stock units and deferred stock units) granted
to the company's employees, other than its directors and executive officers.
The Broad-Based Plan expressly provides that the company's directors and
executive officers are not eligible to participate in the Plan. The
Broad-Based Plan limits the number of shares subject to full-value awards
(e.g., restricted stock units and performance awards) to 50,000 shares. The
company's board of directors may at any time terminate or suspend the
Broad-Based Plan, and from time to time, amend or modify the Broad Based-
Plan, but any amendment which would lower the minimum exercise price for
options and stock appreciation rights or materially modify the requirements
for eligibility to participate in the Broad-Based Plan, requires the
approval of the company's stockholders. In January 2001, all employees other
than the company's directors, executive officers and senior managers, were
awarded stock options under the Broad-Based Plan. All 0.9 million awards
outstanding under the equity compensation plan not approved by stockholders
are in the form of stock options.

16

ITEM 6. SELECTED FINANCIAL DATA

The table below summarizes recent financial information for the company. For
further information refer to the company's financial statements and notes
thereto presented under Part II, Item 8 of this Form 10-K.

(Dollars in Millions, Except per Share Data)
- --------------------------------------------------------------------------------

(1) Amounts include the impact of restructuring and other charges in 2001 of
$87.7 million ($64.5 million, net of tax), which resulted in a $0.48
reduction in diluted net earnings per share. Inventory write-offs of $29.3
million associated with the restructuring actions were included in cost of
revenue.

(2) Amounts include the benefit of a $5.9 million ($4.4 million, net of tax)
reversal of restructuring and other charges in 2002, which resulted in a
$0.03 increase in diluted net earnings per share.

(3) Amounts include the impact of restructuring and related charges in 2000 of
$41.3 million ($29.7 million, net of tax), which resulted in a $0.22
reduction in diluted net earnings per share.

(4) Provision for income taxes in 2004 includes a $20.0 million benefit from the
resolution of income tax matters, which resulted in a $0.15 increase in
diluted net earnings per share.

(5) Provision for income taxes in 2001 includes a $40.0 million benefit from the
resolution of income tax matters, which resulted in a $0.30 increase in
diluted net earnings per share.

(6) Cash flows from investing and financing activities, which are not presented,
are integral components of total cash flow activity.

(7) The debt to total capital ratio is computed by dividing total debt (which
includes both short-term and long-term debt) by the sum of total debt and
stockholders' equity.

(8) Represents the approximate number of full-time equivalent employees at
December 31 of each year.

17

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes thereto:

OVERVIEW

Since its inception in 1991, Lexmark has become a leading developer,
manufacturer and supplier of printing and imaging solutions for offices and
homes. Lexmark's products include laser printers, inkjet printers, multifunction
devices, associated supplies, services and solutions. Lexmark also sells dot
matrix printers for printing single and multi-part forms by business users and
develops, manufactures and markets a broad line of other office imaging
products. The company is primarily managed along business and consumer market
segments. Refer to Note 17 of the Notes to Consolidated Financial Statements for
additional information regarding the company's reportable segments.

The total distributed office and home printing output opportunity has expanded
as copiers and fax machines have been integrated into multifunction devices.
Management believes that the integration of print/copy/fax capabilities favors
companies like Lexmark due to its experience in providing industry-leading
network printing solutions and multifunction printing products. Lexmark's
management believes that its total revenue will continue to grow due to
projected overall market growth for 2005 to 2008.

In recent years, the company's growth rate in sales of printer units has
generally exceeded the growth rate of its printer revenue due to sales price
reductions and the introduction of new lower priced products in both the laser
and inkjet printer markets. In the laser printer market, this pricing pressure
is partially offset by the tendency of customers to add higher profit margin
optional features including network adapters, document management software,
additional memory, paper handling and multifunction capabilities. Pricing
pressure is also partially offset by the opportunity to provide business
solutions and services to customers who are increasingly looking for assistance
to better manage and leverage their document-related costs and output
infrastructure. In the inkjet product market, advances in inkjet technology have
resulted in products with higher resolution and improved performance while
increased competition has led to lower prices. Additionally, the number of
consumers seeking to print digitally captured images in their homes has driven
significant growth in the photo printer and all-in-one products. The greater
affordability of inkjet printers, improvements in photo printing products, as
well as the growth in the all-in-one category, have been important factors in
the growth of this market.

As the installed base of Lexmark laser printers, inkjet printers and
multifunction devices continues to grow, management expects the market for
supplies will grow as well, as such supplies are routinely required for use
throughout the life of those products. While profit margins on printers and
multifunction products have been negatively affected by competitive pricing
pressure, the supplies are a higher margin, recurring business, which the
company expects to contribute to the stability of its earnings over time.

The company's dot matrix printers and other office imaging products include many
mature products such as supplies for IBM branded printers, aftermarket supplies
for certain competitors' products and typewriter supplies that require little
ongoing investment. The company expects that the market for these products will
continue to decline, and has implemented a strategy to continue to offer
high-quality products while managing cost to maximize cash flow and profit.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Lexmark's discussion and analysis of its financial condition and results of
operations are based upon the company's consolidated financial statements, which
have been prepared in accordance

18

with accounting principles generally accepted in the United States of America.
The preparation of consolidated financial statements requires the company to
make estimates and judgments that affect the reported amounts of assets,
liabilities, revenue and expenses, and related disclosure of contingent assets
and liabilities. On an ongoing basis, the company evaluates its estimates,
including those related to customer programs and incentives, product returns,
doubtful accounts, inventories, intangible assets, income taxes, warranty
obligations, copyright fees, product royalty obligations, restructurings,
pension and other postretirement benefits, and contingencies and litigation. The
company bases its estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions.

The company believes the following critical accounting policies affect its more
significant judgments and estimates used in the preparation of its consolidated
financial statements.

REVENUE RECOGNITION

The company records estimated reductions to revenue at the time of sale for
customer programs and incentive offerings including special pricing agreements,
promotions and other volume-based incentives. Estimated reductions in revenue
are based upon historical trends and other known factors at the time of sale.
The company also provides price protection to substantially all of its reseller
customers. The company records reductions to revenue for the estimated impact of
price protection when price reductions to resellers are anticipated. If market
conditions were to decline, the company may take actions to increase customer
incentive offerings, possibly resulting in an incremental reduction of revenue
at the time the incentive is offered.

ALLOWANCES FOR DOUBTFUL ACCOUNTS

The company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments. The
company estimates the allowance for doubtful accounts based on a variety of
factors including the length of time receivables are past due, the financial
health of customers, unusual macroeconomic conditions and historical experience.
If the financial condition of the company's customers deteriorates or other
circumstances occur that result in an impairment of customers' ability to make
payments, the company records additional allowances as needed.

WARRANTY RESERVES

The company provides for the estimated cost of product warranties at the time
revenue is recognized. The reserve for product warranties is based on the
quantity of units sold under warranty, estimated product failure rates, and
material usage and service delivery costs. The estimates for product failure
rates and material usage and service delivery costs are periodically adjusted
based on actual results. To minimize warranty costs, the company engages in
extensive product quality programs and processes, including actively monitoring
and evaluating the quality of its component suppliers. Should actual product
failure rates, material usage or service delivery costs differ from the
company's estimates, revisions to the estimated warranty liability may be
required.

INVENTORY RESERVES AND ADVERSE PURCHASE COMMITMENTS

The company writes down its inventory for estimated obsolescence or unmarketable
inventory equal to the difference between the cost of inventory and the
estimated market value. The company estimates the difference between the cost of
obsolete or unmarketable inventory and its market value based upon product
demand requirements, product life cycle, product pricing

19

and quality issues. Also, the company records an adverse purchase commitment
liability when anticipated market sales prices are lower than committed costs.
If actual market conditions are less favorable than those projected by
management, additional inventory write-downs and adverse purchase commitment
liabilities may be required.

LONG-LIVED ASSETS

Management considers the potential impairment of both tangible and intangible
assets when circumstances indicate that the carrying amount of an asset may not
be recoverable. An asset impairment review estimates the fair value of an asset
based upon the future cash flows that the asset is expected to generate. Such an
impairment review incorporates estimates of forecasted revenue and costs that
may be associated with an asset, expected periods that an asset may be utilized
and appropriate discount rates.

PENSION AND POSTRETIREMENT BENEFITS

The company's pension and non-pension postretirement benefit costs and
obligations are dependent on various actuarial assumptions used in calculating
such amounts. Examples of assumptions the company must make include selecting
the following: expected long-term rate of return on plan assets, a discount rate
that reflects the rate at which pension benefits could be settled and the
anticipated rates of future compensation increases. The company uses long-term
historical actual asset return information, the mix of investments that comprise
plan assets and future estimates of long-term investment returns by reference to
external sources to develop its expected return on plan assets. This assumption
is reviewed and set annually at the beginning of each year. Differences between
actual and expected returns are recognized in the calculation of net periodic
cost (benefit) over five years. The deferred amounts resulting from this
averaging process are not expected to have a significant effect on the company's
results of operations for 2005.

The discount rate assumptions used for pension and non-pension postretirement
benefit plan accounting reflect the rates available on high-quality fixed-income
debt instruments at December 31 each year. The rate of future compensation
increases is determined by the company based upon its long-term plans for such
increases.

Actual results that differ from assumptions are accumulated and amortized over
the estimated future service period of the plan participants. For 2004, a 25
basis point change in the assumptions for asset return, discount rate and
compensation increases, would not have had a significant impact on the net
periodic benefit cost.

Changes in actual asset return experience and discount rate assumptions can
impact the company's stockholders' equity. Actual asset return experience
results in an increase or decrease in the asset base and this effect, in
conjunction with a decrease in the pension discount rate, may result in a plan's
assets being less than a plan's accumulated benefit obligation ("ABO"). The ABO
is the present value of benefits earned to date and is based upon past
compensation levels. The company is required to show in its Consolidated
Statements of Financial Position a net liability that is at least equal to the
ABO less the market value of plan assets. This liability is referred to as an
additional minimum liability ("AML"). An AML, which is recorded and updated on
December 31 each year, is reflected as a long-term pension liability with the
offset in other comprehensive earnings (loss) in the equity section of the
Consolidated Statements of Financial Position (on a net of tax basis) and/or as
an intangible asset to the degree the company has unrecognized prior service
costs.

INCOME TAXES

The company estimates its tax liability based on current tax laws in the
statutory jurisdictions in which it operates. These estimates include judgments
about deferred tax assets and liabilities

20

resulting from temporary differences between assets and liabilities recognized
for financial reporting purposes and such amounts recognized for tax purposes,
as well as about the realization of deferred tax assets. If the provisions for
current or deferred taxes are not adequate, if the company is unable to realize
certain deferred tax assets or if the tax laws change unfavorably, the company
could potentially experience significant losses in excess of the reserves
established. Likewise, if the provisions for current and deferred taxes are in
excess of those eventually needed, if the company is able to realize additional
deferred tax assets or if tax laws change favorably, the company could
potentially experience significant gains.

RESTRUCTURING AND OTHER CHARGES

Although the company had substantially completed all restructuring activities at
December 31, 2002, and the employees had exited the business, approximately $4.7
million of severance payments were made during 2003. Refer to Note 15 of the
Notes to Consolidated Financial Statements for additional information regarding
the company's restructuring activities.

RESULTS OF OPERATIONS

SUMMARY

The following discussion and analysis should be read in conjunction with the
consolidated financial statements and notes thereto. The following table
summarizes the results of Lexmark's operations for the years ended December 31,
2004, 2003 and 2002:

REVENUE

Consolidated revenue increased 12% in 2004 compared to 2003 and 9% in 2003
compared to 2002.

During fiscal 2004, one customer, Dell, accounted for $570 million, or 10.7
percent of the company's total revenue. Sales to Dell are included in both the
business and consumer market segments. In 2003 and 2002, no single customer
accounted for 10 percent or more of total revenue.

The following tables provide a breakdown of the company's revenue by market
segment, geography and product category.

Revenue by market segment:

21

During 2004, revenue in the business market segment increased $190 million or 7%
over 2003. This growth was principally due to increases in unit volumes. The
company experienced strong double-digit unit growth in the business market
segment, but saw significant hardware price declines and continuing mix shift to
low-end products, resulting in revenue growth less than unit growth. Market
demand for low-end monochrome laser and color laser printers was strong. During
2003, revenue increased $242 million or 10% when compared to 2002 principally
due to increases in unit volumes.

During 2004, revenue in the consumer market segment increased $370 million or
17% over 2003. This growth was also due to double-digit unit growth, principally
driven by strong sales of inkjet all-in-one products. During 2003, revenue
increased $159 million or 8% when compared to 2002 and was principally due to
increases in unit volumes.

Revenue by geography:

During 2004, revenue increased in all geographies when compared to 2003
principally due to the previously discussed unit growth. Revenue in Europe and
Other International geographies was also favorably impacted by currency. During
2003, revenue increased in all geographies when compared to 2002 due to unit
growth.

Revenue by product:

During 2004 and 2003, laser and inkjet printers and laser and inkjet supplies
revenue both increased when compared to the prior year. These increases
reflected solid unit growth in both the business and consumer market segments as
discussed above.

GROSS PROFIT

The following table provides gross profit information:

During 2004, consolidated gross profit and gross profit as a percentage of
revenue increased when compared to the prior year. The improvement in the gross
profit margin over 2003 was principally due to improved product margins (1.9
percentage points) which was mostly printer driven, partially offset by a
negative mix among products toward hardware (0.7 percentage points).

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During 2003, the increase in consolidated gross profit and gross profit as a
percentage of revenue was attributable to improved supplies margins (1.8
percentage points) and an increased mix of supplies (0.9 percentage points),
partially offset by lower printer margins (2.0 percentage points).

OPERATING EXPENSE

The following table presents information regarding the company's operating
expenses during the periods indicated:

During 2004, operating expense increased $108 million or 11% compared to 2003.
The company has accelerated its investment in research and development to
support new product initiatives and to advance current technologies and expects
this to continue. Additionally, in the fourth quarter of 2004, the company
launched an advertising campaign to build brand image and awareness. The slight
decrease in operating expense as a percent of revenue was primarily due to
revenue growing at a faster rate than selling, general and administrative
expense, partially offset by higher research and development spending.

During 2003, operating expense increased $91 million or 11% compared to 2002.
Operating expense in 2002 included a $6 million benefit in the fourth quarter of
2002 from the reversal of previously accrued restructuring charges. The 0.3
percentage point increase in operating expense as a percent of revenue was
primarily due to the restructuring reserve reversal in 2002.

OPERATING INCOME (LOSS)

The following table provides operating income by market segment:

For 2004, the increase in the consolidated operating income was due to a $246
million increase in gross profit, partially offset by a $108 million increase in
operating expense. Operating income for the business market segment increased
$70 million in 2004 compared to 2003. Operating income for the consumer market
segment increased $108 million in 2004 compared to 2003. The increases in
operating income for both the business and consumer markets were due to higher
revenue and improvements in product margins.

