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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: March 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to___________
Commission File Number 1-4471
XEROX CORPORATION
(Exact Name of Registrant as
specified in its charter)
New York 16-0468020
- --------------------------------- ---------------------------------
(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
P.O. Box 1600
Stamford, Connecticut 06904-1600
---------------------------------------------------
(Address of principal executive offices) (Zip Code)
(203) 968-3000
---------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--------- ----------
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at May 31, 2002
----- ---------------------------
Common Stock 727,048,629 shares
1
Forward Looking Statements
From time to time we and our representatives may provide information, whether
orally or in writing, including certain statements in this Quarterly Report on
Form 10-Q, which are forward-looking. These forward-looking statements and other
information are based on our beliefs as well as assumptions made by us based on
and information currently available.
The words "anticipate," "believe," "estimate," "expect," "intend," "will," and
similar expressions, as they relate to us, are intended to identify
forward-looking statements. Such statements reflect our current views with
respect to future events and are subject to certain risks, uncertainties and
assumptions. Should one or more of these risks or uncertainties materialize, or
should underlying assumptions prove incorrect, actual results may vary
materially from those described herein as anticipated, believed, estimated or
expected. We do not intend to update these forward-looking statements.
We are making investors aware that such forward-looking statements, because they
relate to future events, are by their very nature subject to many important
factors which could cause actual results to differ materially from those
contained in the forward-looking statements. Such factors include, but are not
limited to, the following:
Competition--We operate in an environment of significant competition,
driven by rapid technological advances and the demands of customers to
become more efficient. There are a number of companies worldwide with
significant financial resources which compete with us to provide
document processing products and services in each of the markets we
serve, some of whom operate on a global basis. Our success in future
performance is largely dependent upon our ability to compete
successfully in the markets we currently serve and to expand into
additional market segments.
Transition to Digital--Presently, black and white light-lens copiers
represent between 15%-20% of our revenues. This segment of the market is
mature with anticipated declining industry revenues as the market
transitions to digital technology. Some of our new digital products
replace or compete with our current light-lens equipment. Changes in the
mix of products from light-lens to digital, and the pace of that change
as well as competitive developments could cause actual results to vary
from those expected.
Expansion of Color--Color printing and copying represents an important
and growing segment of the market. Printing from computers has both
facilitated and increased the demand for color. A significant part of
our strategy and ultimate success in this changing market is our ability
to develop and market technology that produce color prints and copies
quickly, easily and at reduced cost. Our continuing success in this
strategy depends on our ability to make the investments and commit the
necessary resources in this highly competitive market as well as the
pace of color adoption by our prospective customers.
Pricing--Our success is dependent upon our ability to obtain adequate
pricing for our products and services which provide a reasonable return
to our shareholders. Depending on competitive market factors, future
prices we obtain for our products and services may vary from historical
levels. In addition, pricing actions to offset the effect of currency
devaluations may not prove sufficient to offset further devaluations or
may not hold in the face of customer resistance and/or competition.
2
Customer Financing Activities--On average, we have historically financed
approximately 80 percent of our equipment sales. To fund these
arrangements, we have accessed the credit markets and used cash
generated from operations. The long-term viability and profitability of
our customer financing activities is dependent on our ability to borrow
and the cost of borrowing in these markets. This ability and cost, in
turn, is dependent on our credit ratings. We are currently funding our
customer financing activity from cash generated from operations as well
as from cash on hand, unregistered capital markets offerings and
securitizations. There is no assurance that we will be able to continue
to fund our customer financing activity at present levels. We continue
to negotiate and implement third-party vendor financing programs and
possible monetizations of portions of our existing finance receivable
portfolios, and we continue to actively pursue alternative forms of
financing including securitizations and secured borrowings. These
initiatives are expected to improve our liquidity going forward. Our
ability to continue to offer customer financing and be successful in the
placement of equipment with customers is largely dependent upon
successful implementation of our third party financing initiatives.
Productivity--Our ability to sustain and improve profit margins is
largely dependent on our ability to maintain an efficient, cost-effective
operation. Productivity improvements through process re-engineering,
design efficiency and supplier and manufacturing cost improvements are
required to offset labor cost inflation, potential materials cost
increases and competitive price pressures.
International Operations--We derive approximately 40 percent of our
revenue from operations outside the United States. In addition, we
manufacture or acquire many of our products and/or their components
outside the United States. Our future revenue, cost and results from
operations could be affected by a number of factors, including changes in
foreign currency exchange rates, changes in economic conditions from
country to country, changes in a country's political conditions, trade
protection measures, licensing requirements and local tax issues. Our
ability to enter into new foreign exchange contracts to manage foreign
exchange risk is currently severely limited given our below investment
grade credit ratings, and we anticipate increased volatility in our
results of operations due to changes in foreign exchange rates.
New Products/Research and Development--The process of developing new high
technology products and solutions is inherently complex and uncertain. It
requires accurate anticipation of customers' changing needs and emerging
technological trends. We must then make long-term investments and commit
significant resources before knowing whether these investments will
eventually result in products that achieve customer acceptance and
generate the revenues required to provide anticipated returns from these
investments.
Revenue Trends--Our ability to return to and maintain a consistent trend
of revenue growth over the intermediate to longer term is largely
dependent upon expansion of our worldwide equipment placements as well as
sales of services and supplies occurring after the initial equipment
placement (post sale revenue) in the key growth markets of color and
multifunction devices. Revenue growth will be further enhanced through
our consulting services in the areas of document content and knowledge
management. The ability to achieve growth in our equipment placements is
subject to the successful implementation of our initiatives to provide
advanced systems, industry-oriented global solutions and services for
major customers, improved direct sales productivity and expansion of our
indirect distribution channels in the face of global competition and
3
pricing pressures. The ability to grow our customers' usage of our
products may continue to be adversely impacted by the movement towards
distributed printing and electronic substitutes. Our inability to return
to and maintain a consistent trend of revenue growth could have a
material adverse effect on the trend of our operating results.
Liquidity--The adequacy of our continuing liquidity depends on our
ability to successfully generate positive cash flow from an appropriate
combination of operating improvements, financing from third parties,
access to capital markets and additional asset sales including sales or
securitizations of our receivables portfolios. We believe our liquidity
is sufficient to meet current and anticipated needs, including all
scheduled debt maturities; however, our ability to maintain positive
liquidity is highly dependent on achieving our expected operating
results, including capturing the benefits from restructuring activities,
and completing several vendor financing and other initiatives that are
discussed below. There is no assurance that these initiatives will be
successful. Failure to successfully complete these initiatives could have
a material adverse effect on our liquidity and our operations, and could
require us to consider further measures, including deferring planned
capital expenditures, modifying current restructuring plans, reducing
discretionary spending, and selling additional assets.
As announced on June 21, 2002, we successfully completed the
renegotiation of our $7 billion Revolving Credit Agreement dated as of
October 22, 1997 (the "Old Revolver"). Of the original $7 billion in
loans outstanding under the Old Revolver, $2.8 billion has been repaid
and the remaining $4.2 billion has been refinanced under the terms of a
new Amended and Restated Credit Agreement (the "New Credit Facility").
The New Credit Facility requires certain principal amortization payments
as well as prepayments in the case of certain events. A full discussion
of these terms and the final maturity dates of the various loans is
included in the Capital Resources and Liquidity section in this Quarterly
Report on Form 10-Q. The New Credit Facility contains affirmative and
negative covenants including limitations on issuance of debt and
preferred stock; certain fundamental changes; investments and
acquisitions; mergers; certain transactions with affiliates; creation of
liens; asset transfers; hedging transactions; payment of dividends;
inter-company loans and certain restricted payments; and a requirement to
transfer excess foreign cash, as defined, and excess cash of Xerox Credit
Corporation to us in certain circumstances. It also contains additional
financial covenants, including minimum EBITDA, maximum leverage (total
adjusted debt divided by EBITDA, as defined) and maximum capital
expenditures limits.
We expect to be in full compliance with the covenants and other
provisions of the new facility through December 31, 2002 and beyond.
Any failure to be in compliance with any material provision of the New
Credit Facility could have a material adverse effect on our liquidity
and operations.
4
Xerox Corporation
Form 10-Q
March 31, 2002
Table of Contents
Page
Part I - Financial Information
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Statements of Operations 6
Condensed Consolidated Balance Sheets 7
Condensed Consolidated Statements of Cash Flows 8
Notes to Condensed Consolidated Financial Statements 9
Item 2. Management's Discussion and Analysis of Results of
Operations and Financial Condition
Results of Operations 30
Capital Resources and Liquidity 45
Financial Risk Management 56
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 57
Part II - Other Information
Item 1. Legal Proceedings 58
Item 2. Changes in Securities 58
Item 4. Submission of Matters to a Vote of Security
Holders 59
Item 5 Other Information 59
Item 6. Exhibits and Reports on Form 8-K 59
Signatures 60
Exhibit Index
Computation of Net Income per Common Share 61
Computation of Ratio of Earnings to Fixed Charges 62
For additional information about Xerox Corporation, please visit our World-Wide
Web site at www.xerox.com/investor. Any information on or linked from the
website is not incorporated by reference into this Form 10-Q.
5
PART I - FINANCIAL INFORMATION
Item 1 Xerox Corporation
Condensed Consolidated Statements of Operations (Unaudited)
Three months ended
March 31,
(In millions, except per-share data) 2002 2001
Restated
Note 2
- ---------------------------------------------------------------------------
Revenues
Sales $ 1,583 $ 1,865
Service, outsourcing and rentals 2,011 2,134
Finance 264 292
- ---------------------------------------------------------------------------
Total Revenues 3,858 4,291
- ---------------------------------------------------------------------------
Costs and Expenses
Cost of sales 1,025 1,377
Cost of service, outsourcing and rentals 1,159 1,292
Equipment financing interest 92 131
Research and development expenses 230 251
Selling, administrative and general expenses 1,169 1,149
Restructuring and asset impairment charges 146 129
Gain on sale of half of interest in Fuji Xerox - (769)
Other expenses, net 90 93
- ---------------------------------------------------------------------------
Total Costs and Expenses 3,911 3,653
- ---------------------------------------------------------------------------
(Loss) Income before Income Taxes (Benefits),
Equity Income, Minorities' Interests,
Extraordinary Gain and Cumulative Effect of
Change in Accounting Principle (53) 638
Income taxes (benefits) (20) 427
- ------------------------------------------------------------------------
(Loss) Income before Equity Income, Minorities' Interests,
Extraordinary Gain and Cumulative Effect of
Change in Accounting Principle (33) 211
Equity in net income of unconsolidated
affiliates 11 3
Minorities' interests in earnings of
subsidiaries (24) (7)
- ---------------------------------------------------------------------------
(Loss) Income before Extraordinary Gain and
Cumulative Effect of Change in Accounting
Principle (46) 207
Extraordinary gain on extinguishment of
debt, net of taxes of $11 - 17
Cumulative effect of change in accounting
principle - (2)
- ---------------------------------------------------------------------------
Net (Loss) Income $ (46) $ 222
===========================================================================
Basic (loss) earnings per share:
(Loss) Income before Extraordinary Gain and
Cumulative Effect of Change in Accounting Principle $(0.06) $ 0.29
Extraordinary gain, net - 0.02
Cumulative effect of change in accounting principle, net - -
- ---------------------------------------------------------------------------
Net(Loss)Earnings per Share $(0.06) $ 0.31
===========================================================================
Diluted (loss) earnings per share:
(Loss) Income before Extraordinary Gain and
Cumulative Effect of Change in Accounting Principle $(0.06) $ 0.26
Extraordinary gain, net - 0.02
Cumulative effect of change in accounting principle, net - -
- ---------------------------------------------------------------------------
Net (Loss) Earnings per Share $(0.06) $ 0.28
===========================================================================
The accompanying notes are an integral part of the Condensed Consolidated
Financial Statements.
6
Xerox Corporation
Condensed Consolidated Balance Sheets (Unaudited)
March 31, December 31,
(In millions, except share data in thousands) 2002 2001
Assets
- -----------------------------------------------------------------------------
Cash and cash equivalents $ 4,747 $ 3,990
Accounts receivable, net 1,882 1,896
Finance receivables, net 3,827 3,922
Inventories 1,283 1,364
Deferred taxes and other current assets 1,338 1,428
- -----------------------------------------------------------------------------
Total Current Assets 13,077 12,600
Finance receivables due after one year, net 5,570 5,756
Equipment on operating leases, net 713 804
Land, buildings and equipment, net 1,878 1,999
Investments in affiliates, at equity 607 632
Intangible and other assets, net 4,428 4,453
Goodwill, net 1,482 1,445
- -----------------------------------------------------------------------------
Total Assets $ 27,755 $ 27,689
=============================================================================
Liabilities and Equity
Short-term debt and current portion of
long-term debt $ 6,704 $ 6,637
Accounts payable 761 704
Accrued compensation and benefits costs 714 724
Unearned income 272 244
Other current liabilities 1,358 1,951
- -----------------------------------------------------------------------------
Total Current Liabilities 9,809 10,260
Long-term debt 10,712 10,128
Postretirement medical benefits 1,243 1,233
Deferred taxes and other liabilities 2,054 2,018
- -----------------------------------------------------------------------------
Total Liabilities 23,818 23,639
Deferred ESOP benefits (135) (135)
Minorities' interests in equity of subsidiaries 75 73
Company-obligated, mandatorily redeemable
preferred securities of subsidiary trusts
holding solely subordinated debentures of
the Company 1,691 1,687
Preferred stock 593 605
Common stock, including additional
paid-in capital 2,634 2,622
Retained earnings 985 1,031
Accumulated other comprehensive loss (1,906) (1,833)
- -----------------------------------------------------------------------------
Total Liabilities and Equity $ 27,755 $ 27,689
=============================================================================
Shares of common stock issued and outstanding 725,295 722,314
The accompanying notes are an integral part of the Condensed Consolidated
Financial Statements.
7
Xerox Corporation
Condensed Consolidated Statements of Cash Flows (Unaudited)
2001
Restated
Three Months ended March 31, (In millions) 2002 Note 2
- ------------------------------------------------------------------------------------------------------------------------
Cash Flows from Operating Activities
Net (Loss) Income $ (46) $ 222
Adjustments required to reconcile net (loss) income to cash flows from
operating activities:
Depreciation and amortization 319 361
Provisions for receivables and inventory 149 182
Restructuring and asset impairment charges 146 129
Cash payments for restructurings (122) (156)
Gains on sales of businesses and assets (19) (767)
Gain on early extinguishment of debt - (28)
Minorities' interests in earnings of subsidiaries 24 7
Undistributed equity in (income) loss of affiliated companies (11) 28
Decrease in inventories 57 45
Increase in on-lease equipment (36) (94)
Decrease in finance receivables 157 67
(Increase) decrease in accounts receivable (42) 60
Increase (decrease) in accounts payable and accrued compensation and
benefits costs 68 (254)
Net change in current and deferred income taxes (395) 445
Decrease in other current and non-current liabilities (112) (72)
Other, net (48) (86)
- -----------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 89 89
- -----------------------------------------------------------------------------------------------------------------
Cash Flows from Investing Activities
Cost of additions to land, buildings and equipment (26) (69)
Proceeds from sales of land, buildings and equipment 3 38
Cost of additions to internal use software (11) (17)
Proceeds from divestitures 45 1,283
Funds placed in escrow and other restricted cash (24) -
- -----------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities (13) 1,235
- -----------------------------------------------------------------------------------------------------------------
Cash Flows from Financing Activities
Net change in debt 702 (212)
Dividends on common and preferred stock - (47)
Proceeds from issuances of common stock 2 28
Settlements of equity put options, net - (28)
- -----------------------------------------------------------------------------------------------------------------
Net cash provided by (used in) financing activities 704 (259)
- -----------------------------------------------------------------------------------------------------------------
Effect of exchange rate changes on cash and cash equivalents (23) (38)
- -----------------------------------------------------------------------------------------------------------------
Increase in cash and cash equivalents 757 1,027
Cash and cash equivalents at beginning of period 3,990 1,750
- -----------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 4,747 $ 2,777
=================================================================================================================
The accompanying notes are an integral part of the Condensed Consolidated
Financial Statements.
8
Xerox Corporation
Notes to Condensed Consolidated Financial Statements
($ in millions except per share data)
1. Basis of Presentation:
References herein to "we" or "our" or "us" refer to Xerox Corporation and
consolidated subsidiaries unless the context specifically requires otherwise.
We have prepared the accompanying unaudited condensed consolidated interim
financial statements in accordance with the accounting policies described in our
2001 Annual Report on Form 10-K. You should read the consolidated financial
statements in conjunction with the notes to such Annual Report. The condensed
balance sheet information has been derived from such financial statements.
In our opinion, all adjustments (including normal recurring adjustments) for the
quarter ended March 31, 2002, which are necessary for a fair statement of
operating results for the interim periods presented have been made. Interim
results of operations are not necessarily indicative of the results of the full
year.
The unaudited condensed consolidated financial statements have been restated
(See Note 2). All dollar and per share amounts have been adjusted throughout the
notes to the Condensed Consolidated financial statements. For convenience and
ease of reference, when we refer to "(Loss) Income before Income Taxes
(Benefits), Equity Income, Minorities' Interests, Extraordinary Gain and
Cumulative Effect of a Change in Accounting Principle" that financial statement
caption will hereafter be referred to as "pre-tax income (loss)."
Liquidity. Historically, our primary sources of funding have been cash flows
from operations, borrowings under our commercial paper and term funding
programs, and securitizations of accounts and finance receivables. Funds were
used to finance customers' purchases of our equipment, and to fund working
capital requirements, capital expenditures and business acquisitions. Our
specific business challenges, coupled with significant competitive and industry
changes and adverse economic conditions, began to negatively affect our
operations and liquidity in 2000. These challenges, which were exacerbated by
significant technology and acquisition spending, negatively impacted our cash
availability and created marketplace concerns regarding our liquidity, which led
to credit rating downgrades and restricted access to capital markets.
Our access to many of the aforementioned sources is currently limited due to the
below investment grade rating on our debt. Our debt ratings have been reduced
several times since October 2000. These rating downgrades have had a number of
significant negative impacts on us, including the unavailability of uncommitted
bank lines, very limited ability to utilize derivative instruments to hedge
foreign and interest currency exposures, thereby increasing volatility to
changes in exchange rates, and higher interest rates on borrowings.
Additionally, as more fully disclosed below, we are required to maintain minimum
cash balances in escrow on certain borrowings, securitizations, swaps and
letters of credit. These restricted cash balances are not considered cash or
cash equivalents on our balance sheet.
