ITEM 1. BUSINESS
R. R. Donnelley & Sons Company (the company), incorporated in the state of Delaware in 1956 as the successor to a business founded in 1864, is a major participant in the information industry, providing a broad range of services in print and digital media. The company believes it is the largest supplier of commercial print and print-related services in the United States. It is a major supplier in the United Kingdom and also provides services in Latin America, other locations in Europe and in Asia. Services provided to customers include presswork and binding, including on-demand customized publications; conventional and digital pre-press operations, including desktop publishing and filmless color imaging necessary to create a printed image; software replication, translation and localization; list rental, list enhancement, database management and mail production services (provided primarily through Metromail); design and related creative services (provided through Mobium); electronic communication networks for simultaneous worldwide product releases; digital services to publishers; and, through the planning for and fulfillment of truck, rail, mail and air distribution for products of the company and its customers, as well as third parties. The company's pre-press, presswork and binding operations have accounted for over 90% of the company's revenues for each of the last five years.
The company provides these services to more than 5,000 customers, including publishers of consumer and trade magazines, books and telephone and other directories; direct mail (catalog) and in-store merchandisers; software publishers and computer hardware manufacturers; and financial institutions and other firms requiring substantial amounts of printing and other related information services. Due to the range of services it provides, the company believes it is uniquely positioned to meet the information and communication needs of its customers.
The relative contribution of each of the company's major product areas to its total sales for the five-year period ended December 31, 1994, is presented in the table below.
For the fiscal year ended December 31, 1994, international operations represented over 11% of consolidated results and assets. See "Geographic Segments" in the Notes to Consolidated Financial Statements for further information.
Most of the company's sales are made pursuant to term contracts with customers, with the remainder being made on a single-order basis. For some customers, the company prints and provides related services for several different publications under different contracts. The company's contracts with its larger customers normally run for a period of years (usually three to five years but longer in the case of contracts requiring significant capital investment) or for an indefinite period subject to termination on specified notice by either party. Such sales contracts generally provide for timely price adjustments to reflect price changes for materials, wages and utilities. No single customer has a relationship with the company that accounted for 3% or more of the company's sales in 1994. The company's dependence for sales from its ten largest customers has declined in the past ten years to approximately 21% of sales in 1994, from 30% of sales in 1984.
The various phases of the information industry in which the company is involved are highly competitive. While the company has contracts with its customers as discussed above, there are numerous competing
companies and renewal of such contracts is dependent, in part, on the ability of the company to continue to differentiate itself from the competition. Differentiation results, in part, from the company's broad range of value-added services, which include: conventional and digital prepress, computerized printing, Selectronic(R) imaging and gathering and sophisticated pool shipping and distribution services for printed products; information content repackaging into multiple formats, including print, magnetic and optical media; fulfillment and returned books inventory management; database management and distribution; list rental, list enhancement and direct mail production services; turnkey computer documentation services, including translation, printing, binding, CD- ROM and diskette replication, kitting licensing, republishing and fulfillment; reprographics and facilities management; and graphic design and editorial services. Although the company believes it is the largest commercial printer in the United States, it estimates that its revenues represent approximately 7% of the total sales in the industry. Although the company's plants are well located for the global, national or regional distribution of its products, competitors in some areas of the United States have a competitive advantage in some instances due to such factors as freight rates, wage scales and customer preference for local services. In addition to location, other important competitive factors are price and quality as well as the range of available services.
Tight market conditions for certain grades of paper are expected to continue in 1995, but are not expected to have a significant impact on the company due to guaranteed quantity allocations from suppliers coupled with the company's production efficiencies and ability to substitute different paper grades. Paper prices have increased in recent months reflecting the tight supply but are mitigated by the company's ability to pass the increases to customers. The company has existing paper supply contracts (at prevailing market prices) to cover substantially all of the company's requirements through 1995, and management believes extensions and renewals of these purchase contracts will provide adequate paper supplies in the future. Ink and ink materials are currently available in sufficient amounts, and the company believes that it will have adequate supplies in the future.
The company estimates that its capital expenditures in 1995 and 1996 to comply with federal, state and local provisions for environmental controls, as well as expenditures, if any, for the company's share of costs to clean hazardous waste sites that have received waste from the company, will not have a material effect upon its earnings or its competitive position.
The company employed an average of approximately 36,500 persons in 1994 (39,000 persons at December 31, 1994), of whom more than 11,000 had been with the company for more than 10 years and over 2,700 for 25 years or longer.
ITEM 2.
ITEM 2. PROPERTIES
The company's corporate office is located in leased facilities in Chicago, Illinois. Production facilities leased by the company and its subsidiaries are listed in the chart beginning on page 6. Printing and other plants that are owned and operated by the company (or through subsidiaries) are listed below and continuing on the next page.
The company has historically followed the practice of adding capacity to meet customer requirements, and has retained a substantial portion of its earnings for reinvestment in plant and equipment for this purpose. Management believes that growth in 1995 will be financed in large part by internally-generated funds. The amount of capital expenditures in future years will depend upon the requirements of the company's existing and future customers.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
On July 13, 1990, the Federal Trade Commission ("FTC") filed a complaint in the U.S. District Court for the District of Columbia ("District Court") seeking a preliminary injunction enjoining the company from consummating its acquisition of the Meredith/Burda companies. The complaint alleged that consummation of the acquisition might substantially lessen competition in certain alleged rotogravure printing markets. The District Court denied the motion of the FTC for an injunction as well as a further motion for injunction pending appeal. The acquisition was closed on September 4, 1990.