For 2003, the increase in the consolidated operating income was due to a $174
million increase in gross profit, partially offset by a $91 million increase in
operating expense. Operating income for the business market segment increased
$132 million in 2003 compared to 2002, principally due

23

to increased supplies sales. Operating income for the consumer market segment
decreased $28 million in 2003, primarily due to lower printer margins.

NON-OPERATING INCOME (EXPENSE)

Non-operating income increased $15 million from 2003 to 2004, principally due to
additional interest income in 2004 as a result of an increased level of cash and
marketable securities held by the company.

Non-operating expenses declined $15 million from 2002 to 2003, principally due
to additional interest income in 2003 as a result of the company's strong cash
generation and the $5 million write-down of a private equity investment during
2002.

NET EARNINGS

Net earnings were $569 million in 2004 compared to $439 million in 2003. The
increase in net earnings was due to improved operating income, increased
non-operating income and a lower effective tax rate. The effective income tax
rate was 23.8% in 2004 compared to 26.0% in 2003. During 2004, the IRS completed
its examination of the company's income tax returns for all years through 2001.
As a result of the completion of those audits, the company reversed previously
accrued taxes, reducing the income tax provision by $20 million in the third
quarter of 2004. Excluding the impact of this adjustment, the company's
effective income tax rate was 26.5% for 2004.

Net earnings were $439 million in 2003 compared to $367 million in 2002. The
increase in net earnings was primarily due to improved operating income and
lower non-operating expenses. The effective income tax rate remained at 26.0% in
2003 and 2002.

EARNINGS PER SHARE

Basic net earnings per share were $4.38 for 2004 compared to $3.43 in 2003.
Diluted net earnings per share were $4.28 for 2004 compared to $3.34 in 2003.
Both basic and diluted net earnings per share for 2004 include a $0.15 benefit
associated with the previously mentioned tax settlement. Excluding this tax
benefit, the increases in basic and diluted net earnings per share were
primarily attributable to the increase in net earnings.

Basic net earnings per share were $3.43 for 2003 compared to $2.85 in 2002.
Diluted net earnings per share were $3.34 for 2003 compared to $2.79 in 2002.
The increases in basic and diluted net earnings per share were primarily due to
the increase in net earnings.

RETIREMENT-RELATED BENEFITS

The following table provides the total pre-tax cost (income) related to
Lexmark's retirement plans for the years 2004, 2003 and 2002. Cost (income)
amounts are included as an addition to/reduction from, respectively, the
company's cost and expense amounts in the Consolidated Statements of Earnings.

24

The company reduced its expected long-term asset return assumption on the U.S.
plan from 10.0% to 8.5% at the beginning of 2003. This change, and the
recognition of losses related to negative pension asset returns, increased the
cost of defined benefit plans in 2003. At the beginning of 2004, the company
further reduced its expected long-term asset return assumption on its U.S. plan
from 8.5% to 8.0%. The resulting increase in expense in the U.S. was offset by
decreases in non-U.S. pension expense due to plan changes.

The company reduced its discount rate assumption in the U.S. from 7.5% to 6.5%
at the end of 2002, from 6.5% to 6.3% at the end of 2003, and from 6.3% to 5.8%
at the end of 2004. These changes, combined with other changes in actuarial
assumptions, such as the assumed rate of compensation increase, did not have a
significant impact on the company's results of operations for 2004, nor are they
expected to have a material effect in 2005.

Future effects of retirement-related benefits, including the changes noted
above, on the operating results of the company depend on economic conditions,
employee demographics, mortality rates and investment performance. See Note 13
of the Notes to Consolidated Financial Statements for additional information
relating to the company's pension and postretirement plans.

LIQUIDITY AND CAPITAL RESOURCES

FINANCIAL POSITION

Lexmark's financial position remains strong at December 31, 2004, with working
capital of $1,533 million compared to $1,261 million December 31, 2003. At
December 31, 2004, the company had outstanding $1.5 million of short-term debt
and $149.5 million of long-term debt. The debt to total capital ratio was 7% at
December 31, 2004, compared to 8% at December 31, 2003. The company had no
amounts outstanding under its U.S. trade receivables financing program or its
revolving credit facility at December 31, 2004.

LIQUIDITY

The following table summarizes the results of the company's Consolidated
Statements of Cash Flows for the years ended December 31, 2004, 2003 and 2002:

The company's primary source of liquidity has been cash generated by operations,
which totaled $775 million, $748 million and $816 million in 2004, 2003 and
2002, respectively. Cash from operations generally has been sufficient to allow
the company to fund its working capital needs and finance its capital
expenditures during these periods along with the repurchase of approximately
$281 million, $5 million and $331 million of its Class A common stock during
2004, 2003 and 2002, respectively. Management believes that cash provided by
operations will continue to be sufficient to meet operating and capital needs.
However, in the event that cash from operations is not sufficient, the company
has other potential sources of cash through utilization of its accounts
receivable financing program, revolving credit facility or other financing
sources.

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Operating activities:

The increase in cash flows from operating activities from 2003 to 2004 was
primarily due to increased earnings and favorable cash flow changes in accounts
payable and accrued liabilities, partially offset by unfavorable cash flow
changes in trade receivables, other assets and liabilities and deferred taxes.

The decrease in cash flows from operating activities from 2002 to 2003 was
primarily due to unfavorable cash flow changes in accrued liabilities, trade
receivables and inventories, offset somewhat by favorable cash flow changes in
accounts payable and other assets and liabilities as well as increased earnings.

Cash flows from operations were reduced during 2004, 2003 and 2002 by $53
million, $115 million and $57 million, respectively, due to contributions to its
pension plans. See Note 13 of the Notes to Consolidated Financial Statements for
more information regarding the pension plans.

Investing activities:

The company began investing in marketable securities during the third quarter of
2003, which resulted in a net use of cash of $490 million and $452 million in
2004 and 2003, respectively. The company spent $198 million, $94 million and
$112 million on capital expenditures during 2004, 2003 and 2002, respectively.
The capital expenditures for 2004 principally related to infrastructure support,
new product development and manufacturing capacity expansion.

Financing activities:

The fluctuations in the net cash flows from financing activities were
principally due to treasury stock activity. The company has repurchased $281
million, $5 million and $331 million of treasury stock during 2004, 2003 and
2002, respectively.

CREDIT FACILITY

Effective May 29, 2002, the company entered into a $500 million unsecured,
revolving credit facility with a group of banks, including a $200 million
364-day portion and a $300 million 3-year portion. Upon entering into the credit
agreement, the company terminated the prior $300 million unsecured, revolving
credit facility that was due to expire on January 27, 2003. There were no
amounts outstanding under the prior facility upon its termination.

Under the credit facility, the company may borrow in dollars, euros and certain
other currencies. The interest rate ranges from 0.35% to 1.25% above the London
Interbank Offered Rate ("LIBOR") for borrowings denominated in U.S. dollars, the
Eurocurrency Interbank Offered Rate ("EURIBOR") for borrowings denominated in
euros, or other relevant international interest rate for borrowings denominated
in another currency. The interest rate spread is based upon the company's debt
ratings. In addition, the company is required to pay a facility fee on the $500
million line of credit of 0.075% to 0.25% based upon the company's debt ratings.
The interest and facility fees are payable quarterly.

The credit agreement contains customary default provisions, leverage and
interest coverage restrictions and certain restrictions on secured and
subsidiary debt, disposition of assets, liens and mergers and acquisitions. The
364-day portion of the $500 million credit facility had a maturity date of May
28, 2003. During May 2003, each lender approved the extension of the $200
million 364-day portion of the revolving credit facility with a new maturity
date of May 26, 2004. The company did not renew the $200 million 364-day portion
of the revolving credit facility in 2004. The 3-year portion of the credit
facility has a maturity date of May 29, 2005. As of December 31, 2004 and 2003,
there were no amounts outstanding under the credit facility.

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Effective January 20, 2005, the company entered into a $300 million 5-year
senior, unsecured, multicurrency revolving credit facility with a group of
banks. Upon entering into the new credit agreement, the company terminated the
prior $300 million unsecured, revolving credit facility that was due to expire
on May 29, 2005. There were no amounts outstanding under the prior facility upon
its termination. Under the new credit facility, the company may borrow in
dollars, euros, British pounds sterling and Japanese yen. Under certain
circumstances, the aggregate amount available under the new facility may be
increased to a maximum of $500 million.

Interest on all borrowings under the new facility depends upon the type of loan,
namely alternative base rate loans, swingline loans or eurocurrency loans.
Alternative base rate loans bear interest at the greater of the prime rate or
the federal funds rate plus one-half of one percent. Swingline loans (limited to
$50 million) bear interest at an agreed upon rate at the time of the borrowing.
Eurocurrency loans bear interest at the sum of (i) a LIBOR rate for the
applicable currency and interest period and (ii) an interest rate spread based
upon the company's debt ratings ranging from 0.18% to 0.80%. In addition, the
company is required to pay a facility fee on the $300 million line of credit of
0.07% to 0.20% based upon the company's debt ratings. The interest and facility
fees are payable at least quarterly.

The new credit agreement contains usual and customary default provisions,
leverage and interest coverage restrictions and certain restrictions on secured
and subsidiary debt, disposition of assets, liens and mergers and acquisitions.
The $300 million new credit facility has a maturity date of January 20, 2010.

LONG-TERM DEBT

The company has outstanding $150 million principal amount of 6.75% senior notes
due May 15, 2008, which was initially priced at 98.998%, to yield 6.89% to
maturity. The senior notes contain typical restrictions on liens, sale leaseback
transactions, mergers and sales of assets. There are no sinking fund
requirements on the senior notes and they may be redeemed at any time at the
option of the company, at a redemption price as described in the related
indenture agreement, as supplemented and amended, in whole or in part. A balance
of $149.5 million (net of unamortized discount of $0.5 million) was outstanding
at December 31, 2004.

During October 2003, the company entered into interest rate swap contracts to
convert its $150 million principal amount of 6.75% senior notes from a fixed
interest rate to a variable interest rate. Interest rate swaps with a notional
amount of $150 million were executed whereby the company will receive interest
at a fixed rate of 6.75% and pay interest at a variable rate of approximately
2.76% above the six-month LIBOR. These interest rate swaps have a maturity date
of May 15, 2008, which is equivalent to the maturity date of the senior notes.

OTHER INFORMATION

The company is in compliance with all covenants and other requirements set forth
in its debt agreements. The company does not have any rating downgrade triggers
that would accelerate the maturity dates of its revolving credit facility and
public debt. However, a downgrade in the company's credit rating could adversely
affect the company's ability to renew existing, or obtain access to new, credit
facilities in the future and could increase the cost of such facilities.

In February 2001, the company filed a shelf registration statement with the SEC
to register $200 million of debt securities. Due to the company's strong cash
position, in early 2004 the company determined that it did not plan to utilize
the shelf registration, and on January 28, 2004, withdrew its registration
pursuant to the rules and regulations of the SEC.

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CONTRACTUAL CASH OBLIGATIONS

The following table summarizes the company's contractual obligations at December
31, 2004:

Purchase obligations reported in the table above include agreements to purchase
goods or services that are enforceable and legally binding on the company and
that specify all significant terms, including: fixed or minimum quantities to be
purchased; fixed, minimum or variable price provisions; and the approximate
timing of the transaction.

U.S. TRADE RECEIVABLES FACILITY

In October 2001, the company entered into an agreement to sell its U.S. trade
receivables on a limited recourse basis that allowed for a maximum amount of
financing availability of $225 million. In October 2003, the agreement was
amended and the maximum amount of U.S. trade receivables to be sold was
decreased to $200 million. In October 2004, the company entered into an amended
and restated agreement to sell its U.S. trade receivables on a limited recourse
basis. The amended agreement allows for a maximum financing availability of $200
million under this facility. The primary purpose of the amendment was to extend
the term of the facility to October 16, 2007, with required annual renewal of
commitments in October 2005 and 2006.

This facility contains customary affirmative and negative covenants as well as
specific provisions related to the quality of the accounts receivables sold. As
collections reduce previously sold receivables, the company may replenish these
with new receivables. The company bears a limited risk of bad debt losses on
U.S. trade receivables sold, since the company over-collateralizes the
receivables sold with additional eligible receivables. The company addresses
this risk of loss in its allowance for doubtful accounts. Receivables sold may
not include amounts over 90 days past due or concentrations over certain limits
with any one customer. The facility also contains customary cash control
triggering events which, if triggered, could adversely affect the company's
liquidity and/or its ability to sell trade receivables. A downgrade in the
company's credit rating could reduce the company's ability to sell trade
receivables. At December 31, 2004 and 2003, the facility had no U.S. trade
receivables sold and outstanding.

OFF-BALANCE SHEET ARRANGEMENTS

At December 31, 2004 and 2003, the company did not have any relationship with
unconsolidated entities or financial partnerships, which other companies have
established for the purpose of facilitating off-balance sheet arrangements or
other contractually narrow or limited purposes. Therefore, the company is not
materially exposed to any financing, liquidity, market or credit risk that could
arise if the company had engaged in such relationships.

STOCK REPURCHASE

In October 2004, the company received authorization from the board of directors
to repurchase an additional $1.0 billion of its Class A common stock for a total
repurchase authority of

28

$2.4 billion. At December 31, 2004, there was approximately $0.9 billion of
share repurchase authority remaining. This repurchase authority allows the
company, at management's discretion, to selectively repurchase its stock from
time to time in the open market or in privately negotiated transactions
depending upon market price and other factors. During 2004, the company
repurchased approximately 3.2 million shares at a cost of approximately $281
million. As of December 31, 2004, since the inception of the program, the
company had repurchased approximately 38.0 million shares for an aggregate cost
of approximately $1.5 billion.

CAPITAL EXPENDITURES

Capital expenditures totaled $198 million, $94 million and $112 million in 2004,
2003 and 2002, respectively. The capital expenditures were primarily
attributable to infrastructure support and new product development during 2004,
2003 and 2002. During 2005, the company expects capital expenditures to be
approximately $300 million, primarily attributable to infrastructure support
including capacity expansion, and new product development. The capital
expenditures are expected to be funded through cash from operations.

EFFECT OF CURRENCY EXCHANGE RATES AND EXCHANGE RATE RISK MANAGEMENT

Revenue derived from international sales, including exports from the United
States, make up about half of the company's consolidated revenue, with Europe
accounting for approximately two-thirds of international sales. Substantially
all foreign subsidiaries maintain their accounting records in their local
currencies. Consequently, period-to-period comparability of results of
operations is affected by fluctuations in currency exchange rates. Certain of
the company's Latin American entities use the U.S. dollar as their functional
currency. Lexmark's operations in Argentina were adversely impacted by currency
devaluation during the first six months of 2002. This resulted in translation
losses of approximately $5 million in 2002. Since June 2002, the company did not
experience significant translation losses related to the Argentina operations.