On June 21, 2002, we permanently repaid $2.8 billion on our then-outstanding $7
billion revolving credit facility. An amended $4.2 billion credit facility
replaced the previous $7 billion revolving credit facility. We currently have no
incremental borrowing capacity under the new credit facility as the entire $4.2
billion is outstanding as of such date.
9
The new credit facility is disclosed in Note 10 and in more detail in Note 12 to
our Consolidated Financial Statements included in our 2001 Annual Report on Form
10-K. The new credit facility contains more stringent financial covenants than
the prior facility, including the following:
. Minimum EBITDA (based on rolling quarters, as defined)
. Maximum leverage (total adjusted debt divided by EBITDA, as defined)
. Maximum capital expenditures (annual test)
. Minimum consolidated net worth (quarterly test, as defined)
Failure to be in compliance with any material provision of the new credit
facility could have a material adverse effect on our liquidity and operations.
In addition, as part of our Turnaround Plan (see Note 5), we have taken
significant steps to improve our liquidity, including asset sales, monetizations
of portions of our receivables portfolios, and general financings including
issuance of high yield debt and preferred securities. Since early 2000, we have
been restructuring our cost base. We have implemented a series of plans to
resize our workforce and reduce our cost structure through such restructuring
initiatives. Key factors influencing our liquidity include our ability to
generate cash flow from an appropriate combination of operating improvements
anticipated in our Turnaround Plan and continued execution of the initiatives
described below. We believe our projected liquidity is sufficient to meet our
current operating cash flow requirements and satisfy our scheduled debt
maturities and other cash flow requirements. However, our ability to meet our
obligations beyond March 31, 2003 is dependent on our ability to generate
positive cash flow from a combination of operating improvements, capital markets
transactions, third party vendor financing programs and receivable
monetizations. Failure to implement these initiatives could have a material
adverse effect on our liquidity and our results of operations and we would need
to implement alternative plans that could include additional asset sales,
additional reductions in operating costs, deferral of capital expenditures,
further reductions in working capital and further debt restructurings. While we
believe we could successfully complete the alternative plans, if necessary,
there can be no assurance that such alternatives would be available or that we
would be successful in their implementation.
2. Restatement:
On April 11, 2002, we reached a settlement with the Securities and Exchange
Commission (SEC) relating to matters that had been under investigation by the
SEC since June 2000. In connection with the settlement, we agreed to restate our
financial statements as of and for the years ended December 31, 1997 through
2000 as well as the first three quarters of 2001 and undertake a review of our
material internal controls and accounting policies. In addition, as a result of
the re-audit of our 2000 and 1999 Consolidated Financial Statements, additional
adjustments were recorded. The restatement reflects adjustments which are
corrections of errors made in the application of U.S. generally accepted
accounting principles (GAAP) and includes (i) adjustments related to the
application of the provisions of Statement of Financial Accounting Standards No.
13 "Accounting for Leases" (SFAS No. 13) and (ii) adjustments that arose as a
result of other errors in the application of GAAP. The principal adjustments
made to our Condensed Consolidated Financial Statements as of and for the three
months ended March 31, 2001, reflect changes discussed in our Annual Report on
Form 10-K and below.
Application of SFAS No. 13
Revenue allocations in bundled arrangements: We sell most of our products and
services under bundled lease arrangements which contain multiple deliverable
10
elements. These multiple element arrangements typically include separate
equipment, service, supplies and financing components for which a customer pays
a single fixed negotiated price on a monthly basis, as well as a variable amount
for page volumes in excess of stated minimums. The restatement primarily
reflects adjustments related to the allocation of revenue and the resultant
timing of revenue recognition for sales-type leases under these bundled lease
arrangements.
The methodology we used in prior years for allocating revenue to our sales-type
leases involved first, estimating the fair market value of the service and
financing components of the leases. Specifically, with respect to the financing
component, we estimated the overall interest rate to be applied to transactions
to be the rate we targeted to achieve a fair return on equity for our financing
operations. This is effectively a discounted cash flow valuation methodology. In
estimating this interest rate we considered a number of factors including our
cost of funds, debt levels, return on equity, debt to equity ratios, income
generated subsequent to the initial lease term, tax rates, and the financing
business overhead costs. We made service revenue allocations based, primarily,
on an analysis of our service gross margins. After deducting service and finance
values from the minimum payments due under the lease, the equipment value was
derived. These allocation procedures resulted in adjustments to values initially
reflected in our accounting systems, such that values attributed to the service
and financing components were generally decreased and the values assigned to the
equipment components were generally increased.
We have determined that the allocation methodology used in prior years did not
comply with SFAS No. 13. Therefore, we have utilized a different methodology to
account for our sales-type leases involving multiple element arrangements. This
methodology begins by determining the fair value of the service component, as
well as other executory costs and any profit thereon, and second, by determining
the fair value of the equipment based on a comparison of the equipment values in
our accounting system to a range of cash selling prices. The resultant implicit
interest rate is then compared to fair market value rates to assess the
reasonableness of the overall allocations to the multiple elements.
We conducted an extensive analysis of available verifiable objective evidence of
fair value (VOE) based on cash sales prices and compared these prices to the
range of equipment values recorded in our lease accounting systems. With the
exception of Latin America, where operating lease accounting is applied as
discussed below, the range of cash selling prices supports the reasonableness of
the range of equipment lease prices as originally recorded, at the inception of
the lease, in our accounting systems. In applying our new methodology described
above, we have concluded that the revenue amounts allocated by our accounting
systems to the equipment component of a multiple element arrangement represents
a reasonable estimate of the fair value of the equipment. As a consequence, $109
of previously recorded equipment sale revenue during the three months ended
March 31, 2001 have been reversed and we have recognized additional service and
finance income of $129, which represents the impact of reversing amounts
previously recorded as equipment sales-type leases and recognizing such amounts
over the lease term. The net increase in revenue, as a result of this change,
was $20 for the three month period ended March 31, 2001.
Transactions not qualifying as sales-type leases: We re-evaluated the
application of SFAS No. 13 for leases originally accounted for as sales-type
leases in our Latin American operations, and we determined that these leases
should have been recorded as operating leases. This determination was made after
we conducted an in-depth review of the historical effective lease terms compared
to the contractual terms of our lease agreements. Since historically, and during
all periods presented, a majority of leases were terminated
11
significantly prior to the expiration of the contractual lease term, we
concluded that such leases did not qualify as sales-type leases under certain
provisions of SFAS No. 13. Specifically, because we generally do not collect the
receivable from the initial transaction, upon termination of the contract or
during the subsequent lease term, the recoverability of the lease investment was
not predictable at the inception of the original lease term. As a consequence,
$48 of previously recorded equipment sale revenue during the three months ended
March 31, 2001, have been reversed and we have recognized additional rental
revenue of $73, which represents the impact of changing the classification of
previously recorded sales-type leases to operating leases. The net increase in
revenue, as a result of this change, was $25 for the three month period ended
March 31, 2001.
During the course of the restatement process, we concluded that the estimated
economic life used for classifying leases for the majority of our products
should have been five years versus the three to four years we previously
utilized. This resulted from an in-depth review of our lease portfolios, for all
periods presented, which indicated that the most frequent term of our lease
contracts was 60 months. We believe that this has been and continues to be
representative of the period during which the equipment is expected to be
economically usable, with normal repairs and maintenance, for the purpose for
which it was intended at the inception of the lease. As a consequence, many
shorter duration leases did not meet the criteria of SFAS No. 13 to be accounted
for as sales-type leases. Additionally, other lease arrangements were found to
not meet other requirements of SFAS No. 13 for treatment as sales-type leases.
As a consequence $11 of equipment revenue recorded during the three months ended
March 31, 2001 have been reversed and we have recognized additional rental
revenue of $29, which represents the impact of changing the classification of
previously recorded sales-type leases to operating leases. The net increase in
revenue, as a result of this change was $18 for the three month period ended
March 31, 2001.
Accounting for the sale of equipment subject to operating leases: We have
historically sold pools of equipment subject to operating leases to third party
finance companies (the counterparty) or through structured financings with third
parties and recorded the transaction as a sale at the time the equipment is
accepted by the counterparty. These transactions increased equipment sale
revenue, primarily in Latin America, in 2000 and 1999 by $148 and $400,
respectively. Upon additional review of the terms and conditions of these
contracts, we determined that the form of the transactions at inception included
retained ownership risk provisions or other contingencies that precluded these
transactions from meeting the criteria for sale treatment under the provisions
of SFAS No. 13. The form of these transactions notwithstanding, these risk of
loss or contingency provisions have resulted in only minor impacts on our
operating results. These transactions have however been restated and recorded as
operating leases in our Consolidated Financial Statements. As a consequence we
have recognized additional revenue of $60 during the three months ended March
31, 2001, which represents the impact of changing the classification of
previously recorded sales-type leases to operating leases. Additionally, for
transactions in which cash proceeds were received up-front we have recorded
these proceeds as secured borrowings. The remaining balance of these borrowings
aggregated $42 at March 31, 2002.
Other adjustments
In addition to the aforementioned revenue related adjustments, other errors in
the application of GAAP were identified. These include the following:
Sales of receivables transactions: During 1999, we sold $1,395 of U.S. finance
receivables originating from sales-type leases. These transactions were
accounted for as sales of receivables. These sales were made to special purpose
12
entities (SPEs), which qualified for non-consolidation in accordance with then
existing accounting requirements. As a result of the changes in the estimated
economic life of our equipment to five years, certain leases transferred in
these transactions did not meet the sales-type lease requirements and were
accounted for as operating leases. This change in lease classification affected
a number of the leases that were sold into the aforementioned SPEs resulting in
these entities now holding operating leases as assets. This change disqualified
the SPEs from non-consolidation and effectively required us to record the
proceeds received on these sales as secured borrowings. This increased our net
finance receivables by $271 and debt by $320 as of March 31, 2001. The
adjustment to increase receivables also resulted in the recognition of Financing
revenue of $6 for the three month period ended March 31, 2001. The debt balance
remaining was $39 at March 31, 2002.
South Africa deconsolidation: We determined that we inappropriately consolidated
our South African affiliate since 1998 as the minority joint venture partner has
substantive participating rights. Accordingly, we have deconsolidated all
assets, liabilities, revenues and expenses. We now account for this investment
on the equity method of accounting. The reduction in revenues was $17 for the
three month period ended March 31, 2001, and there was no impact on Net Income
or Common Shareholders Equity as the reduction in pre-tax income is offset by an
increase in equity in net income of unconsolidated affiliates.
Purchase accounting reserves: In connection with the 1998 acquisition of XL
Connect Solutions, Inc. (XLConnect), we recorded liabilities aggregating $65 for
contingencies identified at the date of the acquisition. During 2000 and 1999,
we determined that certain of these contingent liabilities were no longer
required, and $29 of the liabilities were either reversed into income or we
charged certain costs related to ongoing activities of the acquired business
against these liabilities. Upon additional review it was subsequently determined
that approximately $51 of these contingent liabilities did not meet the criteria
to initially be recorded as acquisition liabilities. Accordingly, we have
adjusted the goodwill and liabilities at the date of acquisition and corrected
the 2000 and 1999 income statement impacts. The income statement impact for the
three months ended March 31, 2001 was less than $1.
Restructuring reserves: During 2001 and 2000, we recorded restructuring charges
associated with our decisions to exit certain activities of the business. Upon
additional review we determined that certain adjustments made to the original
charges were not in accordance with GAAP. The adjustments to decrease pre-tax
income in the first quarter of 2001 of $28 consist primarily of corrections to
the timing of the release of reserves originally recorded under the March 2000
restructuring program. We should have reversed the applicable reserves in late
2000 when the information was available that our original plan had changed
indicating that such reserves were no longer necessary. Previously, the reversal
was recorded in early 2001.
Other adjustments: In addition to the above items and in connection with our
review of prior year's financial records we determined that other accounting
errors were made with respect to the accounting for certain non-recurring
transactions, the timing of recording and reversing certain liabilities and the
timing of recording certain asset write-offs. We have restated our March 31,
2001 Condensed Consolidated Financial Statements for such items. These
adjustments decreased pre-tax income by $1 for the three months ended March 31,
2001. There were also similar adjustments to reduce revenue by $23 for the three
month period ended March 31, 2001.
13
The following table presents the effects of the aforementioned adjustments on
total revenue:
Increase (decrease) to total revenue:
Three Months Ended
March 31, 2001
--------------
Revenue, previously reported $4,202
Application of SFAS No. 13:
Revenue allocations in bundled arrangements 20
Latin America - operating lease accounting 25
Other transactions not qualifying as sales-type leases 18
Sales of equipment subject to operating leases 60
------
Subtotal 123
Other revenue restatement adjustments:
Sales of receivables transactions 6
South Africa deconsolidation (17)
Other revenue items, net (23)
------
Subtotal (34)
Increase in total revenue 89
------
Revenue, restated $4,291
======
The following table presents the effects of the aforementioned adjustments on
pre-tax income:
Increase (decrease) to pre-tax income:
Three Months Ended
March 31, 2001
--------------
Pre-tax income, previously reported $595
Revenue restatement adjustments:
Revenue allocations in bundled arrangements 21
Latin America - operating lease accounting 15
Other transactions not qualifying as sales-type leases 13
Sales of equipment subject to operating leases 27
Sales of receivables transactions (4)
South Africa deconsolidation (2)
Other revenue items, net 2
----
Subtotal 72
Other restatement adjustments:
Restructuring reserves (28)
Other, net (1)
----
Subtotal (29)
Increase in pre-tax income 43
----
Pre-tax income, restated $638
====
14
The following table presents the impact of the restatements on a condensed
basis:
As
Previously
Reported Restated
-------- --------
Three months ended March 31, 2001
Statement of operations:
Total Revenues $4,202 $4,291
Sales 2,056 1,865
Service, outsourcing, financing and rentals 2,146 2,426
Total Costs and Expenses 3,607 3,653
Net income 201 222
Basic income per share $ 0.28 $ 0.31
Diluted income per share $ 0.25 $ 0.28
3. Accounting Changes and New Accounting Standards:
Effective January 1, 2002 we adopted the provisions of SFAS No. 142 "Goodwill
and Other Intangible Assets" (SFAS No. 142). SFAS No. 142 addresses financial
accounting and reporting for acquired goodwill and other intangible assets
subsequent to their initial recognition. This statement recognizes that goodwill
has an indefinite life and will no longer be subject to periodic amortization.
However, goodwill is to be tested at least annually for impairment, using a fair
value methodology, in lieu of amortization. The provisions of this standard also
required that amortization of goodwill related to equity investments be
discontinued, and that these goodwill amounts continue to be evaluated for
impairment in accordance with Accounting Principles Board Opinion No. 18 "The
Equity Method of Accounting for Investments in Common Stock." Upon adoption of
SFAS No. 142 we reclassified $61 of intangible assets related to acquired
workforce that was required to be included in goodwill by this standard. We
further expect to complete our transitional impairment tests in connection with
our second quarter of 2002.
Net income and earnings per share for the quarter ended March 31, 2001, as
adjusted for the exclusion of amortization expense, were as follows:
Three Months
Ended
March 31, 2001
----------------
Reported Income before Extraordinary
Gain and Cumulative Effect
of Change in Accounting Principle $ 207
Add: Amortization of goodwill,
net of income taxes 16
----------------
Adjusted Income before Extraordinary
Gain and Cumulative Effect
of Change in Accounting Principle $ 223
================
Reported Net Income $ 222
Add: Amortization of goodwill,
net of income taxes 16
----------------
Adjusted Net Income $ 238
================
15
Diluted
Basic Earnings Per Earnings Per
For the Three Months Ended March 31, 2001 Share Share
---------------------- ----------------------
Reported earnings per share before
Extraordinary Gain and Cumulative Effect of
Change in Accounting Principle $0.29 $0.26
Add: Amortization of goodwill,
net of income taxes $0.02 $0.02
--------------------- ---------------------
Adjusted earnings per share before
Extraordinary Gain and Cumulative Effect of
Change in Accounting Principle $0.31 $0.28
===================== =====================
Reported earnings per share $0.31 $0.28
Add: Amortization of goodwill,
net of income taxes 0.02 0.02
--------------------- ---------------------
Adjusted Earnings per share $0.33 $0.30
===================== =====================
Intangible assets totaled $386, net of accumulated amortization of $72, as of
March 31, 2002. All intangible assets relate to the office segment and are
comprised of the following:
Weighted
Average Gross
Amortization Carrying Accumulated
As of March 31, 2002: Period Amount Amortization Net Amount
-------------------------------------------------------------------
Installed Customer Base 17.5 years $209 $(24) $185
Distribution Network 25 years 123 (30) 93
Existing Technology 7 years 103 (11) 92
Trademarks 7 years 23 (7) 16
---- ---- ----
$458 $(72) $386
==== ==== ====
The weighted average useful life of our amortizable intangible assets is 16.6
years. Amortization expense related to these intangible assets is expected to be
approximately $36 annually from 2002 through 2006.
The following table presents the changes in the carrying amount of goodwill, by
segment, for the quarter ended March 31, 2002:
Developing
Production Office Markets SOHO Other Total
---------- ------ ------- ---- ----- -------
Balance at January 1, 2002* $658 $635 $70 -- $143 $1,506
Foreign Currency
Translation Adjustment (13) (10) (1) -- -- (24)
---- ---- --- ---- ---- ------
Balance at March 31, 2002 $645 $625 $69 -- $143 $1,482
==== ==== === ---- ==== ======
* Balance includes the reclassification of the acquired workforce intangible
asset to goodwill of $61.
16
In 2001, the Financial Accounting Standards Board issued SFAS No. 143,
"Accounting for Asset Retirement Obligations." The Statement addresses Annual
Accounting and reporting for obligations associated with the retirement of
tangible Long-Lived assets and associated asset retirement costs. We are
required to implement this standard on January 1, 2003. We do not expect this
statement to have a material effect on our financial position or results of
operations.
Effective January 1, 2002, we adopted the provisions of SFAS No. 144 "Accounting
for the Impairment or Disposal of Long-Lived Assets". The statement primarily
supercedes SFAS No. 121 "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of." The Statement retains the previously
existing accounting requirements related to the recognition and measurement of
the impairment of long-lived assets to be held and used, while expanding the
measurement requirements of long-lived assets to be disposed of by sale to
include discontinued operations. It also expands on the previously existing
reporting requirements for discontinued operations to include a component of an
entity that either has been disposed of or is classified as held for sale. The
adoption of SFAS No. 144 did not have a material effect on our financial
position or results of operations.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No.
