<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-K/A
(AMENDMENT NO. 1)
[X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED JUNE 30, 1998
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 1-14224
PAYMENTECH, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
75-2634185
DELAWARE (I.R.S. EMPLOYER IDENTIFICATION NO.)
(STATE OR OTHER JURISDICTION OF
INCORPORATION OR ORGANIZATION)
75201
(ZIP CODE)
1601 ELM STREET, 9TH FLOOR
DALLAS, TEXAS
(ADDRESS OF PRINCIPAL EXECUTIVE
OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (214) 849-2149
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
<TABLE>
<CAPTION>
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
------------------- -----------------------
<S> <C>
Common Stock, $.01 par value New York Stock Exchange
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of the Registrant's knowledge, in the definitive proxy or information
statement incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [_].
As of November 30, 1998, the aggregate market value of the voting stock held
by non-affiliates of the Registrant (computed by reference to the closing
price of Paymentech, Inc. Common Stock as reported on the New York Stock
Exchange on such date) was approximately $243,273,183. For purposes of such
calculation, shares owned by directors and executive officers of the
Registrant have been treated as owned by affiliates of the Company, although
such treatment is not an admission of the affiliate status of any of such
parties. As of November 30, 1998, there were outstanding 36,161,857 shares of
Paymentech, Inc. Common Stock, $.01 par value.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the 1998 Annual Report to Stockholders for the year ended June
30, 1998 are incorporated by reference into Parts II and IV.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<PAGE>
PART II
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The section entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" of the Company's 1998 Annual Report to
Stockholders is incorporated herein by reference and filed as part of Exhibit
13.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements and Accompanying Notes and the sections
entitled "Report of Independent Auditors" and "Quarterly Financial Information"
of the Company's 1998 Annual Report to Stockholders is incorporated herein by
reference and filed as part of Exhibit 13.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
a. Index to Financial Statements:
(1) The following financial statements of Paymentech, Inc. and its
subsidiaries are incorporated by reference from the Company's 1998 Annual
Report to Stockholders:
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Consolidated Balance Sheets at June 30, 1998 and 1997.................. 29
Consolidated Statements of Income for each of the three years in the
period ended June 30, 1998............................................ 30
Consolidated Statements of Changes in Stockholders' Equity for each of
the three years in the period ended June 30, 1998..................... 31
Consolidated Statements of Cash Flows for each of the three years in
the period ended June 30, 1998........................................ 32
Notes to Consolidated Financial Statements............................. 33
Report of Independent Auditors......................................... 47
</TABLE>
(2) The following consolidated financial statement schedule of Paymentech,
Inc. and its subsidiaries is included in Item 14(d):
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
All other schedules are omitted because of the absence of the conditions
under which they are required.
2
<PAGE>
(3) Listing of Exhibits
The following exhibits are incorporated by reference or filed herewith:
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
3.1 Certificate of Incorporation of the Company, as amended, filed as
Exhibit 3.1 to the Company's Registration Statement on Form S-1 (No.
333-262) (the "Registration Statement") and incorporated by reference
herein.
3.2 By-Laws of the Company, filed as Exhibit 3.2 to the Company's Annual
Report on Form 10-K for the fiscal year ended June 30, 1997 and
incorporated by reference herein.
10.1 Intercompany Services Agreement between the Company and First USA
Management, Inc., filed as Exhibit 10.1 to the Company's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1996, and
incorporated herein by reference.
10.2 First Amendment to Intercompany Services Agreement, dated as of June
24, 1997, among the Company, First USA Management, Inc. and First USA,
filed as Exhibit 10.2 to the Company's Annual Report on Form 10-K for
the fiscal year ended June 30, 1997 and incorporated by reference
herein.
10.3 Registration Rights Agreement between the Company and Banc One, as
successor to First USA, Inc., filed as Exhibit 10.2 to the Company's
Quarterly Report on Form 10-Q for the quarter ended March 31, 1996 and
incorporated herein by reference.
10.4 Tax Sharing Agreement between the Company and First USA, filed as
Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the
quarter ended March 31, 1996 and incorporated herein by reference.
10.5 Amended and Restated 1996 Stock Option Plan of the Company, filed as
Exhibit 10.5 to the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 1997 and incorporated by reference herein.
10.6 First Amendment to the Amended and Restated 1996 Stock Option Plan of
the Company, filed as Exhibit 10.1 to the Company's Quarterly Report
on Form 10-Q for the quarter ended December 31, 1997 and incorporated
herein by reference.
10.7 Amended and Restated 1996 Restricted Stock Plan of the Company, filed
as Exhibit 10.6 to the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 1997 and incorporated by reference herein.
10.8 First Amendment to the Amended and Restated 1996 Restricted Stock Plan
of the Company, filed as Exhibit 10.1 to the Company's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1998 and
incorporated by reference herein.
10.9 Revolving Credit Agreement dated February 21, 1996 among the Company,
the lenders listed therein and NationsBank of Texas N.A., as Agent,
including the notes and guaranty related thereto, filed as Exhibit
10.6 to the Registration Statement and incorporated by reference
herein.
10.10 Form of Amendment No. 1 to Revolving Credit Agreement dated October
30, 1996, among the Company, the lenders listed herein and NationsBank
of Texas, N.A., as Agent, filed as Exhibit 10.8 to the Company's
Registration Statement on Form S-1 (No. 333-15861) and incorporated
herein by reference.
10.11 Deferred Compensation Plan of First USA, filed as Exhibit 4.3 to the
Company's Registration Statement on Form S-8 (No. 333-06979) and
incorporated by reference herein.
10.12 Employee Stock Purchase Plan of the Company, filed as Exhibit 10.8 to
the Company's Annual Report on Form 10-K for the fiscal year ended
June 30, 1996 and incorporated by reference herein.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
10.13 First Amendment to the Employee Stock Purchase Plan of the Company,
filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q
for the quarter ended March 31, 1998 and incorporated by reference
herein.
10.14 First USA Paymentech Retirement Savings Plan, filed as Exhibit 99.1 to
the Company's Registration Statement on Form S-8 (No. 333-11249) and
incorporated by reference herein.
10.15 First USA Paymentech Supplemental Executive Retirement Plan, filed as
Exhibit 10.10 to the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 1996 and incorporated by reference herein.
10.16 First Amendment to the Paymentech Supplemental Executive Retirement
Plan, filed as Exhibit 10.3 to the Company's Quarterly Report on Form
10-Q for the quarter ended March 31, 1998 and incorporated by
reference herein.
10.17 First USA Paymentech Savings Restoration Plan, filed as Exhibit 10.11
to the Company's Annual Report on Form 10-K for the fiscal year ended
June 30, 1996 and incorporated by reference herein.
10.18 Sublease Incorporating Provisions of Lease, dated June 2, 1997,
between First USA and the Company, filed as Exhibit 10.14 to the
Company's Annual Report on Form 10-K for the fiscal year ended June
30, 1997 and incorporated by reference herein.
10.19 Sublease Incorporating Provisions of Lease, dated June 2, 1997,
between First USA and the Company, filed as Exhibit 10.15 to the
Company's Annual Report on Form 10-K for the fiscal year ended June
30, 1997 and incorporated by reference herein.
10.20 Amendment to Sublease Incorporating Provisions of Lease, dated as of
July 10, 1997, between First USA and the Company, filed as Exhibit
10.16 to the Company's Annual Report on Form 10-K for the fiscal year
ended June 30, 1997 and incorporated by reference herein.
10.21 Employment Agreement, dated as of June 27, 1997, between the Company
and Pamela H. Patsley, filed as Exhibit 10.17 to the Company's Annual
Report on Form 10-K for the fiscal year ended June 30, 1997 and
incorporated by reference herein.
10.22 Form of Employment Agreements, each dated as of June 27, 1997, between
the Company and each named executive officer other than Ms. Patsley,
filed as Exhibit 10.18 to the Company's Annual Report on Form 10-K for
the fiscal year ended June 30, 1997 and incorporated by reference
herein.
11 Computation of Net Income Per Share (included in Note O to the Notes
to the Consolidated Financial Statements in the Company's 1998 Annual
Report to Stockholders, filed herewith as Exhibit 13 and incorporated
by reference herein).
13* Sections entitled "Common Stock", "Five-Year Statistical Summary",
"Management's Discussion and Analysis of Financial Condition and
Results of Operations", "Report of Independent Auditors", and
"Quarterly Financial Information" and the Consolidated Financial
Statements and accompanying Notes in the Company's 1998 Annual Report
to Stockholders.
21** Subsidiaries of the Company.
23* Consent of Ernst & Young LLP.
27** Financial Data Schedule.
</TABLE>
- --------
* Filed herewith
** Exhibit originally filed with the Registrant's Form 10-K on September 24,
1998 and is not affected by this Form 10-K/A.
b. Reports on Form 8-K filed during the fourth quarter of fiscal year ended
June 30, 1998:
None.
4
<PAGE>
Reports on Form 8-K filed subsequent to the fourth quarter of fiscal year
ended June 30, 1998:
Report on Form 8-K filed August 28, 1998
Item 5. Other Events
c. Exhibits--Such exhibits as are indicated in the Listing of Exhibits as
being filed herewith are filed as exhibits to this report.
d. Financial Statement Schedule--The financial statement schedule set forth
below was omitted from the Company's 1998 Annual Report to Shareholders
pursuant to Rule 14a-3(b) under the Securities Exchange Act of 1934.
PAYMENTECH, INC. AND SUBSIDIARIES
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
ADDITIONS
--------------------
BALANCE AT CHARGED TO CHARGE TO BALANCE AT
BEGINNING COSTS AND OTHER END OF
DESCRIPTION OF PERIOD EXPENSES ACCOUNTS DEDUCTIONS PERIOD
- ----------- ---------- ---------- --------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Year Ended June 30, 1998
Allowance for Doubtful
Accounts............. $1,234 $2,505 $246(a) $2,202(b) $1,783
Allowance for Loan
Losses............... 281 1,576 -- 1,071(b) 786
Year Ended June 30, 1997
Allowance for Doubtful
Accounts............. 443 1,443 834(a) 1,486(b) $1,234
Allowance for Loan
Losses............... 163 482 -- 364(b) 281
Year Ended June 30, 1996
Allowance for Doubtful
Accounts............. 359 666 -- 582(b) 443
Allowance for Loan
Losses............... -- (c) 170 -- 7(b) 163
</TABLE>
- --------
(a) Associated with acquisitions.
(b) Amounts related to losses/chargeoffs.
(c) First USA Financial Services, Inc. began operations during fiscal year
1996.
5
<PAGE>
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.
Paymentech, Inc.
Dated: December 16, 1998
/s/ Pamela H. Patsley
By: _________________________________
PAMELA H. PATSLEY
PRESIDENT AND CHIEF EXECUTIVE
OFFICER
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT
AND IN THE CAPACITIES INDICATED ON DECEMBER 16, 1998.
SIGNATURE TITLE
Chairman of the
/s/ Richard Vague Board
- -------------------------------------
RICHARD VAGUE
/s/ Pamela H. Patsley President, Chief Executive
- ------------------------------------- Officer and Director
PAMELA H. PATSLEY (Principal Executive Officer)
/s/ Kathryn J. Kessler
- ------------------------------------- Chief Financial Officer
KATHRYN J. KESSLER (Principal Accounting
Officer)
/s/ Gene H. Bishop Director
- -------------------------------------
GENE H. BISHOP
/s/ William P. Boardman Director
- -------------------------------------
WILLIAM P. BOARDMAN
/s/ John B. McCoy Director
- -------------------------------------
JOHN B. MCCOY
/s/ Rupinder S. Sidhu Director
- -------------------------------------
RUPINDER S. SIDHU
/s/ Ronald G. Steinhart Director
- -------------------------------------
RONALD G. STEINHART
/s/ John C. Tolleson Director
- -------------------------------------
JOHN C. TOLLESON
6
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT PAGE
NUMBER DESCRIPTION NO.
------- ----------- ----
<C> <S> <C>
3.1 Certificate of Incorporation of the Company, as amended, filed
as Exhibit 3.1 to the Company's Registration Statement on Form
S-1 (No. 333-262) (the "Registration Statement") and
incorporated by reference herein.
3.2 By-Laws of the Company, filed as Exhibit 3.2 to the Company's
Annual Report on Form 10-K for the fiscal year ended June 30,
1997 and incorporated by reference herein.
10.1 Intercompany Services Agreement between the Company and First
USA Management, Inc., filed as Exhibit 10.1 to the Company's
Quarterly Report on Form 10-Q for the quarter ended March 31,
1996, and incorporated herein by reference.
10.2 First Amendment to Intercompany Services Agreement, dated as of
June 24, 1997, among the Company, First USA Management, Inc.
and First USA, filed as Exhibit 10.2 to the Company's Annual
Report on Form 10-K for the fiscal year ended June 30, 1997 and
incorporated by reference herein.
10.3 Registration Rights Agreement between the Company and Banc One,
as successor to First USA, Inc. filed as Exhibit 10.2 to the
Company's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1996 and incorporated herein by reference.
10.4 Tax Sharing Agreement between the Company and First USA, filed
as Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q
for the quarter ended March 31, 1996 and incorporated herein by
reference.
10.5 Amended and Restated 1996 Stock Option Plan of the Company,
filed as Exhibit 10.5 to the Company's Annual Report on Form
10-K for the fiscal year ended June 30, 1997 and incorporated
by reference herein.