Currency translation has significantly affected international revenue and cost
of revenue, but it did not have a material impact on operating income during
2002. The 2003 and 2004 operating income was materially positively affected by
exchange rate fluctuations. The company acts to neutralize the effects of
exchange rate fluctuations through the use of operational hedges, such as
pricing actions and product sourcing decisions.

The company's exposure to exchange rate fluctuations generally cannot be
minimized solely through the use of operational hedges. Therefore, the company
utilizes financial instruments such as forward exchange contracts and currency
options to reduce the impact of exchange rate fluctuations on actual and
anticipated cash flow exposures and certain assets and liabilities, which arise
from transactions denominated in currencies other than the functional currency.
The company does not purchase currency related financial instruments for
purposes other than exchange rate risk management.

TAX MATTERS

The company's effective income tax rate was approximately 23.8%, 26.0% and 26.0%
for 2004, 2003 and 2002, respectively. The current year's effective income tax
rate was impacted favorably by the company's resolution with the Internal
Revenue Service ("IRS") discussed in the next paragraph. Excluding the impact of
this adjustment, the company's effective income tax rate was 26.5% for 2004. Due
to the anticipated geographical mix of earnings for 2005, the company expects
the 2005 effective income tax rate to be in the range of 26.5% to 27.0%.

During 2004, the IRS completed its examination of the company's income tax
returns for all years through 2001. As a result of the completion of those
audits, the company reversed previously accrued taxes, reducing the income tax
provision by $20 million, or $0.15 per share, in the third quarter of 2004. The
IRS has now started its examination of tax years 2002 and 2003. The

29

company and its subsidiaries are also subject to tax examinations in various
state and foreign jurisdictions. The company believes that adequate amounts have
been provided for any adjustments that may result from these examinations.

As of December 31, 2004, the company had non-U.S. tax loss carryforwards of
$10.4 million, which have an indefinite carryforward period.

On October 22, 2004, the President signed the American Jobs Creation Act of 2004
(the "Jobs Act"). The Jobs Act creates a temporary incentive for U.S.
corporations to repatriate accumulated income earned abroad by providing an 85
percent dividends received deduction for certain dividends from controlled
foreign corporations. The deduction is subject to a number of limitations, and
as of today, uncertainty remains as to how to interpret numerous provisions in
the Jobs Act. The company is not yet in a position to decide on whether, and to
what extent, it might repatriate foreign earnings that have not yet been
remitted to the U.S. Based on the company's analysis to date, it is possible
that the company could repatriate as much as $684 million. If that full amount
is repatriated in 2005, the estimated income tax effect of that repatriation
would be approximately $70 million, based on the information available and the
law in effect on December 31, 2004. The company expects to conclude its analysis
of this repatriation incentive during 2005.

RECENT ACCOUNTING PRONOUNCEMENTS

In January 2003, the Financial Accounting Standards Board ("FASB") issued FASB
Interpretation No. 46 ("FIN 46"), Consolidation of Variable Interest Entities,
an Interpretation of Accounting Research Bulletin ("ARB") No. 51. FIN 46
requires certain variable interest entities to be consolidated by the primary
beneficiary of the entity if the equity investors in the entity do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. In December 2003, the FASB
issued FIN 46-R, Consolidation of Variable Interest Entities, an Interpretation
of ARB No. 51 (revised December 2003), which replaces FIN 46. FIN 46-R
incorporates certain modifications to FIN 46 adopted by the FASB subsequent to
the issuance of FIN 46, including modifications to the scope of FIN 46.
Additionally, FIN 46-R also incorporates much of the guidance previously issued
in the form of FASB Staff Positions. For all special purpose entities ("SPEs")
created prior to February 1, 2003, public entities must apply either the
provisions of FIN 46 or early adopt the provisions of FIN 46-R at the end of the
first interim or annual reporting period ending after December 15, 2003. The
company has evaluated the provisions of this interpretation and determined that
the interpretation has no impact on its financial position, results of
operations and cash flows.

In May 2004, the FASB issued Staff Position No. 106-2 ("FSP 106-2"), Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug
Improvement and Modernization Act of 2003 (the "Act"). The Act introduced a
prescription drug benefit under Medicare as well as a federal subsidy to
sponsors of post-retirement health care benefit plans ("plan sponsors") that
provide a benefit that is at least actuarially equivalent to Medicare Part D.
FSP 106-2 superceded FSP 106-1, which was issued in January 2004, and permitted
plan sponsors of a post-retirement health care plan that provides a prescription
drug benefit to make a one-time election to defer accounting for the effects of
the Act until more authoritative guidance on the accounting for the federal
subsidy was issued. The company had elected to defer accounting for the effects
of the Act under FSP 106-1. FSP 106-2 was effective for the first interim or
annual period beginning after June 15, 2004. On January 21, 2005, the Centers
for Medicare and Medicaid Services released final regulations implementing major
provisions of the Act. The company evaluated the provisions of FSP 106-2 and the
new regulations and determined that they did not have a material impact on the
company's financial position, results of operations and cash flows.

30

In November 2004, the FASB issued Statement of Financial Accounting Standards
("SFAS") No. 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4. SFAS
151 amends the guidance in ARB 43, Chapter 4, "Inventory Pricing," to clarify
the accounting for abnormal amounts of idle facility expense, freight, handling
costs, and wasted material (spoilage). Paragraph 5 of ARB 43, Chapter 4,
previously stated that ". . . under some circumstances, items such as idle
facility expense, excessive spoilage, double freight, and rehandling costs may
be so abnormal as to require treatment as current period charges. . . .". This
Statement requires that those items be recognized as current-period charges
regardless of whether they meet the criterion of "so abnormal." In addition,
SFAS 151 requires that allocation of fixed production overheads to the costs of
conversion be based on the normal capacity of the production facilities. The
provisions of SFAS 151 are applicable to inventory costs incurred during fiscal
years beginning after June 15, 2005, and is required to be adopted by the
company in the first quarter of fiscal 2006. The company is currently evaluating
the provisions of this statement.

In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary
Assets -- an amendment of Accounting Principles Board ("APB") Opinion No. 29,
Accounting for Nonmonetary Transactions. The guidance in APB 29 is based on the
principle that exchanges of nonmonetary assets should be measured based on the
fair value of the assets exchanged. The guidance in that Opinion, however,
included certain exceptions to that principle. SFAS 153 amends APB 29 to
eliminate the exception for nonmonetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of nonmonetary assets
that do not have commercial substance. A nonmonetary exchange has commercial
substance if the future cash flows of the entity are expected to change
significantly as a result of the exchange. The provisions of SFAS 153 are
applicable for nonmonetary asset exchanges occurring in fiscal periods beginning
after June 15, 2005. The company is currently evaluating the provisions of this
statement.

In December 2004, the FASB issued SFAS 123R, which replaces SFAS 123 and
supercedes APB 25. SFAS 123R requires that all share-based payments to
employees, including grants of stock options, be recognized in the financial
statements based on their fair value beginning with the first interim or annual
reporting period that begins after June 15, 2005. The company will be required
to adopt SFAS 123R at the beginning of the third quarter of 2005 and is
currently evaluating the requirements of SFAS 123R, including selection of the
transition method. SFAS 123R allows for prospective and retroactive transition
alternatives. The prospective alternative requires that compensation expense be
recorded for all unvested stock-based awards at the beginning of the first
quarter of adoption of SFAS 123R, while the retroactive alternatives require
that compensation expense for all unvested awards be recognized beginning with
the first period restated. The retroactive alternatives allow for the
restatement of prior periods either as of the beginning of the year of adoption
or for all periods presented. The company expects that the adoption of SFAS 123R
will have a material impact on its results of operations and earnings per share.

In December 2004, the FASB issued FSP 109-1, Application of FASB Statement No.
109, Accounting for Income Taxes, for the Tax Deduction Provided to U.S.-Based
Manufacturers by the American Jobs Creation Act of 2004 ("FSP 109-1"). FSP 109-1
clarifies that the tax deduction for domestic manufacturers under the American
Jobs Creation Act of 2004 should be accounted for as a special deduction in
accordance with SFAS No. 109, Accounting for Income Taxes. The FSP, issued on
December 21, 2004, went into effect upon being issued.

In December 2004, the FASB also issued FSP 109-2, Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004 ("FSP 109-2"). FSP 109-2 provides enterprises more
time (beyond the financial-reporting period during which the American Jobs
Creation Act took effect) to evaluate the impact on the enterprise's plan for
reinvestment or repatriation of certain foreign earnings for purposes of
applying SFAS 109. The FSP, issued on December 21, 2004, went into effect upon
being issued.

31

The company is not yet in a position to decide on whether, and to what extent,
it might repatriate foreign earnings that have not yet been remitted to the U.S.
The company expects to conclude its analysis of this repatriation incentive
during 2005.

INFLATION

The company is subject to the effects of changing prices and operates in an
industry where product prices are very competitive and subject to downward price
pressures. As a result, future increases in production costs or raw material
prices could have an adverse effect on the company's business. In an effort to
minimize the impact on earnings of any such increases, the company must
continually manage its product costs and manufacturing processes.

FACTORS THAT MAY AFFECT FUTURE RESULTS AND INFORMATION CONCERNING
FORWARD-LOOKING STATEMENTS

Statements contained in this report which are not statements of historical fact
are forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Forward-looking statements are made based upon management's current expectations
and beliefs concerning future developments and their potential effects upon the
company. There can be no assurance that future developments affecting the
company will be those anticipated by management, and there are a number of
factors that could adversely affect the company's future operating results or
cause the company's actual results to differ materially from the estimates or
expectations reflected in such forward-looking statements, including without
limitation, the factors set forth below:

- - The company's future operating results may be adversely affected if it is
unable to continue to develop, manufacture and market products that are
reliable, competitive, and meet customers' needs. The markets for laser and
inkjet products and associated supplies are aggressively competitive,
especially with respect to pricing and the introduction of new technologies
and products offering improved features and functionality. The impact of
competitive activities on the sales volumes or revenue of the company, or the
company's inability to effectively deal with these competitive issues, could
have a material adverse effect on the company's ability to maintain or grow
retail shelf space or market share and on its financial results.

- - The company and its major competitors, many of which have significantly
greater financial, marketing and/or technological resources than the company,
have regularly lowered prices on their products and are expected to continue
to do so. In particular, both the inkjet and laser printer markets have
experienced and are expected to continue to experience significant price
pressure. Price reductions on inkjet or laser products or the inability to
reduce costs, including warranty costs, contain expenses or increase or
maintain sales as currently expected, as well as price protection measures or
a shift in the mix of products sold, could result in lower profitability and
jeopardize the company's ability to grow or maintain its market share.

- - The introduction of products by the company or its competitors, or delays in
customer purchases of existing products in anticipation of new product
introductions by the company or its competitors and market acceptance of new
products and pricing programs, any disruption in the supply of new or existing
products due to quality issues, the reaction of competitors to any such new
products or programs, the life cycles of the company's products, as well as
delays in product development and manufacturing, and variations in the cost of
component parts, may impact sales, may cause a buildup in the company's
inventories, make the transition from current products to new products
difficult and could adversely affect the company's future operating results.
The competitive pressure to develop technology and products and to increase
marketing expenditures also could cause significant changes in the level of
the company's operating expenses.

32

- - The company's performance depends in part upon its ability to successfully
forecast the timing and extent of customer demand and manage worldwide
distribution and inventory levels of the company and its resellers. Unexpected
fluctuations in reseller inventory levels could disrupt ordering patterns and
may adversely affect the company's financial results. In addition, the
financial failure or loss of a key customer or reseller could have a material
adverse impact on the company's financial results. The company must also be
able to address production and supply constraints, including product
disruptions caused by quality issues, and delays or disruptions in the supply
of key components necessary for production, including without limitation
component shortages due to increasing global demand in the company's industry
and other industries. Such delays, disruptions or shortages may result in lost
revenue or in the company incurring additional costs to meet customer demand.
The company's future operating results and its ability to effectively grow or
maintain its market share may be adversely affected if it is unable to address
these issues on a timely basis.

- - The company markets and sells its products through several sales channels. The
company has also advanced a strategy of forming alliances and OEM arrangements
with many companies. The company's future operating results may be adversely
affected by any conflicts that might arise between or among its various sales
channels, the loss of any alliance or OEM arrangement or the loss of retail
shelf space. Aggressive pricing on laser and inkjet products and/or associated
supplies from customers and resellers, including, without limitation, OEM
customers, could result in a material adverse impact on the company's strategy
and financial results.

- - Unfavorable global economic conditions may adversely impact the company's
future operating results. The company continues to experience some weak
markets for its products, and although the company has seen some market
improvement, continued softness in certain markets and uncertainty about
global economic conditions could result in lower demand for the company's
products. Weakness in demand has resulted in intense price competition and may
result in excessive inventory for the company and/or its reseller channel,
which may adversely affect sales, pricing, risk of obsolescence and/or other
elements of the company's operating results.

- - Revenue derived from international sales make up about half of the company's
revenue. Accordingly, the company's future results could be adversely affected
by a variety of factors, including changes in a specific country's or region's
political or economic conditions, foreign currency exchange rate fluctuations,
trade protection measures and unexpected changes in regulatory requirements.
In addition, changes in tax laws and the ability to repatriate cash
accumulated outside the U.S. in a tax efficient manner may adversely affect
the company's financial results, investment flexibility and operations.
Moreover, margins on international sales tend to be lower than those on
domestic sales, and the company believes that international operations in new
geographic markets will be less profitable than operations in the U.S. and
European markets, in part, because of the higher investment levels for
marketing, selling and distribution required to enter these markets.

- - Factors unrelated to the company's operating performance, including the
financial failure or loss of significant customers, resellers, manufacturing
partners or suppliers; the outcome of pending and future litigation or
governmental proceedings; and the ability to retain and attract key personnel,
could also adversely affect the company's operating results. In addition, the
company's stock price, like that of other technology companies, can be
volatile. Trading activity in the company's common stock, particularly the
trading of large blocks and intraday trading in the company's common stock,
may affect the company's common stock price.

- - The company relies in large part on its international production facilities
and international manufacturing partners, many of which are located in China,
for the manufacture of its products and key components of its products. Future
operating results may be adversely

33

affected by several factors, including, without limitation, if the company's
international operations or manufacturing partners are unable to perform or
supply products reliably, if there are disruptions in international trade,
disruptions at important geographic points of exit and entry, if there are
difficulties in transitioning such manufacturing activities among the company,
its international operations and/or its manufacturing partners, or if there
arise production and supply constraints which result in additional costs to
the company. The financial failure or loss of a key supplier could result in a
material adverse impact on the company's financial results.