4, 44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections". The
Statement rescinds Statement 4 which required all gains and losses from
extinguishment of debt to be aggregated and, when material, classified as an
extraordinary item net of related income tax effect. Statement No. 145 also
amends Statement 13 to require that certain lease modifications having economic
effects similar to sale-leaseback transactions be accounted for in the same
manner as sale-leaseback transactions. We are required to implement this
standard for transactions occurring after May 15, 2002 and do not expect this
Statement will have a material effect on our financial position or results of
operations. Any gain or loss on extinguishment of debt that was classified as an
extraordinary item in prior periods presented that does not meet the criteria in
APB Opinion No. 30 "Reporting the Results of Operations - Reporting the Effects
of Disposal of a segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions" for classification as an
extraordinary item, shall be reclassified. We will adopt the reclassification
Provision of this standard in the second quarter of 2002.
4. Inventories:
Inventories consist of the following:
March 31, December 31,
2002 2001
--------- ------------
Finished goods $ 977 $ 960
Work in process 92 97
Raw materials and supplies 214 307
------- -------
Total Inventories $ 1,283 $ 1,364
======= =======
5. Restructurings and Turnaround Program:
Since early 2000, we have engaged in several restructuring programs in response
to general economic weakness, as well as company-specific challenges, including
the poor execution of a major sales force realignment, the disruptive
consolidation of our U.S. customer administrative centers and increased
competition. We engaged in a series of plans related to downsizing our employee
base, exiting certain businesses, outsourcing some internal functions and
engaging in other actions designed to reduce our cost structure.
17
We accomplished these objectives through the undertaking of certain
restructuring initiatives as follows:
RESTRUCTURING ACTION INITIATION OF PLAN
. March 2000 Restructuring March 2000
. Turnaround Program October 2000
. SOHO Disengagement June 2001
The execution of the actions and payment of obligations related to those actions
continued through March 31, 2002, with each plan initiative in various stages of
completion. As management continues to evaluate the business, and as payments
are made and actions are completed, there have been and may continue to be
supplemental charges for new plan initiatives, as well as changes in estimates
to amounts previously recorded, as payments are made or actions are completed.
Asset impairment charges were incurred in connection with these significant
restructuring actions for those assets made obsolete or redundant as a result of
the plans. The details of the more significant restructuring actions are
explained below.
Turnaround Program. We engaged in a series of actions, beginning in October
2000, aimed at the execution of a plan to implement global initiatives to reduce
costs, improve operations, transition customer equipment financing to
third-party vendors and sell certain assets.
As of December 31, 2001 we had $223 of restructuring reserves remaining,
primarily related to employee severance as a result of our downsizing efforts.
During 2001, we provided $429 of restructuring costs ($28 of which related to
asset impairments). During the first quarter of 2002, we provided an additional
$146 (including pension curtailments of $23), net of reversals of $10 primarily
related to severance costs. The majority of this charge was for severance and
other employee separation costs affecting our Production and Office segments,
and $10 related to lease and other costs. The 2002 charge related to the
elimination of approximately 2,300 positions worldwide reflecting continued
streamlining of existing work processes, elimination of redundant resources and
the consolidation of activities into other existing operation, bringing the
total eliminated positions to 10,100. As of March 31, 2002, approximately 8,600
of the 10,100 affected employees had been separated under the plans. The
Turnaround Program reserve balance at March 31, 2002 was $221. The remaining is
expected to be substantially utilized in 2002.
Balance Balance
December 31, March 31,
Turnaround Program: 2001 Reversals Provision Charges/1/ 2002
- ------------------- ------------ --------- --------- ---------- ---------
Severance and related costs $ 191 $ (10) $ 146 $ (141) $ 186
Lease cancellation and other costs 32 - 10 (7) 35
-------- ------ ------ ------- -------
Total $ 223 (10) 156 (148) $ 221
======== ====== ====== ======= =======
/1/ Includes the impact of currency translation adjustment of $3.
As discussed in Note 12, we have completed several divestitures and outsourced
some of our manufacturing operations. In addition, we have completed part of,
and are actively engaged in the balance of our plan to transition customer
financing to third parties.
18
Each of the remaining restructuring programs (i.e., SOHO Disengagement, March
2000 Restructuring and 1998 Restructuring) have been substantially completed.
6. Common Shareholders' Equity:
Common shareholders' equity consists of:
March 31, December 31,
2002 2001
--------- ------------
Common stock $ 727 $ 724
Additional paid-in-capital 1,907 1,898
Retained earnings 985 1,031
Accumulated other comprehensive loss/1/ (1,906) (1,833)
-------- --------
Total $ 1,713 $ 1,820
======== ========
(1) Accumulated other comprehensive loss at March 31, 2002 is comprised of
cumulative translation adjustments of $(1,807), minimum pension liability
of $(92), unrealized losses on marketable securities of $(4), and net SFAS
133 items of $(3).
Comprehensive loss consists of:
March 31, March 31,
2002 2001
------ --------
Net (Loss) Income $(46) $ 222
Translation adjustments (49) (142)
Unrealized (losses) gains on marketable securities (3) 2
Adjustment for minimum pension liability (25) --
Cash flow hedge adjustments 4 (24)
----- ----
Comprehensive loss $(119) $ 58
===== ====
7. Interest Expense and Income:
Interest expense, inclusive of equipment financing interest, totaled $173 and
$293 for the three months ended March 31, 2002 and 2001, respectively. Interest
income totaled $285 and $315 for the three months ended March 31, 2002 and 2001,
respectively.
8. Segment Reporting:
Our reportable segments are as follows: Production, Office, Developing Markets
Operations, Small Office/Home Office and Other.
The Production segment includes our DocuTech family of products, production
printing, color products for the production and graphic arts markets and
light-lens copiers over 90 pages per minute sold to Fortune 1000, graphic arts
and government, education and other public sector customers predominantly
through direct sales channels in North America and Europe.
The Office segment includes our family of Document Centre digital multifunction
products, color laser, solid ink and monochrome laser desktop printers, digital
and light-lens copiers under 90 pages per minute and facsimile products sold
through direct and indirect sales channels in North America and Europe. The
19
Office market is comprised of global, national and mid-size commercial customers
as well as government, education and other public sector customers.
The Developing Markets Operations segment (DMO) includes our operations in Latin
America, the Middle East, India, Eurasia, Russia and Africa. This segment
includes sales of products that are typical to the aforementioned segments,
however management serves and evaluates these markets on an aggregate
geographic, rather than product, basis.
The Small Office/Home Office (SOHO) segment includes inkjet printers and
personal copiers sold through indirect channels in North America and Europe to
small offices, home offices and personal users (consumers). As more fully
discussed in Note 3 to the Consolidated Financial Statements included in our
2001 Annual Report on Form 10-K, in June 2001 we announced the disengagement
from the worldwide SOHO business.
The segment classified as Other, includes several units, none of which met the
thresholds for separate segment reporting. This group primarily includes Xerox
Engineering Systems (XES) and Xerox Supplies Group (XSG) (predominantly paper).
Other segment profit (loss) includes certain costs that have not been allocated
to the businesses including non-financing interest. Other segment's total assets
include XES, XSG and our investment in Fuji Xerox.
Operating segment profitability for the three months ended March 31, 2002 and
2001 is as follows:
Developing
Production Office Markets SOHO Other Total
-------------------------------------------------------------
2002
Revenues from external customers $ 1,318 $ 1,602 $ 448 $ 68 $ 422 $ 3,858
Intercompany revenues - 36 - 2 (38) -
--------------------------------------------------------------
Total segment revenues $ 1,318 $ 1,638 $ 448 $ 70 $ 384 $ 3,858
--============================================================
Segment profit (loss) $ 105 $ 91 $ (5) $ 27 $ (112)/1/ $ 106
==============================================================
2001 (Restated - See Note 2)
Revenues from external customers $ 1,449 $ 1,738 $ 504 $ 120 $ 480 $ 4,291
Intercompany revenues - 3 - 3 (6) -
--------------------------------------------------------------
Total segment revenues $ 1,449 $ 1,741 $ 504 $ 123 $ 474 $ 4,291
==============================================================
Segment profit (loss) $ 112 $ 47 $ (70) $ (79) $ (9) $ 1
==============================================================
(1) Other segment profit (loss) includes $72 million capitalized software
write-off, reflecting our decision to abandon an internal, customer service,
software development program.
20
The following is a reconciliation of segment profit (loss) to total company
pre-tax income (loss):
Three months
ended March 31,
2001
Restated
2002 Note 2
----- --------
Total segment profit $ 106 $ 1
Unallocated items:
Restructuring and impairment charges (146) (129)
Restructuring related inventory write-down (2) -
charges
Gains on sales of businesses - 769
Allocated item:
Equity in net income of unconsolidated
affiliates (11) (3)
---- ----
Pre-tax income (loss) $ (53) $ 638
===== ======
9. Note not used.
10. Debt:
On June 21, 2002, we entered into an Amended and Restated Credit Agreement with
a group of lenders (New Credit Facility), which replaced our $7 billion credit
facility which had a stated maturity date of October 2002 (Old Credit Facility).
In connection with entering into the New Credit Facility we made a partial pay
down on the Old Credit Facility of $2.8 billion and agreed to make an additional
payment of $700 by not later than September 15, 2002. Accordingly, as of June
21, 2002, $4.2 billion was outstanding under the New Credit Facility including
three tranches of term debt and a $1.5 billion revolving tranche that may be
repaid and re-borrowed. Within the revolving tranche is a $200 letter of credit
facility. Two of the three tranches of term debt and the revolving tranche will
bear an initial rate of interest of LIBOR plus 4.5 percent per year and the
third tranche of term debt bears initial interest at a rate of LIBOR plus a
spread that varies between 4.0 percent and 4.5 percent per year, in all cases
subject to adjustment for changes in, primarily, LIBOR. In addition, the
interest spread on one of the term tranches, initially in the principal amount
of $500, is subject to adjustment based upon the amount secured. The New Credit
Facility has, except as described in Note 12 to the Consolidated Financial
Statements included in our 2001 Annual Report on Form 10-K, a final stated
maturity of April 30, 2005. In connection with the New Credit Facility we paid
fees and other expenses of approximately $125 million which will be capitalized
and amortized over the term of the new facility.
In March 2002, we received financing totaling $266 from GE Capital secured by
lease receivables in the U.S. Net fees of $2 have been capitalized as debt issue
costs. In connection with these transactions, $35 of the $264 in proceeds was
required to be held in escrow, as security for our supply and service
obligations inherent in the transferred contracts. The amount held will be
released ratably as the underlying borrowing is repaid.
In February 2002 we received a $291 million loan from GE Capital, secured by
certain of our lease contracts in Canada. Cash proceeds of $281 million were net
of $8 million of escrow requirements and $2 million of fees. Fees incurred in
connection with the loan were capitalized as debt issue costs.
21
In January 2002, we completed an unregistered offering in the U.S. ($600) and
Europe ((euro)225) of 9.75 percent senior notes due in 2009 and received net
cash proceeds of $746, which included $559 and (euro)209. The senior notes were
issued at a 4.833 percent discount and will pay interest semiannually on January
15 and July 15. In March 2002, we filed a registration statement to exchange
senior registered notes for these unregistered senior notes. This registration
statement has not yet been declared effective. Fees incurred in connection with
this offering of $16 have been capitalized as debt issue costs and will be
amortized over the term of the debt.
11. Divestitures:
In January 2002, we completed additional asset sales to transfer our office
product manufacturing operations to Flextronics. We completed the sale of our
plants in Venray, The Netherlands and, Brazil for approximately $26 plus the
assumption of certain liabilities subject to certain closing adjustments. The
approximate 1,600 current Xerox employees in these operations transferred to
Flextronics. By the end of the third quarter 2002, we anticipate all production
at our printed circuit board factory in El Segundo, California, and our customer
replaceable unit plant in Utica, New York. This work will be transitioned to
Flextronics.
In the first quarter of 2002, we sold common stock of Prudential Insurance
Company, associated with that Company's demutualization. In connection with this
sale we recognized a gain of $19 which is included in Other Expenses, net, in
the accompanying Condensed Consolidated Statement of Operations.
12. Litigation and Regulatory Matters:
As more fully discussed below, we are a defendant in numerous litigation and
regulatory matters involving securities law, patent law, environmental law,
employment law and ERISA. Should these matters result in an adverse judgment or
be settled for significant amounts, they could have a material adverse effect on
our results of operations, cash flows and financial position in the period or
periods in which such judgment or settlement occurs.
Accuscan, Inc. v. Xerox Corporation: On April 11, 1996, an action was commenced
by Accuscan, Inc. (Accuscan), in the United States District Court for the
Southern District of New York, against the Company seeking unspecified damages
for infringement of a patent of Accuscan which expired in 1993. The suit, as
amended, was directed to facsimile and certain other products containing
scanning functions and sought damages for sales between 1990 and 1993. On April
1, 1998, the jury entered a verdict in favor of Accuscan for $40. However, on
September 14, 1998, the court granted our motion for a new trial on damages. The
trial ended on October 25, 1999 with a jury verdict of $10. Our motion to set
aside the verdict or, in the alternative, to grant a new trial was denied by the
court. We appealed to the Court of Appeals for the Federal Circuit (CAFC) which
found the patent not infringed, thereby terminating the lawsuit subject to an
appeal which has been filed by Accuscan to the U.S. Supreme Court. The decision
of the U.S. Supreme Court was to remand the case (along with eight others) back
to the CAFC to consider its previous decision based on the Supreme Court's May
28, 2002 ruling in the Festo case.
Christine Abarca, et al. v. City of Pomona, et al. (Pomona Water Cases): On June
24, 1999, the Company was served with a summons and complaint filed in the
Superior Court of the State of California for the County of Los Angeles. The
complaint was filed on behalf of 681 individual plaintiffs claiming damages as a
result of our alleged disposal and/or release of hazardous substances into the
soil, air and groundwater. On July 22, 1999, April 12, 2000, November 30, 2000,
March 31, 2001 and May 24, 2001, respectively, five additional complaints
22
were filed in the same court on behalf of an additional 79, 141, 76, 51, and 29
plaintiffs, respectively, with the same claims for damages as the June 1999
action. Four of the five additional cases have been served on the Company. In
addition, we have been informed that a similar action will be filed in the near
future on behalf of another six plaintiffs.
Plaintiffs in all six cases further allege that they have been exposed to such
hazardous substances by inhalation, ingestion and dermal contact, including but
not limited to hazardous substances contained within the municipal drinking
water supplied by the City of Pomona and the Southern California Water Company.
Plaintiffs' claims against the Company include personal injury, wrongful death,
property damage, negligence, trespass, nuisance, fraudulent concealment,
absolute liability for ultra-hazardous activities, civil conspiracy, battery and
violation of the California Unfair Trade Practices Act. Damages are unspecified.
We deny any liability for the plaintiffs' alleged damages and intend to
vigorously defend these actions. We have not answered or appeared in any of the
cases because of an agreement among the parties and the court to stay these
cases pending resolution of several similar cases before the California Supreme
Court. In February 2002, the California Supreme Court issued its decision
permitting the lawsuits to proceed against all defendants. The trial court is
expected to lift the stay within the next 30 to 90 days for both the six Xerox
cases and the unrelated Southern California ground water case with which they
are coordinated. Based on the stage of the litigation, it is not possible to
estimate the amount of loss or range of possible loss that might result from an
adverse judgment or a settlement of this matter.
In re Xerox Corporation Securities Litigation: A consolidated securities law
action (consisting of 17 cases) is pending in the United States District Court
for the District of Connecticut. Defendants are the Company, Barry Romeril, Paul
Allaire and G. Richard Thoman. The consolidated action purports to be a class
action on behalf of the named plaintiffs and all other purchasers of common
stock of the Company during the period between October 22, 1998 through October
7, 1999 (Class Period). The amended consolidated complaint in the action alleges
that in violation of Section 10(b) and/or 20(a) of the Securities Exchange Act
of 1934, as amended (34 Act), and Securities and Exchange Commission Rule 10b-5
thereunder, each of the defendants is liable as a participant in a fraudulent
scheme and course of business that operated as a fraud or deceit on purchasers
of the Company's common stock during the Class Period by disseminating
materially false and misleading statements and/or concealing material facts. The
amended complaint further alleges that the alleged scheme: (i) deceived the
investing public regarding the economic capabilities, sales proficiencies,
growth, operations and the intrinsic value of the Company's common stock; (ii)
allowed several corporate insiders, such as the named individual defendants, to
sell shares of privately held common stock of the Company while in possession of
materially adverse, non-public information; and (iii) caused the individual
plaintiffs and the other members of the purported class to purchase common stock
of the Company at inflated prices. The amended consolidated complaint seeks
unspecified compensatory damages in favor of the plaintiffs and the other
members of the purported class against all defendants, jointly and severally,
for all damages sustained as a result of defendants' alleged wrongdoing,
including interest thereon, together with reasonable costs and expenses incurred
in the action, including counsel fees and expert fees. On September 28, 2001,
the court denied the defendants' motion for dismissal of the complaint. On
November 5, 2001, the defendants answered the complaint. The parties are engaged
in discovery. The named individual defendants and we deny any wrongdoing and
intend to vigorously defend the action. Based on the stage of the litigation, it
is not possible to estimate the amount of loss or range of possible loss that
might result from an adverse judgment or a settlement of this matter.
23
In re Xerox Derivative Actions: A consolidated putative shareholder derivative
action is pending in the Supreme Court of the State of New York, County of New
York against several current and former members of the Board of Directors
including William F. Buehler, B.R. Inman, Antonia Ax:son Johnson, Vernon E.
Jordan, Jr., Yotaro Kobayashi, Hilmar Kopper, Ralph Larsen, George J. Mitchell,
N.J. Nicolas, Jr., John E. Pepper, Patricia Russo, Martha Seger, Thomas C.
Theobald, Paul Allaire, G. Richard Thoman, Anne Mulcahy and Barry Romeril, and
KPMG, LLP. The plaintiffs purportedly brought this action in the name of and for
the benefit of the Company, which is named as a nominal defendant, and its
public shareholders.
The second consolidated amended complaint alleges that each of the director
defendants breached their fiduciary duties to the Company and its shareholders
by, among other things, ignoring indications of a lack of oversight at the
Company and the existence of flawed business and accounting practices within the
Company's Mexican and other operations; failing to have in place sufficient
controls and procedures to monitor the Company's accounting practices; knowingly
and recklessly disseminating and permitting to be disseminated, misleading
information to shareholders and the investing public; and permitting the Company
to engage in improper accounting practices. The plaintiffs further allege that
each of the director defendants breached their duties of due care and diligence
in the management and administration of the Company's affairs and grossly
mismanaged or aided and abetted the gross mismanagement of the Company and its
assets. The second amended complaint also asserts claims of negligence,
negligent misrepresentation, breach of contract and breach of fiduciary duty
against KPMG. Additionally, plaintiffs claim that KPMG is liable to Xerox for
contribution, based on KPMG's share of the responsibility for any injuries or
damages for which Xerox is held liable to plaintiffs in related pending
securities class action litigation. On behalf of the Company, the plaintiffs
seek a judgment declaring that the director defendants violated and/or aided and
abetted the breach of their fiduciary duties to the Company and its
shareholders; awarding the Company unspecified compensatory damages against the
director defendants, individually and severally, together with pre-judgement and
post-judgement interest at the maximum rate allowable by law; awarding the
Company punitive damages against the director defendants; awarding the Company
compensatory damages against KPMG; and awarding plaintiffs the costs and
disbursements of this action, including reasonable attorneys' and experts' fees.