10.6 First Amendment to the Amended and Restated 1996 Stock Option
Plan of the Company, filed as Exhibit 10.1 to the Company's
Quarterly Report on Form 10-Q for the quarter ended December
31, 1997 and incorporated herein by reference.
10.7 Amended and Restated 1996 Restricted Stock Plan of the Company,
filed as Exhibit 10.6 to the Company's Annual Report on Form
10-K for the fiscal year ended June 30, 1997 and incorporated
by reference herein.
10.8 First Amendment to the Amended and Restated 1996 Restricted
Stock Plan of the Company, filed as Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1998 and incorporated by reference herein.
10.9 Revolving Credit Agreement dated February 21, 1996 among the
Company, the lenders listed therein and NationsBank of Texas
N.A., as Agent, including the notes and guaranty related
thereto, filed as Exhibit 10.6 to the Registration Statement
and incorporated by reference herein.
10.10 Form of Amendment No. 1 to Revolving Credit Agreement dated
October 30, 1996, among the Company, the lenders listed herein
and NationsBank of Texas, N.A., as Agent, filed as Exhibit 10.8
to the Company's Registration Statement on Form S-1 (No. 333-
15861) and incorporated herein by reference.
10.11 Deferred Compensation Plan of First USA, filed as Exhibit 4.3
to the Company's Registration Statement on Form S-8 (No. 333-
06979) and incorporated by reference herein.
10.12 Employee Stock Purchase Plan of the Company, filed as Exhibit
10.8 to the Company's Annual Report on Form 10-K for the fiscal
year ended June 30, 1996 and incorporated by reference herein.
</TABLE>
7
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT PAGE
NUMBER DESCRIPTION NO.
------- ----------- ----
<C> <S> <C>
10.13 First Amendment to the Employee Stock Purchase Plan of the
Company, filed as Exhibit 10.2 to the Company's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1998 and
incorporated by reference herein.
10.14 First USA Paymentech Retirement Savings Plan, filed as Exhibit
99.1 to the Company's Registration Statement on Form S-8 (No.
333-11249) and incorporated by reference herein.
10.15 First USA Paymentech Supplemental Executive Retirement Plan,
filed as Exhibit 10.10 to the Company's Annual Report on Form
10-K for the fiscal year ended June 30, 1996 and incorporated
by reference herein.
10.16 First Amendment to the Paymentech Supplemental Executive
Retirement Plan, filed as Exhibit 10.3 to the Company's
Quarterly Report on Form 10-Q for the quarter ended March 31,
1998 and incorporated by reference herein.
10.17 First USA Paymentech Savings Restoration Plan, filed as Exhibit
10.11 to the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 1996 and incorporated by reference
herein.
10.18 Sublease Incorporating Provisions of Lease, dated June 2, 1997,
between First USA and the Company, filed as Exhibit 10.14 to
the Company's Annual Report on Form 10-K for the fiscal year
ended June 30, 1997 and incorporated by reference herein.
10.19 Sublease Incorporating Provisions of Lease, dated June 2, 1997,
between First USA and the Company, filed as Exhibit 10.15 to
the Company's Annual Report on Form 10-K for the fiscal year
ended June 30, 1997 and incorporated by reference herein.
10.20 Amendment to Sublease Incorporating Provisions of Lease, dated
as of July 10, 1997, between First USA and the Company, filed
as Exhibit 10.16 to the Company's Annual Report on Form 10-K
for the fiscal year ended June 30, 1997 and incorporated by
reference herein.
10.21 Employment Agreement, dated as of June 27, 1997, between the
Company and Pamela H. Patsley, filed as Exhibit 10.17 to the
Company's Annual Report on Form 10-K for the fiscal year ended
June 30, 1997 and incorporated by reference herein.
10.22 Form of Employment Agreements, each dated as of June 27, 1997,
between the Company and each named executive officer other than
Ms. Patsley, filed as Exhibit 10.18 to the Company's Annual
Report on Form 10-K for the fiscal year ended June 30, 1997 and
incorporated by reference herein.
11 Computation of Net Income Per Share (included in Note O to the
Notes to the Consolidated Financial Statements in the Company's
1998 Annual Report to Stockholders, filed herewith as Exhibit
13 and incorporated by reference herein).
13* Sections entitled "Common Stock", "Five-Year Statistical
Summary", "Management's Discussion and Analysis of Financial
Condition and Results of Operations", "Report of Independent
Auditors", and "Quarterly Financial Information" and the
Consolidated Financial Statements and accompanying Notes in the
Company's 1998 Annual Report to Stockholders.
21** Subsidiaries of the Company.
23* Consent of Ernst & Young LLP.
27** Financial Data Schedule.
</TABLE>
- --------
* Filed herewith
** Exhibit originally filed with the Registrant's Form 10-K on September 24,
1998 and is not affected by this Form 10-K/A.
8
<PAGE>
financials
Exhibit 13
SECTIONS FROM 1998 ANNUAL REPORT TO STOCKHOLDERS
Five-Year Statistical Summary......................... 18
Common Stock Information.............................. 19
Quarterly Financial Information....................... 20
Management's Discussion and Analysis
of Financial Condition and Results of Operations... 21
Consolidated Balance Sheets........................... 29
Consolidated Statements of Income..................... 30
Consolidated Statements of Changes
in Stockholders' Equity............................ 31
Consolidated Statements of Cash Flows................. 32
Notes to Consolidated Financial Statements............ 33
Management's Report on Financial Statements
and Internal Control............................... 46
Report of Independent Auditors........................ 47
17
<PAGE>
summary
FIVE-YEAR STATISTICAL SUMMARY
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
-------------------------------------------------------------------------
(In thousands, except per share data) 1998 1997 1996 1995 1994
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Statement of Income
Revenue $ 213,486 $ 186,143 $ 124,067 $ 88,527 $ 64,379
Other income 8,000 16,247 1,744 -- --
-------------------------------------------------------------------------
Total revenue 221,486 202,390 125,811 88,527 64,379
-------------------------------------------------------------------------
Operating expense 86,525 77,462 53,795 41,467 34,410
Salaries and employee benefits expense 65,526 51,712 38,753 31,051 19,028
Depreciation and amortization expense 27,063 20,572 7,669 4,210 1,794
Interest expense 6,486 4,884 1,842 589 307
Merger, integration and impairment charges -- 20,541 -- -- --
First USA, Inc./Banc One merger expense -- 12,473 -- -- --
-------------------------------------------------------------------------
Total expenses 185,600 187,644 102,059 77,317 55,539
-------------------------------------------------------------------------
Income before income taxes 35,886 14,746 23,752 11,210 8,840
Provision for income taxes 15,698 11,020 9,500 3,290 2,489
-------------------------------------------------------------------------
Net income $ 20,188 $ 3,726 $ 14,252 $ 7,920 $ 6,351
=========================================================================
Net income per share - diluted $ 0.56 $ 0.11 $ 0.54 $ 0.32 $ 0.26
=========================================================================
Balance Sheet Statistics
Purchased merchant portfolios, goodwill
and other intangibles, net $ 333,528 $ 352,503 $ 88,894 $ 40,024 $ 3,930
Total assets 649,383 631,000 290,221 84,038 37,805
Stockholders' equity 399,072 359,415 231,064 47,232 14,728
Other Data
Sales volumes processed $49,323,253 $41,301,879 $30,875,857 $20,059,066 $18,425,550
Total items processed* 1,877,574 1,332,519 574,157 358,705 321,791
-------------------------------------------------------------------------
</TABLE>
*Total items processed for the fiscal years ended June 30, 1998 and 1997
includes bankcard and other credit and debit card transactions and credit and
debit authorization transactions. For the prior years, total items processed
includes bankcard transactions only.
PAYMENTECH, Inc. & Subsidiaries
18
<PAGE>
common stock
COMMON STOCK
The Company's common stock, $0.01 par value (the "Common Stock"), is listed
for trading on the New York Stock Exchange and began trading under the symbol
PTI on March 22, 1996. Paymentech's initial offering price was $21.00 per share.
As of June 30, 1998, Paymentech had 204 common stockholders of record. During
fiscal 1998, Paymentech did not declare or pay any dividends. Paymentech's
dividend policy since its initial public offering in March 1996 has been to
retain earnings for future growth. On June 30, 1998, the closing market price
was $20.56 per share. During the last two fiscal years, the high and low sales
prices and the close sales prices at the end of each fiscal quarter on common
stock per share have been:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
---------------------------------------------------------------------------
1998 1997
----------------------------------- -----------------------------------
High Low Close High Low Close
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Fourth fiscal quarter $21 1/2 $16 $20 9/16 $34 1/4 $20 5/8 $28 15/16
Third fiscal quarter 20 5/8 12 7/8 19 7/16 35 3/4 25 26 1/8
Second fiscal quarter 20 1/2 11 13/16 14 3/4 42 1/4 33 33 7/8
First fiscal quarter 32 3/8 15 7/8 16 3/8 43 3/4 34 40 5/8
---------------------------------------------------------------------------
</TABLE>
PAYMENTECH, Inc. & Subsidiaries
19
<PAGE>
quarterly info
QUARTERLY FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Fiscal 1998
----------------------------------------------------------------
(In thousands, except per share data) 4th Quarter 3rd Quarter 2nd Quarter 1st Quarter
- ----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Revenue $ 55,308 $52,379 $ 55,459 $50,340
Other income /(1)/ 271 303 6,225 1,201
----------------------------------------------------------------
Total revenues 55,579 52,682 61,684 51,541
----------------------------------------------------------------
Operating expense 20,836 19,575 25,643 20,471
Salaries and employee benefits expense 17,203 17,051 15,821 15,451
Depreciation and amortization expense 6,995 6,766 6,805 6,497
Interest expense 1,520 1,542 1,775 1,649
----------------------------------------------------------------
Total expenses 46,554 44,934 50,044 44,068
----------------------------------------------------------------
Income before income taxes 9,025 7,748 11,640 7,473
Provision for income taxes 4,008 3,414 4,975 3,301
----------------------------------------------------------------
Net income $ 5,017 $ 4,334 $ 6,665 $ 4,172
================================================================
Net income per share - basic /(3)/ $ 0.14 $ 0.12 $ 0.19 $ 0.12
================================================================
Net income per share - diluted /(3)/ $ 0.14 $ 0.12 $ 0.19 $ 0.12
================================================================
Weighted average common shares outstanding - basic 35,967 35,788 35,345 35,196
================================================================
Weighted average common shares outstanding - diluted 36,491 36,122 35,345 35,521
================================================================
<CAPTION>
Fiscal 1997
----------------------------------------------------------------
(In thousands, except per share data) 4th Quarter 3rd Quarter 2nd Quarter 1st Quarter
- ----------------------------------------------------------------------------------------------------------------------------
Revenue $ 49,755 $46,957 $ 48,301 $41,130
Other income /(2)/ 6,999 5,274 3,721 253
----------------------------------------------------------------
Total revenues 56,754 52,231 52,022 41,383
----------------------------------------------------------------
Operating expense 24,608 18,786 17,985 16,083
Salaries and employee benefits expense 14,574 13,433 12,015 11,690
Depreciation and amortization expense 6,216 5,672 5,060 3,624
Interest expense 1,661 1,050 1,673 500
Merger, integration and impairment charges 4,997 - - 15,544
First USA, Inc./Banc One merger expense 12,473 - - -
----------------------------------------------------------------
Total expenses 64,529 38,941 36,733 47,441
----------------------------------------------------------------
Income (loss) before income taxes (7,775) 13,290 15,289 (6,058)
Provision for income taxes 971 5,930 6,893 (2,774)
----------------------------------------------------------------
Net income (loss) $ (8,746) $ 7,360 $ 8,396 $(3,284)
================================================================
Net income (loss) per share - basic /(3)/ $ (0.25) $ 0.21 $ 0.26 $ (0.10)
================================================================
Net income (loss) per share - diluted /(3)/ $ (0.25) $ 0.21 $ 0.26 $ (0.10)
================================================================
Weighted average common shares outstanding - basic 34,964 34,925 32,142 31,702
================================================================
Weighted average common shares outstanding - diluted 34,966 35,226 32,521 31,703
================================================================
</TABLE>
/(1)/ For the first quarter of fiscal 1998, other income included a $626,000
pretax gain related to the sale of the Company's terminal leasing
portfolio. Other income for the second quarter of fiscal 1998 included a
$6.0 million pretax gain related to the sale of the Company's share of
PHH/Paymentech.
/(2)/ Other income included related party transactions in the second and third
quarters resulting in a $3.5 million gain related to the termination of a
call option on warrants held by First USA, Inc. for stock in First Virtual
and a $5.0 million gain related to the termination of an agreement that
First USA, Inc. would not compete with Paymentech for business card
customers. Both of these transactions were on terms which the Company
believes to be representative of an arms' length transaction. Other income
in the fourth quarter included a $6.8 million gain related to the
divestiture of certain agent bank contracts.
/(3)/ Quarterly income per share amounts are computed on the basis of weighted
average number of shares outstanding for each quarter. Changes between
quarters in the number of shares outstanding result in the annual
computation of income per share differing from the aggregate of the
quarterly amounts.
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
General
Paymentech, Inc. ("Paymentech" or the "Company") engages in the credit card
industry primarily as a payment processor of credit and debit card transactions
on behalf of merchants, financial institutions and sales agents. Paymentech also
provides third-party credit and debit authorization services to financial
institutions, sales agents and Paymentech's direct merchants. During the fiscal
year ended June 30, 1998, Paymentech processed approximately $49.3 billion in
sales volume and 1.9 billion total transactions, making it the third largest
processor of bankcard transactions for merchants in the United States, according
to published industry sources. In addition, Paymentech markets and issues
commercial cards to businesses and other entities. Commercial cards facilitate
business-to-business payment procedures and reporting, replacing traditional
direct payment methods.