- - The company's effective tax rate could be adversely affected by changes in the
mix of earnings in countries with differing statutory tax rates. In addition,
the amount of income tax the company pays is subject to ongoing audits in
various jurisdictions. A material assessment by a taxing authority or a
decision to repatriate foreign cash could adversely affect the company's
profitability.

- - Although the company is currently the exclusive supplier of new cartridges for
its laser and inkjet products, there can be no assurance that other companies
will not develop new compatible cartridges for the company's products. In
addition, refill and remanufactured alternatives for some of the company's
cartridges are available and compete with the company's supplies business. The
company expects competitive refill and remanufacturing activity to increase.
Various legal challenges and governmental activities may intensify competition
for the company's aftermarket supplies business.

- - The entrance of additional competitors that are focused on printing solutions
could further intensify competition in the inkjet and laser printer markets
and could have a material adverse impact on the company's strategy and
financial results.

- - The company's inability to perform satisfactorily under service contracts for
managed print services and other customer services may result in the loss of
customers, loss of reputation and/or financial consequences that may have a
material adverse impact on the company's financial results and strategy.

- - The company's success depends in part on its ability to obtain patents,
copyrights and trademarks, maintain trade secret protection and operate
without infringing the proprietary rights of others. Current or future claims
of intellectual property infringement could prevent the company from obtaining
technology of others and could otherwise materially and adversely affect its
operating results or business, as could expenses incurred by the company in
obtaining intellectual property rights, enforcing its intellectual property
rights against others or defending against claims that the company's products
infringe the intellectual property rights of others.

- - Certain countries (primarily in Europe) and/or collecting societies
representing copyright owners' interests have commenced proceedings to impose
fees on devices (such as scanners, printers and multifunction devices)
alleging the copyright owners are entitled to compensation because these
devices enable reproducing copyrighted content. Other countries are also
considering imposing fees on certain devices. The amount of fees, if imposed,
would depend on the number of products sold and the amounts of the fee on each
product, which will vary by product and by country. The financial impact on
the company, which will depend in large part upon the outcome of local
legislative processes, the company's and other industry participants' outcome
in contesting the fees and the company's ability to mitigate that impact by
increasing prices, which ability will depend upon competitive market
conditions, remains uncertain. The outcome of the copyright fee issue could
adversely affect the company's operating results and business.

- - The company depends on its information technology systems for the development,
manufacture, distribution, marketing, sales and support of its products and
services. Any

34

failure in such systems, or the systems of a partner or supplier, may
adversely affect the company's operating results. Furthermore, because vast
quantities of the company's products flow through only a few distribution
centers to provide product to various geographic regions, the failure of
information technology systems or any other disruption affecting those product
distribution centers could have a material adverse impact on the company's
ability to deliver product and on the company's financial results.

- - Terrorist attacks and the potential for future terrorist attacks have created
many political and economic uncertainties, some of which may affect the
company's future operating results. Future terrorist attacks, the national and
international responses to such attacks, and other acts of war or hostility
may affect the company's facilities, employees, suppliers, customers,
transportation networks and supply chains, or may affect the company in ways
that are not capable of being predicted presently.

While the company reassesses material trends and uncertainties affecting the
company's financial condition and results of operations in connection with the
preparation of its quarterly and annual reports, the company does not intend to
review or revise, in light of future events, any particular forward-looking
statement contained in this report.

The information referred to above should be considered by investors when
reviewing any forward-looking statements contained in this report, in any of the
company's public filings or press releases or in any oral statements made by the
company or any of its officers or other persons acting on its behalf. The
important factors that could affect forward-looking statements are subject to
change, and the company does not intend to update the foregoing list of certain
important factors. By means of this cautionary note, the company intends to
avail itself of the safe harbor from liability with respect to forward-looking
statements that is provided by Section 27A and Section 21E referred to above.

35

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

MARKET RISK SENSITIVITY

The market risk inherent in the company's financial instruments and positions
represents the potential loss arising from adverse changes in interest rates and
foreign currency exchange rates.

INTEREST RATES

At December 31, 2004, the fair value of the company's senior notes was estimated
at $163 million using quoted market prices and yields obtained through
independent pricing sources for the same or similar types of borrowing
arrangements, taking into consideration the underlying terms of the debt. The
fair value of the senior notes exceeded the carrying value as recorded in the
Consolidated Statements of Financial Position at December 31, 2004, by
approximately $13 million. Market risk is estimated as the potential change in
fair value resulting from a hypothetical 10% adverse change in interest rates
and amounts to approximately $2 million at December 31, 2004.

The company has interest rate swaps that serve as a fair value hedge of the
company's senior notes. The fair value of the interest rate swaps at December
31, 2004, was a liability of $0.2 million. Market risk for the interest rate
swaps is estimated as the potential change in fair value resulting from a
hypothetical 10% adverse change in interest rates and amounts to approximately
$2 million at December 31, 2004.

FOREIGN CURRENCY EXCHANGE RATES

The company employs a foreign currency hedging strategy to limit potential
losses in earnings or cash flows from adverse foreign currency exchange rate
movements. Foreign currency exposures arise from transactions denominated in a
currency other than the company's functional currency and from foreign
denominated revenue and profit translated into U.S. dollars. The primary
currencies to which the company is exposed include the euro, the Mexican peso,
the Canadian dollar, the British pound, the Japanese yen, the Australian dollar
and other Asian and South American currencies. Exposures are hedged with foreign
currency forward contracts, put options, and call options with maturity dates of
less than eighteen months. The potential loss in fair value at December 31,
2004, for such contracts resulting from a hypothetical 10% adverse change in all
foreign currency exchange rates is approximately $89 million. This loss would be
mitigated by corresponding gains on the underlying exposures.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003, AND 2002
(In Millions, Except Per Share Amounts)
- --------------------------------------------------------------------------------

See notes to consolidated financial statements.

37

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL POSITION
AS OF DECEMBER 31, 2004 AND 2003
(In Millions, Except Par Value)
- --------------------------------------------------------------------------------

See notes to consolidated financial statements.

38

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(In Millions)
- --------------------------------------------------------------------------------

See notes to consolidated financial statements.

39

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE EARNINGS
FOR THE YEARS ENDED DECEMBER 31, 2004, 2003 AND 2002
(In Millions)
- --------------------------------------------------------------------------------

See notes to consolidated financial statements.

40

- --------------------------------------------------------------------------------

41

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In Millions, Except per Share Amounts)

1. ORGANIZATION AND BUSINESS

Since its inception in 1991, Lexmark International, Inc. ("Lexmark" or the
"company") has become a leading developer, manufacturer and supplier of printing
and imaging solutions for offices and homes. The company's products include
laser printers, inkjet printers, multifunction devices, associated supplies,
services and solutions. The company also sells dot matrix printers for printing
single and multi-part forms by business users and develops, manufactures and
markets a broad line of other office imaging products. The principal customers
for the company's products are dealers, retailers and distributors worldwide.
The company's products are sold in more than 150 countries in North and South
America, Europe, the Middle East, Africa, Asia, the Pacific Rim and the
Caribbean.

2. SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation:

The accompanying consolidated financial statements include the accounts of the
company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated.

Use of Estimates:

The preparation of consolidated financial statements in conformity with
accounting principles generally accepted in the United States of America
("U.S.") requires management to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenue and expenses, and related
disclosure of contingent assets and liabilities. On an ongoing basis, the
company evaluates its estimates, including those related to customer programs
and incentives, product returns, doubtful accounts, inventories, intangible
assets, income taxes, warranty obligations, copyright fees, product royalty
obligations, restructurings, pension and other postretirement benefits, and
contingencies and litigation. The company bases its estimates on historical
experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.

Foreign Currency Translation:

Assets and liabilities of non-U.S. subsidiaries that operate in a local currency
environment are translated into U.S. dollars at period-end exchange rates.
Income and expense accounts are translated at average exchange rates prevailing
during the period. Adjustments arising from the translation of assets and
liabilities are accumulated as a separate component of accumulated other
comprehensive earnings (loss) in stockholders' equity.

Cash Equivalents:

All highly liquid investments with an original maturity of three months or less
at the company's date of purchase are considered to be cash equivalents.

Marketable Securities:

The company evaluates its marketable securities in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 115, Accounting for Certain
Investments in Debt and Equity Securities, and classifies these investments as
held-to-maturity, trading or available-for-sale.

42

Based on the company's expected holding period, the company has classified all
of its marketable securities as available-for-sale and reported these
investments in the Consolidated Statements of Financial Position as current
assets. The company reports its available-for-sale marketable securities at fair
value with unrealized gains or losses recorded on the accumulated other
comprehensive earnings (loss) line in the Consolidated Statements of Financial
Position. The company assesses its marketable securities for
other-than-temporary declines in value by considering various factors that
include, among other things, any events that may affect the creditworthiness of
a security's issuer, the length of time the security has been in a loss position
and the company's ability and intent to hold the security until a forecasted
recovery of fair value that may include holding the security to maturity.
Realized gains or losses are included in net earnings and are derived using the
specific identification method for determining the cost of the securities.

Allowance for Doubtful Accounts:

The company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments. The
company estimates the allowance for doubtful accounts based on a variety of
factors including the length of time receivables are past due, the financial
health of customers, unusual macroeconomic conditions and historical experience.
If the financial condition of the company's customers deteriorates or other
circumstances occur that result in an impairment of customers' ability to make
payments, the company records additional allowances as needed.

Fair Value of Financial Instruments:

The financial instruments of the company consist mainly of cash and cash
equivalents, marketable securities, trade receivables, short-term debt,
long-term debt and derivatives. The fair value of cash and cash equivalents,
trade receivables and short-term debt approximates their carrying values due to
the relatively short-term nature of the instruments. The fair value of the
company's marketable securities are based on quoted market prices, or in some
cases, the company's amortized cost, which approximates fair value due to the
frequent resetting of interest rates resulting in repricing of the investments.
The fair value of long-term debt is based on current rates available to the
company for debt with similar characteristics. The fair value of derivative
financial instruments is based on quoted market prices of comparable instruments
or, if none are available, on pricing models or formulas using current
assumptions.

Inventories:

Inventories are stated at the lower of average cost or market. The company
considers all raw materials to be in production upon their receipt.

Property, Plant and Equipment:

Property, plant and equipment are stated at cost and depreciated over their
estimated useful lives using the straight-line method. Property, plant and
equipment accounts are relieved of the cost and related accumulated depreciation
when assets are disposed of or otherwise retired.

Internal Use Software Costs:

The company capitalizes direct costs incurred during the application development
and implementation stages for developing, purchasing, or otherwise acquiring
software for internal use. These software costs are included on the property,
plant and equipment line in the Consolidated Statements of Financial Position
and are depreciated over the estimated useful life of the software, generally
three years. All costs incurred during the preliminary project stage are
expensed as incurred.

43

Goodwill and Other Intangible Assets:

The company accounts for goodwill and other intangible assets in accordance with
SFAS No. 142, Goodwill and Other Intangible Assets. The company annually reviews
its goodwill for impairment and currently does not have any indefinite-lived
intangible assets. The company's goodwill and intangible assets are immaterial,
and therefore are not separately presented in the Consolidated Statements of
Financial Position.

Long-Lived Assets:

The company performs reviews for the impairment of long-lived assets whenever
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. An impairment loss is recognized when estimated
undiscounted future cash flows expected to result from the use of the asset and
its eventual disposition are less than its carrying amount. If future expected
undiscounted cash flows are insufficient to recover the carrying value of the
assets, then an impairment loss is recognized based upon the excess of the
carrying value of the asset over the anticipated cash flows on a discounted
basis. The company also reviews any legal and contractual obligations associated
with the retirement of its long-lived assets and records assets and liabilities,
as necessary, related to the cost of such obligations.

Warranty Reserves:

The company provides for the estimated cost of product warranties at the time
revenue is recognized. The reserve for product warranties is based on the
quantity of units sold under warranty, estimated product failure rates, and
material usage and service delivery costs. The estimates for product failure
rates and material usage and service delivery costs are periodically adjusted
based on actual results. For extended warranty programs, the company defers
revenue in short-term and long-term liability accounts (based on the extended
warranty contractual period) for amounts invoiced to customers for these
programs and recognizes the revenue ratably over the contractual period. Costs
associated with extended warranty programs are expensed as incurred.

Revenue Recognition:

Accounting Changes

In December 2003, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin ("SAB") No. 104, Revenue Recognition, which superceded SAB
101, Revenue Recognition in Financial Statements. SAB 104 updated certain
interpretive guidance included in SAB 101, including the SAB 101 guidance
related to multiple element revenue arrangements, to reflect the issuance by the
Emerging Issues Task Force ("EITF") of EITF 00-21, Accounting for Revenue
Arrangements with Multiple Deliverables. The basic revenue recognition
principles of SAB 101 were largely unchanged by the issuance of SAB 104, and
therefore, did not have a material impact on the company's financial position,
results of operations and cash flows.

General

The company recognizes revenue when persuasive evidence of an arrangement
exists, delivery has occurred, the sales price is fixed or determinable and
collectibility is probable. The following are the policies applicable to
Lexmark's major categories of revenue transactions:

Products

Revenue from product sales, including sales to distributors and resellers, is
recognized when title and risk of loss transfer to the customer, generally when
the product is shipped to the customer. When other significant obligations
remain after products are delivered, revenue is recognized

44

only after such obligations are fulfilled. At the time revenue is recognized,
the company provides for the estimated cost of post-sales support, principally
product warranty, and reduces revenue for estimated product returns.
Additionally, the company records estimated reductions to revenue and the
related trade receivables at the time of sale for customer programs and
incentive offerings including special pricing agreements, promotions and other
volume-based incentives. Estimated reductions in revenue are based upon
historical trends and other known factors at the time of sale. In addition, the
company provides price protection to substantially all of its reseller
customers. The company records reductions to revenue for the estimated impact of
price protection when price reductions to resellers are anticipated.

Services

Revenue from support or maintenance contracts, including extended warranty
programs, is recognized ratably over the contractual period. Amounts invoiced to
customers in excess of revenue recognized on support or maintenance contracts
are recorded as deferred revenue until the appropriate revenue recognition
criteria are met. Revenue for time and material contracts is recognized as the
services are performed.

Multiple Element Revenue Arrangements

The company enters into transactions that include multiple elements, such as a
combination of products and services. Revenue for these arrangements is
allocated to each element based on its relative fair value and is recognized
when the revenue recognition criteria for each element have been met. Relative
fair value may be determined by the price of an element if it were sold on a
stand-alone basis (referred to as vendor-specific objective evidence ("VSOE")).
In the absence of VSOE, third party evidence (e.g., competitors' prices of
comparable products or services) is used to determine relative fair value.

Advertising Costs:

The company expenses advertising costs when incurred. Advertising expense was
approximately $108.1 million, $80.7 million and $76.2 million in 2004, 2003 and
2002, respectively.