The individual defendants deny the wrongdoing alleged and intend to vigorously
defend the litigation.
Carlson v. Xerox Corporation, et al.: A consolidated securities law action
(consisting of 21cases) is pending in the United States District Court for the
District of Connecticut against the Company, KPMG LLP (KPMG), and Paul A.
Allaire, G. Richard Thoman, Anne M. Mulcahy, Barry D. Romeril, Gregory Tayler
and Philip Fishbach. The consolidated action purports to be a class action on
behalf of the named plaintiffs and all purchasers of securities of, and bonds
issued by, the Company during the period between February 17, 1998 through
February 6, 2001 (Class). Among other things, the second consolidated amended
complaint, filed on February 11, 2002, generally alleges that each of the
Company, KPMG, and the individual defendants violated Section 10(b) of the 34
Act and Securities and Exchange Commission Rule 10b-5 thereunder. The individual
defendants are also allegedly liable as "controlling persons" of the Company
pursuant to Section 20(a) of the 34 Act. Plaintiffs claim that the defendants
participated in a fraudulent scheme that operated as a fraud and deceit on
purchasers of the Company's common stock by disseminating materially false and
misleading statements and/or concealing material adverse facts relating to the
Company's Mexican operations and other matters relating to the Company's
accounting practices and financial condition. The plaintiffs further allege that
this scheme deceived the investing public regarding the true state of the
Company's financial condition and caused the plaintiffs and other members of the
alleged Class to purchase the Company's common stock and bonds
24
at artificially inflated prices. The second consolidated amended complaint seeks
unspecified compensatory damages in favor of the plaintiffs and the other
members of the alleged Class against the Company, KPMG and the individual
defendants, jointly and severally, including interest thereon, together with
reasonable costs and expenses, including counsel fees and expert fees. On May 6,
2002, the Company and the individual defendants filed a motion to dismiss the
second consolidated amended complaint. KPMG filed a separate motion to dismiss.
The individual defendants and we deny any wrongdoing and intend to vigorously
defend the action. Based on the stage of the litigation, it is not possible to
estimate the amount of loss or range of possible loss that might result from an
adverse judgment or a settlement of this matter.
Bingham v. Xerox Corporation, et al.: A lawsuit filed by James F. Bingham, a
former employee of the Company, is pending in the Superior Court of Connecticut,
Judicial District of Waterbury (Complex Litigation Docket) against the Company,
Barry D. Romeril, Eunice M. Filter and Paul Allaire. The complaint alleges that
the plaintiff was wrongfully terminated in violation of public policy because he
attempted to disclose to senior management and to remedy alleged accounting
fraud and reporting irregularities. The plaintiff further claims that the
Company and the individual defendants violated the Company's
policies/commitments to refrain from retaliating against employees who report
ethics issues. The plaintiff also asserts claims of defamation and tortious
interference with a contract. He seeks: (i) unspecified compensatory damages in
excess of $15 thousand, (ii) punitive damages, and (iii) the cost of bringing
the action and other relief as deemed appropriate by the court. The parties are
engaged in discovery. The individuals and we deny any wrongdoing and intend to
vigorously defend the action. Based on the stage of the litigation, it is not
possible to estimate the amount of loss or range of possible loss that might
result from an adverse judgment or a settlement of this matter.
Berger, et al. v. RIGP: A class was certified in an action originally filed in
the United States District Court for the Southern District of Illinois on July
25, 2000 against the Company's Retirement Income Guarantee Plan (RIGP). The RIGP
represents the primary U.S. pension plan for salaried employees. Plaintiffs
bring this action on behalf of themselves and an alleged class of over 25,000
persons who received lump sum distributions from RIGP after January 1, 1990.
Plaintiffs assert violations of the Employee Retirement Income Security Act
(ERISA), claiming that the lump sum distributions were improperly calculated. On
July 3, 2001 the court granted the Plaintiffs' motion for summary judgment,
finding the lump sum calculations violated ERISA. RIGP denies any wrongdoing and
intends to appeal the District Court's ruling. Although the damages sought were
not specified in the complaint, the Plaintiffs submitted papers in December 2001
claiming $284 in damages.
Securities and Exchange Commission Investigation and Review: On April 11, 2002
we announced that we had reached a settlement with the SEC on the previously
disclosed proposed allegations related to matters that had been under
investigation since June 2000. As a result, the Commission filed on April 11,
2002 a complaint, which we simultaneously settled by consenting to the entry of
an Order enjoining us from future violations of Section 17(a) of the Securities
Act of 1933, Sections 10(b), 13(a) and 13(b) of the Securities Exchange Act of
1934 and Rules 10b-5, 12b-20, 13a-1, 13a-13 and 13b2-1 thereunder, requiring
payment of a civil penalty of $10, and imposing other ancillary relief. We
neither admitted nor denied the allegations of the complaint. The $10 civil
penalty was accrued in the first quarter 2002, and is included in Other
Expenses, net in the accompanying Condensed Consolidated Statement of
Operations.
25
Under the terms of the settlement, we have restated our financial statements for
the years 1997 through 2000 as well as adjusted previously announced 2001
results. See Note 2 for more information regarding the adjustments and
restatements.
As part of the settlement, and to allow for the additional time required to
prepare the restatement and to make these adjustments, the Commission issued an
Order pursuant to Section 36 of the Exchange Act (Exemptive Order) permitting us
and our subsidiary, Xerox Credit Corporation, to file our respective 2001 Form
10-Ks and first-quarter 2002 Form 10-Qs on or before June 30, 2002. The
Exemptive Order provides that such filings made on or before June 30, 2002 will
be deemed to have been filed on the prescribed due date. Since June 30, 2002
fell on a Sunday, as permitted by SEC rules we completed our filing on July 1,
2002.
We have also agreed as part of the settlement that a special committee of our
Board of Directors will retain an independent consultant to review our material
accounting controls and policies. The Board will share the outcome of this
review with the SEC.
Pitney Bowes, Inc. v. Xerox Corporation and Fuji Xerox Co., Ltd.: On June 19,
2001, an action was commenced by Pitney Bowes in the United States District
Court for the District of Connecticut against the Company seeking unspecified
damages for infringement of a patent of Pitney Bowes which expired on May 31,
2000. Plaintiff claims that two printers containing image enhancement functions
infringe the patent and seeks damages in the unspecified amount for sales
between June 1995 and May 2000. We filed our answer and counterclaims on October
1, 2001. In December, 2001, a companion case against Lexmark and others on the
patent in suit was transferred out of Connecticut to Kentucky. The Xerox and
Fuji Xerox case was transferred to Kentucky and consolidated with the other
infringement cases. We deny any wrongdoing and intend to vigorously defend the
action. Based on the stage of the litigation, it is not possible to estimate the
amount of loss or range of possible loss that might result from an adverse
judgment or a settlement of this matter.
Florida State Board of Administration, et al. v. Xerox Corporation, et al.: On
January 4, 2002, the Florida State Board of Administration, the Teachers'
Retirement System of Louisiana and Franklin Mutual Advisers filed an action in
the United States District Court for the Northern District of Florida
(Tallahassee Division) against the Company, Paul Allaire, G. Richard Thoman,
Barry Romeril, Anne Mulcahy, Philip Fishbach, Gregory Tayler, Eunice M. Filter
and KPMG LLP (KPMG). The plaintiffs allege that each of the Company, the
individual defendants and KPMG violated Sections 10(b) and 18 of the Securities
Exchange Act of 1934, as amended (the 34 Act), Securities and Exchange
Commission Rule 10b-5 thereunder, the Florida Securities Investors Protection
Act, Fl. Stat. ss. 517.301, and the Louisiana Securities Act, R.S. 51:712(A).
The plaintiffs further claim that the individual defendants are each liable as
"controlling persons" of the Company pursuant to Section 20 of the 34 Act and
that each of the defendants is liable for common law fraud and negligent
misrepresentation. The complaint generally alleges that the defendants
participated in a scheme and course of conduct that deceived the investing
public by disseminating materially false and misleading statements and/or
concealing material adverse facts relating to the Company's Mexican operations
and other matters relating to the Company's financial condition and accounting
practices. The plaintiffs contend that in relying on false and misleading
statements allegedly made by the defendants during the period between February
15, 1998 and February 6, 2001, they bought shares of the Company's common stock
at artificially inflated prices. As a result, they allegedly suffered aggregated
cash losses of almost $100. The plaintiffs seek, among other things, unspecified
compensatory damages against the Company, the individual defendants and KPMG,
jointly and severally, including prejudgment interest thereon,
26
together with the costs and disbursements of the action, including their actual
attorneys' and experts' fees. On March 8, 2002, the individual defendants and we
filed a motion before the Judicial Panel on Multidistrict Litigation seeking to
transfer this action and any related tagalong actions to the United States
District Court for the District of Connecticut for consolidation or coordination
for pre-trial purposes with the 21 consolidated actions currently pending there
under the caption, Carlson v. Xerox et al. On June 19, 2002, the motion to
transfer was granted. The individual defendants and we deny any wrongdoing
alleged in the complaint and intend to vigorously defend the action. Based on
the stage of the litigation, it is not possible to estimate the amount of loss
or range of possible loss that might result from an adverse judgment or a
settlement of this matter.
Xerox Corporation v. 3Com Corporation, et al.: On April 28, 1997, we commenced
an action against Palm for infringement of the Xerox "Unistrokes" handwriting
recognition Patent by the Palm Pilot using "Graffiti." On January 14, 1999, the
U.S. Patent and Trademark Office (PTO) granted the first of two 3Com/Palm
requests for reexamination of the Unistrokes patent challenging its validity.
The PTO concluded its reexaminations and confirmed the validity of all 16 claims
of the original Unistrokes patent. On June 6, 2000, the judge narrowly
interpreted the scope of the Unistrokes patent claims and, based on that narrow
determination, found the Palm Pilot with Graffiti did not infringe the
Unistrokes patent claims. On October 5, 2000, the Court of Appeals for the
Federal Circuit (CAFC) reversed the finding of no infringement and sent the case
back to the lower court to continue toward trial on the infringement claims. On
December 20, 2001, the District Court granted our motions on infringement and
for a finding of validity thus establishing liability. On December 21, 2001,
Palm appealed to the CAFC. We moved for a trial on damages and an injunction or
bond in lieu of injunction. The District Court denied our motion for a temporary
injunction, but ordered a $50 bond to be posted to protect us against future
damages until the trial. Palm issued a $50 Irrevocable Letter of Credit in favor
of Xerox. The District Court's decision is now on appeal before the Court of
Appeals for the Federal circuit.
Pall v. Buehler, et al.: On May 16, 2002, a shareholder commenced a derivative
action in the United States District Court for the District of Connecticut
against KPMG Peat Marwick (KPMG). The Company was named as a nominal defendant.
Plaintiff purported to bring this action derivatively in the right, and for the
benefit, of the Company. He contended that he is excused from complying with the
prerequisite to make a demand on the Xerox Board of Directors, and that such
demand would be futile, because the directors are disabled from making a
disinterested, independent decision about whether to prosecute this action. In
the original complaint, plaintiff alleged that KPMG, the Company's former
outside auditor, breached its duties of loyalty and due care owed to Xerox by
repeatedly acquiescing in, permitting and aiding and abetting the manipulation
of Xerox's accounting and financial records in order to improve the Company's
publicly reported financial results. He further claimed that KPMG committed
malpractice and breached its duty to use such skill, prudence and diligence as
other members of the accounting profession commonly possess and exercise.
Plaintiff claimed that as a result of KPMG's breaches of duties, the Company has
suffered loss and damage. On May 29, 2002, plaintiff amended the complaint to
add as defendants the present and certain former directors of the Company. He
added claims against each of them for breach of fiduciary duty, and separate
additional claims against the directors who are or were members of the Audit
Committee of the Board of Directors, based upon the alleged failure, inter alia,
to implement, supervise and maintain proper accounting systems, controls and
practices. The amended derivative complaint demands a judgment declaring that
the defendants have violated and/or aided and abetted the breach of fiduciary
and professional duties to the Company and its shareholders; awarding the
Company unspecified compensatory damages, together with pre-judgment and
post-judgment interest at the maximum
27
rate allowable by law; awarding the Company punitive damages; awarding the
plaintiff the costs and disbursements of the action, including reasonable
attorneys' and experts' fees; and granting such other or further relief as may
be just and proper under the circumstances. The plaintiff has identified this
action as a "related case" to Carlson v. Xerox Corporation, et al., a
consolidated securities law action currently pending in the same court. The
individual defendants deny the wrongdoing alleged and intend to vigorously
defend the litigation.
Lerner v. Allaire, et al.: On June 6, 2002, a shareholder, Stanley Lerner,
commenced a derivative action in the United States District Court for the
District of Connecticut against Paul A. Allaire, William F. Buehler, Barry D.
Romeril, Anne M. Mulcahy and G. Richard Thoman. The plaintiff purports to bring
the action derivatively, on behalf of the Company, which is named as a nominal
defendant. Previously, on June 19, 2001, Lerner made a demand on the Board of
Directors to commence suit against certain officers and directors to recover
unspecified damages and compensation paid to these officers and directors. In
his demand, Lerner contended, inter alia, that management was aware since 1998
of material accounting irregularities and failed to take action and that the
Company has been mismanaged. At its September 26, 2001 meeting, the Board of
Directors appointed a special committee to consider, investigate and respond to
the demand. The special committee is still deliberating. In this action,
plaintiff alleges that the individual defendants breached their fiduciary duties
of care and loyalty by disguising the true operating performance of the Company
through improper undisclosed accounting mechanisms between 1997 and 2000. The
complaint alleges that the defendants benefited personally, through compensation
and the sale of company stock, and either participated in or approved the
accounting procedures or failed to supervise adequately the accounting
activities of the Company. The plaintiff demands a judgment declaring that
defendants intentionally breached their fiduciary duties to the Company and its
shareholders; awarding unspecified compensatory damages to the Company against
the defendants, individually and severally, together with pre-judgment and
post-judgment interest; awarding the Company punitive damages; awarding the
plaintiff the costs and disbursements of the action, including reasonable
attorneys' and experts' fees; and granting such other or further relief as may
be just and proper. The individual defendants deny the wrongdoing alleged and
intend to vigorously defend the litigation.
Other Matters: It is our policy to carefully investigate, often with the
assistance of outside advisers, allegations of impropriety that may come to our
attention. If the allegations are substantiated, appropriate prompt remedial
action is taken. In India, we have learned of certain improper payments made
over a period of years in connection with sales to government customers by
employees of our now majority-owned subsidiary in that country. This activity
was terminated when we became aware of it. We have investigated the activity and
recently reported it to the staff of the SEC. We estimate the amount of such
payments in 2000, the year the activity was stopped, to be approximately $600 to
$700 thousand. In 2000 the Indian company had revenue of approximately $130. We
are investigating certain transactions of our unconsolidated South African
affiliate that appear to have been improperly recorded as part of an effort to
sell supplies outside of its authorized territory. Recently, we received an
anonymous, unsubstantiated allegation, stated to be based upon rumor, that
improper payments were made in connection with government sales in a South
American subsidiary. We have not yet completed a full investigation, but we have
not found anything that substantiates the allegation as of the date of this
filing. We have discussed these matters recently with the staff of the SEC.
Based on our consideration of these matters to date, we do not believe that they
are material to our consolidated financial statements.
28
13. Subsequent Events:
In June 2002 and as further described in Note 1, Note 10 and in our 2001 Annual
Report on Form 10-K, we entered into a $4.2 billion amended and restated credit
agreement with a group of lenders which replaced our previous debt $7 billion
facility.
In May 2002, one of our credit rating agencies downgraded our credit status,
which had the resultant effect of causing a termination event under our U.S.
trade receivable securitization facility. The undivided interest sold under the
U.S. trade receivable securitization facility amounted to $290 at December 31,
2001, of the $326 aggregate total noted above. The Canadian account receivable
facility, which had undivided interests of $36 at December 31, 2001 was also
impacted by a downgrade in debt, which led to a similar event of default. As of
June 28, 2002, we are currently in the process of renegotiating terms of the
U.S. trade receivable securitization facility. We continue to sell receivables
to the U.S. trade receivable securitization facility up to its limit of $290.
Failure to successfully renegotiate this facility could result in the suspension
of its revolving features, whereupon we would be unable to sell new accounts
receivable into the facility. However, if that event occurs, there would not be
any requirement of us to repurchase any of the undivided interests sold. The
practical effect would be only that of timing, as the cash flows from the pooled
receivables would first be used to pay the undivided interests investor, while
we would collect all remaining cash from the residual receivables in the pool.
The Canadian account receivable facility was not renegotiated and the balance of
the undivided interests of $36 at December 31, 2001, was fully repaid in the
first quarter of 2002.
In May 2002, GE Capital and we launched the Xerox Capital Services (XCS)
venture. XCS manages our customer administration and leasing activities in the
U.S., including various financing programs, credit approval, order processing,
billing and collections.
In May 2002, we received additional financing totaling $499 from GE Capital
secured by lease receivables in the U.S. Net fees of $3 have been capitalized as
debt issue costs.
In May 2002, we entered into an agreement to transfer part of our financing
operations in Germany to GE Capital. We received a $77 loan from GE Capital
secured by certain of our finance receivables in Germany. Cash proceeds of $65
were net of $12 of escrow requirements.
In May 2002, we received an additional loan from GE Capital of $106 secured by
portions of our lease receivable portfolio in the U.K.
In April 2002, we sold our leasing business in Italy to a third party for
approximately $207 in cash plus the assumption of $20 of debt. We can also
receive retained interests up to approximately $30 based on the occurrence of
certain future events. This sale is part of an agreement under which the third
party will provide ongoing, exclusive equipment financing to our customers in
Italy.