The Company is a 55%-owned subsidiary of First USA Financial, Inc. ("First
USA"), which is a wholly owned subsidiary of BANC ONE CORPORATION ("Banc One").
Results of Operations for the Fiscal Year Ended June 30, 1998
Net income for the fiscal year ended June 30, 1998 increased to $20.2
million, or $0.56 per diluted share, compared with $3.7 million, or $0.11 per
diluted share, for the fiscal year ended June 30, 1997. Without the effects of
nonrecurring gains and a significant unusual charge related to reserves,
earnings for the fiscal year ended June 30, 1998 were $18.5 million, or $0.51
per diluted share. Earnings for the fiscal year ended June 30, 1997, excluding
the effect of nonrecurring gains and significant unusual charges, were $21.4
million, or $0.63 per diluted share.
Revenue for the fiscal year ended June 30, 1998 increased 14.7% to $213.5
million compared with $186.1 million in the prior year. The increase in revenue
was the result of the increase in sales volume processed partially offset by
margin compression caused by increased competition within the industry. Bankcard
sales volume processed increased 19.4% to $49.3 billion for the fiscal year
ended June 30, 1998, compared with $41.3 billion for the fiscal year ended June
30, 1997. Total items processed for fiscal 1998 increased 40.9% to 1.9 billion,
compared with 1.3 billion for fiscal 1997.
Other income, which consists of nonrecurring gains and interest income from
investments, decreased to $8.0 million for the fiscal year ended June 30, 1998
from $16.2 million for fiscal 1997. Other income for fiscal 1998 includes a $6.0
million pretax gain related to the sale of the Company's share of PHH/Paymentech
L.L.C. ("PHH/Paymentech"), a Delaware limited liability company offering a
MasterCard-branded single card payment system for fleet, purchasing, travel and
entertainment needs. During the first quarter of fiscal 1998, Paymentech sold
its terminal leasing portfolio to Northern Leasing Systems Inc. ("Northern
Leasing"). This sale generated a pretax gain of $626,000 which is also included
in other income. In addition, a deferred gain of up to approximately $450,000
will be recognized if certain performance criteria are met with respect to lease
payments made by the Company's merchants to Northern Leasing.
For the fiscal year ended June 30, 1997, other income includes nonrecurring
related party transactions with First USA, Inc. resulting in a $3.5 million
pretax gain related to the termination of a call option on warrants for stock in
First Virtual Holdings, Inc. ("First Virtual") and a $5.0 million pretax gain
related to the termination of an agreement that First USA, Inc. would not
compete with the Company for business card customers. Both of these transactions
were on terms which the Company believes to be representative of an arms' length
transaction. Other income for fiscal 1997 also includes a nonrecurring $6.8
million pretax gain related to the divestiture of a portfolio of certain agent
bank contracts.
Operating expense, which includes the cost of obtaining authorizations and
processing transactions as well as occupancy and equipment costs, increased
11.7% to $86.5 million for the fiscal year ended June 30, 1998, compared with
$77.5 million for fiscal 1997. This increase is primarily due to increased sales
volume processed. Partially offsetting this increase are the cost savings
realized by reducing the Company's entry points into MasterCard and VISA, as
well as our continued efforts to convert existing merchants, and to install new
merchants on, Paymentech's internal data processing systems. These processing
systems have lower operating costs than the costs of obtaining data processing
services from third-party vendors. Included in fiscal 1998 is a $3.5 million
significant unusual pretax charge related primarily to reserves for losses on
terminal
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
inventory and receivables. For fiscal 1997, operating expenses include a
one-time $4.0 million pretax charge related to the write-off of certain
miscellaneous assets with shortened useful lives.
Salaries and employee benefits increased 26.7% to $65.5 million for the
fiscal year ended June 30, 1998, compared with $51.7 million for the same period
in 1997, primarily due to the number of employees increasing from approximately
1,200 at June 30, 1997 to approximately 1,280 at June 30, 1998, as well as
increased incentive compensation expense. Operating expenses and salaries and
employee benefits also increased as a result of the Company providing for itself
certain administrative functions which were previously provided by First USA.
These functions include but are not limited to human resources, tax and legal
staff, and facilities administration. The Company is providing these
administrative services in a manner that is not integrated with Banc One, and as
a result, the Company incurs additional overhead expenses. Interest expense
increased to $6.5 million for the fiscal year ended June 30, 1998, compared with
$4.9 million for the fiscal year ended June 30, 1997. The increase was primarily
due to growth in interest-bearing deposits and a higher average balance on the
Company's borrowings under its revolving credit facility with a bank syndicate
("Revolving Credit Facility") as of June 30, 1998.
Depreciation and amortization for the fiscal year ended June 30, 1998
increased 31.6% to $27.1 million compared with $20.6 million for the same period
of 1997. This increase is primarily the result of the amortization of goodwill,
purchased merchant portfolios and other intangibles related to acquisitions made
during fiscal 1997. In addition, depreciation of property and equipment
increased as a result of investments in technology made during the year.
Total expenses for the fiscal year ended June 30, 1998 decreased to $185.6
million, compared with $187.6 million for the fiscal year ended June 30, 1997.
Excluding amortization of goodwill, purchased merchant portfolios and other
intangibles, and without the $3.5 million significant unusual pretax charge
related primarily to reserves, total expenses for fiscal 1998 were $165.3
million.
With respect to the fiscal year ended June 30, 1997, total expenses,
excluding amortization of goodwill, purchased merchant portfolios and other
intangibles, and the significant unusual charges related to the one-time merger,
integration and impairment charges, the First USA, Inc./Banc One merger expense,
and the one-time increase to operating expenses to reflect shortened useful
lives of certain assets, were $138.2 million. The one-time merger, integration
and impairment charge includes costs related to GENSAR Holdings Inc. ("GENSAR")
of $15.5 million before tax, which includes costs related to the conversion from
third-party authorization networks to GENSAR's authorization network, the
closure of certain offices and employee severance. An additional impairment
pretax charge of $5.0 million was incurred in the fourth quarter of fiscal 1997
to write off certain assets consisting primarily of obsolete technology and
obsolete terminal inventory, not related to core business systems. The one-time
pretax expense related to the First USA, Inc. and Banc One merger of $12.5
million includes the cost associated with the accelerated vesting of First USA,
Inc. restricted stock grants and forgiveness of stock loans provided by First
USA to Paymentech employees. This was a noncash expense with an offsetting
increase to stockholders' equity. The one-time increase to operating expenses of
$4.0 million before tax was related to the write-off of certain miscellaneous
assets with shortened useful lives.
Results of Operations for the Fiscal Year Ended June 30, 1997
Net income for the fiscal year ended June 30, 1997 decreased to $3.7
million, or $0.11 per diluted share, compared with $14.3 million, or $0.54 per
diluted share, for the fiscal year ended June 30, 1996. Earnings for fiscal
1997, excluding the effect of the nonrecurring gains and significant unusual
charges, were $21.4 million, or $0.63 per diluted share.
Revenue increased 50.0% to $186.1 million for the fiscal year ended June
30, 1997, compared with $124.1 million for fiscal 1996. The Company attributed
the increase in revenue primarily to the increase in sales volume processed as a
result of its direct sales efforts and its acquisitions of merchant portfolios
and other processing-related companies. Sales volume processed increased 33.8%
to $41.3 billion for the fiscal year ended June 30, 1997, compared with $30.9
billion for the fiscal year ended June 30, 1996.
PAYMENTECH, Inc. & Subsidiaries
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Other income for the fiscal year ended June 30, 1997, increased to $16.2
million compared to $1.7 million for the fiscal year ended June 30, 1996.
Included in fiscal 1997 other income are nonrecurring related party transactions
with First USA, Inc. which resulted in a $3.5 million pretax gain related to the
termination of a call option on warrants for stock in First Virtual and a $5.0
million pretax gain related to the termination of an agreement that First USA,
Inc. would not compete with Paymentech for business card customers. Both of
these transactions were on terms which the Company believes to be representative
of an arms' length transaction. Other income also includes a nonrecurring $6.8
million pretax gain related to the divestiture of a portfolio of certain agent
bank contracts. In addition, other income for both years includes interest
income from investments.
Operating expenses, which include the cost of obtaining authorizations and
processing transactions as well as occupancy and equipment costs, increased
44.0% to $77.5 million for the fiscal year ended 1997, compared with $53.8
million for the fiscal year ended June 30, 1996. This was partially due to a
one-time expense of $4.0 million to write off certain miscellaneous assets with
shortened useful lives. Also contributing to this change was an increase in
sales volume processed, partially off set by cost savings realized as a result
of converting existing merchants to, and installing new merchants on,
Paymentech's internal data processing systems. These processing systems have
lower operating costs than the costs of obtaining data processing services from
third-party vendors. Salaries and employee benefits increased 33.4% to $51.7
million for the fiscal year ended June 30, 1997, compared with $38.8 million for
the fiscal year ended June 30, 1996. This resulted from an increase in the
number of employees to approximately 1,200 from 830, due primarily to the
Company's acquisitions and the growth in sales volume processed.
Depreciation and amortization was $20.6 million for the fiscal year ended
June 30, 1997, compared with $7.7 million for the same period of 1996. This
increase reflects the amortization of goodwill, purchased merchant portfolios
and other intangibles, and depreciation of property and equipment related to
acquisitions, as well as investments in technology made during the year.
Total expenses for the fiscal year ended June 30, 1997 increased 83.9% to
$187.6 million, compared with $102.1 million for the fiscal year ended June 30,
1996. Excluding the amortization of goodwill, purchased merchant portfolios and
other intangibles, and the significant unusual charges related to the one-time
merger, integration and impairment charges, the First USA, Inc./Banc One merger
expense, and the one-time increase to operating expenses to reflect shortened
useful lives of certain assets, total expenses increased 38.8% to $138.2 million
for the fiscal year ended June 30, 1997, compared with $99.6 million for the
fiscal year ended June 30, 1996. The increase was primarily the result of the
GENSAR acquisition and the increase in sales volume processed.
The one-time merger, integration and impairment charges recorded in fiscal
1997 include costs related to the conversion from third-party authorization
networks to GENSAR's authorization network of $6.4 million, the closure of
certain offices of $7.6 million and employee severance of $1.5 million. The
conversion costs consist primarily of the incremental labor costs of converting
existing merchant customers to the GENSAR authorization network. The charge of
$7.6 million related to office closings includes lease termination costs as well
as the write-off of $3.7 million pertaining to certain intangible assets related
to systems that will no longer be used. The employee severance costs are
primarily for individuals displaced as a result of certain office closings. The
reserves established as a result of these charges were fully utilized by the end
of fiscal year 1997. The amounts applied against them did not materially vary
from the amounts used to record these charges. In addition, the one-time merger,
integration and impairment charges include a $5.0 million write-off of certain
non-core business assets consisting primarily of obsolete technology and
obsolete terminal inventory.
The First USA, Inc./Banc One merger expense includes the costs associated
with the accelerated vesting of First USA, Inc. restricted stock grants and
forgiveness of stock loans provided by First USA to certain key Paymentech
employees. Certain key employees of the Company participated in First USA,
Inc.'s 1994 Restricted Stock Plan which allowed the granting of First USA, Inc.
restricted stock to eligible employees. First USA, Inc. restricted stock was
transferred to the recipient without payment to the Company or First USA, Inc.,
and was subject to certain restrictions and risk of forfeiture. These
restrictions lapsed upon the merger of First USA, Inc. and Banc One, generating
an expense related to Paymentech employees of $6.6 million. In addition, in
March 1996, First USA made loans to certain key employees of the Company to
exercise 30-day
PAYMENTECH, Inc. & Subsidiaries
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
stock options for Paymentech common stock at the initial public offering price.
The terms of these loans called for the outstanding principal and accrued
interest to be forgiven upon a change of control of either First USA, Inc. or
Paymentech. Therefore, these loans were forgiven upon the merger of First USA,
Inc. with Banc One, resulting in an expense related to Paymentech employees of
$5.9 million. Paymentech did not expend any cash relative to either expense;
rather, the total charge of $12.5 million is treated as a capital contribution
from First USA, Inc. to Paymentech.
Business Combinations and Merchant Portfolio Purchases
Paymentech has experienced significant growth through acquisitions of other
processing service operations and merchant portfolios.
In January 1998, the Company purchased the merchant portfolio and certain
other assets of Mokarow Financial, Inc. for $1.3 million in cash and $6.4
million in the Company's common stock. The portfolio consists primarily of
merchants in the travel, restaurant and hospitality industries.
In January 1997, Paymentech purchased all of the outstanding capital stock
of Merchant-Link, Inc. ("Merchant-Link") for approximately $4.8 million, which
included $4.5 million of the Company's common stock and $280,000 in cash.
Merchant-Link provides one-call support for merchants with integrated
point-of-sale systems. As a result of certain performance objectives being met
by Merchant-Link, the Company paid in common stock an additional $1.5 million in
August 1997, $2.5 million in February 1998, and will make the final payment of
$1.2 million in August 1998. The merger agreement provides that in the event
certain price levels with respect to the Company's common stock are not met at
the conclusion of two years from the acquisition date, additional amounts of
common stock or cash will be paid. This acquisition was accounted for as a
purchase and accordingly, Merchant-Link's results are included in Paymentech's
results of operations from the date of acquisition.