Pension and Postretirement Benefits:

The company accounts for its defined benefit pension plans and its non-pension
postretirement benefit plans using actuarial models required by SFAS No. 87,
Employers' Accounting for Pensions, and SFAS No. 106, Employers' Accounting for
Postretirement Benefits Other Than Pensions, respectively. Liabilities are
computed using the projected unit credit method. The objective under this method
is to expense each participant's benefits under the plan as they accrue, taking
into consideration future salary increases and the plan's benefit allocation
formula. Thus, the total pension to which each participant is expected to become
entitled is broken down into units, each associated with a year of past or
future credited service.

The discount rate assumption for the pension and postretirement benefit plan
liabilities reflects the rates available on high-quality fixed-income
investments at December 31 each year. The company's assumed long-term rate of
return on plan assets is based on long-term historical actual return
information, the mix of investments that comprise plan assets and future
estimates of long-term investment returns by reference to external sources.
Differences between actual and expected asset returns are recognized in the
calculation of net periodic cost (benefit) over five years. The rate of
compensation increase is determined by the company based upon its long-term
plans for such increases. Unrecognized actuarial gains and losses are amortized
on a straight-line basis over the remaining estimated service period of
participants.

45

The company's funding policy for its pension plans is to fund minimum amounts
according to the regulatory requirements under which the plans operate. From
time to time, the company may choose to fund amounts in excess of the minimum
for various reasons.

The company accrues for the cost of providing postretirement benefits such as
medical and life insurance coverage over the remaining estimated service period
of participants. These benefits are funded by the company when paid.

Stock-Based Compensation:

In December 2002, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 148, Accounting for Stock-Based Compensation -- Transition and
Disclosure -- an Amendment of SFAS 123, which provided alternative methods for a
voluntary change to the fair value method of accounting for stock-based employee
compensation and amended the disclosure requirements of SFAS No. 123, Accounting
for Stock-Based Compensation. The company elected to continue to account for its
stock-based employee compensation plans under Accounting Principles Board
("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations. The following disclosures are provided in accordance with SFAS
148.

The company has various stock-based employee compensation plans, which are
described in Note 12 of the Notes to Consolidated Financial Statements. No
stock-based employee compensation cost associated with stock options is
reflected in net earnings as all options granted under those plans had an
exercise price at least equal to the market value of the underlying common stock
on the date of grant.

The following table illustrates the effect on net earnings and earnings per
share if the company had applied the fair value recognition provisions of SFAS
123 to stock-based employee compensation.

In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based
Payment ("SFAS 123R"), which replaces SFAS 123 and supercedes APB 25. SFAS 123R
requires that all share-based payments to employees, including grants of stock
options, be recognized in the financial statements based on their fair value
beginning with the first interim or annual reporting period that begins after
June 15, 2005. The company will be required to adopt SFAS 123R at the beginning
of the third quarter of 2005 and is currently evaluating the requirements of
SFAS 123R, including selection of the transition method. SFAS 123R allows for
prospective and retroactive transition alternatives. The prospective alternative
requires that compensation expense be recorded for all unvested stock-based
awards at the beginning of the first quarter of adoption of SFAS 123R, while the
retroactive alternatives require that compensation expense for all unvested
awards be recognized beginning with the first period restated. The retroactive
alternatives allow

46

for the restatement of prior periods either as of the beginning of the year of
adoption or for all periods presented. The company expects that the adoption of
SFAS 123R will have a material impact on its results of operations and earnings
per share.

Income Taxes:

The provision for income taxes is computed based on pre-tax income included in
the Consolidated Statements of Earnings. The company recognizes deferred tax
assets and liabilities for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this
method, deferred tax assets and liabilities are determined based on the
difference between the financial statement carrying amounts and tax bases of
assets and liabilities using enacted tax rates in effect for the year in which
the differences are expected to reverse.

Derivatives:

The company accounts for derivative instruments in accordance with SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, SFAS No. 138,
Accounting for Certain Derivative Instruments and Certain Hedging Activities,
and SFAS No. 149, Amendment of Statement No. 133 on Derivative Instruments and
Hedging Activities. SFAS 138 and SFAS 149 amended certain portions of SFAS 133.
These statements require that all derivatives, including foreign currency
exchange contracts, be recognized in the statement of financial position at
their fair value. Derivatives that are not hedges must be recorded at fair value
through earnings. If a derivative is a hedge, depending on the nature of the
hedge, changes in the fair value of the derivative are either offset against the
change in fair value of underlying assets or liabilities through earnings or
recognized in other comprehensive earnings (loss) until the underlying hedged
item is recognized in earnings. Any ineffective portion of a derivative's change
in fair value is immediately recognized in earnings.

Net Earnings Per Share:

Basic net earnings per share is calculated by dividing net income by the
weighted average number of shares outstanding during the reported period. The
calculation of diluted net earnings per share is similar to basic, except that
the weighted average number of shares outstanding includes the additional
dilution from potential common stock such as stock options and stock under
long-term incentive plans.

Other Comprehensive Earnings (Loss):

Other comprehensive earnings (loss) refers to revenues, expenses, gains and
losses that under accounting principles generally accepted in the United States
of America are included in comprehensive earnings (loss) but are excluded from
net income as these amounts are recorded directly as an adjustment to
stockholders' equity, net of tax. The company's other comprehensive earnings
(loss) is composed of deferred gains and losses on cash flow hedges, net
unrealized gains and losses on marketable securities, foreign currency
translation adjustments and adjustments made to recognize additional minimum
liabilities associated with the company's defined benefit pension plans.

Segment Data:

The company manufactures and sells a variety of printing and multifunction
products and related supplies and services and is primarily managed along
business and consumer market segments. Refer to Note 17 of the Notes to
Consolidated Financial Statements for additional information regarding the
company's reportable segments.

47

Recent Accounting Pronouncements:

In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),
Consolidation of Variable Interest Entities, an Interpretation of Accounting
Research Bulletin ("ARB") No. 51. FIN 46 requires certain variable interest
entities to be consolidated by the primary beneficiary of the entity if the
equity investors in the entity do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entity to
finance its activities without additional subordinated financial support from
other parties. In December 2003, the FASB issued FIN 46-R, Consolidation of
Variable Interest Entities, an Interpretation of ARB No. 51 (revised December
2003), which replaces FIN 46. FIN 46-R incorporates certain modifications to FIN
46 adopted by the FASB subsequent to the issuance of FIN 46, including
modifications to the scope of FIN 46. Additionally, FIN 46-R also incorporates
much of the guidance previously issued in the form of FASB Staff Positions. For
all special purpose entities ("SPEs") created prior to February 1, 2003, public
entities must apply either the provisions of FIN 46 or early adopt the
provisions of FIN 46-R at the end of the first interim or annual reporting
period ending after December 15, 2003. The company has evaluated the provisions
of this interpretation and determined that the interpretation has no impact on
its financial position, results of operations and cash flows.

In May 2004, the FASB issued Staff Position No. 106-2 ("FSP 106-2"), Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug
Improvement and Modernization Act of 2003 (the "Act"). The Act introduced a
prescription drug benefit under Medicare as well as a federal subsidy to
sponsors of post-retirement health care benefit plans ("plan sponsors") that
provide a benefit that is at least actuarially equivalent to Medicare Part D.
FSP 106-2 superceded FSP 106-1, which was issued in January 2004, and permitted
plan sponsors of a post-retirement health care plan that provides a prescription
drug benefit to make a one-time election to defer accounting for the effects of
the Act until more authoritative guidance on the accounting for the federal
subsidy was issued. The company had elected to defer accounting for the effects
of the Act under FSP 106-1. FSP 106-2 was effective for the first interim or
annual period beginning after June 15, 2004. On January 21, 2005, the Centers
for Medicare and Medicaid Services released final regulations implementing major
provisions of the Act. The company evaluated the provisions of FSP 106-2 and the
new regulations and determined that they did not have a material impact on the
company's financial position, results of operations and cash flows.

In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an amendment of
ARB No. 43, Chapter 4. SFAS 151 amends the guidance in ARB 43, Chapter 4,
"Inventory Pricing," to clarify the accounting for abnormal amounts of idle
facility expense, freight, handling costs, and wasted material (spoilage).
Paragraph 5 of ARB 43, Chapter 4, previously stated that " ... under some
circumstances, items such as idle facility expense, excessive spoilage, double
freight, and rehandling costs may be so abnormal as to require treatment as
current period charges ... .". This Statement requires that those items be
recognized as current-period charges regardless of whether they meet the
criterion of "so abnormal." In addition, SFAS 151 requires that allocation of
fixed production overheads to the costs of conversion be based on the normal
capacity of the production facilities. The provisions of SFAS 151 are applicable
to inventory costs incurred during fiscal years beginning after June 15, 2005,
and is required to be adopted by the company in the first quarter of fiscal
2006. The company is currently evaluating the provisions of this statement.

In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets
- - an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions.
The guidance in APB 29 is based on the principle that exchanges of nonmonetary
assets should be measured based on the fair value of the assets exchanged. The
guidance in that Opinion, however, included certain exceptions to that
principle. SFAS 153 amends APB 29 to eliminate the exception for nonmonetary
exchanges of similar productive assets and replaces it with a general exception
for exchanges of nonmonetary assets that do not have commercial substance. A
nonmonetary

48

exchange has commercial substance if the future cash flows of the entity are
expected to change significantly as a result of the exchange. The provisions of
SFAS 153 are applicable for nonmonetary asset exchanges occurring in fiscal
periods beginning after June 15, 2005. The company is currently evaluating the
provisions of this statement.

In December 2004, the FASB issued SFAS 123R, which replaces SFAS 123 and
supercedes APB 25. SFAS 123R requires that all share-based payments to
employees, including grants of stock options, be recognized in the financial
statements based on their fair value beginning with the first interim or annual
reporting period that begins after June 15, 2005. The company will be required
to adopt SFAS 123R at the beginning of the third quarter of 2005 and is
currently evaluating the requirements of SFAS 123R, including selection of the
transition method. SFAS 123R allows for prospective and retroactive transition
alternatives. The prospective alternative requires that compensation expense be
recorded for all unvested stock-based awards at the beginning of the first
quarter of adoption of SFAS 123R, while the retroactive alternatives require
that compensation expense for all unvested awards be recognized beginning with
the first period restated. The retroactive alternatives allow for the
restatement of prior periods either as of the beginning of the year of adoption
or for all periods presented. The company expects that the adoption of SFAS 123R
will have a material impact on its results of operations and earnings per share.

In December 2004, the FASB issued FSP 109-1, Application of FASB Statement No.
109, Accounting for Income Taxes, for the Tax Deduction Provided to U.S.-Based
Manufacturers by the American Jobs Creation Act of 2004 ("FSP 109-1"). FSP 109-1
clarifies that the tax deduction for domestic manufacturers under the American
Jobs Creation Act of 2004 should be accounted for as a special deduction in
accordance with SFAS No. 109, Accounting for Income Taxes. The FSP, issued on
December 21, 2004, went into effect upon being issued.

In December 2004, the FASB also issued FSP 109-2, Accounting and Disclosure
Guidance for the Foreign Earnings Repatriation Provision within the American
Jobs Creation Act of 2004 ("FSP 109-2"). FSP 109-2 provides enterprises more
time (beyond the financial-reporting period during which the American Jobs
Creation Act took effect) to evaluate the impact on the enterprise's plan for
reinvestment or repatriation of certain foreign earnings for purposes of
applying SFAS 109. The FSP, issued on December 21, 2004, went into effect upon
being issued. The company is not yet in a position to decide on whether, and to
what extent, it might repatriate foreign earnings that have not yet been
remitted to the U.S. The company expects to conclude its analysis of this
repatriation incentive during 2005.

Reclassifications:

Certain prior year amounts have been reclassified, if applicable, to conform to
the presentation.

49

3. MARKETABLE SECURITIES

The company evaluates its marketable securities in accordance with SFAS No. 115,
Accounting for Certain Investments in Debt and Equity Securities, and has
determined that all of its investments in marketable securities should be
classified as available-for-sale and reported at fair value, with unrealized
gains and losses recorded in other comprehensive earnings (loss). The fair
values of the company's available-for-sale marketable securities are based on
quoted market prices or, in some cases, the company's amortized cost, which
approximates fair value due to the frequent resetting of interest rates
resulting in repricing of the investments. As of December 31, 2004, the company
had unrealized losses of $0.9 million related to its marketable securities. The
company had no unrealized gains or losses related to its marketable securities
as of December 31, 2003. The unrealized losses as of December 31, 2004, have
been in a continuous loss position for less than 12 months. The company assesses
its marketable securities for other-than-temporary declines in value by
considering various factors that include, among other things, any events that
may affect the creditworthiness of a security's issuer, the length of time the
security has been in a loss position, and the company's ability and intent to
hold the security until a forecasted recovery of fair value that may include
holding the security to maturity.

At December 31, 2004, the company's available-for-sale marketable securities
consisted of the following:

Other debt securities consist of asset-backed securities and collateralized
mortgage obligations.

At December 31, 2003, the company's available-for-sale marketable securities
consisted of the following:

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Although contractual maturities of the company's debt securities may be greater
than one year, the investments are classified as current assets in the
Consolidated Statements of Financial Position due to the company's expected
holding period of less than one year. The contractual maturities of the
company's available-for-sale marketable debt securities noted above were as
follows:

Proceeds from the sales and maturities of the company's available-for-sale
marketable securities were $2,437.9 million in 2004 and $662.3 million in 2003.
The company recognized gross realized gains and gross realized losses from these
sales totaling $0.2 million and $0.1 million, respectively, in 2004. The company
did not incur any gross realized gains or losses from sales during 2003. The
company uses the specific identification method when accounting for the costs of
its available-for-sale marketable securities sold.

4. TRADE RECEIVABLES

The company's trade receivables are reported in the Consolidated Statements of
Financial Position net of allowances for doubtful accounts and product returns.
Trade receivables consisted of the following at December 31:

In the U.S., the company sells a majority of its receivables to its wholly-owned
subsidiary, Lexmark Receivables Corporation ("LRC"), which then sells the
receivables to an unrelated third party. The financial results of LRC are
included in the company's consolidated financial results. LRC is a separate
legal entity with its own separate creditors who, in a liquidation of LRC, would
be entitled to be satisfied out of LRC's assets prior to any value in LRC
becoming available for equity claims of the company. The company accounts for
the transfers of receivables as sales transactions.

In October 2001, the company entered into an agreement to sell its U.S. trade
receivables on a limited recourse basis that allowed for a maximum amount of
financing availability of $225.0 million. In October 2003, the agreement was
amended and the maximum amount of U.S. trade receivables to be sold was
decreased to $200.0 million. In October 2004, the company entered into an
amended and restated agreement to sell its U.S. trade receivables on a limited
recourse basis. The amended agreement allows for a maximum financing
availability of $200.0 million under this facility. The primary purpose of the
amendment was to extend the term of the facility to October 16, 2007, with
required annual renewal of commitments in October 2005 and 2006.