29
Item 2 Xerox Corporation
Management's Discussion and Analysis of
Results of Operations and Financial Condition
Restatement of Prior Years Financial Statements. We have determined that certain
of our accounting practices misapplied U.S. generally accepted accounting
principles (GAAP). Accordingly, we have restated our financial statements for
the four years ended December 31, 2000, the first three quarters of 2001, which
included our financial statements in our Quarterly Reports on Form 10-Q as filed
with the SEC, and revised our previously announced 2001 results included in our
earnings release dated January 28, 2002. Throughout this MD&A, the term
"previously reported" will be used to refer to our previously filed 2001 report
on Form 10-Q for the three months ended March 31, 2001. The restatement
adjustments relate almost exclusively to the timing of revenue and expense
recognition. We reversed cumulative net revenue of $1.9 billion that was
recognized in prior years, of which $1.3 billion is reflected in the years 1997
to 2001. This revenue adjustment is comprised of a reduction in equipment sales
revenue, previously recognized from 1997 through 2001, of $6.4 billion offset by
$5.1 billion of service, rental, document outsourcing and financing revenue now
recognized from 1997 through 2001. The remaining net amount of revenue reversed,
of $600 million, represents the cumulative net revenue impacts of reversing
equipment sales transactions that were previously recorded in periods prior to
1997. Based on the cumulative impacts of the revenue adjustments for all periods
prior to December 31, 2001, including pre-1997 impacts, we anticipate the
recognition of $1.9 billion in revenues over the next several years through
2006. This represents sales-type lease revenue that had previously been
recorded, that is expected to be earned over time as a component of our rental,
service and finance revenue. In addition to the aforementioned revenue timing
adjustments, and as more fully discussed below, we permanently reduced reported
revenue by $269 million, for the five-year period ended December 31, 2001, as a
result of the deconsolidation of our South African affiliate. Revenues from 1997
through 2001 as originally reported were $92.6 billion compared to $91.0 billion
after the restatement. Substantially all non-revenue items included in the
restatement have reversed within the five-year period ended December 31, 2001;
our liquidity is not impacted since the restatement items reflect timing
differences.
Settlement with the Securities and Exchange Commission. On April 11, 2002, we
reached a settlement with the SEC relating to matters that had been under
investigation by the SEC since June 2000. We believe the settlement is in the
best interests of our shareholders, customers, employees and other stakeholders
because it resolves these matters - eliminating the distraction and risk
associated with potential SEC litigation - thereby enabling us to focus on
continuing to improve our operations and restore our financial health. In
addition, as a result of the settlement with the SEC, we are undertaking a
review of our material internal accounting controls and accounting policies to
determine whether any additional changes are required in order to provide
additional reasonable assurance that the types of accounting errors that
occurred are not likely to reoccur.
The restatement reflects adjustments which are corrections of errors made in the
application of GAAP and includes (i) adjustments related to the application of
the provisions of Statement of Financial Accounting Standards No. 13 "Accounting
for Leases" (SFAS No. 13) and (ii) adjustments that arose as a result of other
errors in the application of GAAP. In making these restatements we have
conducted an extensive review of all significant transactions, accounting
policies and procedures and disclosures for the period 1997 through 2001. The
principal adjustments are discussed below.
30
Application of SFAS No. 13:
Revenue allocations in bundled arrangements: We sell most of our products and
services under bundled lease arrangements which contain multiple deliverable
elements. These multiple element arrangements typically include separate
equipment, service, supplies and financing components for which a customer pays
a single fixed negotiated price on a monthly basis, as well as a variable amount
for page volumes in excess of stated minimums. The restatement primarily
reflects adjustments related to the allocation of revenue and the resultant
timing of revenue recognition for sales-type leases under these bundled lease
arrangements.
The methodology we used in prior years for allocating revenue to our sales-type
leases involved first, estimating the fair market value of the service and
financing components of the leases. Specifically, with respect to the financing
component, we estimated the overall interest rate to be applied to transactions
to be the rate we targeted to achieve a fair return on equity for our financing
operations. This is effectively a discounted cash flow valuation methodology. In
estimating this interest rate we considered a number of factors including our
cost of funds, debt levels, return on equity, debt to equity ratios, income
generated subsequent to the initial lease term, tax rates, and the financing
business overhead costs. We made service revenue allocations based, primarily,
on an analysis of our service gross margins. After deducting service and finance
values from the minimum payments due under the lease, the equipment value was
derived. These allocation procedures resulted in adjustments to values initially
reflected in our accounting systems, such that values attributed to the service
and financing components were generally decreased and the values assigned to the
equipment components were generally increased.
The SEC staff advised us of its view that our previous methodology, as described
above, did not comply with the requirements of SFAS No. 13. SFAS No. 13 requires
us to use the discount rate which causes the aggregate present value of the
minimum lease payments, excluding executory and service income, and any
unguaranteed residual value, to equal the fair value of the equipment. However,
our revenue allocation processes with respect to the principal (i.e., equipment)
and interest components of our leases did not begin with the estimated fair
value of the equipment, and did not treat unearned finance income as the derived
value.
As a result, we now utilize a different methodology to account for our
sales-type leases involving multiple element arrangements. This methodology
begins by determining the fair value of the service component, as well as other
executory costs and any profit thereon, and second, by determining the fair
value of the equipment based on a comparison of the equipment values in our
accounting systems to a range of cash selling prices. The resultant implicit
interest rate is then compared to fair market value rates to assess the
reasonableness of the overall allocations to the multiple elements.
We conducted an extensive analysis of available verifiable objective evidence of
fair value (VOE) based on cash sales prices and compared these prices to the
range of equipment values recorded in our lease accounting systems. With the
exception of Latin America, where operating lease accounting is applied as
discussed below, the range of cash selling prices supports the reasonableness of
the range of equipment lease prices as originally recorded, at inception of the
lease, in our accounting systems. In applying our new methodology described
above, we have therefore concluded that the revenue amounts allocated by our
accounting systems to the equipment component of a multiple element arrangement
represents a reasonable estimate of the fair value of the equipment. As a
consequence, $109 million of previously recorded equipment sale revenue during
31
the three months ended March 31, 2001 has been reversed and we have recognized
additional service revenue and finance income of $129 million, which represents
the impact of reversing amounts previously recorded as equipment sales-type
leases and recognizing such amounts over the lease term. The net increase in
revenue, as a result of this change was $20 million for the three month period
ended March 31, 2001. During the quarter ended March 31, 2002 we recognized
approximately $120 million of revenue as a result of the restatement of our
prior years results. In total approximately $720 million of revenue previously
recognized has been reversed and will be recognized in future years, estimated
as follows: $290 million - 2002, $260 million - 2003 and $170 million -
thereafter.
Transactions not qualifying as sales-type leases: We re-evaluated the
application of SFAS No. 13 for leases originally accounted for as sales-type
leases in our Latin American operations and determined that these leases should
have been recorded as operating leases. This determination was made after we
conducted an in-depth review of the historical effective lease terms compared to
the contractual terms of our lease agreements. Since, historically, and during
all periods presented, a majority of leases were terminated significantly prior
to the expiration of the contractual lease term, we concluded that such leases
did not qualify as sales-type leases under certain provisions of SFAS No. 13.
Specifically, because we generally do not collect the receivable from the
initial transaction upon termination of the contract or during the subsequent
lease term, the recoverability of the lease investment was not predictable at
the inception of the original lease term. The accounting for these transactions
as sales-type leases is further complicated due to our very high market shares
in many of these countries, which makes it difficult to establish a reasonable
basis for estimating the fair value of the equipment component of our leases due
to a lack of available VOE. In addition historical and continuing economic and
political instability in many of these countries also raises concerns about
reasonable assurance of collectibility. As a consequence, $48 million of
previously recorded equipment sale revenue during the three months ended March
31, 2001 has been reversed and we have recognized additional rental revenue of
$73 million, which represents the impact of changing the classification of
previously recorded sales-type leases to operating leases. The net increase in
revenue, as a result of this change, was $25 million for the three month period
ended March 31, 2001. During the quarter ended March 31, 2002 we recognized
approximately $60 million of revenue as a result of the restatement of our prior
years results. In total, approximately $740 million of revenue previously
recognized has been reversed and will be recognized in future years, estimated
as follows: $180 million - 2002, $240 million - 2003 and $320 million -
thereafter.
During the course of the restatement process, we concluded that the estimated
economic life used for classifying leases for the majority of our products
should have been five years versus the three to four years we previously
utilized. This resulted from an in-depth review of our lease portfolios, for all
periods presented, which indicated that the most frequent term of our lease
contracts was 60 months. We believe that this has been and is representative of
the period during which the equipment is expected to be economically usable,
with normal repairs and maintenance, for the purpose for which it was intended
at the inception of the lease. As a consequence, many shorter duration leases
did not meet the criteria of SFAS No. 13 to be accounted for as sales-type
leases. Additionally, other lease arrangements were found to not meet other
requirements of SFAS No. 13 for treatment as sales-type leases. As a
consequence, $11 million of equipment revenue recorded during the three months
ended March 31, 2001 has been reversed and we have recognized additional rental
revenue of $29 million, which represents the impact of changing the
classification of previously recorded sales-type leases to operating leases. The
net increase in revenue, as a result of this change, was $18 million for
32
the three month period ended March 31, 2001. During the quarter ended March 31,
2002 we recognized approximately $20 million of revenue as a result of the
restatement of our prior years results. In total approximately $120 million of
revenue previously recognized has been reversed and will be recognized in future
years, estimated as follows: $50 million - 2002, $40 million - 2003 and $30
million - thereafter.
Accounting for the sale of equipment subject to operating leases: We have
historically sold pools of equipment subject to operating leases to third party
finance companies (the counterparties) or through structured financings with
third parties and recorded the transaction as a sale at the time the equipment
is accepted by the counterparties. These transactions increased equipment sale
revenue, primarily in Latin America, in 2000 and 1999 by $148 million and $400
million, respectively. Upon additional review of the terms and conditions of
these contracts, it was determined that the form of the transactions at
inception included retained ownership risk provisions or other contingencies
that precluded these transactions from meeting the criteria for sale treatment
under the provisions of SFAS No. 13. The form of the transaction
notwithstanding, these risk of loss or contingency provisions have resulted in
only minor impacts on our operating results during the five years ended December
31, 2001. These transactions have however been restated and recorded as
operating leases in our consolidated financial statements. As a consequence we
have recognized additional revenue of $60 million during the three months ended
March 31, 2001, which represents the impact of changing the previously recorded
transactions to operating leases. During the quarter ended March 31, 2002 we
recognized approximately $25 million of revenue as a result of the restatement
of our prior years results. In total approximately $85 million of revenue
previously recognized has been reversed and will be recognized in future years,
estimated as follows: $55 million - 2002 and $30 million - 2003. Additionally,
for transactions in which cash proceeds were received up-front we have recorded
these proceeds as secured borrowings. The remaining balance of these borrowings
aggregated $42 million at March 31, 2002.
In summary and in connection with the restatement of reported results of
operations regarding accounting for leases, our policy is to now measure the
reasonableness of estimates of fair values of leased equipment by comparison to
VOE from cash sales of the same or similar equipment or on the basis of other
objective evidence of fair value. Going forward, due to a change in business
model, we expect equipment sales in Latin America will either be for cash or
will be financed by third party financial institutions. In connection with
negotiations underway with third parties, we anticipate substantially exiting
our financing business. Our business processes and the terms of our third party
financing contracts may result in our customer transactions being initially
recorded as leases in our financial statements prior to being sold to the
financing companies. The accounting effect may require us to account for
transactions with third party finance companies as sales of the underlying
leases, and to recognize gains or losses on the sales of such leases as they are
sold.
Other adjustments:
In addition to the aforementioned revenue related adjustments, other errors in
the application of GAAP were identified. These include the following:
Sales of receivables transactions: During July 2001 and 1999, we sold
approximately $2.0 billion of U.S. finance receivables originating from
sales-type leases ($1.4 billion in 1999 and $600 million in 2001). These
transactions were originally accounted for as sales of receivables. These sales
were made to special purpose entities (SPEs), which qualified for
non-consolidation in accordance with then existing accounting requirements. As a
result of the changes in the estimated economic life of our equipment to five
years, certain
33
leases transferred in these transactions did not meet the sales-type lease
requirements and were accounted for as operating leases. This change in lease
classification affected a number of the leases that were sold into the
aforementioned SPEs resulting in these entities now holding operating leases as
assets. This change disqualified the SPEs from non-consolidation and effectively
required us to record the proceeds received on these sales as secured
borrowings. This increased our debt by $368 and $320 as of March 31, 2002 and
2001, respectively. The adjustment to increase receivables also resulted in the
recognition of financing revenue of $6 for the three month period ended March
31, 2001. This change has no effect on our liquidity or amounts due to the SPEs
from the Company.
South Africa deconsolidation: We determined that we inappropriately consolidated
our South African affiliate since 1998 as the minority joint venture partner has
substantive participating rights. Accordingly, we have deconsolidated all
assets, liabilities, revenues and expenses. We now account for this investment
on the equity method of accounting. The reduction in revenue for the three
months ended March 31, 2001 was $17 million and there was no impact on net
income or Common Shareholder's Equity as the reduction in pre-tax income is
offset by an increase in equity in net income of unconsolidated affiliates.
Purchase accounting reserves: In connection with the 1998 acquisition of XL
Connect Solutions, Inc. (XLConnect), we recorded liabilities aggregating $65
million for contingencies identified at the date of the acquisition. During 2000
and 1999, we determined that certain of these contingent liabilities were no
longer required, and $29 million of the liabilities were either reversed into
income or we charged certain costs related to ongoing activities of the acquired
business against these liabilities. Upon additional review we determined that
approximately $51 million of these contingent liabilities did not meet the
criteria to initially be recorded as acquisition liabilities. Accordingly, we
have adjusted the goodwill and liabilities at the date of acquisition and
corrected the 2000 and 1999 income statement impacts. The income statement
impact as of March 31, 2001 was less than $1 million.
Restructuring reserves: During 2001 and 2000, we recorded restructuring charges
associated with our decisions to exit certain activities of the business. Upon
additional review we determined that certain adjustments made to the original
charges were not in accordance with GAAP. The adjustments to decrease pre-tax
income in the first quarter of 2001 of $28 million consist primarily of
corrections to the timing of the release of reserves originally recorded under
the March 2000 restructuring program. We should have reversed the applicable
reserves in late 2000 when the information was available that our original plan
had changed indicating that such reserves were no longer necessary. Previously,
the reversal was recorded in early 2001.
Other adjustments: In addition to the above items and in connection with our
review of prior year's financial records we determined that other accounting
errors were made with respect to the accounting for certain non-recurring
transactions, the timing of recording and reversing certain liabilities and the
timing of recording certain asset write-offs. We have restated our Condensed
Consolidated Financial Statements for the quarter ended March 31, 2001 for such
items. These adjustments decreased pre-tax income by $1 million for the three
month period ended March 31, 2001. There were also similar adjustments to reduce
revenue by $23 for the three month period ended March 31,2001.
34
The following table presents the effects of the aforementioned adjustments on
total revenue:
Increase (decrease) to total revenue:
(In millions) Three Months
Ended
March 31, 2001
-----------------------
Revenue, previously reported $4,202
Application of SFAS No. 13:
Revenue allocations in bundled arrangements 20
Latin America - operating lease accounting 25
Other transactions not qualifying as sales-type leases 18
Sales of equipment subject to operating leases 60
-----
Subtotal 123
Other revenue restatement adjustments:
Sales of receivables transactions 6
South Africa deconsolidation (17)
Other revenue items, net (23)
-----
Subtotal (34)
Increase in total revenue 89
------
Revenues, restated $4,291
======
The following table presents the effects of the aforementioned adjustments on
sales revenue:
Increase (decrease) to sales revenue:
(In millions) Three Months
Ended
March 31, 2001
----------------------
Revenue allocations in bundled arrangements $(109)
Latin America - operating lease accounting (48)
Other transactions not qualifying as sales type leases (11)
Sales of equipment subject to operating leases 8
South Africa deconsolidation (7)
Other revenue items, net (24)
-----
Decrease in sales revenue $(191)
=====
During the three months ended March 31, 2002, we recognized approximately $225
million of revenue that had been restated from prior periods. In total,
approximately $1.7 billion of revenue recognized in periods prior to the quarter
ended March 31, 2002 and prior has been reversed and is estimated to be
recognized as follows: $600 million - 2002, $570 million - 2003 and $530 million
- - thereafter. However, the realization of these amounts will be impacted by
lease terminations and currency movements.
35
The following table presents the effects of the aforementioned adjustments on
pre-tax income:
Increase (decrease) to pre-tax:
Three Months
Ended
March 31, 2001
-----------------------
Pre-tax income, previously reported $595
Revenue restatement adjustments:
Revenue allocations in bundled arrangements 21
Latin America - operating lease accounting 15
Other transactions not qualifying as sales-type leases 13
Sales of equipment subject to operating leases 27
Sales of receivables transactions (4)
South Africa deconsolidation (2)
Other revenue items, net 2
----
Subtotal 72
Other restatement adjustments:
Restructuring reserves (28)
Other, net (1)
----
Subtotal (29)
Increase to pre-tax income 43
----
Pre-tax income, restated $638
====
The impact of these adjustments on certain key ratios is as follows:
Three Months
Ended
March 31, 2001
----------------------
Sales Gross Margin:
- Previously reported 30.3%
- Adjusted and restated 26.2%
Service, Outsourcing and Rentals Gross Margin:
- Previously reported 37.7%
- Adjusted and restated 39.5%
Finance Gross Margin:
- Previously reported 29.2%
- Adjusted and restated 55.1%
Total Gross Margin:
- Previously reported 33.6%
- As adjusted and restated 34.7%
Selling, Administrative and General Expenses as a percentage
of revenue:
- Previously reported 27.4%
- As adjusted and restated 26.8%
36
The following tables present the impact of the adjustments on our previously
reported 2001 results on a condensed basis:
Previously
Reported Restated
-------- --------
Three Months Ended March 31, 2001
(in millions, except per share data)
Statement of operations:
Total Revenues $4,202 $4,291
Sales 2,056 1,865
Service, outsourcing, financing and rentals 2,146 2,426
Total Costs and Expenses 3,607 3,653
Net income 201 222
Diluted earnings per Share $0.25 $0.28
Summary
Throughout the following Financial Review, all referenced amounts reflect the
above described restatement adjustments.
In addition to the quarterly information provided in this document, selected
financial information for the five quarter period ending March 31, 2002 will be
provided in a supplemental Current Report on Form 8-K in the next several days.
2002 Revenues of $3.9 billion declined 10 percent from $4.3 billion in the first
quarter of 2001, reflecting continued economic weakness and marketplace
competition. Approximately, one-third of the decline was due to our exit from
the Small Office/Home Office (SOHO) business in the second half of 2001,
reductions in our Developing Markets Operations (DMO) and unfavorable currency.
In our Office segment, Document Centre digital multifunction and color revenues
grew. Monochrome Production Publishing (DocuTech) revenues stabilized.