In February 1997, Paymentech paid $6.5 million for certain assets of
TransGlobal Systems, Inc. ("TransGlobal"), a processor of merchant credit card
transactions. The TransGlobal merchant portfolio consisted primarily of
merchants in the hospitality and travel industries. This acquisition was
accounted for as a purchase.
In August 1996, Paymentech purchased for approximately $170 million all of
the outstanding common stock of GENSAR, which was one of the nation's largest
providers of third-party payment processing. GENSAR, now operating as Paymentech
Network Services, Inc., offers third-party credit and debit authorization
services to financial institutions, sales agents and Paymentech's direct
merchants. The acquisition also enables Paymentech to directly provide its
existing customers with point-of-sale products and services that had previously
been primarily outsourced. As a result of the GENSAR acquisition, Paymentech
realized cost savings through vertical integration of formerly outsourced
services, enhanced existing products and services, and generated new revenue by
establishing itself as a third-party processor. This acquisition was accounted
for as a purchase, and accordingly, GENSAR's results are included in
Paymentech's results of operations from the date of acquisition.
First USA, Inc. issued common stock in September 1995 valued at $85.0
million in exchange for all the common stock of Litle & Company, Inc. ("Litle").
Litle, a participant in the direct response payment processing business, was
subsequently merged with a subsidiary of the Company. This acquisition was
accounted for as a pooling of interests, and therefore, the Company's
consolidated financial statements include Litle's operations for all prior
fiscal years presented.
In August 1995, the Company paid $34.0 million in cash for certain assets
of DMGT Corporation ("DMGT"), a participant in the direct response payment
processing business. This acquisition was accounted for as a purchase.
The operations of Litle and DMGT have been combined into a single operation
known as Paymentech New Hampshire, Inc. As a result of the combination, the
Company realized cost savings, primarily from reduced salary and employee
benefits and data processing and communications costs.
PAYMENTECH, Inc. & Subsidiaries
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In December 1995, the Company and First USA, Inc. purchased the capital
stock of Mokarow & Associates, Inc., a sales agent, for $12.0 million of stock
in First USA, Inc. and $2.3 million in cash. First USA, Inc. contributed its
investment in Mokarow & Associates, Inc. to the Company as a capital
contribution.
During fiscal 1997, Paymentech purchased an additional 17 merchant
portfolios for a total of $39.9 million, including the portfolios of CheckFree
Corporation and Mercantile Bancorporation Inc. In fiscal 1996, Paymentech
purchased merchant portfolios for $4.7 million.
Seasonality
The Company's revenue generally reflects the seasonal fluctuations that are
typically associated with traditional peaks in consumer spending. Such peaks
fall in different quarters for different divisions of the Company because of the
varying nature of the Company's market niches and the varying nature of consumer
trends in such markets.
Commercial Cards
The Company, through its subsidiary First USA Financial Services, Inc.
("Financial Services"), markets and issues commercial cards to businesses and
other entities. Financial Services offers innovative, efficient
business-to-business payment solutions.
In December 1997, the Company sold its share of PHH/Paymentech, a Delaware
limited liability company formed in January 1997, to PHH Vehicle Management
Services Corporation's ("PHH") new parent company, Cendant Corporation for $30.0
million. The Company will continue its relationship as the exclusive issuer of
corporate fleet cards for PHH.
Financial Services' liquidity is invested in investments and overnight
reverse repurchase agreements. At June 30, 1998 and 1997, Financial Services'
investments totaled $6.2 million and $10.1 million, respectively, and consisted
primarily of variable rate U.S. Government agency mortgage-backed securities.
The average maturity is approximately 3.61 years with a yield of 6.9%. Financial
Services' primary methods of funding include issuing certificates of deposit and
other borrowings.
Financial Services is subject to the capital adequacy guidelines adopted by
the Federal Deposit Insurance Corporation ("FDIC"). As of June 30, 1998 and
1997, Financial Services' risk-based capital ratios exceeded the level required
by the FDIC to be classified as a well capitalized bank.
Liquidity and Capital Resources
Paymentech generated $34.6 million and $96.5 million of cash flow from
operating activities for the fiscal years ended June 30, 1998 and 1997,
respectively. Fiscal 1998 operating cash flow was generated as a result of
having net earnings of $47.3 million, before the impact of the noncash charges
of depreciation and amortization of $27.1 million.
Net cash provided by investing activities during fiscal 1998 was $6.4
million compared with net cash used by investing activities of $246.3 million
during fiscal 1997. Contributing to cash provided by investing activities for
fiscal 1998 are proceeds of $27.1 million from the sale of PHH/Paymentech,
partially offset by the $2.7 million used to purchase merchant portfolios.
Paymentech used $238.9 million during fiscal 1997 to purchase merchant
portfolios and processing services, and to make other acquisitions. Paymentech
spent $21.8 million and $25.0 million for capital expenditures in fiscal 1998
and 1997, respectively. Capital expenditures are made generally to accommodate
growth in payment processing volume and provide for increased operating
efficiencies. Included in the 1998 capital expenditures are approximately $14.0
million related to technology upgrades.
The Revolving Credit Facility provides a source of liquidity to manage cash
flow, as well as capital to subsidiaries for expansion and for other corporate
uses. During fiscal 1998, the Company paid down $20 million on the outstanding
borrowings under the Revolving Credit Facility, reducing the borrowings from $75
million as of June 30, 1997, to $55 million as of June 30, 1998. The Revolving
Credit Facility bears interest at the London Interbank Offering Rate ("LIBOR")
plus 35 to 90 basis points. In April 1998, Paymentech reduced the maximum
borrowings available under its Revolving Credit Facility from $200 million to
$150 million.
In December 1996, Paymentech completed an equity offering that provided
$100.3 million in net proceeds (the "Offering"). The net proceeds were used to
pay down debt owed by the Company under its Revolving Credit Facility as a
result of the GENSAR acquisition.
PAYMENTECH, Inc. & Subsidiaries
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
On March 27, 1996, Paymentech completed an initial public underwritten
offering of 5.9 million shares of common stock, issued 635,000 shares in a
direct placement and issued 790,000 shares pursuant to a stock loan program
funded by First USA (the "Initial Offering"). The net proceeds from the Initial
Offering were $141.4 million. Paymentech used $40.6 million of the proceeds to
repay a loan payable to First USA and has used the remainder for general
corporate purposes, which included product and technology development and
funding of acquisitions.
Paymentech received noncash capital contributions from First USA, Inc. of
$12.5 million and $12.0 million in fiscal years ended June 30, 1997, and 1996,
respectively, related to the First USA, Inc./Banc One merger in 1997 and the
Mokarow acquisition in fiscal 1996. In addition, Paymentech received a $16.1
million capital contribution in the form of cash from First USA to capitalize
Financial Services upon receiving FDIC approval in September 1995.
Paymentech has 10.0 million shares of authorized preferred stock, of which
no shares have been issued and none are outstanding. The Board of Directors of
the Company has the authority to determine the principal rights, preferences and
privileges of the authorized preferred stock. Paymentech has no current plans to
issue such stock. In addition, the Company has an outstanding shelf registration
providing for the issuance of up to 3.6 million shares of the Company's common
stock in connection with certain types of acquisitions.
Paymentech has no current plans to pay dividends on the Common Stock.
Paymentech presently intends to retain earnings to support the growth of
Paymentech's business. The payment of any future dividends will be determined by
the Company's Board of Directors, in light of conditions then existing,
including Paymentech's results of operations, financial condition, capital
requirements, contractual restrictions and other factors deemed relevant at the
time by the Board of Directors. In addition, the payment of dividends may be
subject to certain restrictions under Paymentech's Revolving Credit Facility.
Prior to the first quarter of fiscal 1996, it was the Company's policy to
dividend a portion of its net income to First USA. Subsequently, Paymentech has
not paid dividends.
Paymentech's stockholders' equity was $399.1 million at June 30, 1998,
compared with $359.4 million at June 30, 1997. Stockholders' equity increased
primarily as a result of operations.
The Company believes that its current level of cash and financing
capability along with future cash flows from operations are sufficient to meet
the needs of its existing business. However, the Company may from time to time
seek longer term financing to support additional cash needs.
Income Taxes
Paymentech's consolidated provision for income taxes includes state and
federal income tax components. Paymentech's effective federal tax rate was
43.7%, 74.7% and 40.0% for the fiscal years ended June 30, 1998, 1997 and 1996,
respectively. The high fiscal 1997 effective federal tax rate was the result of
stock compensation expense and amortization of goodwill, purchased merchant
portfolios and other intangibles, which are not deductible for tax purposes.
The tax rate for the periods prior to the second quarter of fiscal 1996
reflects Litle as a Subchapter S corporation, which included no federal income
taxes in its financial statements since its income was taxed at the shareholder
level. As a result, Paymentech's effective tax rate increased to approximately
39% beginning with the second quarter of fiscal 1996.
Contingent Liabilities Through Merchants
Under the rules of VISA and MasterCard, Paymentech has certain contingent
liabilities for the transactions it processes on behalf of merchants. If a
cardholder purchases a product or service, and is dissatisfied after the
purchase, the cardholder is able to return the product and demand a refund. If
the merchant, after having received payment from Paymentech, refuses to pay the
refund or properly provide the product or service, a chargeback results.
Merchants must follow certain processing procedures in order to limit their
exposure to chargebacks. The payment processor must fund the chargeback if the
merchant does not have sufficient funds to repay the chargeback.
PAYMENTECH, Inc. & Subsidiaries
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Paymentech conducts reviews of potential merchants based upon the perceived
risk in the merchant's industry. The contingent liability risk is greater for
direct response merchants because the purchase is made before the product or
service is delivered and the applicable card is not typically present.
Paymentech takes these and other risks into account in making its credit
determinations with respect to new merchants. At June 30, 1998, Paymentech had
cash deposits from certain customers aggregating approximately $22.8 million as
an offset to potential contingent liabilities that are the responsibility of
such customers. These cash deposits are primarily related to merchants in the
direct response industry.
Credit losses incurred by Paymentech with respect to its payment processing
business were approximately $1.0 million, $1.6 million and $640,000 for fiscal
1998, 1997 and 1996, respectively, compared with total sales volume processed in
such periods of $49.3 billion, $41.3 billion and $30.9 billion, respectively.
Beginning in fiscal 1997, credit losses include losses incurred as a result of
third-party authorization transactions. Paymentech's payment processing
operations are not exposed to cardholder credit losses. However, the Company's
commercial card operations incurred $1.1 million and $364,000 in credit losses
during fiscal 1998 and 1997, respectively.
Parent Company Merger
In June 1997, Paymentech's former indirect parent company, First USA, Inc.,
merged with and into Banc One resulting in Banc One becoming the indirect owner
of 55% of the Company's outstanding common stock. Banc One has informed
Paymentech that it completed an assessment of the strategic value of its
ownership interest in Paymentech and a review of the business prospects of
Paymentech and has concluded that its present intention is to not reduce its
ownership interest in Paymentech. As a result of this merger, the Company
believes that growth in its third-party authorization services and the number of
acquisitions completed has slowed and been hampered by the reluctance of some
banks to engage in business with a subsidiary of a large bank holding company.
Banc One also owns a 50% interest in an alliance with First Data Corporation,
which alliance is a competitor of the Company. Banc One currently refers all
prospective merchant customers from Banc One's branch network to such alliance.
Furthermore, as a result of the First USA, Inc./Banc One merger, the
Company now provides for itself certain administrative functions, including but
not limited to human resources, tax and legal staff and facilities
administration. These functions were integrated with the same functions of the
Company's former parent, First USA, prior to July 1, 1997. As a result, the
Company now incurs additional overhead expenses.
Year 2000
As a result of computer programs written using two digits rather than four
to define the applicable year, certain systems may require modifications in
order to properly function beginning with the year 2000. Based on an assessment
of its systems, the Company has developed a plan to ensure that its computer
systems will function properly with respect to dates in the year 2000 and
thereafter. Many of the Company's computer systems already comply with year 2000
requirements, primarily because of the Company's application of internal
resources and new year 2000 compliant software and equipment.
Based on progress made to date, management anticipates that core data
processing software and hardware will be compliant and tested by December 1998.
Approximately half of the Company's desktop computer, telecommunication and
non-information technology hardware is currently year 2000 compliant with the
remainder of the hardware targeted to be compliant by March 1999. For the
Company's remaining noncompliant computer systems, the Company believes that
existing internal resources can be used to modify existing software and
hardware, and that the associated costs will not be significant. However, if
such modifications are not made, or are not completed on a timely basis, year
2000 noncompliance could have a material impact on the operations of the
Company.
PAYMENTECH, Inc. & Subsidiaries
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Paymentech is actively monitoring the progress of its significant third-
party vendors and customers in their efforts to become year 2000 compliant, and
is planning actions deemed necessary in order to mitigate its exposure to year
2000 noncompliance. There is no guarantee that the systems of other companies on
which the Company's systems rely will be corrected on a timely basis and will
not have a material adverse effect on the Company's systems.
Paymentech is identifying the most reasonably likely scenarios involving
year 2000 noncompliance and is currently developing contingency plans to support
the Company's core systems.
New Accounting Pronouncements
In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). Effective for financial statements for fiscal years
beginning after December 15, 1998, SOP 98-1 requires companies to capitalize
qualifying computer software costs incurred during development. Costs incurred
in the designing of software configuration, the coding of programs and the
installation of hardware are examples of qualifying capitalizable costs.
Paymentech is currently assessing the impact of adoption of SOP 98-1.