This facility contains customary affirmative and negative covenants as well as
specific provisions related to the quality of the accounts receivables sold. As
collections reduce previously sold receivables, the company may replenish these
with new receivables. The company bears a

51

limited risk of bad debt losses on U.S. trade receivables sold, since the
company over-collateralizes the receivables sold with additional eligible
receivables. The company addresses this risk of loss in its allowance for
doubtful accounts. Receivables sold may not include amounts over 90 days past
due or concentrations over certain limits with any one customer. At December 31,
2004 and 2003, the facility had no U.S. trade receivables sold and outstanding.

Expenses incurred under this program totaling $0.4 million, $0.3 million and
$1.3 million for 2004, 2003 and 2002, respectively, are included on the other
expense line in the Consolidated Statements of Earnings.

5. INVENTORIES

Inventories consisted of the following at December 31:

6. PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment consisted of the following at December 31:

Depreciation expense was $133.8 million, $148.1 million and $137.5 million for
2004, 2003 and 2002, respectively.

7. ACCRUED LIABILITIES

Accrued liabilities consisted of the following at December 31:

52

In accordance with the disclosure requirements of FIN 45, changes in the
company's aggregate warranty liability, which includes both warranty and
extended warranty (deferred revenue), are presented below.

Both warranty and the short-term portion of extended warranty are included on
the accrued liabilities line in the Consolidated Statements of Financial
Position. The long-term portion of extended warranty is included on the other
liabilities line in the Consolidated Statements of Financial Position.

8. DEBT

LONG-TERM DEBT

The company has outstanding $150.0 million principal amount of 6.75% senior
notes due May 15, 2008, which was initially priced at 98.998%, to yield 6.89% to
maturity. A balance of $149.5 million (net of unamortized discount of $0.5
million) was outstanding at December 31, 2004. At December 31, 2003, the balance
was $149.3 million (net of unamortized discount of $0.7 million). The senior
notes contain typical restrictions on liens, sale leaseback transactions,
mergers and sales of assets. There are no sinking fund requirements on the
senior notes and they may be redeemed at any time at the option of the company,
at a redemption price as described in the related indenture agreement, as
supplemented and amended, in whole or in part.

During October 2003, the company entered into interest rate swap contracts to
convert its $150.0 million principal amount of 6.75% senior notes from a fixed
interest rate to a variable interest rate. Interest rate swaps with a notional
amount of $150.0 million were executed whereby the company will receive interest
at a fixed rate of 6.75% and pay interest at a variable rate of approximately
2.76% above the six-month London Interbank Offered Rate ("LIBOR"). These
interest rate swaps have a maturity date of May 15, 2008, which is equivalent to
the maturity date of the senior notes.

CREDIT FACILITY

Effective May 29, 2002, the company entered into a $500.0 million unsecured,
revolving credit facility with a group of banks, including a $200.0 million
364-day portion and a $300.0 million 3-year portion. Upon entering into the
credit agreement, the company terminated the prior $300.0 million unsecured,
revolving credit facility that was due to expire on January 27, 2003. There were
no amounts outstanding under the prior facility upon its termination.

Under the credit facility, the company may borrow in dollars, euros and certain
other currencies. The interest rate ranges from 0.35% to 1.25% above the LIBOR
for borrowings denominated in U.S. dollars, the Eurocurrency Interbank Offered
Rate ("EURIBOR") for borrowings denominated in euros, or other relevant
international interest rate for borrowings denominated in another currency. The
interest rate spread is based upon the company's debt ratings. In addition, the
company is required to pay a facility fee on the line of credit of 0.075% to
0.25% based upon the company's debt ratings. The interest and facility fees are
payable quarterly.

53

The credit agreement contains customary default provisions, leverage and
interest coverage restrictions and certain restrictions on secured and
subsidiary debt, disposition of assets, liens and mergers and acquisitions. The
364-day portion of the $500.0 million credit facility had a maturity date of May
28, 2003. During May 2003, each lender approved the extension of the $200.0
million 364-day portion of the revolving credit facility with a new maturity
date of May 26, 2004. The company did not renew the $200.0 million 364-day
portion of the revolving credit facility in 2004. The 3-year portion of the
credit facility has a maturity date of May 29, 2005. As of December 31, 2004 and
2003, there were no amounts outstanding under the credit facility.

Effective January 20, 2005, the company entered into a $300.0 million 5-year
senior, unsecured, multicurrency revolving credit facility with a group of
banks. Upon entering into the new credit agreement, the company terminated the
prior $300.0 million unsecured, revolving credit facility that was due to expire
on May 29, 2005. There were no amounts outstanding under the prior facility upon
its termination. Under the new credit facility, the company may borrow in
dollars, euros, British pounds sterling and Japanese yen. Under certain
circumstances, the aggregate amount available under the new facility may be
increased to a maximum of $500.0 million.

Interest on all borrowings under the new facility depends upon the type of loan,
namely alternative base rate loans, swingline loans or eurocurrency loans.
Alternative base rate loans bear interest at the greater of the prime rate or
the federal funds rate plus one-half of one percent. Swingline loans (limited to
$50.0 million) bear interest at an agreed upon rate at the time of the
borrowing. Eurocurrency loans bear interest at the sum of (i) a LIBOR rate for
the applicable currency and interest period and (ii) an interest rate spread
based upon the company's debt ratings ranging from 0.18% to 0.80%. In addition,
the company is required to pay a facility fee on the $300.0 million line of
credit of 0.07% to 0.20% based upon the company's debt ratings. The interest and
facility fees are payable at least quarterly.

The new credit agreement contains usual and customary default provisions,
leverage and interest coverage restrictions and certain restrictions on secured
and subsidiary debt, disposition of assets, liens and mergers and acquisitions.
The $300.0 million new credit facility has a maturity date of January 20, 2010.

SHORT-TERM DEBT

The company's Brazilian operation has a short-term, uncommitted line of credit
with an outstanding balance of $1.5 million and $1.1 million at December 31,
2004 and 2003, respectively. The interest rate on this line of credit varies
based upon the local prevailing interest rates at the time of borrowing, and
averaged approximately 19% and 25%, during 2004 and 2003, respectively.

During 2002, the company's operation in the People's Republic of China entered
into a short-term, uncommitted revolving loan facility. As of December 31, 2004
and 2003, there were no amounts outstanding under this facility. The interest
rate on this facility varies based upon the local prevailing interest rates at
the time of borrowing. While no amounts were outstanding under this facility at
December 31, 2004 and 2003, it was utilized during 2004 and 2003 and the
interest rate averaged approximately 5% during 2004 and 2003.

OTHER

In February 2001, the company filed a shelf registration statement with the SEC
to register $200.0 million of debt securities. Due to the company's strong cash
position, in early 2004 the company determined that it did not plan to utilize
the shelf registration, and on January 28, 2004, withdrew its registration
pursuant to the rules and regulations of the SEC.

Total cash paid for interest amounted to $10.8 million, $11.1 million and $12.6
million in 2004, 2003 and 2002, respectively.

54

The components of interest (income) expense, net in the Consolidated Statements
of Earnings were as follows:

9. INCOME TAXES

The provision for income taxes consisted of the following:

Earnings before income taxes were as follows:

The company realized an income tax benefit from the exercise of certain stock
options in 2004, 2003 and 2002 of $43.6 million, $37.2 million and $31.3
million, respectively. This benefit resulted in a decrease in current income
taxes payable and an increase in capital in excess of par.

55

Significant components of deferred income tax assets and (liabilities) at
December 31 were as follows:

The company has non-U.S. tax loss carryforwards of $10.4 million, which have an
indefinite carryforward period.

During 2004, the Internal Revenue Service ("IRS") completed its examination of
the company's income tax returns for all years through 2001. As a result of the
completion of those audits, the company reversed previously accrued taxes,
reducing the income tax provision by $20.0 million, or $0.15 per share, in the
third quarter of 2004. The IRS has now started its examination of tax years 2002
and 2003. The company and its subsidiaries are also subject to tax examinations
in various state and foreign jurisdictions. The company believes that adequate
amounts have been provided for any adjustments that may result from these
examinations.

Deferred income taxes have not been provided on the undistributed earnings of
foreign subsidiaries. Undistributed earnings of non-U.S. subsidiaries included
in the consolidated retained earnings were approximately $1,234 million as of
December 31, 2004. It is not practicable to estimate the amount of additional
tax that may be payable on the foreign earnings. Other than considering the
implications of the American Jobs Creation Act of 2004 discussed in the next
paragraph, the company does not plan to initiate any action that would
precipitate the payment of income taxes.

On October 22, 2004, the President signed the American Jobs Creation Act of 2004
(the "Jobs Act"). The Jobs Act creates a temporary incentive for U.S.
corporations to repatriate accumulated income earned abroad by providing an 85
percent dividends received deduction for certain dividends from controlled
foreign corporations. The deduction is subject to a number of limitations, and
as of today, uncertainty remains as to how to interpret numerous provisions in
the Jobs Act. The company is not yet in a position to decide on whether, and to
what extent, it might repatriate foreign earnings that have not yet been
remitted to the U.S. Based on the company's analysis to date, it is possible
that the company could repatriate as much as $683.9 million. If that full amount
is repatriated in 2005, the estimated income tax effect of that repatriation
would be approximately $70 million, based on the information available and the
law in effect on December 31, 2004. The company expects to conclude its analysis
of this repatriation incentive during 2005.

56

A reconciliation of the provision for income taxes using the U.S. statutory rate
and the company's effective tax rate was as follows:

Cash paid for income taxes was $156.4 million, $90.4 million and $94.5 million
in 2004, 2003 and 2002, respectively.

10. STOCKHOLDERS' EQUITY

The Class A common stock is voting and exchangeable for Class B common stock in
very limited circumstances. The Class B common stock is non-voting and is
convertible, subject to certain limitations, into Class A common stock.

At December 31, 2004, approximately 712.8 million and 1.8 million shares of
Class A and Class B common stock were unissued and unreserved. These shares are
available for a variety of general corporate purposes, including future public
offerings to raise additional capital and for facilitating acquisitions.

In October 2004, the company received authorization from the board of directors
to repurchase an additional $1.0 billion of its Class A common stock for a total
repurchase authority of $2.4 billion. At December 31, 2004, there was
approximately $0.9 billion of share repurchase authority remaining. This
repurchase authority allows the company, at management's discretion, to
selectively repurchase its stock from time to time in the open market or in
privately negotiated transactions depending upon market price and other factors.
During 2004, the company repurchased approximately 3.2 million shares at a cost
of approximately $281 million. As of December 31, 2004, since the inception of
the program, the company had repurchased approximately 38.0 million shares for
an aggregate cost of approximately $1.5 billion. As of December 31, 2004, the
company had reissued 0.4 million shares of previously repurchased shares in
connection with certain of its employee benefit programs. As a result of these
issuances, the net treasury shares outstanding at December 31, 2004, were 37.6
million.

In 1998, the company's board of directors adopted a stockholder rights plan (the
"Rights Plan") which provides existing stockholders with the right to purchase
one one-thousandth (0.001) of a share of Series A Junior Participating preferred
stock for each share of Class A and Class B common stock held in the event of
certain changes in the company's ownership. The rights will expire on January
31, 2009, unless earlier redeemed by the company.

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11. EARNINGS PER SHARE (EPS)

The following table presents a reconciliation of the numerators and denominators
of the basic and diluted net EPS calculations for the years ended December 31:

Stock options to purchase an additional 1.3 million, 1.4 million and 2.1 million
shares of Class A common stock in 2004, 2003 and 2002, respectively, were
outstanding but were not included in the computation of diluted net earnings per
share because the options' exercise prices were greater than the average market
price of the common shares and, therefore, the effect would have been
antidilutive.

12. STOCK INCENTIVE PLANS

The company has various stock incentive plans to encourage employees and
nonemployee directors to remain with the company and to more closely align their
interests with those of the company's stockholders. Under the employee plans, as
of December 31, 2004, approximately 6.9 million shares of Class A common stock
are reserved for future grants in the form of stock options, stock appreciation
rights, restricted stock, performance shares or deferred stock units (of which
up to 3.0 million shares can be used for restricted stock, performance shares
and deferred stock units). Under the nonemployee director plan, as of December
31, 2004, approximately 0.1 million shares of Class A common stock are reserved
for future grants in the form of stock options and deferred stock units. As of
December 31, 2004, awards under the programs have been limited to stock options,
restricted stock, performance shares and deferred stock units.

The exercise price of options awarded under stock option plans is at least equal
to the fair market value of the underlying common stock on the date of grant.
Generally options expire ten years from the date of grant. Options granted
during 2004 vest over a three-year period, based upon continued employment or
the completion of three years of service on the board of directors. Prior to
2004, options granted generally became fully vested at the end of five years.

The company applies APB 25 and related interpretations in accounting for its
plans. Accordingly, no compensation expense has been recognized for its
stock-based compensation plans other than for restricted stock,
performance-based awards and deferred stock units. Refer to significant
accounting policies -- stock-based compensation in Note 2 of the Notes to
Consolidated Financial Statements for the effects on net earnings and earnings
per share had the company applied the fair value methodology prescribed under
SFAS 123, as amended by SFAS 148.

The weighted average fair value of options granted during 2004, 2003 and 2002
was $16.45, $25.94 and $24.14 per share, respectively.

58

The fair value of each option grant on the grant date was estimated using the
Black-Scholes option-pricing model with the following assumptions:

A summary of the status of the company's stock option plans as of December 31,
2004, 2003 and 2002 and changes during the years then ended is presented below:

As of December 31, 2004, 2003 and 2002, there were 5.3 million, 5.0 million and
5.4 million options exercisable, respectively.

The following table summarizes information about stock options outstanding and
exercisable at December 31, 2004:

59

As of December 31, 2004, the company had granted approximately 576,000
restricted stock units and supplemental deferred stock units with various
vesting periods. During 2004, 2003 and 2002, respectively, the company granted
77,000, 50,000 and 29,000 restricted stock units and supplemental deferred stock
units with weighted average grant prices of $83.88, $60.78 and $52.02. As of
December 31, 2004, there were approximately 290,000 restricted stock units and
supplemental deferred stock units outstanding. The cost of the awards,
determined to be the fair market value of the shares at the date of grant, is
charged to compensation expense ratably over the vesting periods.

The company has also issued approximately 354,000 deferred stock units to
certain members of management who have elected to defer all or a portion of
their annual bonus into such units and to certain nonemployee directors who
elected to defer all or a portion of their annual retainer, chair retainer
and/or meeting fees into such units. These deferred stock units are 100% vested
at all times. As of December 31, 2004, there were approximately 164,000 such
deferred stock units outstanding.