On October 11, 1990, the FTC Staff initiated its administrative action challenging the acquisition of the Meredith/Burda companies. The complaint alleged the same issues as did the complaint before the District Court. Trial before an administrative law judge ("ALJ") of the FTC concluded in June, 1993. On December 30, 1993, the FTC's ALJ issued his initial decision upholding the position of the FTC Staff. The ALJ found that the acquisition by the company of the Meredith/Burda companies created a "dominant firm" and significantly increased concentration in a "high-volume publication rotogravure market," thus increasing the likelihood of anti-competitive conduct and actual or tacit collusion among the firms participating in that market. The ALJ ordered the divestiture of the Meredith/Burda companies and prohibited the acquisition by the company of any other firms participating in the U.S. "rotogravure market" without FTC approval for a period of ten years.
The company appealed the ALJ's decision, asking the FTC Commissioners to dismiss the FTC complaint and is awaiting a decision. The appeal has the effect of staying the ALJ's order. If the appeal by the company is not granted, the company intends to file a further appeal to a U.S. Court of Appeals.
The company continues to believe that the acquisition of the Meredith/Burda companies was legally proper and will ultimately be upheld.
In January 1995, an administrative complaint by the U.S. Environmental Protection Agency Region V ("Region V") seeking $304,500 in penalties was filed against the company's Warsaw, Indiana facility alleging violations of the Resource Conservation and Recovery Act. The complaint alleges that filtercake from wastewater treatment operations was mischaracterized by the company as a non-hazardous waste. The complaint also alleges failure to give certain land disposal restriction notices. The company has submitted evidence to the Region V that the proper notifications were given in all but two instances and has requested that allegations with respect to notifications that were given be removed from the complaint.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the quarter ended December 31, 1994.
EXECUTIVE OFFICERS OF R. R. DONNELLEY & SONS COMPANY
(1) Each officer named has carried on his principal occupation and employment in R. R. Donnelley & Sons Company for more than five years with the exception of S. J. Baumgartner and T. J. Quarles as noted in the above table.
(2) Member of the company's management committee.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The common stock is listed and traded on the New York Stock Exchange, Chicago Stock Exchange and Pacific Stock Exchange.
As of March 1, 1995 there were approximately 11,000 stockholders of record. Information about the quarterly prices of the common stock, as reported on the New York Stock Exchange-Composite Transactions, and dividends paid during the two years ended December 31, 1994, is contained in the chart below:
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
SELECTED FINANCIAL DATA (NOT COVERED BY AUDITORS' REPORT) (THOUSANDS OF DOLLARS, EXCEPT SHARE DATA)
-------- * 1993 earnings from operations includes the one-time adjustment for a restructuring charge ($90 million). ** 1993 net income and net income per common share include one-time adjustments for the restructuring charge ($60.8 million or $0.39 per share); the net cumulative effect of accounting changes ($69.5 million or $0.45 per share); and the deferred income tax charge related to the federal income tax rate increase ($6.2 million or $0.04 per share). *** Reflects the 2-for-1 stock split effective September 1, 1992.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS
COMPARISON OF 1994 WITH 1993
Net sales increased 11.4% reflecting increased global demand and volume growth across most product categories, new products and services, new customers and recent acquisitions. Net sales from foreign operations increased 42% and represented over 11% of consolidated net sales. The growth in foreign sales, which is expected to continue in 1995, was the result of volume increases realized from recent expansions and start-up operations in Europe, Asia and Latin America, including the acquisition of Chilean-based Cochrane, S.A. (51% owned by the company), which was consolidated in operating results beginning July 1, 1994.
Gross profit grew 9.3%, slightly lower than the growth in net sales, as the volume increase was partially offset by higher paper costs (which are recovered, but at lower overall margins), depreciation, amortization and start- up costs. Tight market conditions for certain grades of paper are expected to continue in 1995, but are not expected to have a significant impact on the company due to guaranteed quantity allocations from suppliers coupled with the company's production efficiencies and ability to substitute different paper grades. Selling and administrative expenses increased 8.1% primarily resulting from volume related increases. The ratio of selling and administrative expenses to net sales, at 10% in 1994, was down from 10.3% in 1993.
Interest expense increased $8.1 million, due to higher interest rates and debt levels to fund acquisitions and expansions. Other expense was $7.3 million above the prior year reflecting lower investment income and higher minority interest expense.
The effective income tax rate of 32% in 1994 was lower than the 1993 rate resulting from tax credits for affordable housing investments and the one-time impact on the deferred income tax provision in 1993, related to the federal tax rate increase. Net income, excluding the one-time effect of accounting changes, a restructuring charge and the deferred income tax charge all reflected in 1993, increased 9.2% reflecting the volume increase and a lower effective income tax rate. Earnings per share of $1.75 increased 10.1%, excluding the one-time items, reflecting net income growth and fewer shares outstanding.
COMPARISON OF 1993 WITH 1992
Net sales grew at a rate of 4.6% due to an increased volume of services provided to customers, including volume added through the company's global expansion into new areas. Strong demand for global software services, financial printing services and services for book publishers and volume increases associated with acquisitions in new product areas were partially offset by the negative effects of a stronger dollar (lower translation of foreign revenues, particularly those of the company's U.K. operations) and lower catalog volume primarily associated with the decision by Sears, Roebuck & Co. to discontinue its catalog operations.