In February 1998, the Financial Accounting Standards Board ("FASB") issued
Statement No. 132, "Employers' Disclosures about Pensions and Other
Postretirement Benefits" ("SFAS 132"). Effective for financial statements for
fiscal years beginning after December 15, 1997, SFAS 132 would not change the
recognition or measurement of pension or postretirement benefit plans, but would
standardize disclosure requirements for pensions and other postretirement
benefits, eliminating unnecessary disclosures and requiring additional
information.
In June 1997, FASB issued Statement No. 130, "Reporting Comprehensive
Income" ("SFAS 130"). This Statement establishes standards for the reporting and
display of comprehensive income and its components in a full set of
general-purpose financial statements. SFAS 130 is effective for financial
statements for fiscal years beginning after December 15, 1997.
Safe Harbor Statement Under the Private Securities Litigation Reform Act of 1995
Information or statements provided by the Company herein and from time to
time may contain certain "forward-looking information," including information
relating to anticipated growth in earnings per share, anticipated returns on
equity, anticipated growth in revenue, year 2000 compliance costs and
implementation, account origination and growth, customer base, anticipated
growth via acquisitions, anticipated actions by Banc One with respect to its
ownership of shares of the Company, potential customer reactions to the Banc One
ownership, anticipated operations costs and employment growth, anticipated
marketing expense, or anticipated credit and other losses. Factors which could
cause the Company's actual financial and other results to differ materially from
any results that might be projected, forecast, estimated or budgeted by the
Company in forward-looking statements include, but are not limited to, the
factors that are described under "Business-Cautionary Statements" in the
Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1998.
These cautionary statements are made pursuant to the provisions of the Private
Securities Litigation Reform Act of 1995 (the "Act") and with the intention of
obtaining the benefits of the "safe harbor" provisions of the Act for any such
forward-looking information.
PAYMENTECH, Inc. & Subsidiaries
28
<PAGE>
balance sheets
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30,
---------------------------
(Dollars in thousands, except per share data) 1998 1997
---------------------------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $158,307 $119,466
Receivables, net 23,770 45,563
Credit card loans, net 42,079 19,902
Terminal inventories 895 6,646
Prepaid expenses and other current assets 9,159 14,953
---------------------------
Total current assets 234,210 206,530
Investments (market values of $6,205 and $10,143 at June 30, 1998
and 1997, respectively) 6,212 10,083
Notes receivable 9,997 9,169
Property and equipment, net 57,873 44,103
Goodwill, net 234,711 253,255
Purchased merchant portfolios and other intangibles, net 98,817 99,248
Other assets 7,563 8,612
---------------------------
$649,383 $631,000
===========================
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $103,180 $112,752
Notes payable to banks 55,049 --
Interest-bearing deposits 34,790 20,721
Merchant deposits 22,844 18,852
Accrued assessments 8,881 8,672
Other accrued expenses 25,567 35,448
---------------------------
Total current liabilities 250,311 196,445
Notes payable to banks and other borrowings -- 75,140
Commitments and contingencies
Stockholders' equity:
Common stock, $0.01 par value, 200,000,000 shares authorized, 36,025,944
and 35,090,395 shares issued and outstanding at June 30, 1998 and 1997,
respectively 360 351
Additional capital 354,274 335,435
Net unrealized holding gain on securities available for sale, net of tax 621 --
Retained earnings 43,817 23,629
---------------------------
Total stockholders' equity 399,072 359,415
---------------------------
$649,383 $631,000
===========================
</TABLE>
See Notes to Consolidated Financial Statements.
PAYMENTECH, Inc. & Subsidiaries
29
<PAGE>
income
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
------------------------------------------
(Dollars in thousands, except per share data) 1998 1997 1996
------------------------------------------
<S> <C> <C> <C>
Revenues
Revenue $213,486 $186,143 $124,067
Other income 8,000 16,247 1,744
------------------------------------------
Total revenues 221,486 202,390 125,811
Expenses
Operating 86,525 77,462 53,795
Salaries and employee benefits 65,526 51,712 38,753
Depreciation and amortization 27,063 20,572 7,669
Interest 6,486 4,884 1,842
Merger, integration and impairment -- 20,541 --
First USA, Inc./Banc One merger -- 12,473 --
------------------------------------------
Total expenses 185,600 187,644 102,059
------------------------------------------
Income before income taxes 35,886 14,746 23,752
Provision for income taxes 15,698 11,020 9,500
------------------------------------------
Net income $ 20,188 $ 3,726 $ 14,252
==========================================
Net income per share - basic $ 0.57 $ 0.11 $ 0.54
==========================================
Net income per share - diluted $ 0.56 $ 0.11 $ 0.54
==========================================
</TABLE>
See Notes to Consolidated Financial Statements.
PAYMENTECH, Inc. & Subsidiaries
30
<PAGE>
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
stockholders' equity
<TABLE>
<CAPTION>
For the Three Years Ended June 30, 1998
------------------------------------------------------------------------------------
Net Unrealized
Common Stock Holding Gain
------------------------- Additional on Securities Retained
(Dollars in thousands) Shares Amount Capital Available for Sale Earnings Total
------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance at June 30, 1995 24,411,081 $244 $ 40,878 $ -- $ 6,110 $ 47,232
Net income -- -- 48 -- 14,204 14,252
Capital contributions from First USA -- -- 28,143 -- -- 28,143
Issuance of common stock, net 7,290,000 73 141,364 -- -- 141,437
------------------------------------------------------------------------------------
Balance at June 30, 1996 31,701,081 317 210,433 -- 20,314 231,064
Net income -- -- -- -- 3,726 3,726
Capital contributions from First USA -- -- 12,473 -- -- 12,473
Exercise of stock options 27,220 -- 623 -- -- 623
Issuance of common stock, net 3,404,938 34 109,915 -- -- 109,949
Tax benefit from exercise of stock options -- -- 2,827 -- -- 2,827
Purchase and retirement of common stock (42,844) -- (836) -- (411) (1,247)
------------------------------------------------------------------------------------
Balance at June 30, 1997 35,090,395 351 335,435 -- 23,629 359,415
Net income -- -- -- -- 20,188 20,188
Exercise of stock options 99,650 1 1,945 -- -- 1,946
Issuance of common stock, net 835,899 8 11,114 -- -- 11,122
Tax benefit from exercise of stock options -- -- 5,780 -- -- 5,780
Change in unrealized holding gain on
securities available for sale, net of tax -- -- -- 621 -- 621
------------------------------------------------------------------------------------
Balance at June 30, 1998 36,025,944 $360 $354,274 $621 $43,817 $399,072
====================================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
PAYMENTECH, Inc. & Subsidiaries
31
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
cash flows
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
-----------------------------------------
(In thousands) 1998 1997 1996
-----------------------------------------
<S> <C> <C> <C>
Operating Activities
Net income $ 20,188 $ 3,726 $ 14,252
Adjustments to reconcile net income to net cash provided by
(used for) operating activities:
Provision for depreciation and amortization 27,063 20,572 7,669
Noncash portion of asset write-off, and merger, integration
and impairment charges 3,533 16,452 --
First USA, Inc./Banc One merger expense -- 12,473 --
Gain on sale of assets (6,850) (15,250) --
Changes in operating assets and liabilities:
Other accrued expenses (16,197) 26,624 5,786
Accounts payable (8,776) 75,466 14,166
Prepaid expenses and other current assets 5,697 (7,686) (6,582)
Merchant deposits 3,703 (211) 1,499
Receivables 1,391 (23,604) (14,782)
Terminal inventories 956 (2,839) (50)
Notes receivable 425 (9,169) --
Accrued assessments 209 1,399 2,949
Payable to affiliates -- -- (4,074)
Other operating activities 3,217 (1,438) (144)
-----------------------------------------
Net cash provided by operating activities 34,559 96,515 20,689
Investing Activities
Proceeds from sale of assets 27,066 15,250 --
Proceeds from maturities of investments 3,871 2,296 570
Purchases of merchant portfolios, processing services and other acquisitions (2,688) (238,882) (41,398)
Purchases of property and equipment, net (21,827) (24,994) (21,333)
Purchases of investments -- -- (12,949)
Other investing activities -- -- (4,000)
-----------------------------------------
Net cash provided by (used for) investing activities 6,422 (246,330) (79,110)
Financing Activities
Issuance of interest-bearing deposits 13,978 11,885 6,025
Issuance of common stock, net 3,882 101,283 141,437
Increase (decrease) in notes payable to banks and other borrowings (20,000) 75,000 --
Note payable to First USA -- 25,000 59,473
Repayments to First USA -- (25,000) (63,473)
Capital contribution from First USA -- -- 16,140
Decrease in other notes payable -- (23,444) --
Retirement of common stock -- (1,247) --
-----------------------------------------
Net cash provided by (used for) financing activities (2,140) 163,477 159,602
-----------------------------------------
Increase in cash and cash equivalents 38,841 13,662 101,181
Cash and cash equivalents at beginning of year 119,466 105,804 4,623
-----------------------------------------
Cash and cash equivalents at end of year $ 158,307 $ 119,466 $ 105,804
=========================================
Noncash investing and financing activities:
Common stock issued for acquisitions $ 10,344 $ 4,500 $ --
=========================================
Capital contribution from First USA, Inc. $ -- $ 12,473 $ 12,002
=========================================
</TABLE>
See Notes to Consolidated Financial Statements.
PAYMENTECH, Inc. & Subsidiaries
32
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A Summary of Significant Accounting Policies
Organization and Business
The consolidated financial statements include the accounts of Paymentech,
Inc. and its wholly owned subsidiaries ("Paymentech" or the "Company").
Paymentech is a 55%-owned subsidiary of First USA Financial, Inc. ("First USA"),
which is wholly owned by BANC ONE CORPORATION ("Banc One"). All significant
intercompany balances and transactions with the Company's wholly owned
subsidiaries have been eliminated. Paymentech indirectly conducts its business
through its primary operating subsidiaries, Paymentech Merchant Services, Inc.,
Paymentech New Hampshire, Inc., Paymentech Network Services, Inc. and First USA
Financial Services, Inc. The Company began payment processing in 1985 and is
among the largest processors of merchant credit and debit card transactions in
the United States. Paymentech also provides third-party credit and debit
authorization services to financial institutions, sales agents, and Paymentech's
direct merchants. In addition, the Company began in fiscal 1996 to market and
issue -- to businesses and other entities -- commercial credit cards that
facilitate business-to-business payment solutions.
Cash and Cash Equivalents
Paymentech considers all highly liquid investments, with maturities of
three months or less when purchased, to be cash equivalents.
Receivables
Receivables primarily represent fee income earned under processing
agreements with merchants, agent banks and sales agents.
Credit Card Loans
Credit card loans represent corporate, purchasing, fleet, and business
MasterCard and VISA cards. Corporate cards are nonrevolving charge cards
designed for use by medium to large companies primarily for travel and
entertainment expenditures. Purchasing cards are also nonrevolving charge cards
designed for use by medium to large companies for purchases of equipment,
supplies and services. Fleet cards are nonrevolving charge cards that combine
fleet, purchasing and travel and entertainment needs in a single card. Business
cards are revolving lines of credit designed for small to medium-size companies
to make routine business purchases, including travel and entertainment,
equipment and supplies.
Terminal Leases
Leases that are generally noncancelable by the merchant are accounted for
as operating leases. Income from the lease of point-of-sale ("POS") terminals
under operating leases is recorded in accordance with the terms of the lease
agreements.
Investments
Investments are carried at cost, adjusted for amortization of premiums and
accretion of discounts. The Company has both the ability and intent to hold
these investments to maturity.
Property and Equipment
Property and equipment are carried at cost, net of accumulated depreciation
and amortization. Depreciation is provided on a straight-line basis over periods
ranging from two to ten years for furniture and equipment, and three years for
POS terminals held for lease. Leasehold improvements are amortized over the
lesser of the economic useful life of the improvement or the term of the lease.
Purchased Merchant Portfolios, Other Intangibles and Goodwill
Purchased merchant portfolios and other intangibles are amortized over the
estimated period to be benefited, primarily 10 years, on a straight-line basis.
Purchased merchant portfolios and other intangibles are evaluated by management
for impairment at each balance sheet date through review of actual cash flows
generated by each merchant portfolio in relation to the expected cash flows and
the recorded amortization expense. If, upon review, actual cash flows indicate
an impairment of the value of the purchased merchant portfolio, amortization
will be accelerated.
Goodwill represents the excess of purchase price over identifiable assets
acquired, less liabilities assumed from business combinations, and is amortized
over the estimated period to be benefited, generally 40 years, on a
straight-line basis. Goodwill is reviewed for impairment whenever events
indicate that the carrying amount may not be recoverable. If estimates of future
operating results would be insufficient to recover future charges to goodwill
amortization, then the recorded value of goodwill balances would be reduced by
the discounted estimated deficiencies in operating results.
The Company periodically evaluates the appropriateness of the amortization
period to determine whether circumstances warrant a revised estimate of the
useful lives of its purchased merchant portfolios, other intangibles, and
goodwill. If, upon review, such revision of useful life is necessary, the
remaining unamortized cost would be amortized over the revised useful life.
PAYMENTECH, Inc. & Subsidiaries
33
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In fiscal 1997, Paymentech adopted the Financial Accounting Standards Board
("FASB") Statement No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets To Be Disposed Of" ("SFAS 121"), which requires
impairment losses to be recorded on long-lived assets used in operations when
indicators of impairment are present and the undiscounted cash flows estimated
to be generated by those assets are less than the assets' carrying amount. The
effect of adopting SFAS 121 did not have a material impact.