Production color, Production Printing and light lens revenues declined. See Note
8 to the Condensed Consolidated Financial Statements for further discussion.
The first quarter 2002 net loss of $46 million or $0.06 cents per share,
included after tax restructuring charges of $101 million ($146 million pre-tax),
an after tax charge of $44 for permanently impaired capitalized software ($72
million pre-tax), and a $10 million civil penalty associated with our settlement
with the SEC net after tax losses from unhedged foreign currency exposures of
$22 million. These were offset by an after-tax gain of $12 million ($19 million
pre-tax) related to proceeds received from sale of stock of an insurance company
in a demutualization. 2001 first quarter net income of $222 million or $0.28
cents per share included the following net after-tax items: a $304 million gain
($769 million pre-tax) on the sale of half our interest in Fuji Xerox, after tax
restructuring charges of $81 million ($129 million pre-tax), unhedged foreign
currency gains of $44 million ($64 million pre-tax) an after tax $17 million
extraordinary gain ($28 million pre-tax) reflecting the early retirement of
debt. See Note 2 to the Condensed Consolidated Financial Statements for further
discussion.
37
Pre-Currency Growth
To understand the trends in our business, we believe that it is helpful to
adjust revenue and expense growth (except for ratios) to exclude the impact of
changes in the translation of European and Canadian currencies into U.S.
dollars. We refer to this adjusted growth as "pre-currency growth".
A substantial portion of our consolidated revenues is derived from operations
outside of the United States where the U.S. dollar is not the functional
currency. We generally do not hedge the translation effect of revenues
denominated in currencies where the local currency is the functional currency.
When compared with the average of the major European and Canadian currencies on
a revenue-weighted basis, the U.S. dollar in the 2002 first quarter was
approximately 4 percent stronger than the 2001 first quarter. As a result,
foreign currency translation unfavorably impacted revenue growth by
approximately one percentage point in the first quarter 2002.
Revenues by Type
Year-over-year post-currency changes by type of revenue were as follows:
First Quarter
2002 vs. 2001
--------------
Equipment Sales (19)%
Post Sale and Other Revenue (7)%
Financing Income (10)
Total Revenue/1/ (10)
/1/Total sales revenue in the Condensed Consolidated Statement of Operations
includes equipment sales noted above as well as supplies and paper and other
revenue that is included in "Post Sale and Other Revenue" in the above table.
Equipment sales typically represent approximately 20-25 percent of total
revenue. The majority of our equipment sales are in North America and Europe.
Equipment sales in the first quarter of 2002 declined 19 percent (17 percent
pre-currency) from the first quarter of 2001, reflecting competitive pressures,
continued weakness in the economy and our focus on profitable revenue.
Approximately 25 percent of the decline was due to our exit from the SOHO
business.
Post sale and other revenues include service, document outsourcing, rentals,
supplies and paper, which represent the revenue streams that follow equipment
placement, as well as revenue not associated with equipment placement, such as
royalties. Post sale and other revenues declined 7 percent (6 percent
pre-currency) in the first quarter of 2002 compared to the 2001 first quarter,
largely driven by declines in equipment populations reflecting reduced
placements in earlier periods and lower page print volumes.
Document outsourcing revenues are split between equipment sales and post sale
and other revenue. Where document outsourcing contracts include revenue
accounted for as equipment sales, this revenue is included in equipment sales,
and all other document outsourcing revenues, including service, equipment
rental, supplies, paper, and labor are included in post sale and other revenues.
Total 2002 first quarter document outsourcing revenue declined from the 2001
first quarter. In the 2002 first quarter, the backlog of future estimated
document outsourcing revenue declined 9 percent to approximately $7.1 billion
compared to approximately $7.8 billion in the 2001 first quarter. Our backlog is
determined as the estimated services to be provided under committed
38
contracts as of a point in time. We expect total document outsourcing revenue to
continue to decline.
Financing Income declined 10 percent (8 percent pre-currency) in the first
quarter 2002 from the first quarter 2001 reflecting continued equipment sale
declines, lower implicit interest rates and the initial effects of our
transition to third party financing. Third party financing arrangements were in
place for the full quarter in our Nordic countries and began in the Netherlands
in February.
Key Ratios and Expenses
The trend in key ratios was as follows:
March 31,
--------------
2001 2002
---- ----
Total Gross Margin 34.7% 41.0%
R&D % Revenue 5.8% 6.0%
SAG % Revenue 26.8% 30.3%
First quarter 2002 gross margin of 41.0 percent improved 6.3 percentage points
from 34.7 percent in the first quarter 2001. Approximately half the increase
reflects the prior liquidation of equipment inventory associated with our SOHO
exit as well as improvements in DMO. Improved manufacturing and service
productivity, and favorable product mix and lower cost of borrowings for our
finance business more than offset the adverse impact of competitive price
pressures.
Research and development (R&D) expense of $230 million was $21 million lower in
the 2002 first quarter than the 2001 first quarter. The R&D expense reduction
primarily reflects our exit from SOHO, helped further by benefits from cost
restructuring actions. R&D spending in the 2002 first quarter represented 6.0
percent of revenue as we continue to invest in technological development,
particularly color, to maintain our position in the rapidly changing document
processing market. We expect 2002 R&D spending will represent approximately 5-6
percent of revenue, a level that we believe is adequate to remain
technologically competitive. Xerox R&D remains strategically coordinated with
Fuji Xerox.
Selling, administrative and general (SAG) expenses increased by $20 million to
$1,169 million in the 2002 first quarter from $1,149 million in the 2001 first
quarter. In the first quarter of 2002, we reevaluated the development of a
customer service software development program for field service operations,
which based on an analysis of pilot and field testing results indicated that the
capitalized software could not be used as originally intended and was therefore
impaired. Subsequently, it was formally decided that we should abandon future
spending associated with the software as a result of these testing issues.
Accordingly, we recorded a $72 million charge in SAG in the first quarter. The
increase also includes increased advertising spending in conjunction with our
sponsorship of the Winter Olympics. The advertising campaign focuses on three
key components of our product offerings: color made easy and affordable, just in
time publishing solutions, and variable printing applications. These increases
were partially offset by reduced expenses due to our SOHO exit and the benefits
of our restructuring program. Bad debt expense increased $19 million to $103
million in the first quarter 2002 primarily due to higher provisions in certain
DMO countries including Argentina.
39
During the fourth quarter of 2000 we announced a Turnaround Program in which we
outlined a wide-ranging plan to sell assets, cut costs and strengthen our
strategic core business. We announced plans that were designed to reduce costs
by at least $1 billion annually, the majority of which affected 2001. In the
first quarter 2002 we took additional actions which are expected to further
reduce costs by approximately $100 million in 2002. As part of these
cost-cutting measures, we continue to record additional charges for initiatives
under the Turnaround Program. The recognition of such charges is based on having
a formal and committed plan, in accordance with existing accounting rules. As a
result of these actions and changes in estimates related to previously
established reserves, in the first quarter 2002 we provided an incremental $146
million ($101 million after taxes), net of reversals of $10 million primarily to
complete our open initiatives under the Turnaround Program. We expect additional
provisions will be required in 2002 as additional plans are finalized and are
committed to. The restructuring reserve balance at March 31, 2002 for the
Turnaround Program was $221 million.
In 2001, we began a separate restructuring program associated with the
disengagement from our SOHO business. The provision associated with this action
totaled $239 million and included amounts for asset impairments; lease
cancellation, purchase decommitment and other exit costs; and severance and
employee separation. The SOHO disengagement reserve balance at March 31, 2002
was $25 million and relates to severance and other costs that will be paid
during 2002.
In the 2002 first quarter, worldwide employment declined by 4,300 to 74,600 as a
result of 2,700 employees leaving the company, largely under our restructuring
programs, and the transfer of 1,600 employees to Flextronics.
As discussed in the Notes to the Condensed Consolidated Financial Statements to
this Quarterly Report on Form 10-Q, we adopted new accounting rules that
eliminate the amortization of goodwill effective January 1, 2002. The new rules
also provides for no goodwill amortization on any acquisitions that occurred
after June 30, 2001. The amount of goodwill amortization recorded in the first
quarter of 2001 was $16 million, net of tax.
Other Expenses, Net
Other expenses, net for the quarters ended March 31, 2002 and 2001 were as
follows:
Three Months
Ended March 31,
-------------------
($ in millions) 2002 2001
- --------------- -------- --------
Non-financing interest expense ............................. $ 81 $ 162
Currency (gains) losses, net ............................... 24 (64)
Amortization of goodwill (2001 only) and intangible assets.. 10 23
Interest Income ............................................ (21) (24)
Gain on sale of investment ................................. (19) -
SEC Civil Penalty .......................................... 10 -
All other, net ............................................. 5 (4)
------- --------
Total .................................................. $ 90 $ 93
======= ========
Other expenses, net were $90 million in the first quarter 2002 and $93 million
in the first quarter 2001. Significantly lower non-financing interest expense,
reflected lower debt levels and reduced borrowing costs. Net currency losses
40
of $24 million in 2002, primarily reflect the devaluation of the Argentine Peso
compared to net exchange gains of $64 million in 2001 primarily related to gains
on Yen denominated debt. These currency exposures are the result of net unhedged
positions largely caused by our restricted access to the derivatives markets.
Although we have been able to re-enter the derivatives market on a limited basis
in 2002 to hedge certain balance sheet exposures, we continue to remain largely
unhedged in our Latin American affiliates. Accordingly, we may continue to
experience volatility in this area in the future. The sale of Prudential
Insurance Company common stock associated with that company's demutualization
generated a $19 million gain in the first quarter 2002. In the first quarter
2002, we accrued the $10 million civil penalty associated with our settlement
with the SEC. See Note 2 to the Condensed Consolidated Financial Statements for
further discussion.
Income Taxes, Equity in Net Income of Unconsolidated Affiliates and Minorities
Interests in Earnings of Subsidiaries
Pre-Tax loss was $53 million in the first quarter 2002 compared to pre-tax
income of $638 million in the first quarter 2001.
In the 2002 first quarter, we recorded an income tax benefit of $20 million
compared to an income tax expense of $427 million in the first quarter of 2001.
The 2001 first quarter income tax expense primarily related to the gain on the
sale of half our interest in Fuji Xerox. The effective tax rate for the first
quarter 2002 was 37.7 percent and reflects differences between calculating the
effective tax rate on an annual basis.
Our effective rate will change based on nonrecurring events (such as new
Turnaround Program initiatives) as well as recurring factors including the
geographical mix of income before taxes and the related tax rates in those
jurisdictions. In the normal course of business, we expect that our 2002
effective tax rate will be in the low to mid 40 percent range.
Equity in Net income of unconsolidated affiliates consists of our remaining 25
percent share of Fuji Xerox income as well as income from other smaller equity
investments. Total equity in net income for the first quarter 2002 was $8
million higher than the first quarter 2001. Despite the 2001 sale of half our
interest in Fuji Xerox, our 2002 first quarter share of total Fuji Xerox net
income was unchanged, reflecting favorable tax adjustments in the 2002 first
quarter and an unfavorable 2001 first quarter transition adjustment related to
the adoption of SFAS No. 133. In addition to Fuji Xerox, other affiliates had
improved performance in the 2002 first quarter contributing to the $8 million
improvement.
Minorities interest in earnings of subsidiaries increased by $17 million to $24
million in the first quarter 2002 primarily due to the quarterly distribution on
the Convertible Trust Preferred Securities issued in November 2001.
Business Performance by Segment
Our business segments are as follows: Production, Office, DMO, SOHO, and Other.
The table below summarizes our business performance by segment for the quarters
ended March 31, 2001 and 2002. Revenues and associated percentage changes, along
with operating profits and margins by segment are included. Segment operating
profit is determined as defined in Note 10 of the Notes to the Consolidated
Financial Statements in our 2001 Annual Report on Form 10-K.
41
Year-over-year revenue growth rates by segment are as follows:
First Quarter
--------------------
2002 over 2001
--------------------
Total Revenues (10)%
Production (9)
Office (6)
DMO (11)
SOHO (43)
Other (19)
Memo: Color (8)
Operating margins by segment are as follows:
First Quarter
--------------------
2002 over 2001
--------------------
Total Operating Margin 2.7%
Production 7.9
Office 5.5
DMO (1.1)
SOHO 38.6
Other (29.1)
Production revenues include production publishing, production printing, color
products for the production and graphic arts markets and light-lens copiers over
90 pages per minute sold predominantly through direct sales channels in North
America and Europe. Revenues in the first quarter of 2002 declined 9 percent (8
percent pre currency) from the 2001 first quarter. 2002 first quarter monochrome
production publishing revenues stabilized. Monochrome production printing and
light lens reflect total market declines related to the continued movement to
distributed printing and electronic substitutes and customer transition from
light lens to digital offerings. During the 2002 first quarter production color
revenue declined, as growth from our DocuColor 2000 products was more than
offset by declines in older color products reflecting continued marketplace
competition and the weak economy, particularly in the graphic arts market. The
DocuColor 2000 remains the most successful product in its market segment with
over 5,000 units installed to date. Production revenues represented 34 percent
of total revenue in the first quarter of 2002 and 2001.
2002 first quarter operating margins stabilized at approximately 8 percent,
reflecting cost reductions and improved product mix as we convert light lens
placements to digital. These improvements more than offset competitive price
pressure.
Office revenues include our family of Document Centre digital multifunction
products, color laser, solid ink and monochrome laser printers, digital and
light lens copiers under 90 pages per minute, and facsimile products sold
through direct and indirect sales channels in North America and Europe. First
quarter 2002 revenue declined by 6 percent (5 percent pre currency) from the
2001 first quarter reflecting reduced participation in very aggressively priced
competitive bids and tenders in Europe. Monochrome revenues declined as growth
in digital, including the European launch of the Document Centre 490 was
insufficient to offset light lens declines. Digital devices now represent over
95 percent of our combined office light lens and digital equipment revenues.
42
Office color revenue growth reflects strong performance from the Document Centre
Color Series 50 and Phaser 860 solid ink and Phaser 7700 laser printers. Office
revenues represented approximately 42 percent of total revenues for the first
quarter 2002 and 41 percent in the 2001 first quarter.
Operating profit in the Office segment increased year-over-year from $47 million
in the first quarter of 2001 to $91 million in the first quarter of 2002. The
increase reflects significantly improved gross margins driven by our focus on
more profitable revenue, favorable product mix reflecting the launches of our
Document Centre 480 and 490 multifunction devices and improved manufacturing and
service productivity.
DMO includes operations in Latin America, the Middle East, India, Eurasia,
Russia and Africa. DMO revenue declined 11 percent (9 percent pre currency) in
the 2002 first quarter. Approximately half the decline was due to major economic
disruptions in Argentina and Venezuela. Brazil, which represented 5 percent of
total Xerox revenue in the 2002 first quarter, declined, reflecting the weak
economy and our continued focus on liquidity and profitable revenue rather than
market share.
DMO incurred a $5 million loss in the 2002 first quarter, a $65 million
improvement from the 2001 first quarter, in spite of a significant loss in
Argentina due to the economic disruption in that country. Gross margin improved
significantly reflecting the benefits from implementation of the new business
model and improved productivity. In addition, SAG spending declined as we
realize the benefits of our cost base and resizing initiatives.
We announced our disengagement from our worldwide SOHO business in June 2001.
SOHO revenues now consist primarily of consumables for the inkjet printers and
personal copiers previously sold through indirect channels in North America and
Europe. First quarter 2002 SOHO revenues declined 43 percent from 2001,
primarily due to the absence of equipment revenue. First quarter 2002
profitability reflects continued sales of high margin consumables for the
existing equipment population. We expect sales of these supplies to continue in
2002, but also expect SOHO revenues and profits to decline over time as the
existing population of Xerox equipment is replaced.
Other includes revenues and costs associated with paper sales, Xerox Engineering
Systems (XES), Xerox Connect, Xerox Technology Enterprises (XTE), our investment
in Fuji Xerox, consulting and other services. Other segment profit (loss)
includes certain costs that have not been allocated to the business including
non-financing interest and other non-allocated costs. The 2002 first quarter
revenue declined 19 percent (18 percent pre currency) due to lower paper revenue
and lower Xerox Connect revenues. The increased loss reflects the previously
discussed $72 million write off of capitalized software, as well as, higher
advertising expense, unfavorable currency impacts, the SEC civil penalty
partially offset by lower non financing interest expense and the gain on the
Prudential demutualization.
Other
In January 2002, we completed additional asset sales to transfer our office
product manufacturing operations to Flextronics. The companies completed the
sale of our plants in Venray, The Netherlands and Resende, Brazil for
approximately $26 million plus the assumption of certain liabilities and subject
to certain closing adjustments. Approximately 1,600 Xerox employees in these
operations transferred to Flextronics. We have begun to transfer work to
Flextronics from our printed circuit board factories in El Segundo, California
and Mitcheldean, England and our customer replaceable unit plant in Utica, New
York. We plan to complete this by the end of the third quarter 2002.
43
We continue to make progress transitioning our equipment financing to third
party vendors. This progress is detailed in the following Capital Resources and
Liquidity section.
44
Capital Resources and Liquidity
Liquidity, Financial Flexibility and Funding Plans:
Historically, our primary sources of funding have been cash flows from
operations, borrowings under our commercial paper and term funding programs, and
securitizations of accounts and finance receivables. We used these funds to
finance customers' purchases of our equipment and for working capital
requirements, capital expenditures and business acquisitions. Our operations and
liquidity began to be negatively impacted in 2000 by Xerox-specific business
challenges, which have been discussed in the Notes to the Consolidated Financial
Statements included in our 2001 Annual Report on Form 10-K. These challenges
were exacerbated by significant competitive and industry changes, adverse
economic conditions, and significant technology and acquisition spending.
Together, these challenges and conditions negatively impacted our cash
availability and created marketplace concerns regarding our liquidity, which led
to credit rating downgrades and restricted our access to capital markets.
In addition to the limited access to capital markets which resulted from our
credit rating downgrades, we have been unable to access the public capital
markets. This is because, as a result of the SEC investigation since June 2000
and the accounting issues raised by the SEC, the SEC Staff advised us that we
could not make any public registered securities offerings. This additional
constraint had the effect of limiting our means of raising funds to those of
unregistered capital markets offerings and private lending or equity sources.
Our credit ratings became even more important, since credit rating agencies
often include access to other capital sources in their rating criteria.
During 2000, 2001, and 2002, these rating downgrades, together with the recently
concluded review by the SEC, adversely affected our liquidity and financial
flexibility, as follows:
. Since October 2000, uncommitted bank lines of credit and the unsecured
public capital markets have been largely unavailable to us.