Gross profit grew at a greater rate than net sales, 6.3%, reflecting better coverage of fixed costs through higher volume, a more favorable mix of sales and lower raw material prices. Earnings from operations included a $90 million restructuring charge recorded during the first quarter (an after-tax charge of $0.39 per share) related primarily to the closing of the company's Chicago manufacturing facility following the decision by Sears to discontinue its catalog operations. Excluding this charge, earnings from operations would have been $415.6 million, a 2.5% increase over the prior year, reflecting the gross profit improvement partially offset by higher selling and administrative expenses (a 10.1% increase) resulting primarily from the additional costs associated with newly acquired and start-up operations and the expansion of the company's global sales presence.
The $6.8 million increase in interest expense resulted from higher outstanding debt balances due to acquisitions, investments in joint ventures and additional VEBA funding for employee benefits. Other expense decreased $2.2 million reflecting improved earnings on investments partially offset by expenses associated with company owned life insurance programs.
The 1993 provision for income taxes included the one-time effect of the higher federal statutory income tax rate on deferred taxes, which reduced net income by $6.2 million (equivalent to $0.04 per share); excluding this one-time charge, the 1993 effective income tax rate of 33.1% would have been lower than the 1992 rate of 35.0%, reflecting the benefits associated with life insurance programs and credits associated with affordable housing investments. Net income from operations before cumulative effect of accounting changes reflected the restructuring charge and increased selling and administrative expenses partially offset by the favorable factors discussed above with respect to gross profit. Excluding the restructuring charge and deferred income tax charge, net income from operations before cumulative effect of accounting changes would have been $245.9 million (equivalent to $1.59 per share).
During the first quarter of 1993, the company adopted two new accounting standards for postretirement benefits and income taxes. The one-time charge for postretirement benefits, net of associated tax benefits of $80.1 million, was $127.7 million (equivalent to $0.82 per share). The accounting standard for postretirement benefits resulted in additional expenses which reduced operating income by $0.05 per share. The accounting standard for income taxes resulted in a one-time credit of $58.2 million (equivalent to $0.37 per share). As discussed above, the income tax standard also required the company to increase its 1993 income tax provision by $6.2 million.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
The Consolidated Balance Sheets present the company's financial position at the end of each of the last two years. The statements list the company's assets and liabilities, and the equity of its shareholders. Major changes in the financial position are summarized in the Consolidated Statements of Cash Flows. The Consolidated Statements of Cash Flows summarize the changes in the company's cash and equivalents for each of the last three years and help to show the relationship between operations (presented in the Consolidated Statements of Income) and liquidity and financial resources (presented in the Consolidated Balance Sheets).
Management believes the company has the financial strength and flexibility to fund current operations and growth. In 1994, net income from operations plus depreciation and amortization was $582.1 million, an increase of $61.3 million, or 11.8%, from 1993 (excluding the restructuring charge and the deferred income tax charge relating to the increase in the federal statutory income tax rate recorded in 1993).
The company's working capital continues to be adequate for the operation and expansion of the business. Working capital--particularly cash, accounts receivable and inventories--is closely controlled and continually monitored. Emphasis continues on overall balance sheet management. Working capital increased by $127 million from December 31, 1993, primarily from increased receivables and inventory reflecting recent acquisitions and volume increases partially offset by higher accounts payable and accrued compensation. The increase in goodwill and other intangibles reflected recent acquisitions and costs ($257 million in 1994) associated with acquiring long-term print contracts and volume guarantees. Proceeds from debt issuances were used to fund capital expansion, acquisitions and costs associated with long-term print contracts and volume guarantees.
Capital expenditures during 1994 totaled $425 million ($307 million in 1993) and an additional $120 million ($178 million in 1993) was invested in acquisitions and joint venture investments. This capital investment reflects the company's continued program to expand and upgrade operations, targeting geographic markets in the United States, Europe, Asia and Latin America. Recent investments have strategically placed new equipment and operations to meet the growing global needs of present and new customers. Capital
expenditures for 1995 are estimated at $400 million and will be financed primarily from operating cash flows. Other expenditures in 1995 are expected to be commensurate with and to support the growth in sales and earnings.
At December 31, 1994, the company had a revolving credit facility of $550 million with a number of banks (see the Notes to Consolidated Financial Statements). This credit facility provides support for the issuance of commercial paper and other credit needs. Under shelf registration statements, during the fourth quarter of 1994, the company issued $200 million of medium term notes with interest rates ranging from 7.01% to 7.96% (7.55% weighted average rate) due between 1997 and 1999. The proceeds from these issues were used to retire commercial paper debt.
At December 31, 1994, the company had an effective shelf registration statement permitting the company to issue, from time to time, up to $300 million in debt securities. In February 1995, the company filed a prospectus supplement to this existing shelf registration permitting the company to issue these debt securities in the form of medium term notes. The company currently intends to use the proceeds of the issuance of medium term notes, if any, to retire commercial paper debt. As of March 23, 1995, the company had issued no notes under this prospectus supplement.