Notes Receivable
Notes receivable earn interest at a market rate with original maturities
ranging from three to ten years. The Company continually reviews the
collectibility of all receivables and establishes valuation allowances as
necessary.
Chargebacks and Merchant Fraud
Disputes between a cardholder and a merchant periodically arise due to the
cardholder's dissatisfaction with merchandise quality or a merchant's service
and the disputes may not be resolved in the merchant's favor. In some of these
cases, the transaction is "charged back" to the merchant and the purchase price
is refunded to the cardholder by VISA and MasterCard. If the merchant is unable
to fund the refund, Paymentech is liable for the full amount of the transaction.
Paymentech maintains merchant deposits from certain customers as an offset to
potential contingent liabilities that are the responsibility of such customers.
Paymentech evaluates its risk and estimates its potential loss for chargebacks
based on historical experience. Paymentech pays the customer interest of
generally 2.0% on the merchant deposits. For all fiscal years presented, losses
due to chargebacks and merchant fraud were immaterial.
Revenue
Revenue is primarily fees from merchants related to the processing of
transactions (including merchant discount fees), partially offset by interchange
fees payable to credit card issuing institutions and fees payable to credit card
associations. Commercial card revenue is derived primarily from interchange, fee
and interest income. Revenue is recorded as services are performed. Revenue also
includes fees earned from software maintenance and customer service and fees for
the deployment and repair of credit card terminals. In addition, operating
revenues earned on settlement assets are included in revenue.
Stock-Based Compensation
Paymentech accounts for stock option and stock purchase plans in accordance
with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB 25"). In accordance with APB 25, no compensation expense is
recognized for stock options issued to employees because the options have an
exercise price equal to the market value of the common stock on the date of
grant. In addition, Paymentech does not recognize compensation expense for its
employee stock purchase plan because it qualifies as a non-compensatory plan
under APB 25. In 1995, the FASB issued Statement No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), which allows the Company to elect to
recognize stock-based compensation expense based on the fair value of the award,
or continue to account for stock-based compensation under APB 25 and disclose in
the financial statements the effects of SFAS 123 as if the recognition
provisions were adopted. Paymentech has evaluated its alternatives available
under the provisions of SFAS 123 and has determined that it will not adopt the
recognition provisions of the statement. Therefore, the adoption of SFAS 123 had
no impact on the Company's consolidated statements of income.
Earnings (Loss) Per Common Share
In February 1997, the FASB issued Statement No. 128, "Earnings per Share"
("SFAS 128"), which simplifies the standards for computing and presenting
earnings per share. Under the new standards, the presentation of primary
earnings per share is replaced with a presentation of basic earnings per share.
Basic earnings per share is computed excluding dilution caused by common stock
equivalents such as stock options. The presentation of fully diluted earnings
per share is replaced with a presentation of diluted earnings per share which
includes the dilutive effect of common stock equivalents. Effective December
1997, the Company adopted SFAS 128 and has restated all prior-period earnings
per share amounts.
PAYMENTECH, Inc. & Subsidiaries
34
<PAGE>
Federal Income Taxes
Provision for income taxes includes a state and federal income tax
component. The income tax provision is provided for using the liability method.
Deferred tax assets and liabilities are determined based on differences between
financial reporting and tax basis of assets and liabilities that are measured
using the enacted tax rates and laws that will be in effect when the differences
are expected to reverse.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
NOTE B Offerings
In December 1996, Paymentech completed a public underwritten offering of
3.1 million shares of its common stock, $0.01 par value, at $34.00 per share
(the "Offering"), which generated $100.3 million in net proceeds, which included
the exercise by the underwriters in the transaction of certain over-allotment
options. Concurrently, First USA sold 4.4 million shares of Paymentech's stock.
As a result of the above transaction, First USA's ownership percentage in
December 1996 was reduced from 77% to 57%.
On March 27, 1996, Paymentech completed an initial public underwritten
offering of 5.9 million shares of its common stock, $0.01 par value, at $21.00
per share and sold 635,000 shares in a direct placement at $19.53 per share, the
offering price less the underwriters' discount, and 790,000 shares pursuant to a
stock loan program funded by First USA at $19.53 per share (the "Initial
Offering"). The net proceeds from the Initial Offering were $141.4 million, of
which Paymentech used $40.6 million of the net proceeds to repay a loan payable
to First USA.
NOTE C Business Combinations, Divestitures and Asset Purchases
Paymentech has completed the following business combinations and merchant
portfolio purchases:
<TABLE>
<CAPTION>
Consideration (in millions)
-------------------------------------------
Business Combinations and Merchant Portfolio Purchases Date Total Cash Noncash
--------------------------------------------------------------------
<S> <C> <C> <C> <C>
Fiscal Year 1998:
Mokarow Financial, Inc. January 1998 $ 7.7 $ 1.3 $ 6.4
Fiscal Year 1997:
GENSAR Holdings Inc. August 1996 $ 170.0 $ 170.0 $ -
Merchant-Link, Inc. (1) January 1997 4.8 0.3 4.5
Merchant portfolios Various 46.4 46.4 -
--------------------------------------------------------------------
$ 221.2 $ 216.7 $ 4.5
====================================================================
Fiscal Year 1996:
DMGT Corporation August 1995 $ 34.0 $ 34.0 $ -
Litle & Company, Inc. September 1995 85.0 - 85.0
Mokarow & Associates, Inc. December 1995 14.3 2.3 12.0
Merchant portfolios Various 4.7 4.7 -
--------------------------------------------------------------------
$ 138.0 $ 41.0 $ 97.0
====================================================================
</TABLE>
(1) As a result of certain performance objectives being met, an additional $5.2
million will have been paid to Merchant-Link, Inc. by August 1998.
PAYMENTECH, Inc. & Subsidiaries
35
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In January 1998, the Company purchased the merchant portfolio and certain
other assets of Mokarow Financial, Inc. for $1.3 million in cash and $6.4
million in the Company's common stock. The portfolio consists primarily of
merchants in the travel, restaurant and hospitality industries. Pro forma
adjustment to reflect the purchase of Mokarow Financial, Inc. as if the
acquisition occurred at the beginning of each year presented, would not have a
material impact on the reported results of the Company.
In December 1997, the Company sold its share of PHH/Paymentech L.L.C.
("PHH/Paymentech"), a Delaware limited liability company, to PHH Vehicle
Management Services Corporation's ("PHH") new parent company, Cendant
Corporation for $30.0 million. This sale generated a $6.0 million pretax gain
after deducting the Company's basis in its investment in PHH/Paymentech. This
gain is included in other income. The Company will continue its relationship as
the exclusive issuer of corporate fleet cards for PHH. Upon formation of
PHH/Paymentech in January 1997, PHH contributed to PHH/Paymentech existing
client and supplier contracts relating to its private label fleet card programs.
As consideration for a portion of PHH's ownership in PHH/Paymentech, the Company
paid PHH $12.5 million with an additional $5.0 million payable within one year.
As a result, the Company and PHH each had a 50% interest in PHH/Paymentech.
In August 1996, Paymentech purchased for approximately $170 million all of
the outstanding stock of GENSAR Holdings Inc. ("GENSAR"), which owns 100% of
Paymentech Network Services, Inc. and GENSAR Merchant Processing, Inc. The
acquisition was accounted for as a purchase, and accordingly, GENSAR's results
have been included in Paymentech's results of operations since acquisition.
After all market value adjustments, the purchase resulted in identifiable
intangible assets of approximately $35 million, which have lives of eight to ten
years and goodwill of approximately $175 million.
The following consolidated pro forma results give effect to the purchase of
GENSAR as if it had occurred at the beginning of each year presented.
Fiscal Year Ended June 30,
-----------------------------
(In thousands, except per share data) 1997 1996
- --------------------------------------------------------------------------------
(unaudited)
Total revenue $204,815 $150,532
Income before income taxes 13,655 11,418
Pro forma net income 3,311 6,190
Pro forma net income per share - diluted $ 0.10 $ 0.23
-----------------------------
The pro forma results include the effect of all material adjustments
related to the purchase transaction and have been prepared using calculations
based on assumptions and adjustments deemed reasonable by Paymentech.
The pro forma results do not purport to be indicative of the results of
operations that would have actually been obtained if the purchase had been
consummated as of the beginning of the period presented. In addition, the pro
forma results do not purport to be indicative of the results of operations which
may be achieved in the future.
During the first quarter of fiscal 1997, Paymentech recorded a merger,
integration and impairment charge related to the acquisition of GENSAR of $15.5
million, which reduced net income by $9.7 million. The charge includes costs
related to the conversion from third-party authorization networks to GENSAR's
authorization network, the closure of certain offices and employee severance.
The conversion costs consist primarily of the incremental labor costs to convert
existing merchant customers to the GENSAR authorization network. The charge
related to office closings includes lease termination costs as well as the
write-off of certain intangible assets related to systems that will no longer be
used. The employee related costs are primarily severance for individuals
displaced as a result of the office closings.
In January 1997, Paymentech purchased all of the outstanding capital stock
of Merchant-Link, Inc. ("Merchant-Link") for approximately $4.8 million, which
included $4.5 million of the Company's common stock and $280,000 in cash.
Merchant-Link provides one-call support for merchants with integrated
point-of-sale systems. As a result of certain performance objectives being met
by Merchant-Link, the Company paid in common stock an additional $1.5 million in
August 1997, $2.5 million in February 1998, and will make the final payment
PAYMENTECH, Inc. & Subsidiaries
36
<PAGE>
of $1.2 million in August 1998. The merger agreement provides that in the event
certain price levels with respect to the Company's common stock are not met at
the conclusion of two years from the acquisition date, additional amounts of
common stock or cash will be paid. This acquisition was accounted for as a
purchase, and accordingly, Merchant-Link results are included in Paymentech's
results of operations from the date of acquisition. Pro forma adjustment to
reflect the purchase of Merchant-Link as if the acquisition occurred at the
beginning of each year presented, would not have a material impact on the
reported results of the Company.
First USA, Inc. issued common stock in September 1995 valued at $85.0
million in exchange for all the common stock of Litle & Company, Inc. ("Litle").
Litle, a participant in the direct response payment processing business, was
subsequently merged with a subsidiary of the Company. This acquisition was
accounted for as a pooling of interests, and therefore, the Company's
consolidated financial statements include Litle's operations for all prior
fiscal years presented.
In connection with the Litle acquisition, approximately $1.6 million of
acquisition costs ($1.0 million net of income taxes, or $0.04 per diluted share)
were incurred and recorded as operating expense in the first six months of
fiscal 1996.
In August 1995, the Company paid $34.0 million in cash for certain assets
of DMGT Corporation ("DMGT"), a participant in the direct response payment
processing business. This acquisition was accounted for as a purchase.
The operations of Litle and DMGT have been combined into a single operation
known as Paymentech New Hampshire, Inc. As a result of the combination, the
Company realized cost savings, primarily from reduced salary and employee
benefits and data processing and communications costs.
In December 1995, the Company and First USA, Inc. purchased the capital
stock of Mokarow & Associates, Inc., a sales agent, for $12.0 million in stock
of First USA, Inc. and $2.3 million in cash. First USA, Inc. contributed its
investment in Mokarow & Associates, Inc. to the Company as a capital
contribution.
During fiscal 1997, Paymentech purchased an additional 17 merchant
portfolios for a total $39.9 million, including the portfolios of TransGlobal
Systems, Inc., CheckFree Corporation and Mercantile Bancorporation Inc. Typical
merchants in these portfolios include Internet service providers, on-line
interactive retailers, cellular communications companies, utility and insurance
companies as well as merchants in the hospitality and travel industries. In
fiscal 1996, Paymentech purchased merchant portfolios for $4.7 million. These
business combinations and asset purchases have been accounted for as purchases,
and accordingly, their results have been included in Paymentech's results of
operations from the effective dates of such acquisitions.
Amortization expense related to goodwill, purchased merchant portfolios and
other intangibles was $16.7 million, $12.4 million and $2.5 million during
fiscal 1998, 1997 and 1996, respectively.
NOTE D Notes Receivable
During fiscal 1998, Paymentech sold its terminal leasing portfolio to
Northern Leasing Systems Inc. ("Northern Leasing"). This sale generated a pretax
gain of $626,000. As partial consideration for the sale, the Company accepted a
$1.3 million note receivable from Northern Leasing which earns a fixed market
rate and compounds quarterly. Principal and interest are payable once certain
performance criteria are met with respect to lease payments made by the
Company's merchants to Northern Leasing. Based on current information available,
the Company anticipates that the performance criteria will be met and the first
payment of principle and interest will be made during the quarter ended March
1999 with the final payment expected during the second quarter of fiscal 2000.
Paymentech now leases terminals to merchants through a contract with Northern
Leasing which generates fee income.
The Company has a $2.6 million note receivable which was the result of the
sale of agent bank contracts in fiscal 1997. The note matures in the fourth
quarter of fiscal 2000 and earns interest at a market rate with principal and
interest payments due quarterly. This sale generated a gain of $6.8 million
which is included in other income for fiscal 1997.
In February 1997, the Company advanced $6.4 million in cash and received a
$6.4 million note from LitleNet L.L.C. as part of a litigation settlement. This
note is discounted to earn a market rate of interest with principal and interest
due in fiscal 2003.