In addition, the company awarded approximately 134,000 performance shares, the
vesting of which was based on the attainment of certain performance goals by the
end of the four-year period 1997 through 2000. Based on the certification in
early 2001 that such performance goals were satisfied, the shares were fully
vested but receipt of these shares was deferred by the grantees. In January
2003, 113,000 of these shares were issued and 21,000 shares were further
deferred until February 2005. The compensation expense in connection with the
performance shares was estimated over the four year period based on the fair
market value of the shares during that period. In order to mitigate the impact
of stock price changes on compensation expense, the company entered into a
forward equity contract on its common stock during 2000 which was settled in
cash in 2001.

The company recorded compensation expense of $2.5 million, $2.1 million and $3.0
million in 2004, 2003 and 2002, respectively, related to these stock incentive
plans.

The company also has an Employee Stock Purchase Plan ("ESPP") which enables
substantially all regular employees to purchase full or fractional shares of
Lexmark Class A common stock through payroll deductions of up to 10% of eligible
compensation. Effective July 1, 2002, the ESPP was amended whereby the share
price paid by an employee changed from 85% of the closing market price on the
last business day of each month, to 85% of the lesser of the closing market
price on (i) the last business day immediately preceding the first day of the
respective offering period and (ii) the last business day of the respective
offering period. The current plan provides semi-annual offering periods
beginning each January 1 and July 1. During 2004, 2003 and 2002, employees paid
the company $8.1 million, $7.9 million and $4.5 million, respectively, to
purchase approximately 125,000 shares, 160,000 shares and 93,000 shares,
respectively. As of December 31, 2004, there were approximately 2.3 million
shares of Class A common stock reserved for future purchase under the ESPP.

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13. EMPLOYEE PENSION AND POSTRETIREMENT PLANS

The company and its subsidiaries have defined benefit and defined contribution
pension plans that cover a majority of its regular employees, and a supplemental
plan that covers certain executives. Medical, dental and life insurance plans
for retirees are provided by the company and certain of its non-U.S.
subsidiaries.

DEFINED BENEFIT PLANS

The non-U.S. pension plans are not significant and use economic assumptions
similar to the U.S. pension plan and therefore are not shown separately in the
following disclosures.

Obligations and funded status at December 31:

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The accumulated benefit obligation for all of the company's defined benefit
pension plans was $736.1 million and $684.1 million at December 31, 2004 and
2003, respectively.

The following information is provided for pension plans with an accumulated
benefit obligation in excess of plan assets at December 31:

Components of net periodic cost (benefit):

Assumptions:

Plan assets:

Plan assets are invested in equity securities, government and agency securities,
corporate debt and annuity contracts. The U.S. defined benefit plan comprises a
significant portion of the assets and liabilities relating to the defined
benefit plans. The investment goal of the U.S. defined benefit plan is to
achieve an adequate net investment return in order to provide for future benefit
payments to its participants. The target asset allocation percentages approved
by the

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compensation and pension committee of the company's board of directors are 75%
equity securities and 25% fixed income securities. The plan currently employs
professional investment managers to invest in two asset classes: U.S. equity and
U.S. fixed income. Each investment manager operates under an investment
management contract that includes specific investment guidelines, requiring
among other actions, adequate diversification, prudent use of derivatives and
standard risk management practices such as portfolio constraints relating to
established benchmarks. The plan currently uses a combination of both active
management and passive index funds to achieve its investment goals.

The company's U.S. pension plan's weighted-average asset allocations at December
31, 2004 and 2003, by asset category were as follows:

DEFINED CONTRIBUTION PLANS

The company also sponsors defined contribution plans for employees in certain
countries. Company contributions are based upon a percentage of employees'
contributions. The company's expense under these plans was $12.8 million, $12.8
million and $11.4 million in 2004, 2003 and 2002, respectively.

ADDITIONAL INFORMATION

Other postretirement benefits:

For measurement purposes, a 9.0% annual rate of increase in the per capita cost
of covered health care benefits was assumed for 2005. The rate is assumed to
decrease gradually to 5.25% in 2012 and remain at that level thereafter. Since
the net employer costs for postretirement medical benefits reach the preset caps
within the next one to three years, a 1% increase or decrease in trend has a de
minimis effect on costs.

Related to the company's acquisition of the Information Products Corporation
from IBM in 1991, IBM agreed to pay for its pro rata share (currently estimated
at $77.7 million) of future postretirement benefits for all the company's U.S.
employees based on pro rated years of service with IBM and the company.

As discussed in Note 2 of the Notes to Consolidated Financial Statements, FSP
106-2, Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug Improvement and Modernization Act of 2003 (the "Act"), was
effective for the first interim or annual period beginning after June 15, 2004.
Also, on January 21, 2005, the Centers for Medicare and Medicaid Services
released final regulations implementing major provisions of the Act. The company
is eligible to receive the subsidy, but only for a limited number of retired
individuals who are receiving benefits under a plan provision that is no longer
offered to employees. The effects of the Act and the new regulations were not
significant for the company.

Cash flows:

In 2005, the company is currently expecting to contribute $6.0 million to its
pension and postretirement plans.

63

The company estimates that the future benefits payable for the pension and
postretirement plans are as follows:

14. DERIVATIVES, FINANCIAL INSTRUMENTS AND RISK MANAGEMENT

DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

The company's activities expose it to a variety of market risks, including the
effects of changes in foreign currency exchange rates and interest rates. The
company's risk management program seeks to reduce the potentially adverse
effects that market risks may have on its operating results.

The company maintains a foreign currency risk management strategy that uses
derivative instruments to protect its interests from unanticipated fluctuations
in earnings and cash flows caused by volatility in currency exchange rates. The
company does not hold or issue financial instruments for trading purposes nor
does it hold or issue leveraged derivative instruments. The company maintains an
interest rate risk management strategy that may, from time to time use
derivative instruments to minimize significant, unanticipated earnings
fluctuations caused by interest rate volatility. By using derivative financial
instruments to hedge exposures to changes in exchange rates and interest rates,
the company exposes itself to credit risk and market risk. The company manages
exposure to counterparty credit risk by entering into derivative financial
instruments with highly rated institutions that can be expected to fully perform
under the terms of the agreement. Market risk is the adverse effect on the value
of a financial instrument that results from a change in currency exchange rates
or interest rates. The company manages exposure to market risk associated with
interest rate and foreign exchange contracts by establishing and monitoring
parameters that limit the types and degree of market risk that may be
undertaken.

The company uses the following hedging strategies to reduce the potentially
adverse effects that market volatility may have on its operating results:

Fair Value Hedges: Fair value hedges are hedges of recognized assets or
liabilities. The company enters into forward exchange contracts to hedge actual
purchases and sales of inventories. The forward contracts used in this program
generally mature in three months or less, consistent with the related purchase
and sale commitments. Foreign exchange option contracts, as well as forward
contracts, may be used as fair value hedges in situations where derivative
instruments, for which hedge accounting has been discontinued, expose earnings
to further change in exchange rates. The company is using interest rate swaps to
convert its fixed rate financing activities to variable rates.

Cash Flow Hedges: Cash flow hedges are hedges of forecasted transactions or of
the variability of cash flows to be received or paid related to a recognized
asset or liability. The company enters into foreign exchange options and forward
exchange contracts expiring within eighteen months as hedges of anticipated
purchases and sales that are denominated in foreign currencies. These contracts
are entered into to protect against the risk that the eventual cash flows
resulting from such transactions will be adversely affected by changes in
exchange rates. The company also enters into currency swap contracts to hedge
foreign currency risks that result from the transfer

64

of various currencies within the company. The currency swap contracts entered
into generally expire within one month.

ACCOUNTING FOR DERIVATIVES AND HEDGING ACTIVITIES

All derivatives are recognized in the Consolidated Statements of Financial
Position at their fair value. Fair values for the company's derivative financial
instruments are based on quoted market prices of comparable instruments or, if
none are available, on pricing models or formulas using current assumptions. On
the date the derivative contract is entered into, the company designates the
derivative as either a fair value or cash flow hedge. Changes in the fair value
of a derivative that is highly effective as -- and that is designated and
qualifies as -- a fair value hedge, along with the loss or gain on the hedged
asset or liability are recorded in current period earnings on the cost of
revenue line in the Consolidated Statements of Earnings. Changes in the fair
value of a derivative that is highly effective as -- and that is designated and
qualifies as -- a cash flow hedge are recorded in other comprehensive earnings
(loss), until the underlying transactions occur, at which time the loss or gain
on the derivative is recorded in current period earnings on the cost of revenue
line in the Consolidated Statements of Earnings.

At December 31, 2004, the company had derivative assets of $13.6 million
recorded on the prepaid expenses and other current assets line in the
Consolidated Statements of Financial Position as well as derivative liabilities
of $49.5 million recorded on the accrued liabilities line in the Consolidated
Statements of Financial Position. At December 31, 2003, the company had
derivative assets of $8.1 million recorded on the prepaid expenses and other
current assets line in the Consolidated Statements of Financial Position as well
as derivative liabilities of $50.0 million recorded on the accrued liabilities
line in the Consolidated Statements of Financial Position. As of December 31,
2004, a total of $28.8 million of deferred net losses on derivative instruments
were accumulated in other comprehensive earnings (loss), of which $28.8 million
is expected to be reclassified to earnings during the next twelve months. As of
December 31, 2003, a total of $36.5 million of deferred net losses on derivative
instruments were accumulated in other comprehensive earnings (loss), of which
$35.3 million was reclassified to earnings during 2004.

The company formally documents all relationships between hedging instruments and
hedged items, as well as its risk management objective and strategy for
undertaking various hedge items. This process includes linking all derivatives
that are designated as fair value and cash flow to specific assets and
liabilities on the balance sheet or to forecasted transactions. The company also
formally assesses, both at the hedge's inception and on an ongoing basis,
whether the derivatives that are used in hedging transactions are highly
effective in offsetting changes in fair value or cash flows of hedged items.
When it is determined that a derivative is not highly effective as a hedge or
that it has ceased to be a highly effective hedge, the company discontinues
hedge accounting prospectively, as discussed below.

The company discontinues hedge accounting prospectively when (1) it is
determined that a derivative is no longer effective in offsetting changes in the
fair value or cash flows of a hedged item; (2) the derivative expires or is
sold, terminated, or exercised or (3) the derivative is discontinued as a hedge
instrument, because it is unlikely that a forecasted transaction will occur.
When hedge accounting is discontinued because it is determined that the
derivative no longer qualifies as an effective fair value hedge, the derivative
will continue to be carried in the Consolidated Statements of Financial Position
at its fair value. When hedge accounting is discontinued because it is probable
that a forecasted transaction will not occur, the derivative will continue to be
carried in the Consolidated Statements of Financial Position at its fair value,
and gains and losses that were accumulated in other comprehensive earnings
(loss) are recognized immediately in earnings. In all other situations in which
hedge accounting is discontinued, the derivative will be carried at its fair
value in the Consolidated Statements of Financial Position, with changes in its
fair value recognized in current period earnings. A fair

65

value hedge is entered into when the derivative instrument, for which hedge
accounting has been discontinued, exposes earnings to further change in exchange
rates. An immaterial portion of the company's cash flow hedges was determined to
be ineffective as of December 31, 2004 and 2003, because it was unlikely that
the forecasted transactions would occur. During 2004 and 2003, an immaterial
loss was reclassified to current period earnings.

The company recorded $7.1 million, $10.4 million and $13.0 million of aggregate
net foreign currency transaction losses in 2004, 2003 and 2002, respectively.
The aggregate foreign currency transaction net loss amounts include the
gains/losses on the company's foreign currency fair value hedges for all periods
presented.

FINANCIAL INSTRUMENTS

At December 31, 2004, the carrying value of the company's long-term debt was
$149.5 million and the fair value was $162.7 million. At December 31, 2003, the
carrying value of the company's long-term debt was $149.3 million and the fair
value was $166.9 million. The fair value of the long-term debt was estimated
based on current rates available to the company for debt with similar
characteristics. At December 31, 2004 and 2003, the carrying value of the
company's short-term debt was $1.5 million and $1.1 million, respectively, which
approximated its fair value.

During October 2003, the company entered into interest rate swap contracts to
convert its $150.0 million principal amount of 6.75% senior notes from a fixed
interest rate to a variable interest rate. The interest rate swaps are
designated as a fair value hedge of the company's $150.0 million long-term debt.
The interest rate swaps are recorded at their fair value and the company's
long-term debt is adjusted by the same corresponding value in accordance with
the short-cut method of SFAS 133. The fair value of the interest rate swaps is
combined with the fair value adjustment of the company's long-term debt due to
immateriality and is presented on the long-term debt line in the company's
Consolidated Statements of Financial Position. At December 31, 2004 and 2003,
the fair value of the interest rate swap contracts was a liability of $0.2
million and an asset of $0.4 million, respectively.

CONCENTRATIONS OF RISK

The company's main concentrations of credit risk consist primarily of temporary
cash investments, marketable securities and trade receivables. Cash and
marketable securities investments are made in a variety of high quality
securities with prudent diversification requirements. Credit risk related to
trade receivables is dispersed across a large number of customers located in
various geographic areas. Collateral such as letters of credit and bank
guarantees is required in certain circumstances. The company sells a large
portion of its products through third-party distributors and resellers and
original equipment manufacturer ("OEM") customers. If the financial condition or
operations of these distributors, resellers and OEM customers were to
deteriorate substantially, the company's operating results could be adversely
affected. The three largest distributor, reseller and OEM customer trade
receivable balances collectively represented approximately 31% of total trade
receivables at December 31, 2004, and approximately 29% at December 31, 2003, of
which Dell receivables were $147.2 million or 18.8% of total trade receivables
at December 31, 2004, and $102.1 million or 15.4% of total trade receivables at
December 31, 2003. However, the company performs ongoing credit evaluations of
the financial position of its third-party distributors, resellers and other
customers to determine appropriate credit limits.

The company generally has experienced longer accounts receivable cycles in its
emerging markets, in particular, Asia Pacific and Latin America, when compared
to its U.S. and European markets. In the event that accounts receivable cycles
in these developing markets lengthen further, the company could be adversely
affected.

66

The company also procures a wide variety of components used in the manufacturing
process. Although many of these components are available from multiple sources,
the company often utilizes preferred supplier relationships to better ensure
more consistent quality, cost and delivery. The company also sources some
printer engines and finished products from OEMs. Typically, these preferred
suppliers maintain alternate processes and/or facilities to ensure continuity of
supply. Although the company plans in anticipation of its future requirements,
should these components not be available from any one of these suppliers, there
can be no assurance that production of certain of the company's products would
not be disrupted.

15. RESTRUCTURING AND OTHER CHARGES

As of December 31, 2002, the company had substantially completed all
restructuring activities and, therefore, reversed approximately $5.9 million
($4.4 million, net of tax) during the fourth quarter of 2002. The reversal was
primarily due to lower severance costs (approximately $3.5 million) and lower
other exit costs (approximately $2.4 million). The severance payments were lower
than originally estimated due to higher than expected attrition, which resulted
in the company being able to achieve headcount reductions at a lower cost.
Although the restructuring activities were substantially complete at year-end
2002 and the employees exited the business, approximately $4.7 million of
severance payments were paid during 2003.