Subsequent to filing the medium term note prospectus supplement, the company filed a new shelf registration statement permitting the company to issue, from time to time, up to an additional $500 million in debt securities. This registration statement became effective in February, 1995. The company has no current intention to issue debt securities under this new registration statement.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial information required by Item 8 is contained in Item 14 of Part IV and listed on page.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information concerning the directors and officers of the company is contained on pages 2-5 and 8 of the company's definitive Proxy Statement dated February 16, 1995 and is incorporated herein by reference. See also the list of the company's executive officers and related information under "Executive Officers of R. R. Donnelley & Sons Company" at the end of Part I of this Report.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information concerning executive compensation for the year ended December 31, 1994, and, with respect to certain of such information, prior years, is contained on pages 8-12 of the company's definitive Proxy Statement dated February 16, 1995 and is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information concerning the beneficial ownership of the company's common stock is contained on pages 6 and 7 of the company's definitive Proxy Statement dated February 16, 1995 and is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information concerning certain relationships and related transactions for the year ended December 31, 1994, is contained on pages 5 and 13 of the company's definitive Proxy Statement dated February 16, 1995 and is incorporated herein by reference (excluding the information on page 13 under the caption, "Compensation Committee Report on Executive Compensation").
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)1. Financial Statements The financial statements listed in the accompanying index (page) to the financial statements are filed as part of this annual report. 2. Financial Statement Schedule The financial statement schedule listed in the accompanying index (page ) to the financial statements is filed as part of this annual report. 3. Exhibits The exhibits listed on the accompanying index to exhibits (pages E-1 through E-2) are filed as part of this annual report. (b)Reports on Form 8-K None (c)Exhibits The exhibits listed on the accompanying index (Pages E-1 through E-2) are filed as part of this annual report. (d)Financial Statements omitted-- Separate financial statements of the parent company have been omitted since it is primarily an operating company and the minority interest and indebtedness to persons other than the parent of the subsidiaries included in the consolidated financial statements are less than 5% of total consolidated assets. Certain schedules have been omitted because the required information is included in the consolidated financial statements or notes thereto or because they are not applicable or not required.
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, ON THE 23RD DAY OF MARCH, 1995.
R. R. DONNELLEY & SONS COMPANY
/s/ William L. White By __________________________________ William L. White, Vice President, Controller
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE CAPACITIES INDICATED, ON THE 23RD DAY OF MARCH, 1995.
SIGNATURE AND TITLE SIGNATURE AND TITLE
/s/ John R. Walter /s/ Richard M. Morrow ------------------------------------- ------------------------------------- John R. Walter Richard M. Morrow Chairman of the Board, Director Chief Executive Officer and Director
(Principal Executive Officer) /s/ M. Bernard Puckett -------------------------------------
/s/ Frank R. Jarc M. Bernard Puckett ------------------------------------- Director Frank R. Jarc
Executive Vice President and /s/ John M. Richman Chief Financial Officer ------------------------------------- (Principal Financial Officer) John M. Richman Director
/s/ William L. White ------------------------------------- /s/ William D. Sanders William L. White ------------------------------------- Vice President, Controller William D. Sanders (Principal Accounting Officer) Director
/s/ Martha Layne Collins ------------------------------------- ------------------------------------- Martha Layne Collins Jerre L. Stead Director Director
/s/ James R. Donnelley /s/ Bide L. Thomas ------------------------------------- ------------------------------------- James R. Donnelley Bide L. Thomas Director Director
/s/ Charles C. Haffner III /s/ H. Blair White ------------------------------------- ------------------------------------- Charles C. Haffner III H. Blair White Director Director
/s/ Thomas S. Johnson /s/ Stephen M. Wolf ------------------------------------- ------------------------------------- Thomas S. Johnson Stephen M. Wolf Director Director
ITEM 14(A). INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
THOUSANDS OF DOLLARS
See accompanying Notes to Consolidated Financial Statements.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS THOUSANDS OF DOLLARS
See accompanying Notes to Consolidated Financial Statements.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
THOUSANDS OF DOLLARS
See accompanying Notes to Consolidated Financial Statements.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY THOUSANDS OF DOLLARS
See accompanying Notes to Consolidated Financial Statements.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Consolidation--The consolidated financial statements include the accounts of the company and its subsidiaries. Intercompany items and transactions are eliminated in consolidation.
Nature of Operations--The operations of the company are in the information industry. The company provides a wide variety of print and print-related products and services for specific customers, virtually always under contract. Some contracts provide for progress payments from customers as certain phases of the work are completed; however, revenue is not recognized until the production process has been completed in accordance with the terms of the contracts. Some customers furnish paper for their work, while in other cases the company purchases and sells the paper.
Cash and Equivalents--The company considers all highly liquid debt instruments purchased with original maturities of three months or less to be cash equivalents.
Inventories--Inventories include material, labor and factory overhead and are substantially carried at Last-In, First-Out (LIFO) cost. This method reflects the effect of inventory replacement costs in earnings; accordingly, charges to cost of sales reflect recent costs of material, labor and factory overhead.
Foreign Currency Translation--Gains and losses arising from the translation of the company's international subsidiaries' financial statements are reflected in Retained Earnings.
Net Income Per Share of Common Stock--Net income per share is computed on the basis of average shares outstanding during each year. No material dilution would result if effect were given to the exercise of outstanding stock options and the vesting of stock units.
Benefit Plans--The company's Retirement Benefit Plan (the Plan) is a non- contributory defined benefit plan covering substantially all domestic employees. Normal retirement age is 65 but provision is made for earlier retirement. As required, the company uses the projected unit credit actuarial cost method to determine pension cost for financial reporting purposes. In conjunction with this method, the company amortizes deferred gains and losses (using the corridor method), prior service costs and the transition credit (the excess of Plan assets plus balance sheet accruals over the projected obligation, as of January 1, 1987) over 19 years, representing the average remaining service life of its active employee population. For tax and funding purposes, the attained age normal actuarial cost method is used. Compared to the projected unit credit method, the attained age normal method attributes a greater proportion of the total retirement obligation to an employee's early years of service.