PAYMENTECH, Inc. & Subsidiaries
37
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE E Property and Equipment
A summary of property and equipment by major class is as follows:
June 30,
-------------------------
(In thousands) 1998 1997
- -------------------------------------------------------------------------------
Furniture and equipment $65,347 $40,918
Leasehold improvements 13,955 13,364
Credit card terminals held for lease 6,028 5,954
-------------------------
85,330 60,236
Less: Accumulated depreciation (27,457) (16,133)
-------------------------
$57,873 $44,103
=========================
Depreciation expense was $10.3 million, $8.2 million and $5.2 million in
fiscal 1998, 1997 and 1996, respectively. During the fourth quarter of 1997, the
Company wrote off certain assets which consisted primarily of obsolete
technology and obsolete terminal inventory. This charge of $3.3 million is
included in the merger, integration and impairment charges.
NOTE F Revolving Credit Facility
The revolving credit facility payable to a bank syndicate ("Revolving
Credit Facility") provides a source of liquidity to manage cash flow, as well as
capital to subsidiaries for expansion, and for other corporate uses. In April
1998, Paymentech reduced the maximum borrowings available under its Revolving
Credit Facility from $200 million to $150 million. The Revolving Credit Facility
bears interest based on the London Interbank Offering Rate ("LIBOR") plus 0.35%
to 0.90% and commitment fees ranging from 0.15% to 0.30% on the unused portion
based on Paymentech's debt to capitalization ratio, payable quarterly. The
Revolving Credit Facility expires in February 1999, and therefore, is classified
as a current liability on Paymentech's balance sheet. Through two one-year
extension options, the maturity date of the Revolving Credit Facility may be
extended at the discretion of the bank syndicate. Banc One is guarantor to the
Revolving Credit Facility. Paymentech's ability to pay dividends is conditioned
upon the observance of certain financial covenants in the agreement. The
financial covenants require Paymentech to maintain specified (i) debt to
capitalization ratios, (ii) debt to cash flow ratios, (iii) minimum interest
coverage ratios, and (iv) minimum levels of consolidated stockholders' equity.
At June 30, 1998, Paymentech had $55.0 million in borrowings under the
Revolving Credit Facility as a $40.0 million note and a $15.0 million note, each
at a rate of LIBOR plus 0.35% (approximately 6.04% as of June 30, 1998). At June
30, 1997, the Company had $75.0 million in borrowings under the Revolving Credit
Facility. During fiscal 1997, the Revolving Credit Facility allowed Paymentech
to borrow up to $75 million from First USA; however, no such borrowings were
outstanding at June 30, 1997. In January 1997, Paymentech repaid a $25 million
loan from First USA.
In fiscal 1998, the Company paid $6.3 million in interest, primarily
related to Paymentech's Revolving Credit Facility and interest-bearing deposits.
The Company paid interest of $4.4 million in fiscal 1997, primarily related to
the Revolving Credit Facility, interest-bearing deposits and the loan payable to
First USA. In fiscal 1996, Paymentech paid $1.7 million in interest, primarily
related to merchant deposits.
NOTE G Preferred Stock
The Board of Directors of Paymentech has the authority to determine the
principal rights, preferences and privileges of 10.0 million shares of
authorized preferred stock. Provisions could be included in the shares of
preferred stock, such as extraordinary voting, dividend, redemption or
conversion rights, which could discourage an unsolicited tender offer or
takeover proposal. However, Paymentech has no current plans to issue preferred
stock.
NOTE H Unrealized Holding Gain
The market value of the Company's investment in First Virtual Holdings,
Inc. ("First Virtual") was $5.0 million as of June 30, 1998, resulting in a
pretax unrealized holding gain of $1.0 million, or $621,000 on an after-tax
basis. This investment is carried in Other Assets on the Company's Balance
Sheet.
PAYMENTECH, Inc. & Subsidiaries
38
<PAGE>
NOTE I Income Taxes
The components of the provision for income taxes are as follows:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
--------------------------------------------------
(In thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Federal income taxes -- current $16,847 $10,428 $ 7,610
Federal income taxes -- deferred (1,653) (224) --
State income taxes, net of federal tax benefit - current 730 947 1,890
State income taxes, net of federal tax benefit - deferred (226) (131) --
--------------------------------------------------
$15,698 $11,020 $ 9,500
==================================================
</TABLE>
The provision for income taxes differs from the amount computed by applying
the statutory federal income tax rate to income before income taxes due to the
following:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
--------------------------------------------------
(In thousands) 1998 1997 1996
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Statutory tax rate applied to income before income taxes $12,560 $ 5,161 $ 8,313
State income taxes, net of federal income tax benefit 287 531 1,229
Stock-based compensation -- 2,804 --
Amortization of goodwill, purchased merchant portfolios
and other intangibles 3,113 2,045 --
Subchapter S status of Litle -- -- (17)
Other (262) 479 (25)
--------------------------------------------------
$15,698 $11,020 $ 9,500
==================================================
</TABLE>
Deferred tax liabilities at June 30, 1998 and 1997, consist of the following:
<TABLE>
<CAPTION>
--------------------------------------------------
(In thousands) 1998 1997
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Deferred tax assets (liabilities):
Amortization of goodwill, purchased merchant portfolios
and other intangibles $(4,657) $(3,837)
Allowances for credit losses 540 140
Basis difference of property and equipment 1,167 (1,272)
Deferred compensation 1,258 989
Other (381) (14)
--------------------------------------------------
$(2,073) $(3,994)
==================================================
</TABLE>
Paymentech paid federal income tax payments of $2.8 million, $18.7 million,
and $2.8 million during fiscal 1998, 1997, and 1996, respectively.
Prior to the Initial Offering, Paymentech was included in the consolidated
federal income tax return filed by First USA. Income tax expense was provided
based on earnings reported as if Paymentech filed a separate income tax return.
PAYMENTECH, Inc. & Subsidiaries
39
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE J Stock Option, Stock Purchase and Restricted Stock Plans
The Company provides for grants of nonqualified stock options to certain
key employees of Paymentech under the Paymentech, Inc. 1996 Stock Option Plan
(the "1996 Option Plan"). All stock options have an exercise price equal to the
market value of Paymentech's common stock on the date the option is granted and
may not be exercised more than 10 years from the date of grant.
Members of the Board of Directors of Paymentech who are not employees of
the Company or Banc One and its subsidiaries on the date they become a director
receive an option to purchase 5,000 shares of common stock at an option price
equal to the fair market value of the common stock on the date of grant. The
option is granted on the date the director joins the Board. Such directors will
also receive annual grants of options to purchase 2,500 shares of common stock
at an option price equal to the fair market value of the stock on the date of
grant. Options terminate if not exercised within 90 days after the director
ceases to be a member of the Board of Directors.
Under the 1996 Option Plan, 6,500,000 shares of common stock have been
reserved with 2,564,150 common shares available for future grants as of June 30,
1998. A summary of Paymentech's stock option activity, and related information
for the years ended June 30 are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
-----------------------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
(Shares in thousands) Shares Price Shares Price Shares Price
-----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of fiscal year 1,746 $27.26 808 $20.11 -- --
Granted 1,794 21.30 1,078 32.72 1,600 $20.14
Exercised 100 19.53 27 20.23 790 20.16
Forfeited 421 27.22 113 29.93 2 19.53
-----------------------------------------------------------------------------------
Outstanding at end of fiscal year 3,019 23.97 1,746 27.26 808 20.11
===================================================================================
Exercisable at end of fiscal year 998 $27.11 1,118 $26.48 162 $20.12
===================================================================================
</TABLE>
The following table summarizes information about stock options outstanding
at June 30, 1998:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
- ------------------------------------------------------------------------------------------------------------------------------------
Weighted Weighted Weighted
Option Shares Average Average Number Average
Range of Exercise Outstanding Remaining Exercise Exercisable Exercise
Prices (In thousands) Life Price (In thousands) Price
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$14.00 to $17.44 970 9.4 $15.11 25 $15.59
$18.88 to $19.69 476 7.8 19.53 432 19.53
$22.38 to $35.00 1,202 9.0 29.15 215 30.11
$36.00 to $40.75 371 8.1 36.06 326 36.07
</TABLE>
Pro forma information regarding net income and earnings per share is
required by SFAS 123, and has been determined as if Paymentech had accounted for
its employee stock options under the fair value method of SFAS 123. The fair
value for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted average assumptions for fiscal
1998, 1997 and 1996: risk-free interest rate of 5.45%, 6.30% and 6.29%,
respectively; expected volatility of 68.9% for fiscal 1998 and 49.50% for fiscal
years 1997 and 1996; and a weighted average expected life of the option of five
years. The weighted average fair value at date of grant for options granted
during fiscal 1998, 1997 and 1996 was $13.11, $16.64 and $14.89 per option,
respectively.
PAYMENTECH, Inc. & Subsidiaries
40
<PAGE>
Had compensation expense for Paymentech's stock option plan been determined
based on the fair value at the grant date for awards in fiscal 1998, 1997 and
1996 consistent with the provisions of SFAS 123, the Company's net income and
earnings per diluted share for fiscal 1998 would have been $16.3 million and
$0.45, and a net loss and loss per diluted share of $9.9 million and $0.30 for
fiscal 1997. Due to the Banc One merger with First USA, Inc., most outstanding
stock options at June 30, 1997, became exercisable in fiscal 1997, increasing
the compensation expense determined under SFAS 123. Had the accelerated vesting
not occurred, the Company's fiscal 1997 pro forma net loss would have been
minimal. For fiscal 1996, Paymentech's net income and earnings per diluted share
would have been $6.6 million and $0.25.
The effects of applying SFAS 123 in this pro forma disclosure may not be
representative of the pro forma impact on future years as additional options may
be granted in future years and the vesting of options already granted will
impact the pro forma disclosures.
Effective January 1, 1997, employees of Paymentech were able to participate
in the Paymentech, Inc. Employee Stock Purchase Plan (the "Purchase Plan"). The
Purchase Plan provides a means for employees to purchase shares of Paymentech's
common stock at 85% of the fair market value thereof. Under the Purchase Plan,
400,000 shares of common stock have been reserved for issuance, of which 273,887
shares remain available for future grants. Prior to adoption of this plan, the
employees of Paymentech were eligible to participate in the First USA, Inc.
Stock Purchase Plan (the "First USA Purchase Plan"). The First USA Purchase Plan
provided a means for employees to purchase shares of First USA common stock at
85% of the fair market value thereof.
The Paymentech, Inc. 1996 Restricted Stock Plan (the "Restricted Stock
Plan") authorizes the granting of awards in the form of restricted shares of
Paymentech's common stock to key officers and employees of Paymentech subject to
risks of forfeiture that may be eliminated over time based on performance
criteria. A maximum of 500,000 shares of common stock have been reserved for
issuance under the Restricted Stock Plan, subject to adjustment, of which
220,142 shares remain available for future grants. During fiscal 1998, 96,572
shares of restricted stock were issued with a weighted average grant-date fair
value of $27.94.
NOTE K Retirement Benefits
In March 1996, Paymentech adopted a non-contributory defined benefit
retirement plan (the "Retirement Plan") that provides retirement benefits for
eligible employees. Paymentech's funding policy is to annually contribute the
minimum amount required under the Employee Retirement Income Security Act of
1974. Contributions are intended to provide not only for benefits attributed to
compensation to date, but also for compensation increases to be earned in the
future. Each participant's cash balance account is credited with an amount equal
to 4% of the participant's compensation plus interest at a rate of 5% per year.
Each participant becomes fully vested in benefits under the plan after five
years of employment. Prior to that time, no portion of a participant's benefits
is vested. The plan assets consist primarily of investments in mutual funds.
A summary of the components of the periodic pension expense follows:
Fiscal Year
Ended June 30,
--------------------
(In thousands) 1998 1997
--------------------
Service cost-benefits earned during the period $ 492 $ 338
Interest cost on projected benefit obligation 144 104
Actual return on plan assets (121) (258)
Net amortization and deferral 7 189
--------------------
Net periodic pension expense $ 522 $ 373
====================
Assumptions used in the accounting for the plan were:
Fiscal Year
Ended June 30,
--------------------
1998 1997
--------------------
Discount rate 8.0% 8.0%
Expected rate of increase in compensation levels 5.0% 5.0%
Expected long-term rate of return on assets 8.5% 8.5%
--------------------
PAYMENTECH, Inc. & Subsidiaries
41
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following sets forth the funded status and the amount recognized in the
consolidated balance sheets for the Company's defined benefit retirement plan:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
------------------------------------
(In thousands) 1998 1997
------------------------------------
<S> <C> <C>
Accumulated Benefits:
Actuarial present value of accumulated plan benefits:
Vested $ 1,294 $ 906
Nonvested 480 285
------------------------------------
Total $ 1,774 $ 1,191
====================================
Pension Liability:
Projected benefit obligation for service rendered to date $(2,506) $(1,671)
Fair value of net assets available for benefits 1,750 1,237
------------------------------------
Projected benefit obligation in excess of plan assets (756) (434)
Unrecognized prior service cost (44) (50)
Unrecognized net loss 542 355
------------------------------------
Total $ (258) $ (129)
====================================
</TABLE>
Prior to the adoption of the Retirement Plan, eligible employees
participated in the First USA non-contributory defined benefit retirement plan.
All of the Paymentech participants' plan assets and liabilities were transferred
from the First USA plan to Paymentech's Retirement Plan upon adoption of the
Retirement Plan. The fiscal 1996 statement of income includes $322,000 for
contributions allocated to the Retirement Plan.