16. COMMITMENTS AND CONTINGENCIES

COMMITMENTS

The company is committed under operating leases (containing various renewal
options) for rental of office and manufacturing space and equipment. Rent
expense (net of rental income of $2.6 million, $2.1 million and $2.0 million)
was $51.7 million, $45.1 million and $41.4 million in 2004, 2003 and 2002,
respectively. Future minimum rentals under terms of non-cancelable operating
leases at December 31 are: 2005-$40.3 million; 2006-$34.8 million; 2007-$28.3
million; 2008-$21.5 million; 2009-$17.9 million and thereafter-$14.8 million.
Future sublease rental income at December 31 is: 2005-$0.4 million; 2006-$0.4
million and thereafter-$0.3 million.

CONTINGENCIES

Certain countries (primarily in Europe) and/or collecting societies representing
copyright owners' interests have commenced proceedings to impose fees on devices
(such as scanners, printers and multifunction devices) alleging the copyright
owners are entitled to compensation because these devices enable reproducing
copyrighted content. Other countries are also considering imposing fees on
certain devices. The amount of fees, if imposed, would depend on the number of
products sold and the amounts of the fee on each product, which will vary by
product and by country. The company has accrued amounts that it believes are
adequate to address the currently pending copyright fee proceedings. The
financial impact on the company, which will depend in large part upon the
outcome of local legislative processes, the company's and other industry
participants' outcome in contesting the fees and the company's ability to
mitigate that impact by increasing prices, which ability will depend upon
competitive market conditions, remains uncertain.

The company is subject to legal proceedings and claims that arise in the
ordinary course of business. The company does not believe that the outcome of
any of those matters will have a material adverse effect on the company's
financial position, results of operations and cash flows.

67

17. SEGMENT DATA

The company manufactures and sells a variety of printing and multifunction
products and related supplies and services and is primarily managed along
business and consumer market segments. The company evaluates the performance of
its segments based on revenue and operating income, and does not include segment
assets or other income and expense items for management reporting purposes.
Segment operating income includes selling, general and administrative, research
and development and other expenses, certain of which are allocated to the
respective segments based on internal measures and may not be indicative of
amounts that would be incurred on a stand alone basis or may not be indicative
of results of other enterprises in similar businesses. Additionally, segment
operating income excludes significant expenses that are managed outside of the
reporting segments.

The following table includes information about the company's reportable segments
for and as of December 31:

During fiscal 2004, one customer, Dell, accounted for $570 million, or 10.7
percent of the company's total revenue. Sales to Dell are included in both the
business and consumer market segments. In 2003 and 2002, no single customer
accounted for 10 percent or more of total revenue.

68

The following are revenue and long-lived asset information by geographic area
for and as of December 31:

Other International revenue includes exports from the United States and Europe.

Long-lived assets include property, plant and equipment, net of accumulated
depreciation.

The following is revenue by product category as of December 31:

69

18. QUARTERLY FINANCIAL DATA (UNAUDITED)

* The sum of the quarterly earnings per share amounts does not necessarily
equal the year-to-date earnings per share due to changes in average share
calculations. This is in accordance with prescribed reporting requirements.

(1) Net earnings for the third quarter of 2004 included a $20.0 million benefit
from the resolution of income tax matters. Diluted EPS was increased by
$0.15 as a result of the resolution of these income tax matters.

70

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of Lexmark International, Inc.:

We have completed an integrated audit of Lexmark International, Inc.'s 2004
consolidated financial statements and of its internal control over financial
reporting as of December 31, 2004 and audits of their 2003 and 2002 consolidated
financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our audits,
are presented below.

Consolidated financial statements and financial statement schedule

In our opinion, the consolidated financial statements listed in the accompanying
index present fairly, in all material respects, the financial position of
Lexmark International, Inc. and its subsidiaries at December 31, 2004 and 2003,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2004 in conformity with accounting
principles generally accepted in the United States of America. In addition, in
our opinion, the financial statement schedule listed in the index appearing
under Item 15(a)(2) presents fairly, in all material respects, the information
set forth therein when read in conjunction with the related consolidated
financial statements. These financial statements and financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these financial statements and financial statement
schedule based on our audits. We conducted our audits of these statements in
accordance with the standards of the Public Company Accounting Oversight Board
(United States). 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 of financial statements includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

Internal control over financial reporting

Also, in our opinion, management's assessment, included in "Management's Report
on Internal Control Over Financial Reporting" appearing under Item 9A, that the
Company maintained effective internal control over financial reporting as of
December 31, 2004 based on the criteria established in Internal
Control -- Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO), is fairly stated, in all
material respects, based on those criteria. Furthermore, in our opinion, the
Company maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2004, based on criteria established in
Internal Control -- Integrated Framework issued by COSO. The Company's
management is responsible for maintaining effective internal control over
financial reporting and for its assessment of the effectiveness of internal
control over financial reporting. Our responsibility is to express opinions on
management's assessment and on the effectiveness of the Company's internal
control over financial reporting based on our audit. We conducted our audit of
internal control over financial reporting in accordance with the standards of
the Public Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in
all material respects. An audit of internal control over financial reporting
includes obtaining an understanding of internal control over financial
reporting, evaluating management's assessment, testing and evaluating the design
and operating effectiveness of internal control, and performing such other
procedures as we consider necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinions.

71

A company's internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company's internal control over
financial reporting includes those policies and procedures that (i) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (ii)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the company are
being made only in accordance with authorizations of management and directors of
the company; and (iii) provide reasonable assurance regarding prevention or
timely detection of unauthorized acquisition, use, or disposition of the
company's assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting
may not prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.

/s/ PricewaterhouseCoopers LLP

PricewaterhouseCoopers LLP
Lexington, Kentucky
February 22, 2005

72

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None

ITEM 9A. CONTROLS AND PROCEDURES

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES

The company's management, with the participation of the company's Chairman and
Chief Executive Officer and Executive Vice President and Chief Financial
Officer, have evaluated the effectiveness of the company's disclosure controls
and procedures as of December 31, 2004. Based upon that evaluation, the
company's Chairman and Chief Executive Officer and Executive Vice President and
Chief Financial Officer have concluded that the company's disclosure controls
and procedures are effective in providing reasonable assurance that the
information required to be disclosed by the company in the reports that it files
under the Securities Exchange Act of 1934, as amended, is recorded, processed,
summarized and reported within the time periods specified in the Securities and
Exchange Commission's rules and forms.

MANAGEMENT'S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

The company's management is responsible for establishing and maintaining
adequate internal control over financial reporting, as such term is defined in
Exchange Act Rule 13a-15(f). Under the supervision and with the participation of
our management, including the Chairman and Chief Executive Officer and Executive
Vice President and Chief Financial Officer, we conducted an evaluation of the
effectiveness of our internal control over financial reporting based upon the
framework in Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission. Based on our evaluation
under the framework in Internal Control-Integrated Framework, our management
concluded that our internal control over financial reporting was effective as of
December 31, 2004. Our management's assessment of the effectiveness of our
internal control over financial reporting as of December 31, 2004 has been
audited by PricewaterhouseCoopers LLP, an independent registered public
accounting firm, and they have issued an attestation report on management's
assessment of the company's internal control over financial reporting, which is
included in their report appearing on pages 71-72.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

There has been no change in the company's internal control over financial
reporting that occurred during the quarter ended December 31, 2004 that has
materially affected, or is reasonably likely to materially affect, the company's
internal control over financial reporting.

ITEM 9B. OTHER INFORMATION

None

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Except with respect to information regarding the executive officers of the
Registrant and the company's code of ethics, the information required by Part
III, Item 10 of this Form 10-K is incorporated by reference herein, and made
part of this Form 10-K, from the company's definitive Proxy Statement for its
2005 Annual Meeting of Stockholders, which will be filed with the Securities and
Exchange Commission, pursuant to Regulation 14A, not later than 120 days after
the end of the fiscal year. The information with respect to the executive
officers of the

73

Registrant is included under the heading "Executive Officers of the Registrant"
in Item 1 above. The company has adopted a code of business conduct and ethics
for directors, officers (including the company's principal executive officer,
principal financial officer and controller) and employees, known as the Code of
Business Conduct. The Code of Business Conduct, as well as the company's
Corporate Governance Principles and the charters of each of the committees of
the board of directors, is available on the Corporate Governance section of the
company's Investor Relations website at http://investor.lexmark.com. The company
also intends to disclose on the Corporate Governance section of its Investor
Relations website any amendments to the Code of Business Conduct and any waivers
from the provisions of the Code of Business Conduct that apply to the principal
executive officer, principal financial officer or controller, and that relate to
any elements of the code of ethics enumerated by the applicable regulation of
the Securities and Exchange Commission (Item 406(b) of Regulation S-K).
Stockholders may request a free copy of the Corporate Governance Principles, the
charters of each of the committees of the board of directors or the Code of
Business Conduct from:

Lexmark International, Inc.
Attention: Investor Relations
One Lexmark Centre Drive
740 West New Circle Road
Lexington, Kentucky 40550
(859) 232-5568

The New York Stock Exchange ("NYSE") requires that the Chief Executive Officer
of each listed company certify annually to the NYSE that he or she is not aware
of any violation by the company of NYSE corporate governance listing standards
as of the date of such certification. The company submitted the certification of
its Chairman and Chief Executive Officer, Paul J. Curlander, for 2004 with its
Annual Written Affirmation to the NYSE on May 20, 2004.

The Securities and Exchange Commission requires that the principal executive
officer and principal financial officer of the company make certain
certifications pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 and
file the certifications as exhibits with each Annual Report on Form 10-K. In
connection with this Annual Report on Form 10-K filed with respect to the year
ended December 31, 2004, these certifications were made by Paul J. Curlander,
Chairman and Chief Executive Officer, and Gary E. Morin, Executive Vice
President and Chief Financial Officer, of the company and are included as
exhibits 31.1 and 31.2 to this Annual Report on Form 10-K.

ITEM 11. EXECUTIVE COMPENSATION

Information required by Part III, Item 11 of this Form 10-K is incorporated by
reference from the company's definitive Proxy Statement for its 2005 Annual
Meeting of Stockholders, which will be filed with the Securities and Exchange
Commission, pursuant to Regulation 14A, not later than 120 days after the end of
the fiscal year, and of which information is hereby incorporated by reference
in, and made part of, this Form 10-K.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS

Information required by Part III, Item 12 of this Form 10-K is incorporated by
reference from the company's definitive Proxy Statement for its 2005 Annual
Meeting of Stockholders, which will be filed with the Securities and Exchange
Commission, pursuant to Regulation 14A, not later than 120 days after the end of
the fiscal year, and of which information is hereby incorporated by reference
in, and made part of, this Form 10-K.

74

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information required by Part III, Item 13 of this Form 10-K is incorporated by
reference from the company's definitive Proxy Statement for its 2005 Annual
Meeting of Stockholders, which will be filed with the Securities and Exchange
Commission, pursuant to Regulation 14A, not later than 120 days after the end of
the fiscal year, and of which information is hereby incorporated by reference
in, and made part of, this Form 10-K.

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES

Information required by Part III, Item 14 of this Form 10-K is incorporated by
reference from the company's definitive Proxy Statement for its 2005 Annual
Meeting of Stockholders, which will be filed with the Securities and Exchange
Commission, pursuant to Regulation 14A, not later than 120 days after the end of
the fiscal year, and of which information is hereby incorporated by reference
in, and made part of, this Form 10-K.

PART IV

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

(a) 1 FINANCIAL STATEMENTS:

Financial statements filed as part of this Form 10-K are included under
Part II, Item 8.

(a) 2 FINANCIAL STATEMENT SCHEDULE:

All other schedules are omitted as the required information is inapplicable or
the information is presented in the consolidated financial statements or related
notes.

(a) 3 EXHIBITS

Exhibits for the company are listed in the Index to Exhibits beginning on page
E-1.

75

LEXMARK INTERNATIONAL, INC. AND SUBSIDIARIES

SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 2002, 2003 AND 2004
(In Millions)

76

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 in the City of Lexington,
Commonwealth of Kentucky, on March 9, 2005.

LEXMARK INTERNATIONAL, INC.

By /s/ Paul J. Curlander
-------------------------------------------
Name: Paul J. Curlander
Title: Chairman and Chief Executive Officer

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 following capacities and on the dates indicated.

77

INDEX TO EXHIBITS

E-1

E-2

- ---------------

* Confidential treatment previously granted by the Securities
and Exchange Commission.
+ Indicates management contract or compensatory plan, contract
or arrangement.
(1) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended March 31, 2000
(Commission File No. 1-14050).
(2) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 2000 (Commission
File No. 1-14050).
(3) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2001
(Commission File No. 1-14050).
(4) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 1998 (Commission
File No. 1-14050).
(5) Incorporated by reference to the company's Amended
Registration Statement on Form 8-A filed with the Commission
on December 22, 2003 (Commission File No. 1-14050).
(6) Incorporated by reference to the company's Form S-1
Registration Statement, Amendment No. 2 (Registration No.
33-97218) filed with the Commission on November 13, 1995.
(7) Incorporated by reference to the company's Quarterly Report
on Form 10-Q/A for the quarter ended September 30, 1996
(Commission File No. 1-14050).
(8) Incorporated by reference to the company's Form S-1
Registration Statement (Registration No. 33-97218) filed
with the Commission on September 22, 1995.
(9) Incorporated by reference to the company's Annual Report on
Form 10-K for the fiscal year ended December 31, 2001
(Commission File No. 1-14050).
(10) Incorporated by reference to the company's Current Report on
Form 8-K filed with the Commission on January 20, 2005
(Commission File No. 1-14050).
(11) Incorporated by reference to the company's Current Report on
Form 8-K filed with the Commission on October 13, 2004
(Commission File No. 1-14050).
(12) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002
(Commission File No. 1-14050).
(13) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2003
(Commission File No. 1-14050).

E-3

(14) Incorporated by reference to the company's Form S-1
Registration Statement, Amendment No. 1 (Registration No.
33-97218), filed with the Commission on October 27, 1995.
(15) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 1999 (Commission
File No. 1-14050).
(16) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended March 31, 2003
(Commission File No. 1-14050).
(17) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended March 31, 2004
(Commission File No. 1-14050).
(18) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended March 31, 1999
(Commission File No. 1-14050).
(19) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 2003 (Commission
File No. 1-14050).
(20) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended June 30, 2004 (Commission
file No. 1-14050).
(21) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 1998
(Commission File No. 1-14050).
(22) Incorporated by reference to the company's Quarterly Report
on Form 10-Q for the quarter ended September 30, 2004
(Commission File No. 1-14050).

E-4