Capitalization, Depreciation and Amortization--Property, plant and equipment are stated at cost. Depreciation is computed principally on the straight-line method based on useful lives of 15 to 33 years for buildings and 3 to 15 years for machinery and equipment. Maintenance and repair costs are charged to expense as incurred. Major overhauls are capitalized as reductions to accumulated depreciation. When properties are retired or disposed, the costs and related depreciation reserves are eliminated and the resulting profit or loss is recognized in income. Goodwill ($558.0 million and $493.7 million, net of accumulated amortization, at December 31, 1994 and 1993, respectively) is amortized principally over periods ranging from 10 to 40 years. Other intangibles represent the cost of acquiring print contracts and volume guarantees and are amortized over the lives of the related agreements.
RESTRUCTURING CHARGE
On January 25, 1993, Sears, Roebuck and Co., a customer, announced its decision to discontinue catalog operations during 1993. In response to Sears' announcement, the company incurred a one-time charge of
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) $60.8 million (net of the associated tax benefit) in the first quarter of 1993. The charge primarily covered the costs associated with closing the company's manufacturing facility in Chicago, Illinois, where the company produced the Sears catalogs.
INVENTORIES
The components of the company's inventories as of December 31, 1994 and 1993, were as follows:
VOLUNTARY EMPLOYEES' BENEFICIARY ASSOCIATIONS
The company maintains two Voluntary Employees' Beneficiary Associations (VEBAs), one to fund employee welfare benefits and one to fund postretirement medical and death benefits. The balances of the VEBAs (net of associated liabilities) are recorded in the accompanying Consolidated Balance Sheets, classified as current or noncurrent depending on the ultimate expected payment date of the underlying liabilities. As of December 31, 1994, a net current asset of $11.3 million was included in Prepaid Expenses representing the current position of the company's employee welfare benefit plans funded by one of the VEBAs ($9.8 million is included in Prepaid Expenses at December 31, 1993). The VEBA established to partially fund the company's liability for postretirement medical and death benefits ($156 million at December 31, 1994 and $135 million at December 31, 1993) is included in Other Noncurrent Liabilities as an offset to the related liability. For additional information, refer to the notes on "Other Retirement Benefits."
PROPERTY, PLANT AND EQUIPMENT
The following table summarizes the components of property, plant and equipment (at cost):
COMMITMENTS AND CONTINGENCIES
As of December 31, 1994, authorized expenditures on incomplete projects for the purchase of property, plant and equipment totaled $265.6 million. Of this total, $184.1 million has been contractually committed. The company has a variety of commitments with suppliers for the purchase of paper, ink and other materials for delivery in future years at prevailing market prices.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The company has operating lease commitments totaling $364.9 million and extending through various periods to 2009. The lease commitments total $49.2 million for 1995, range from $24.3 million to $44.3 million in each of the years 1996-1999 and total $177.3 million for years 2000 and thereafter.
The company is not exposed to significant accounts receivable credit risk, due to the diversity of industry classification, distribution channels and geographic location of its customers. In addition, the company is a party to certain litigation (other than the matters described below) arising in the ordinary course of business which, in the opinion of management, will not have a material adverse effect on the operations of the company. The company also has future annual commitments to invest in various affordable housing limited partnerships which provide annual tax benefits and credits in amounts greater than the annual investments.
The company has appealed a 1993 decision in the Federal Trade Commission (FTC) challenge to the company's 1990 acquisition of the Meredith/Burda companies. A FTC administrative law judge found the acquisition has or may substantially lessen competition in an alleged "high-volume publication gravure printing" market and ordered the divestiture of the Meredith/Burda companies. The company's appeal has the effect of staying the divestiture order. The ruling is contrary to an earlier ruling by a Federal District Court which allowed the acquisition to be consummated. Company management continues to believe this acquisition was legally proper.
On December 17, 1994, a purported class action seeking compensatory and punitive damages was filed in California state court against Metromail Corporation, a wholly-owned subsidiary of the company, alleging among other things, that inclusion of certain information in Metromail databases resulted in invasions of privacy in violation of laws. The case was removed from state court to the U.S. District Court for the Central District of California, and in an order dated March 8, 1995, the U.S. District Court dismissed the lawsuit on the joint motion of the parties. The U.S. District Court found, among other things, that the action was not legally maintainable as a class action.
RETIREMENT BENEFIT PLAN
Net pension credits included in operating results for the Retirement Benefit Plan (the Plan) were:
The actuarial computations that derived the above amounts assumed a discount rate on projected benefit obligations of 8.5% (7.5% at December 31, 1993 and 7.8% at December 31, 1992), an expected long-term rate of return on Plan assets of 9.5% and annual salary increases of 5%.
Plan assets include primarily government and corporate debt securities and marketable equity securities, and, to a lesser extent, commingled funds, real estate and a group annuity contract purchased from a life
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) insurance company. The funded status and prepaid pension cost (included in Other Noncurrent Assets on the accompanying Consolidated Balance Sheets) are as follows:
In the event of Plan termination, the Plan provides that no funds can revert to the company and any excess assets over Plan liabilities must be used to fund retirement benefits.