Effective July 1, 1996, Paymentech adopted the Retirement Savings Plan (the
"Savings Plan"), which provides savings and investment opportunities to
employees of the Company. The Savings Plan stipulates that eligible employees
with at least one year of service and a minimum of 1,000 hours of service may
elect to contribute to the plan. Effective July 1, 1998, the service
requirements of one year and 1,000 hours minimum were removed. Pretax
contributions up to 3% of an eligible employee's defined compensation are
matched 50% by Paymentech. Prior to the adoption of the Savings Plan, the
employees of Paymentech participated in the First USA Retirement Savings Plan.
All employee and employer contributions to the First USA Savings Plan as well as
the earnings on these contributions were transferred from the First USA Savings
Plan to Paymentech's Savings Plan upon adoption of the Savings Plan. The
consolidated statements of income include $288,000, $335,000 and $211,000 for
the contributions to the Savings Plan for fiscal 1998, 1997 and 1996,
respectively.
NOTE L Commitments and Contingencies
Paymentech leases its office space and certain equipment under operating
leases with remaining terms ranging up to eight years. Paymentech subleases its
principal office space from First USA. The office space leases contain renewal
options and generally require Paymentech to pay certain operating expenses.
Future minimum lease commitments under noncancelable leases as of June 30, 1998,
are as follows (in thousands):
- ------------------------------------------------------
1999 $ 5,537
2000 5,467
2001 5,120
2002 4,623
2003 3,942
Thereafter 5,848
-----------------
$ 30,537
=================
The consolidated statements of income include rental expense for operating
leases of $6.0 million, $4.6 million and $3.8 million for fiscal 1998, 1997 and
1996, respectively.
PAYMENTECH, Inc. & Subsidiaries
42
<PAGE>
The Company is a defendant in a putative class action suit commenced in
October 1997 against the Company, certain officers and former officers of the
Company and Banc One alleging, among other things, that the defendants violated
United States securities laws by publicly issuing false and misleading
statements and omitting to disclose material adverse information regarding the
Company' business. The complaint also alleges insider trading by one or more
officers or former officers of the Company and requests control-person liability
against Banc One. The defendants have filed a motion to dismiss and that motion
is pending. The Company has notified its insurance carriers of this action. It
is premature to determine whether the Company will have any liability in the
action or whether, if so, that liability will be material.
NOTE M Fair Value of Financial Instruments
The estimated fair values of Paymentech's financial instruments are as
follows:
<TABLE>
<CAPTION>
At June 30, 1998 At June 30, 1997
-----------------------------------------------------
Carrying Fair Carrying Fair
(In thousands) Amount Value Amount Value
-----------------------------------------------------
<S> <C> <C> <C> <C>
Financial Assets:
Cash and cash equivalents $158,307 $158,307 $119,466 $119,466
Credit card loans, net 42,079 42,079 19,902 19,902
Investments 6,212 6,205 10,083 10,143
Notes receivable 9,997 9,997 9,169 9,169
Financial Liabilities:
Notes payable to banks $ 55,049 $ 55,049 $ -- $ --
Interest-bearing deposits 34,790 34,793 20,721 20,740
Merchant deposits 22,844 22,844 18,852 18,852
Notes payable to banks and other borrowings -- -- 75,140 75,140
-----------------------------------------------------
</TABLE>
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
Cash and cash equivalents: The carrying amounts for cash and cash
equivalents approximate fair value due to the short maturities of such
instruments.
Credit card loans, net: The credit card loans, net, represent nonrevolving
receivables. Due to their short-term maturities, the carrying amounts
approximate fair value.
Investments: Fair value is based on quoted market prices.
Notes receivable: The estimated fair value of notes receivable approximates
the carrying amount at June 30, 1998. The interest rates are commensurate with
the credit, interest rate and prepayment risks involved.
Interest-bearing deposits: The estimated fair values for interest-bearing
deposits are based on discounted cash flows. The discount rates used in these
analyses are based on market rates of alternative funding sources currently
available for similar remaining maturities.
Merchant deposits: The merchant deposits are interest bearing and on terms
that are standard for the industry. Consequently, the carrying amounts
approximate fair value.
Notes payable to banks and other borrowings: The interest rate on the
Company's notes payable to banks and other borrowings is reset quarterly to
reflect current market rates. Consequently, the carrying amounts approximate
fair value.
PAYMENTECH, Inc. & Subsidiaries
43
<PAGE>
notes
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE N Related Parties
The Company subleases office space from First USA and participates in
certain benefit plans with First USA. For a portion of Paymentech's insurance
needs, the Company participates in insurance coverage with Banc One. In
addition, until First USA, Inc.'s merger with Banc One, First USA provided
certain other administrative services to the Company. Prior to fiscal 1998, the
consolidated statements of income include an allocation to the Company of the
cost incurred by First USA or one of its subsidiaries. In conjunction with First
USA, Inc.'s merger with Banc One in June 1997, Paymentech assumed these
administrative services.
At June 30, 1998 and 1997, the Company had $2.6 million and $6.0 million,
respectively, invested in First USA Bank certificates of deposit. These
certificates of deposit earn interest at a market rate and had initial
maturities of less than 90 days.
Other income for fiscal 1997 includes related party transactions with First
USA, Inc. resulting in a $3.5 million gain in December 1996 related to the
termination of a call option on warrants held by First USA, Inc. for stock in
First Virtual and a $5.0 million gain in March 1997 related to the termination
of an agreement that First USA, Inc. would not compete with Paymentech for
business card customers. Both of these transactions were on terms which the
Company believes to be representative of an arms' length transaction.
The president and chief executive officer of the Company is a member of
the Board of Directors of First Virtual.
In June 1997, First USA, Inc. merged with and into Banc One. This
transaction caused Paymentech to record a one-time merger expense of $12.5
million, which included the costs associated with the accelerated vesting of
First USA, Inc. restricted stock grants and forgiveness of stock loans provided
by First USA to certain key Paymentech employees. Certain key employees of the
Company participated in First USA, Inc.'s 1994 Restricted Stock Plan which
allowed the granting of First USA, Inc. restricted stock to eligible employees.
First USA, Inc. restricted stock was transferred to the recipient without
payment to the Company or First USA, Inc., and is subject to certain
restrictions and risk of forfeiture. These restrictions lapsed upon the merger
of First USA, Inc. and Banc One generating an expense related to Paymentech
employees of $6.6 million. In addition, in March 1996, First USA made loans to
certain key employees of the Company to exercise 30-day stock options for
Paymentech common stock at the initial public offering price. The terms of these
loans called for the outstanding principal and accrued interest to be forgiven
upon a change of control of either First USA, Inc. or Paymentech. Therefore,
these loans were forgiven upon the merger of First USA, Inc. with and into Banc
One, resulting in an expense related to Paymentech employees of $5.9 million.
Paymentech did not expend any cash relative to either expense; rather, the total
$12.5 million is treated as a capital contribution from First USA to Paymentech.
PAYMENTECH, Inc. & Subsidiaries
44
<PAGE>
NOTE O Net Income Per Share
Net income per share is calculated as follows:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30,
-------------------------------------------------
(Dollars in thousands, except per share data) 1998 1997 1996
-------------------------------------------------
<S> <C> <C> <C>
Basic
Net income $ 20,188 $ 3,726 $ 14,252
-------------------------------------------------
Weighted average common shares outstanding 35,562,129 33,422,020 26,315,065
-------------------------------------------------
Net income per share - basic $ 0.57 $ 0.11 $ 0.54
=================================================
Diluted
Net income $ 20,188 $ 3,726 $ 14,252
-------------------------------------------------
Weighted average common shares outstanding 35,562,129 33,422,020 26,315,065
Dilutive effect of common stock equivalents 243,125 312,785 114,789
Dilutive effect of contingently issuable shares 180,176 7,010 --
-------------------------------------------------
Adjusted weighted average common shares outstanding 35,985,430 33,741,815 26,429,854
=================================================
Net income per share - diluted $ 0.56 $ 0.11 $ 0.54
=================================================
</TABLE>
NOTE P Recent Accounting Pronouncements
In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). Effective for financial statements for fiscal years
beginning after December 15, 1998, SOP 98-1 requires companies to capitalize
qualifying computer software costs incurred during development. Costs incurred
in the designing of software configuration, the coding of programs and the
installation of hardware are examples of qualifying capitalizable costs.
Paymentech is currently assessing the impact of the adoption of SOP 98-1.
In February 1998, the FASB issued Statement No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132").
Effective for financial statements for fiscal years beginning after December 15,
1997, SFAS 132 would not change the recognition or measurement of pension or
postretirement benefit plans, but would standardize disclosure requirements for
pensions and other postretirement benefits, eliminating unnecessary disclosures
and requiring additional information.
In June 1997, the FASB issued Statement No. 130, "Reporting Comprehensive
Income." This Statement establishes standards for the reporting and display of
comprehensive income and its components in a full set of general-purpose
financial statements. SFAS 130 is effective for fiscal years beginning after
December 15, 1997.
PAYMENTECH, Inc. & Subsidiaries
45
<PAGE>
management's report
MANAGEMENT'S REPORT ON FINANCIAL STATEMENTS AND INTERNAL CONTROL
The management of Paymentech, Inc. and its subsidiaries prepared the
accompanying financial statements and is responsible for their integrity and
objectivity. The financial statements, which include amounts that are based on
management's best estimates and judgments, have been prepared in conformity with
generally accepted accounting principles and are free of material misstatement.
Management also prepared the other information in the annual report and is
responsible for its accuracy and consistency with the financial statements.
Management of Paymentech, Inc. maintains a system of internal control over
the preparation of its published annual financial statements. It should be
recognized that even an effective internal control system, no matter how well
designed, can provide only reasonable assurance with respect to the preparation
of reliable financial statements; further, because of changes in conditions,
internal control system effectiveness may vary over time. Management believes
that the system of internal control provides reasonable assurance that assets
are safeguarded and that transactions are properly recorded and executed in
accordance with management's authorization.
The consolidated financial statements have been audited by Paymentech's
independent auditors, Ernst & Young LLP, whose independent professional opinion
appears separately. Ernst & Young LLP obtains and maintains an understanding of
the internal control structure and conducts such tests and other auditing
procedures considered necessary in the circumstances to render an opinion on the
financial statements.
The Audit Committee of the Board of Directors, composed solely of outside
directors, met periodically during fiscal 1998 with the independent auditors and
management to review the work of each and ensure that each is properly
discharging its responsibilities. The independent auditors have free access to
the committee to discuss the results of their audit work and their evaluations
of the adequacy of accounting systems and internal control and the quality of
financial reporting.
/s/ John C. Tolleson /s/ Pamela H. Patsley /s/ Kathryn J. Kessler
John C. Tolleson Pamela H. Patsley Kathryn J. Kessler
Chairman President and Chief Executive Chief Accounting Officer
Officer
PAYMENTECH, Inc. & Subsidiaries
46
<PAGE>
auditors' report
REPORT OF INDEPENDENT AUDITORS
Stockholders and Board of Directors
Paymentech, Inc.
We have audited the accompanying consolidated balance sheets of Paymentech,
Inc. and subsidiaries as of June 30, 1998 and 1997, and the related consolidated
statements of income, changes in stockholders' equity, and cash flows for each
of the three years in the period ended June 30, 1998. 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 consolidated financial position of Paymentech,
Inc. and subsidiaries at June 30, 1998 and 1997, and the consolidated results of
their operations and their cash flows for each of the three years in the period
ended June 30, 1998, in conformity with generally accepted accounting
principles.
/s/ Ernst & Young LLP
Dallas, Texas
July 23, 1998
PAYMENTECH, Inc. & Subsidiaries
47
<PAGE>
Exhibit 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statement (Form
S-8 No. 333-11249) pertaining to the First USA Paymentech, Inc. Retirement
Savings Plan, the Registration Statement (Form S-8 No. 333-06979) pertaining to
the First USA, Inc. Deferred Compensation Plan, the Registration Statement (Form
S-8 No. 333-02786) pertaining to the First USA Paymentech, Inc. Amended and
Restated 1996 Stock Option Plan and the First USA Paymentech Inc. Amended and
Restated 1996 Restricted Stock Plan, the Registration Statement (Form S-8 No.
333-17645) pertaining to the Employee Stock Purchase Plan of First USA
Paymentech, Inc., the Registration Statement (Form S-4 No. 333-24859) and
related Prospectus of First USA Paymentech, Inc. for the registration of
4,000,000 shares of its common stock, the Registration Statement (Form S-3 No.
333-32697) and related Prospectus of First USA Paymentech, Inc. for the
registration of 360,000 shares of its common stock, the Registration Statement
(Form S-3 No. 333-60349) and related Prospectus of Paymentech, Inc. for the
registration of 67,289 shares of its common stock, the Registration Statement
(Form S-8 No. 333-49519) pertaining to the Paymentech, Inc. 1996 Amended and
Restated Stock Option Plan, and the Registration Statement (Form S-8 No.
333-57817) pertaining to the Employee Stock Purchase Plan of Paymentech, Inc. of
our report dated July 23, 1998 incorporated by reference in the Annual Report on
Form 10-K of Paymentech, Inc. for the year ended June 30, 1998, with respect to
the consolidated financial statements, as amended, included in this Form 10-K/A.
Our audits also included the financial statements schedule of Paymentech, Inc.
listed in Item 14(a) of the Form 10-K/A. This schedule is the responsibility of
the Company's management. Our responsibility is to express an opinion based
on our audits. In our opinion, the financial statement schedule referred to
above, when considered in relation to the basic financial statements taken as a
whole, presents fairly in all material respects the information set forth
therein.
/s/ ERNST & YOUNG LLP
Dallas, Texas
December 11, 1998