. On December 1, 2000, Moody's reduced its rating of our senior debt to
below investment grade, significantly constraining our ability to
enter into new foreign-currency and interest rate derivative
agreements, and requiring us to immediately repurchase certain of our
then-outstanding derivative agreements for $108 million.
. In the fourth quarter 2000, as a result of our lack of access to
unsecured bank and public credit sources, we drew down the entire $7.0
billion available to us under our Revolving Credit Agreement (the "Old
Revolver"), primarily to maintain financial flexibility and pay down
debt obligations as they came due.
. On October 23, 2001, Standard & Poors (S&P) reduced its rating of our
senior debt to below investment grade, further constraining our
ability to enter into new derivative agreements, and requiring us to
immediately repurchase certain of our then-outstanding
out-of-the-money interest-rate and cross-currency interest-rate
derivative agreements for a total of $148 million.
. To minimize the resulting interest and currency exposures from these
events, we have subsequently restored some derivative trading, with
several counterparties, on a limited basis. However, virtually all
such new arrangements either require us to post cash collateral
against all out-of-the-money positions, or else have very short terms
(e.g., as short as one week). Both of these types of arrangements
potentially use more cash than standard derivative arrangements would
otherwise require.
. On May 1, 2002, Moody's further reduced its rating of our senior debt,
requiring us to post additional collateral against certain derivative
45
agreements currently in place. This downgrade also constituted a
termination event under our existing $290 million U.S. trade
receivable securitization facility, which we are currently
renegotiating with the counterparty, as described more fully below.
. On June 11 and 21, 2002, S&P lowered and affirmed its rating of our
senior unsecured and senior secured debt, which to date has not had
any incremental adverse effects on our liquidity.
As of June 26, 2002, our senior and short-term debt ratings and outlooks were as
follows:
Senior
Debt Short Term
Rating Debt Rating Outlook
------ ----------- ---------
Moody's B1 Not Prime Negative
S&P* BB-/B+* B* Negative*
Fitch BB** B Negative**
*Effective June 11, 2002, S&P lowered our Corporate credit rating, and
downgraded our senior debt, to BB- and maintained us on CreditWatch with
Negative implications. Upon receipt of commitments from the banks who are party
to our New Credit Facility, S&P affirmed the Corporate credit rating and our
senior secured debt at BB-with a Negative Outlook, and downgraded our senior
unsecured debt to B+.
** On June 28, 2002, Fitch announced that it expects to downgrade our senior
unsecured debt by one notch, pending its review of our 2001 Annual Report on
Form 10-K, which we filed with the Securities and Exchange Commission earlier
that day, as well as this Quarterly Report on Form 10-Q.
We expect our limited access to unsecured credit sources to result in higher
borrowing costs going forward, and to potentially result in Xerox Corporation
having to increase its level of intercompany lending to affiliates and/or to
guarantee portions of their debt.
Actions Taken to Address Liquidity Issues:
In the fourth quarter of 2000, as a result of the various factors described
above, we began accumulating cash in an effort to maintain financial
flexibility, rather than continuing our historical practice of using available
cash to voluntarily pay down debt. To the extent possible, and except as
otherwise prohibited under the New Credit Facility described below, we expect to
continue this practice of accumulating cash for the foreseeable future.
New Credit Facility:
On June 21, 2002, we entered into an Amended and Restated Credit Agreement
(the "New Credit Facility") with a group of lenders, replacing the Old Revolver.
At that time, we permanently repaid $2.8 billion of the $7 billion Revolving
Credit Agreement (the "Old Revolver"). Accordingly, there is currently $4.2
billion outstanding under the New Credit Facility, consisting of three tranches
of term loans totaling $2.7 billion and a $1.5 billion revolving facility that
includes a $200 million letter of credit sub-facility. The three term loan
tranches include a $1.5 billion amortizing "Tranche A" term loan, a $500 million
"Tranche B" term loan, and a $700 million "Tranche C" term loan maturing on
September 15, 2002. Xerox Corporation is currently, and will remain, the
borrower of all of the term loans. The revolving loans are available, without
sub-limit, to Xerox Corporation, Xerox Canada Capital Limited (XCCL), Xerox
Capital Europe plc (XCE) and other foreign subsidiaries, as requested by us from
time to time, that meet certain qualifications. We are required to repay a total
of $400 million of the Tranche A loan and $5 million of the Tranche B loan in
semi-annual installments in 2003, and a total of $600 million of the Tranche A
loan and $5 million of the Tranche B loan in semi-annual installments in 2004.
The remaining portions of the Tranche A and Tranche B term loans and the
revolving facility contractually mature on April
46
30, 2005. We could be required to repay portions of the loans earlier than their
scheduled maturities upon the occurrence of certain events, as described below.
In addition, all loans under the New Credit Facility mature upon the occurrence
of a change in control.
Subject to certain limits described in the following paragraph, all
obligations under the New Credit Facility are secured by liens on substantially
all domestic assets of Xerox Corporation and by liens on the assets of
substantially all of our U.S. subsidiaries (excluding Xerox Credit Corporation),
and are guaranteed by substantially all of our U.S. subsidiaries. In addition,
revolving loans outstanding from time to time to XCE (currently $605 million)
are also secured by all of XCE's assets and are also guaranteed on an unsecured
basis by certain foreign subsidiaries that directly or indirectly own all of the
outstanding stock of XCE. Revolving loans outstanding from time to time to XCCL
(currently $300 million) are also secured by all of XCCL's assets and are also
guaranteed on an unsecured basis by our material Canadian subsidiaries, as
defined (although the guaranties of the Canadian subsidiaries will become
secured by their assets in the future if certain events occur).
Under the terms of certain of our outstanding public bond indentures, the
outstanding amount of obligations under the New Credit Facility that can be
secured by assets (the "Restricted Assets") of (i) Xerox Corporation and (ii)
our non-financing subsidiaries that have a consolidated net worth of at least
$100 million, without triggering a requirement to also secure these indentures,
is limited to the excess of (a) 20 percent of our consolidated net worth (as
defined in the public bond indentures) over (b) a portion of the outstanding
amount of certain other debt that is secured by the Restricted Assets.
Accordingly, the amount of the debt secured under the New Credit Facility by the
Restricted Assets (the "Restricted Asset Security Amount") will vary from time
to time with changes in our consolidated net worth. The Restricted Assets secure
the Tranche B loan up to the Restricted Asset Security Amount; any Restricted
Asset Security Amount in excess of the outstanding Tranche B loan secures, on a
ratable basis, the other outstanding loans under the New Credit Facility. The
assets of XCE, XCCL and many of the subsidiaries guarantying the New Credit
Facility are not Restricted Assets because those entities are not restricted
subsidiaries as defined in our public bond indentures. Consequently, the amount
of debt under the New Credit Facility secured by their assets is not subject to
the foregoing limits.
The New Credit Facility loans generally bear interest at LIBOR plus 4.50
percent, except that the Tranche B loan bears interest at LIBOR plus a spread
that varies between 4.00 percent and 4.50 percent depending on the Restricted
Asset Security Amount in effect from time to time. Specified percentages of any
net proceeds we receive from capital market debt issuances, equity issuances or
asset sales during the term of the New Credit Facility must be used to reduce
the amounts outstanding under the New Credit Facility, and in all cases any such
amounts will first be applied to reduce the Tranche C loan. Once the Tranche C
loan has been repaid, or to the extent that such proceeds exceed the outstanding
Tranche C loan, any such prepayments arising from debt and equity proceeds will
first permanently reduce the Tranche A loans, and any amount remaining
thereafter will be proportionally allocated to repay the then-outstanding
balances of the revolving loans and the Tranche B loans and to reduce the
revolving commitment accordingly. Any such prepayments arising from asset sale
proceeds will first be proportionally allocated to permanently reduce any
outstanding Tranche A loans and Tranche B loans, and any amounts remaining
thereafter will be used to repay the revolving loans and to reduce the revolving
commitment accordingly (except that the revolving loan commitment cannot be
reduced below $1 billion as a result of such prepayments).
47
The New Credit Facility contains affirmative and negative covenants including
limitations on issuance of debt and preferred stock, certain fundamental
changes, investments and acquisitions, mergers, certain transactions with
affiliates, creation of liens, asset transfers, hedging transactions, payment of
dividends, intercompany loans and certain restricted payments, and a requirement
to transfer excess foreign cash, as defined, and excess cash of Xerox Credit
Corporation to Xerox Corporation in certain circumstances. The New Credit
Facility does not affect our ability to continue to monetize receivables under
the agreements with GE Capital and others, which are discussed below. No cash
dividends can be paid on our Common Stock for the term of the New Credit
Facility. Cash dividends may be paid on preferred stock provided there is then
no event of default. In addition to other defaults customary for facilities of
this type, defaults on debt of, or bankruptcy of, Xerox Corporation or certain
subsidiaries would constitute a default under the New Credit Facility.
The New Credit Facility also contains financial covenants which the Old Revolver
did not contain, including:
. Minimum EBITDA (rolling four quarters, as defined)
. Maximum Leverage (total adjusted debt divided by EBITDA, as defined)
. Maximum Capital Expenditures (annual test)
. Minimum Consolidated Net Worth (quarterly test, as defined)
Failure to be in compliance with any material provision of the New Credit
Facility could have a material adverse effect on our liquidity and operations.
We expect total fees and expenses incurred in connection with the New Credit
Facility to approximate $125 million, the majority of which was paid at
closing. These amounts will be deferred and amortized over the three year term
of the New Credit Facility.
Turnaround Program:
In 2000 we announced a global Turnaround Program which included initiatives to
sell certain assets, improve operations and liquidity, and reduce annual
costs by at least $1 billion. Through March 31, 2002, and since that time, we
have made significant progress toward these objectives.
With respect to asset sale initiatives:
. In the fourth quarter of 2000 we sold our China operations to Fuji
Xerox, generating $550 million of cash and transferring $118 million
of debt to Fuji Xerox.
. In March 2001, we sold half of our interest in Fuji Xerox to Fuji
Photo Film Co., Ltd. for $1,283 million in cash (We paid $346 million
in taxes in March 2002 related to this sale).
. In the fourth quarter of 2001, we received cash proceeds of $118
million related to the sales to Flextronics of certain of our
manufacturing facilities, and in 2002 we received additional net cash
proceeds of $26 million related to the sales of additional facilities
under that agreement.
With respect to operational and liquidity improvements, we have announced major
initiatives with GE Capital and other vendor financing partners, and we have
completed several transactions, including (1) implementation of third-party
vendor financing programs in the Netherlands, the Nordic countries, Brazil,
Mexico, and Italy and (2) monetizations of portions of our existing finance
receivables portfolios. We have several other similar transactions currently
being negotiated, and we continue to actively pursue alternative forms of
financing. These initiatives, when completed, are expected to significantly
improve our liquidity going forward.
48
In connection with general financing initiatives:
. During 2001, we retired $377 million of long-term debt through the
exchange of 41.1 million shares of our common stock, which increased
our net worth by $351 million.
. In November 2001, we sold $1,035 million of Convertible Trust
Preferred Securities, and placed $229 million of the proceeds in
escrow to fund the first three-years' distribution requirements. Total
proceeds, net of escrowed funds and transaction costs, were $775
million.
. In January 2002, we sold $600 million of 9 3/4percent Senior Notes
and(euro)225 million of 9 3/4percent Senior Notes, for cash proceeds
totaling $746 million, which is net of fees and original-issue
discount. These notes mature on January 15, 2009, and contain several
affirmative and negative covenants which are similar to those in the
New Credit Facility. Taken as a whole, the Senior Notes covenants are
less restrictive than the covenants contained in the New Credit
Facility. In addition, our Senior Notes do not contain any financial
maintenance covenants or scheduled amortization payments. The Senior
Notes covenants (1) restrict certain transactions, including new
borrowings, investments and the payment of dividends, unless we meet
certain financial measurements and ratios, as defined, and (2)
restrict our use of proceeds from certain other transactions including
asset sales. In connection with the June 21, 2002 closing of the New
Credit Facility, substantially all of our U.S. subsidiaries guaranteed
these notes. In order to reduce the immediate cost of this borrowing,
we entered into derivative agreements to swap the cash interest
obligations under the dollar portion of these notes to LIBOR plus 4.44
percent. We will be required to collateralize any out-of-the-money
positions on these swaps.
In connection with vendor financing and related initiatives:
. In 2001, we received $885 million in financing from GE Capital,
secured by portions of our finance receivable portfolios in the United
Kingdom. At March 31, 2002, the remaining balances of these loans
totaled $402 million.
. In the second quarter 2001, we sold our leasing businesses in four
Nordic countries to Resonia Leasing AB for $352 million in cash plus
retained interests in certain finance receivables for total proceeds
of approximately $370 million. These sales are part of an agreement
under which Resonia will provide on-going, exclusive equipment
financing to our customers in those countries.
. In July 2001, we transferred U.S. lease contracts to a trust, which in
turn sold $513 million of floating-rate asset-backed notes. We
received cash proceeds of $480 million, net of $3 million of fees,
plus a retained interest of $30 million, which we will receive when
the notes are repaid, which we expect to occur in August 2003. The
transaction was accounted for as a secured borrowing. At March 31,
2002, the remaining debt totaled $329 million.
. In September 2001, we announced a U.S. Framework Agreement (the
"USFA") with GE Capital's Vendor Financial Services group, under which
GE Capital will become the primary equipment-financing provider for
our U.S. customers. We expect funding under the USFA to be in place in
2002 upon completion of systems and process modifications and
development.
. In November 2001, we entered into an agreement with GE Capital which
provides for a series of loans, secured by certain of our finance
receivables in the United States, up to an aggregate of $2.6 billion,
provided that certain conditions are met at the time the loans are
funded. These conditions, all of which we currently meet, include
maintaining a specified minimum debt rating with respect to our senior
debt. In the fourth quarter of 2001, we received two secured loans
from GE Capital totaling $1,175 million. Cash proceeds of $1,053
million were net of $115 million of escrow requirements and $7 million
of fees. In
49
March 2002, we received our third secured loan from GE Capital
totaling $266 million. Cash proceeds of $229 million were net of $35
million of escrow requirements and $2 million of fees. At March 31,
2002, the remaining balances of these loans totaled $1,304 million. In
May 2002, we received our fourth secured loan from GE Capital,
totaling $499 million. Cash proceeds of $496 million were net of $3
million of fees. Through June 26, 2002 approximately $1.9 billion of
loans have been funded under this agreement.
. In November 2001, we announced a Canadian Framework Agreement (the
"CFA") with the Canadian division of GE Capital's Vendor Financial
Services group, similar to the agreement in the U.S., under which GE
Capital will become the primary equipment-financing provider for our
Canadian customers. We expect the CFA to be completed in 2002. In
February 2002 we received a $291 million loan from GE Capital, secured
by certain of our finance receivables in Canada. Cash proceeds of $281
million were net of $8 million of escrow requirements and $2 million
of fees. At March 31, 2002, the remaining balance of this loan was
$294 million.
. In December 2001, we announced that we would be forming a joint
venture with De Lage Landen International BV (DLL) to manage equipment
financing, billing and collections for our customers' financed
equipment orders in the Netherlands. This joint venture was formed and
began funding in the first quarter of 2002. DLL owns 51 percent of the
venture and provides the funding to support new customer leases, and
we own the remaining 49 percent of this unconsolidated venture.
. In December 2001, we announced European framework agreements with GE
Capital's European Equipment Finance group, under which GE Capital
will become the primary equipment-financing provider for our customers
in France and Germany. We expect these agreements to be completed in
2002.
. In March 2002, we signed agreements with third parties in Brazil and
Mexico under which those third parties will be our primary equipment
financing provider in those countries. Funding under both of these
arrangements commenced in the second quarter of 2002.
. In April 2002, we sold our leasing business in Italy to a third party
for $207 million in cash plus the assumption of $20 million of debt.
We can also receive retained interests up to approximately $30
million, based on the occurrence of certain future events. This sale
is part of an agreement under which the third-party will provide
on-going, exclusive equipment financing to our customers in Italy.
. In May 2002, we received an additional loan from GE Capital of $106
million secured by portions of our lease receivable portfolio in the
U.K.
. In May 2002, we received a $77 million loan from GE Capital, secured
by certain of our finance receivables in Germany. Cash proceeds of $65
million were net of $12 million of escrow requirements.
Cash and Debt Positions:
With $4.7 billion of cash and cash equivalents on hand at March 31, 2002, (and
approximately $1.8 billion on hand as of June 26, 2002, after giving effect to
the refinancing under the New Credit Facility) we believe our liquidity is
sufficient to meet current operating cash flow requirements and to satisfy all
scheduled debt maturities through March 31, 2003.
50
As a result of the New Credit Facility discussed above, our debt maturities have
changed. Significantly less debt will now mature in 2002 than would have become
due had the Old Revolver not been refinanced. In addition, a portion of our
available cash has been used to retire some of the debt under the Old Revolver.
The following represents our aggregate debt maturity schedules by quarter for
2002 and 2003, and reflects the New Credit Facility and related principal
payments discussed above (in billions):
2002 2003
First Quarter ____ $0.5
Second Quarter $4.2 1.2
Third Quarter 1.1 0.4
Fourth Quarter 0.9 1.3
---- ----
Full Year $6.2 $3.4
==== ====
Additionally, as discussed throughout this Quarterly Report on Form 10-Q, we
have reached a settlement with the SEC as to all matters that were under
investigation. It is our expectation that the resolution of these matters will
restore our ability to access the public capital markets and reduce our earlier
reliance on other funding sources including non-public capital markets. Our
current plans include accessing the public capital markets in 2002, however, we
are not dependent on such access to maintain adequate liquidity through March
31, 2003.
Plans to Strengthen Liquidity and Financial Flexibility Beyond 2002:
Our ability to maintain sufficient liquidity through March 31, 2003 is highly
dependent on achieving expected operating results, including capturing the
benefits from restructuring activities, and completing announced vendor
financing and other initiatives. There is no assurance that these initiatives
will be successful. Failure to successfully complete these initiatives could
have a material adverse effect on our liquidity and our operations, and could
require us to consider further measures, including deferring planned capital
expenditures, modifying current restructuring plans, reducing discretionary
spending, selling additional assets and, if necessary, restructuring existing
debt.
We also expect that improvements in our debt ratings, and our related ability to
fully access certain unsecured public debt markets, namely the commercial paper
markets, will depend on (1) our ability to demonstrate sustained EBITDA growth
and operating cash generation and (2) continued progress on our vendor financing
initiatives, as discussed above. Until such time, we expect some bank lines to
continue to be unavailable, and we intend to access other segments of the
capital markets as business conditions allow, which could provide significant
sources of additional funds until full access to the unsecured public debt
markets is restored.