OTHER RETIREMENT BENEFITS
In addition to pension benefits, the company provides certain health care and life insurance benefits for retired employees. Substantially all of the company's domestic, full-time employees become eligible for those benefits upon reaching age 55 while working for the company and having ten years continuous service at retirement. Beginning in 1992, the company began a program to partially fund the liabilities associated with these plans through a tax-exempt trust. The trust is invested in various assets, primarily life insurance covering some of the company's employees.
Effective January 1, 1993, the company adopted Statement of Financial Accounting Standards No. 106 (SFAS 106), "Employers' Accounting for Postretirement Benefits Other Than Pensions." SFAS 106 requires companies to charge to expense the expected costs of postretirement health care and life insurance (and similar benefits) during the years that the employees render service. Previously, such costs were expensed as actual claims were paid. The company elected to immediately recognize the transition obligation for future benefits to be paid related to past employee services, resulting in a noncash charge of $207.8 million before deferred income tax benefits ($127.7 million after-tax or $0.82 per share) that represents the cumulative effect of the change in accounting for the years prior to 1993.
The net accrual-basis expense for postretirement benefits during 1994 and 1993 included the following components:
The above table does not include a $23 million charge for postretirement medical benefits associated with the closing of the company's Chicago manufacturing facility; such amount was included in the 1993 restructuring charge (see separate note above). The expense for postretirement medical and death benefits for 1992 (recognized on a cash basis) was $12.4 million.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The liability (included in Other Noncurrent Liabilities on the accompanying Consolidated Balance Sheets) for postretirement benefits, net of the partial funding, is as follows:
The actuarial computations assumed a discount rate of 8.5% (7.5% at December 31, 1993) to determine the accumulated postretirement benefit obligation, an expected long-term rate of return on plan assets of 9.0% and a health care cost trend rate of 7.8% initially, declining gradually to 5.4% in 2023 and thereafter, to measure the accumulated postretirement benefit obligation.
Effective January 1, 1993, certain features of the plan were amended. For future retirees, the company introduced retiree cost-sharing and implemented programs intended to stem rising costs. Also, the company has adopted a provision which limits its future obligation to absorb health care cost inflation. The features of the new plan provisions have been reflected in the assumed health care cost trend rate disclosed above. However, a one percentage point increase in the assumed health care cost trend rate would increase the 1994 postretirement benefit expense (service cost and interest cost) by $2 million and the accumulated postretirement benefit obligation as of December 31, 1994 by $11.6 million.
INCOME TAXES
Effective January 1, 1993, the company adopted Statement of Financial Accounting Standards No. 109 (SFAS 109), "Accounting for Income Taxes." SFAS 109 requires, among other things, the application of current statutory income tax rates in computing deferred income tax balances. In the first quarter of 1993, the company recognized the cumulative effect, through January 1, 1993, of the accounting change, reflecting the difference between current statutory tax rates and the generally higher rates that were used to establish the deferred income tax balances, resulting in noncash income of $58.2 million (equivalent to $0.37 per share).
Cash payments for income taxes were $101.6 million, $75.2 million and $105.9 million in 1994, 1993 and 1992, respectively. The components of income tax expense for the years ending December 31, 1994, 1993 and 1992, were as follows:
-------- *The 1993 deferred income tax expense includes $6.2 million for the one-time adjustment of previously recorded deferred taxes due to the increase in the U.S. statutory rate.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The significant deferred tax assets and liabilities at December 31, 1994 and 1993, were as follows:
The following table outlines the reconciling differences between the U.S. statutory tax rates and the rates used by the company in the determination of net income:
DEBT FINANCING AND INTEREST EXPENSE
The company's debt at December 31, consisted of the following:
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Based upon the interest rates currently available to the company for borrowings with similar terms and maturities, the fair value of the company's debt approximates its book value at December 31, 1994. The company's notes and debentures are not actively traded and contain no call provisions.
At December 31, 1994, the company had an available credit facility of $550 million with a group of domestic and foreign banks. The credit arrangement provides support for the issuance of commercial paper and other credit needs. Borrowings under the facility (none during the past two years) bear interest at various rates not exceeding the banks' prime rates. The company pays an annual fee of 0.07% on the total unused credit facility. At December 31, 1994, the company had an effective shelf registration statement permitting it to issue, from time to time, up to $300 million in debt securities. Under shelf registration statements, the company issued $200 million of medium term notes during the fourth quarter of 1994. The notes bear interest at rates ranging between 7.01% and 7.96% (with a weighted average interest rate of 7.55%) with maturities as follows: 1997--$91 million, 1998--$5 million and 1999--$104 million. The proceeds from these issues were used to retire commercial paper debt.
At December 31, 1994, the company had $538.6 million of commercial paper and short-term debt outstanding, of which $32.4 million represents management's current estimate of the 1995 net repayment. The remaining $506.2 million is classified as long term since the company has the ability and intent to maintain such debt on a long-term basis. The weighted average interest rate on all commercial paper debt outstanding during 1994 was 4.3% (6.0% at December 31, 1994).
The following table summarizes interest expense included in the Consolidated Statements of Income:
Interest paid, net of capitalized interest, was $51.8 million, $42.9 million and $38.4 million in 1994, 1993 and 1992, respectively.
STOCK AND INCENTIVE PROGRAMS FOR MANAGEMENT EMPLOYEES
Stock Unit Awards and Restricted Stock Awards--At December 31, 1994 and 1993, the company had outstanding 10,000 and 80,000 stock units, respectively, which had been granted to officers and selected managers prior to 1990. Certain of these units are payable upon or subsequent to termination of employment and others are payable upon vesting, normally five years after the date of grant. Payment of these awards will be made in shares of common stock equal to the number of units awarded, in cash equal to the market value at the date of distribution, or a combination thereof, at the company's option. The expense for these grants was recognized in the year granted. When an award of stock units is paid, the recipient will receive an additional amount in cash equal to dividends paid on an equivalent number of shares of common stock during the vesting period, plus interest. The values of the dividends and interest accounts were $46,000 and $232,000 at December 31, 1994 and 1993, respectively.
At December 31, 1994 and 1993, the company had outstanding 328,000 and 275,000, respectively, restricted shares granted to certain officers. These shares are registered in the names of the recipients, but are subject to conditions of forfeiture and restrictions on sale or transfer for five years from the grant date. Dividends on the restricted shares are paid currently to the recipients and, accordingly, the restricted shares are treated as outstanding shares. The expense of the grant is recognized evenly over the vesting period.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The value of the stock units and restricted stock awards was $10.0 million and $11.0 million based upon the closing price of the company's stock at each year end ($29.50 and $31.13 at December 31, 1994 and 1993, respectively). Charges to expense for both stock plans were $1.5 million, $1.1 million and $1.2 million in 1994, 1993 and 1992, respectively.
Stock Purchase Plan--The company has a stock purchase plan for selected managers and key staff employees. Under the plan, the company is required to contribute an amount equal to 70% of participants' contributions, of which 50% is applied to the purchase of stock and 20% is paid in cash. The number of shares required for the plan for the year 1994 will depend upon the extent to which eligible participants subscribe during the subscription period in the first quarter of 1995 and the price of the stock on March 16, 1995. Amounts charged to expense for this plan were $6.1 million, $6.2 million, and $5.8 million in 1994, 1993 and 1992, respectively.
Incentive Compensation Plans--The company has incentive compensation plans covering selected officers. Amounts charged to expense for supplementary compensation ($3.3 million in 1994, $2.6 million in 1993 and $2.7 million in 1992), are determined from the level of achievement of performance measures related to earnings, margins and returns applied to the participants' base salaries. Similar incentive and gain sharing compensation plans exist for other officers, managers, supervisors and production employees.
Stock Options--The company has granted stock options annually from 1983 to 1994. Exercise prices are 100% of the market price of common stock on the date of grant. The employee options vest over three, four or five years and may be exercised, once vested, up to ten years from the date of grant. Under the 1991 Stock Incentive Plan, a maximum of 1.2 million shares were available for future grants of stock options and restricted stock awards as of December 31, 1994. Information relating to stock options, which includes 2.4 million shares granted under a broad base stock option program for non-management employees, for the years ended December 31 is shown below.
Other Information--Under the stock programs, authorized unissued shares or treasury shares may be used. If authorized unissued shares are used, not more than 11.3 million shares may be issued in the aggregate. The company intends to reacquire shares of its common stock to meet the stock requirements of these programs in the future.
EMPLOYEE STOCK OWNERSHIP PLAN
Contributions to the company's Employee Stock Ownership Plan were discontinued in response to the change in tax law that eliminated the previously available tax credit. Under this plan, 1.2 million shares are held in trust as of December 31, 1994, for formerly eligible employees. There are no charges to operations for this plan, except for certain administrative expenses.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
STOCK SPLIT
On July 23, 1992, the Board of Directors declared a 2-for-1 common stock split. The split was completed on September 1, 1992, by the distribution of one share of common stock, par value $1.25 per share, for each share held by stockholders of record on August 7, 1992. Information relating to stock options, stock units, reacquired common stock, the Shareholders Rights Plan, and the net income and dividends per share included in the Consolidated Financial Statements and related notes reflects the stock split.
PREFERRED STOCK
The company has two million shares of $1.00 par value preferred stock authorized for issuance. The Board of Directors may divide the preferred stock into one or more series and fix the redemption, dividend, voting, conversion, sinking fund, liquidation and other rights. The company has no present plans to issue any preferred stock. One million of the shares are reserved for issuance under the Shareholder Rights Plan discussed below.
SHAREHOLDER RIGHTS PLAN
The company maintains a Shareholder Rights Plan (the Plan) designed to deter coercive or unfair takeover tactics, to prevent a person or group from gaining control of the company without offering fair value to all shareholders and to deter other abusive takeover tactics which are not in the best interest of shareholders.
Under the terms of the Plan, each share of common stock is accompanied by one-quarter of a right; each full right entitles the shareholder to purchase from the company, one one-hundredth of a newly issued share of Series A Junior Preferred Stock at an exercise price of $225.
The rights become exercisable ten days after a public announcement that an acquiring person (as defined in the Plan) has acquired 20% or more of the outstanding common stock of the company (the Stock Acquisition Date) or ten days after the commencement of a tender offer which would result in a person owning 30% or more of such shares. The company can redeem the rights for $.05 per right at any time until twenty days following the Stock Acquisition Date (the 20-day period can be shortened or lengthened by the company). The rights will expire on August 8, 1996 unless redeemed earlier by the company.
If, subsequent to the rights becoming exercisable, the company is acquired in a merger or other business combination at any time when there is a 20% or more holder, the rights will then entitle a holder to buy shares of the acquiring company with a market value equal to twice the exercise price of each right. Alternatively, if a 20% holder acquires the company by means of a merger in which the company and its stock survives, or if any person acquires 30% or more of the company's common stock, each right not owned by a 20% or more shareholder, would become exercisable for common stock of the company (or, in certain circumstances, other consideration) having a market value equal to twice the exercise price of the right.