Other Funding Arrangements:
Securitizations, and Use of Special Purpose Entities:
From time to time, we have generated liquidity by selling or securitizing
portions of our finance and accounts receivable portfolios. We have typically
utilized special-purpose entities (SPEs) in order to implement these
transactions in a manner that isolates, for the benefit of the securitization
investors, the securitized receivables from our other assets which would
otherwise be available to our creditors. These transactions are typically
credit-enhanced through over-collateralization. Such use of SPEs is standard
industry practice, is typically required by securitization investors and makes
the securitizations easier to market. None of our officers, directors or
employees or those of any of our subsidiaries or affiliates hold any direct or
51
indirect ownership interests in any of these SPEs. We typically act as service
agent and collect the securitized receivables on behalf of the securitization
investors. Under certain circumstances, including the downgrading of our debt
ratings by one or more rating agencies, we can be terminated as servicing agent,
in which event the SPEs may engage another servicing agent and we would cease to
receive a servicing fee. Although the debt rating downgrade provisions have been
triggered in some of our securitization agreements, the securitization investors
and/or their agents have not elected to remove us as administrative servicer as
of this time. We are not liable for non-collection of securitized receivables or
otherwise required to make payments to the SPEs except to the limited extent
that the securitized receivables did not meet specified eligibility criteria at
the time we sold the receivables to the SPEs or we fail to observe agreed-upon
credit and collection policies and procedures.
Most of our SPE transactions were accounted for as borrowings, with the debt and
related assets remaining on our balance sheets. Specifically, in addition to the
July 2001 asset-backed notes transaction and the U.S. and Canadian loans from GE
Capital discussed above, which utilized SPEs as part of their structures, as of
March 31, 2002, we have entered into the following similar transactions which
were accounted for as debt on our balance sheets:
. In the third quarter 2000, Xerox Credit Corporation (XCC) securitized
certain finance receivables in the United States, generating gross
proceeds of $411 million. As of March 31, 2002, the remaining debt
under this facility totaled approximately $110 million.
. In 1999, XCC securitized certain finance receivables in the United
States, generating gross proceeds of $1,150 million. At March 31,
2002, the remaining obligations in this facility totaled $39 million,
and were substantially repaid as of June 26, 2002.
We have also entered into the following SPE transactions which were accounted
for as sales of receivables:
. In 2000, Xerox Corporation and Xerox Canada Limited (XCL) securitized
certain accounts receivable in the U.S. and Canada, generating gross
proceeds of $315 million and $38 million, respectively. In December
2000, as a result of the senior debt downgrade by Moody's discussed
above, both entities negotiated waivers with their respective
counterparties to prevent the facilities from entering "wind-down"
mode. As part of its waiver negotiation, Xerox Corporation
renegotiated the $315 million U.S. facility, reducing its size to $290
million. The May 2002 Moody's downgrade constituted an event of
termination under this agreement, which we are currently
renegotiating. Failure to successfully renegotiate the facility could
result in the suspension of its revolving features, whereupon we would
be unable to sell new accounts receivable into the facility, and our
availability would wind down. In February 2002, the size of the
Canadian facility was reduced in order to make certain receivables
eligible under the GE Capital Canadian transaction described above.
Also in February 2002, a downgrade of our Canadian debt by Dominion
Bond Rating Service caused the Canadian counterparty to withdraw its
waiver, in turn causing the remaining Canadian facility at that time
to enter into wind-down mode. This facility has subsequently been
fully repaid.
. In 1999, XCL securitized certain finance receivables, generating gross
proceeds of $345 million. At March 31, 2002, the remaining obligations
in this facility totaled $76 million, and we expect them to be fully
paid in 2002. At March 31, 2002, this is the only outstanding SPE
transaction with recourse provisions that could be asserted against
us.
In summary, at March 31, 2002, amounts owed by these receivable-related SPEs to
their investors totaled $2,435 million, of which $359 million represented
52
transactions we treated as asset sales, and the remaining $2,076 million is
reported as Debt in our Condensed Consolidated Balance Sheet. A detailed
discussion of the terms of these transactions, including descriptions of our
retained interests, is included in Note 6 to the Consolidated Financial
Statements of the 2001 Annual Report. We also utilized SPEs in our Trust
Preferred Securities transactions. Refer to Note 17 to the Consolidated
Financial Statements in the 2001 Annual Report for a detailed description of
these transactions.
Secured Debt - Summary:
As of March 31, 2002, after giving effect to the New Credit Facility, we have
approximately $930 million of debt which is secured by assets that are measured
against the 20 percent consolidated net worth limitation described above. In
addition, we have $3,802 million of debt which is secured by assets that are not
measured against that 20 percent limitation, in most cases because the
applicable borrowing entities are considered financing subsidiaries under the
public indenture definitions.
Equity Put Options:
During 1999, we sold 0.8 million equity put options, respectively, for proceeds
of $0.4 million. Equity put options give the counterparty the right to sell our
common shares back to us at a specified strike price. In January 2001, we paid
$28 million to settle the put options we issued in 1999, which we funded by
issuing 5.9 million unregistered common shares. There were no put options
outstanding as of March 31, 2002.
Cash Management:
Xerox and its material subsidiaries and affiliates manage their worldwide cash,
cash equivalents and liquidity resources through internal cash management
systems, which include established policies and procedures. They are subject to
(1) the statutes, regulations and practices of the local jurisdictions in which
the companies operate, (2) the legal requirements of the agreements to which the
companies are parties and (3) the policies and cooperation of the financial
institutions utilized by the companies to maintain such cash management systems.
At March 31, 2002 and 2001, cash and cash equivalents on hand totaled $4,747
million and $2,777 million, respectively, and total debt was $17,416 million and
$18,004 million, respectively. Total debt net of cash (Net Debt) decreased by
$106 million in the first quarter of 2002 and decreased by $1,660 million in the
first quarter of 2001. The consolidated ratio of total debt to common and
preferred equity was 7.6:1 and 7.0:1 as of March 31, 2002, and 2001,
respectively. The increase in this ratio in 2002 reflects net losses during that
12-month period, together with incremental borrowings during that same period,
the proceeds of which were used to accumulate cash rather than being used to
repay other debt.
53
The following represents the results of our cash flows for the first quarter of
2002 and 2001 included within our Condensed Statement of Cash Flows in the
accompanying Condensed Consolidated Financial Statements:
2002 2001
---- ----
Operating Cash Flows $ 89 $ 89
Investing Cash Flows (Usage) (13) 1,235
Financing Cash Flows (Usage) 704 (259)
Foreign Currency Impacts (23) (38)
------ ------
Net Change in Cash Balance 757 1,027
Cash - Beginning of year 3,990 1,750
------ ------
Cash - End of year $4,747 $2,777
====== ======
Excluding a tax payment of $346 million related to the sale of a portion of our
interest in Fuji Xerox, first quarter 2002 operating cash flows improved as
compared to the previous year comparable period. This was primarily due to
working capital improvements in accounts payable. This was further enhanced by a
high rate of collections of our finance receivables in spite of a decline in
sales.
Investing cash flows were lower in the first quarter of 2002 primarily due to
cash received in the first quarter of 2001 from the sale of half of our share in
Fuji Xerox.
Our first quarter 2002 financing activities largely consisted of the high yield
debt offering and new secured borrowings from our agreements with GECC in
Canada.
Refer to our EBITDA-based cash flows discussion below to understand the way we
look at cash flows from a treasury and cash management perspective, and for
explanations of cash flows for first quarter 2002 compared to 2001.
Historically, we separately managed the capital structures of our non-financing
operations and our captive financing operations. Consistent with our continuing
efforts to exit the customer equipment financing business, we now use EBITDA and
operating cash flow to measure our liquidity, and we no longer distinguish
between financing and non-financing operations in our liquidity management
processes. We define EBITDA as earnings before interest expense, income taxes,
depreciation, amortization, minorities' interests, equity in income of
unconsolidated affiliates, and non-recurring and non-operating items. We believe
that EBITDA provides investors and analysts with a useful measure of liquidity
generated from recurring operations. EBITDA is not intended to represent an
alternative to either operating income or cash flows from operating activities
(as those terms are defined in GAAP). While EBITDA is frequently used to analyze
companies, the definition of EBITDA we employ, as presented herein, may differ
from definitions of EBITDA employed by other companies.
54
The following is a summary of EBITDA, operating and other cash flows
for the quarters ended March 31, 2002 and 2001:
2002 2001
Restated
-------- --------
Non-financing revenues $3,594 $3,999
Non-financing cost of sales 2,184 2,669
------ ------
Non-financing gross profit 1,410 1,330
Research and development expense (230) (251)
Selling, administrative and general expenses (1,169) (1,149)
Depreciation and amortization expense, excluding goodwill and
intangibles 309 338
------ ------
Adjusted EBITDA 320 268
Working capital and other changes (28) (21)
On-Lease equipment spending (36) (94)
Capital spending (26) (69)
Restructuring payments (122) (156)
------ ------
Operating Cash Flow* 108 (72)
Interest payments (130) (263)
Financing cash flow 442 383
Debt borrowings (repayments), net 702 (212)
Dividends and other non-operating items (45) (92)
Proceeds from sales of businesses (320)** 1,283
------ ------
Net Increase in Cash $ 757 $1,027
====== ======
*The primary difference between this amount and the Cash Flows from Operations
reported in our GAAP Statements of Cash Flows, is the inclusion of Capital
Spending in, and the exclusion of Financing Cash Flow and Interest Payments
from, the amount shown above.
**EBITDA cash flows includes the tax payments associated with the Fuji Xerox
sale explained below. Such amount is included in operating activities for our
GAAP cash flow financial statement.
2002 first quarter EBITDA operating cash flow of $108 million increased by $180
million, from $(72) million usage in the prior year. The improvement was driven
by gross profit improvements, lower on-lease equipment spending, lower capital
spending, and lower restructuring spending. The decline in capital spending was
due primarily to significant spending constraints. The decline in on-lease
equipment spending reflected declining rental placement activity and
populations, particularly in our older-generation light lens products.
Significantly lower interest payments in first quarter 2002 reflected reductions
of our debt levels together with lower market interest rates.
The increase in EBITDA financing cash flow in 2002 reflected lower finance
receivable originations resulting from lower equipment sales in 2002 compared to
2001, offset partially by a decline in financing income, as lower levels of
equipment resulted in a reduction in our finance receivable portfolios.
Dividends and other non-operating items used $45 million of cash in 2002,
compared to usage of $92 million in 2001. This improvement was due to cash
savings resulting from our elimination and suspension of our common and Series B
Preferred dividends, respectively, which we announced in July 2001.
In 2002, we used $320 million related to the sales of businesses, including the
payment of taxes due on the sale of half our interest in Fuji Xerox in 2001. In
summary, EBITDA operating and financing cash flow improvements in first quarter
2002 combined with new borrowings, funded interest and tax obligations and
allowed us to increase our cash on hand by $757 million.
Cash restructuring payments were $122 million and $156 million in first quarter
2002 and 2001, respectively. The status of the restructuring reserves is
discussed in Note 5 to the Condensed Consolidated Financial Statements.
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Financial Risk Management:
We are typical of multinational corporations because we are exposed to
market risk from changes in foreign currency exchange rates and interest rates
that could affect our results of operations and financial condition.
Accordingly, we have historically entered into derivative contracts, including
interest rate swap agreements, forward exchange contracts and foreign currency
swap agreements, to manage such interest rate and foreign currency exposures.
The fair market values of all of our derivative contracts change with
fluctuations in interest rates and/or currency rates, and are designed so that
any change in their values is offset by changes in the values of the underlying
exposures. Our derivative instruments are held solely to hedge economic
exposures; we do not enter into such transactions for trading purposes, and we
employ long-standing policies prescribing that derivative instruments are only
to be used to achieve a set of very limited objectives. As described above, our
ability to currently enter into new derivative contracts is severely
constrained. Therefore, while the following paragraphs describe our overall risk
management strategy, our current ability to employ that strategy effectively has
been severely limited.
Currency derivatives are primarily arranged to manage the risk of exchange
rate fluctuations associated with assets and liabilities that are denominated in
foreign currencies. Our primary foreign currency market exposures include the
Japanese Yen, Euro, Brazilian Real, British Pound Sterling and Canadian Dollar.
For each of our legal entities, we have historically hedged a significant
portion of all foreign-currency-denominated cash transactions. From time to time
(when cost-effective) foreign-currency-denominated debt and foreign-currency
derivatives have been used to hedge international equity investments.
Virtually all customer-financing assets earn fixed rates of interest.
Therefore, we have historically sought to "lock in" an interest rate spread by
arranging fixed-rate liabilities with maturities similar to those of the
underlying assets, and we have funded the assets with liabilities in the same
currency. As part of this overall strategy, pay-fixed-rate/receive-variable-rate
interest rate swaps are often used in place of more expensive fixed-rate debt.
Additionally, pay-variable-rate/receive-fixed-rate interest rate swaps are used
from time to time to transform longer-term fixed-rate debt into variable-rate
obligations. The transactions performed within each of these categories enable
more cost-effective management of interest rate exposures by eliminating the
risk of a major change in interest rates. We refer to the effect of these
practices as "match funding" customer financing assets.
Consistent with the nature of economic hedges, unrealized gains or losses
from interest rate and foreign currency derivative contracts are designed to
offset any corresponding changes in the value of the underlying assets,
liabilities or debt.
Pay fixed-rate and receive variable-rate swaps are often used in place of
more expensive fixed-rate debt. Additionally, pay variable-rate and receive
fixed-rate swaps are used from time to time to transform longer-term fixed-rate
debt into variable-rate obligations. The transactions performed within each of
these categories enable more cost-effective management of interest rate
exposures. The potential risk attendant to this strategy is the non-performance
of the swap counterparty. We address this risk by arranging swaps with a diverse
group of strong-credit counterparties, regularly monitoring their credit ratings
and determining the replacement cost, if any, of existing transactions.
56
Many of the financial instruments we use are sensitive to changes in
interest rates. Interest rate changes result in fair value gains or losses on
our term debt and interest rate swaps, due to differences between current market
interest rates and the stated interest rates within the instrument. Our currency
and interest rate hedging are typically unaffected by changes in market
conditions as forward contracts, options and swaps are normally held to maturity
consistent with our objective to lock in currency rates and interest rate
spreads on the underlying transactions.
As described above, the downgrades of our debt during 2000, 2001 and 2002,
together with the recently-concluded SEC investigation, significantly reduced
our access to capital markets. Furthermore, several of the debt downgrades
triggered various contractual provisions which required us to collateralize or
repurchase a number of derivative contracts which were then outstanding. While
we have been able to replace some derivatives on a limited basis, our current
debt ratings restrict our ability to utilize derivative agreements to manage the
risks associated with interest rate and some foreign currency fluctuations,
including our ability to continue effectively employing our match funding
strategy. For this reason, we anticipate increased volatility in our results of
operations due to market changes in interest rates and foreign currency rates.
Item 3. Quantitative and Qualitative Disclosure about Market Risk
The information set forth under the caption "Financial Risk Management" on pages
56 through 57 of this Quarterly Report on Form 10-Q is hereby incorporated by
reference in answer to this Item.
57
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The information set forth under Note 12 "Litigation and Regulatory Matters"
contained in the "Notes to the Condensed Consolidated Financial Statements" on
pages 9-29 of this Quarterly Report on Form 10-Q is incorporated by reference in
answer to this item.
Item 2. Changes in Securities
During the quarter ended March 31, 2002, registrant issued the following
securities in transactions which were not registered under the Securities Act of
1933, as amended (the Act).
(1) Xerox Common Stock
(a) Securities Sold: on January 2, 2002, Registrant issued 8,508 shares of
Common stock, par value $1 per share.
(b) No underwriters participated. The shares were issued to each of the
non-employee Directors of Registrant: A.A. Johnson, V.E. Jordan, Jr.,
Y. Kobayashi, H. Kopper, R.S. Larsen, G.J. Mitchell, N.J. Nicholas,
Jr., J.E. Pepper, M.R. Seger and T.C. Theobald.
(c) The shares were issued at a deemed purchase price of $10.42 per share
(aggregate price $88,625), based upon the market value on the date of
issuance, in payment of the quarterly Directors' fees pursuant to
Registrant's Restricted Stock Plan for Directors.
(d) Exemption from registration under the Act was claimed based upon
Section 4(2) as a sale by an issuer not involving a public offering.
(2) 9-3/4% Senior Notes due 2009
(a) Securities Sold: on January 17, 2002, Registrant issued and sold
$600,000,000 9-3/4% Senior Notes due 2009 and Euro 225,000,000 9-3/4%
Senior Notes due 2009 (together, the "Senior Notes").
(b) The Senior Notes were sold to Deutsche Banc Alex. Brown Inc., J.P.
Morgan Securities Inc., Merrill Lynch, Pierce, Fenner & Smith
Incorporated, Salomon Smith Barney Inc., ABN AMRO Incorporated, Banc
One Capital Markets, Inc., Fleet Securities, Inc., PNC Capital
Markets, Inc., RBC Dominion Securities Corporation and UBS Warburg
LLC, as initial purchasers.
(c) Aggregate principal amounts of $600,000,000 and Euro 225,000,000 of
Senior Notes were issued and sold, both at a price of 95.167% plus
accrued interest from the issue date. The aggregate offering prices
were $571,002,000 and Euro 214,125,750, and the aggregate fees and
expenses paid were $12,133,793 and Euro 4,550,172, respectively, plus
an additional approximately $1,000,000 in expenses.
58
(d) Exemption from registration under the Act was claimed based upon Rule
144A and Regulation S.
Item 4. Submission of Matters to a Vote of Security Holders
None.
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit 3(a)(1) Restated Certificate of Incorporation of Registrant filed
by the Department of State of the State of New York on October 29, 1996.
Incorporated by reference to Exhibit 3(a)(1) to Registrant's Quarterly
Report on Form 10-Q for the Quarter Ended September 30, 1996.
Incorporated by reference to Exhibit 3 (b) By-Laws of Registrant, as
amended through January 1, 2001
Incorporated by reference to Exhibit 3 (b) to Registrant's Annual Report on
Form 10-K for the Year Ended December 31, 2001.
Exhibit 11 Computation of Net Income per Common Share.
Exhibit 12 Computation of Ratio of Earnings to Fixed Charges.
(b) Current reports on Form 8-K dated January 7, 2002 (two reports), January
17, 2002, March 7, 2002 and March 27, 2002 reporting Item 5 "Other Events"
were filed during the quarter for which this Quarterly Report on Form 10-Q
is filed.
59
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
XEROX CORPORATION
(Registrant)
/s/ Gary R. Kabureck
-----------------------------
Date: July 1, 2002 By Gary R. Kabureck
Assistant Controller and
Chief Accounting Officer
(Principal Accounting Officer)
60