ACQUISITIONS
The company made several acquisitions, joint venture and equity investments in 1994, 1993 and 1992, none of which, either individually or in the aggregate, were material to the company's financial statements. The acquisitions were accounted for using the purchase method; accordingly, the assets and liabilities of the acquired entities have been recorded at their estimated fair values at their respective dates of acquisition.
R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONCLUDED)
GEOGRAPHIC SEGMENTS
The following table summarizes the company's results of operations and identifiable assets, as of and for the years ended December 31, 1994, 1993 and 1992:
-------- *1993 domestic earnings from operations includes a $90 million restructuring charge recorded during the first quarter of 1993 related primarily to the closing of the company's Chicago manufacturing facility.
Sales to affiliates are at negotiated prices based on specific market conditions. Earnings from operations is net sales less cost of sales, selling and administrative expenses, assessments to operating units for various corporate expenses and goodwill amortization. In computing earnings from operations, none of the following items has been added or deducted: interest expense, income taxes and equity in income from unconsolidated investees. Identifiable assets are those assets of the company that are identified with the operations in each geographic area. Corporate and other assets are principally investments.
Since December 31, 1991, foreign identifiable assets have grown 113%, which is attributable to acquisitions, new locations and expansions of existing businesses. Significant investments have been made in China, Poland, Ireland, Singapore, United Kingdom, Japan, Korea, Australia, France, Germany, Mexico and South America resulting in sales gains from the introduction of the company's products to international markets and the creation of new products and services by the foreign segment. Most of these operations remain in their start-up and expansion phases and accordingly, the growth in foreign net sales (113% since 1991) has outpaced the growth in foreign operating earnings due to normal but significant start-up costs.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of R. R. Donnelley & Sons Company:
We have audited the accompanying consolidated balance sheets of R. R. Donnelley & Sons Company (a Delaware corporation) and Subsidiaries as of December 31, 1994 and 1993, and the related consolidated statements of income, shareholders' equity and cash flows for each of the three years ended December 31, 1994. These financial statements are the responsibility of the company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion the financial statements referred to above present fairly, in all material respects, the financial position of R. R. Donnelley & Sons Company and Subsidiaries as of December 31, 1994 and 1993, and the results of its operations and its cash flows for each of the three years ended December 31, 1994, in conformity with generally accepted accounting principles.
As explained in the Notes to Consolidated Financial Statements, effective January 1, 1993, the company changed its method of accounting for postretirement benefits other than pensions and its method of accounting for income taxes.
Arthur Andersen LLP
Chicago, Illinois January 26, 1995 (except with respect to the matter discussed in paragraph 5 in the Commitments and Contingencies footnote, as to which the date is March 8, 1995)
UNAUDITED INTERIM FINANCIAL INFORMATION
THOUSANDS OF DOLLARS EXCEPT PER SHARE DATA
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULE
To the Stockholders of R. R. Donnelley & Sons Company:
We have audited, in accordance with generally accepted auditing standards, the financial statements included in the Company's Annual Report to Shareholders included in this Form 10-K, and have issued our report thereon dated January 26, 1995. Our audit was made for the purpose of forming an opinion on those statements taken as a whole. The schedule listed in the index to the financial statements and financial statement schedule is the responsibility of the Company's management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.
Arthur Andersen LLP
Chicago, Illinois January 26, 1995
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
Transactions affecting the allowances for doubtful accounts during the years ended December 31, 1994, 1993 and 1992 were as follows:
-------- *Filed with the Securities and Exchange Commission. Each such exhibit may be obtained by a shareholder of the Company upon payment of $5.00 per exhibit. **Management contract or compensatory plan or arrangement.
(1) Instruments, other than that described in 4(d) and 4(e), defining the rights of holders of long-term debt not registered under the Securities Exchange Act of 1934 of the registrant and of all subsidiaries for which consolidated or unconsolidated financial statements are required to be filed are being omitted pursuant to paragraph (4)(iii)(A) of Item 601 of Regulation S-K. Registrant agrees to furnish a copy of any such instrument to the Commission upon request.
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(2) Filed as Exhibit with Form SE filed on July 31, 1986, and incorporated herein by reference.
(3) Filed as Exhibit with Form SE filed on March 24, 1988, and incorporated herein by reference.
(4) Filed as Exhibit with Form SE filed on May 10, 1988, and incorporated herein by reference.
(5) Filed as Exhibit with Form SE filed on March 23, 1990, and incorporated herein by reference.
(6) Filed as Exhibit with Form SE filed on March 25, 1991, and incorporated herein by reference.
(7) Filed as Exhibit with Form SE filed on May 9, 1991 and incorporated herein by reference.
(8) Filed as Exhibit with Form SE filed on March 26, 1992 and incorporated herein by reference. (9) Filed as Exhibit with Form SE filed on March 30, 1993 and incorporated herein by reference. (10) Filed on May 14, 1993 as Exhibit to Quarterly Report on Form 10-Q for the quarterly period ended March 31, 1993. (11) Filed on November 12, 1993 as Exhibit to Quarterly Report on Form 10-Q for the quarterly period ended September 30, 1993. (12) Filed on March 28, 1994 as Exhibit to Annual Report on Form 10-K for the year ended December 31, 1993. (13) Filed on November 14, 1994 as Exhibit to Quarterly Report on Form 10-Q for the quarter ended September 30, 1994.
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