PAGE 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
___TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from N/A to N/A
COMMISSION FILE NUMBER 1-5046
CNF TRANSPORTATION INC.
Incorporated in the State of Delaware
I.R.S. Employer Identification No. 94-1444798
3240 Hillview Avenue, Palo Alto, California 94304
Telephone Number (650) 494-2900
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 and (2) has been subject to such
filing requirements for the past 90 days. Yes xx No
Number of shares of Common Stock, $.625 par value,
outstanding as of October 31, 1998: 47,795,725
PAGE 2
CNF TRANSPORTATION INC.
FORM 10-Q
Quarter Ended September 30, 1998
____________________________________________________________________________
____________________________________________________________________________
INDEX
PART I. FINANCIAL INFORMATION Page
Item 1. Financial Statements
Consolidated Balance Sheets -
September 30, 1998 and December 31, 1997 3
Statements of Consolidated Income -
Three and Nine Months Ended September 30, 1998
and 1997 5
Statements of Consolidated Cash Flows -
Nine Months Ended September 30, 1998 and 1997 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 6. Exhibits and Reports on Form 8-K 18
SIGNATURES 18
PAGE 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CNF TRANSPORTATION INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
September 30, December 31,
1998 1997
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 108,015 $ 97,617
Trade accounts receivable, net of allowances 768,291 703,785
Other accounts receivable 22,829 32,067
Operating supplies, at lower of average
cost or market 40,266 36,580
Prepaid expenses 38,315 35,682
Deferred income taxes 112,954 103,656
Total Current Assets 1,090,670 1,009,387
PROPERTY, PLANT AND EQUIPMENT, NET
Land 108,033 109,768
Buildings and improvements 332,842 301,245
Revenue equipment 713,888 685,618
Other equipment and leasehold improvements 512,361 400,065
1,667,124 1,496,696
Accumulated depreciation and amortization (708,106) (616,854)
959,018 879,842
OTHER ASSETS
Restricted funds 2,628 10,601
Deferred charges and other assets 171,000 120,872
Unamortized aircraft maintenance, net 130,346 123,352
Costs in excess of net assets of businesses
acquired, net of accumulated amortization 270,607 277,442
574,581 532,267
TOTAL ASSETS $2,624,269 $2,421,496
The accompanying notes are an integral part of these statements.
PAGE 4
CNF TRANSPORTATION INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
September 30, December 31,
1998 1997
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 255,964 $ 268,064
Accrued liabilities 480,431 423,237
Accrued claims costs 105,384 99,848
Current maturities of long-term debt and
capital leases 5,262 4,875
Federal and other income taxes 51,009 10,114
Total Current Liabilities 898,050 806,138
LONG-TERM LIABILITIES
Long-term debt and guarantees (Note 2) 356,905 362,671
Long-term obligations under capital
leases (Note 2) 110,753 110,817
Accrued claims costs 58,328 55,030
Employee benefits 165,055 141,351
Other liabilities and deferred credits 55,616 72,428
Deferred income taxes 101,857 89,958
Total Liabilities 1,746,564 1,638,393
COMMITMENTS AND CONTINGENCIES (Note 6)
COMPANY-OBLIGATED MANDATORILY REDEEMABLE
PREFERRED SECURITIES OF SUBSIDIARY TRUST
HOLDING SOLELY CONVERTIBLE DEBENTURES OF
THE COMPANY (Note 5) 125,000 125,000
SHAREHOLDERS' EQUITY
Preferred stock, no par value; authorized
5,000,000 shares:
Series B, 8.5% cumulative, convertible,
$.01 stated value; designated 1,100,000
shares; issued 856,503 and 865,602
shares, respectively 9 9
Additional paid-in capital, preferred stock 130,265 131,649
Deferred TASP compensation (96,840) (101,819)
Total Preferred Shareholders' Equity 33,434 29,839
Common stock, $.625 par value; authorized
100,000,000 shares; issued 54,677,191
and 54,370,182 shares, respectively 34,173 33,981
Additional paid-in capital, common stock 309,341 302,256
Deferred compensation, restricted stock (3,812) (2,528)
Cumulative translation adjustment (Note 3) (6,587) (6,647)
Retained earnings 557,133 473,250
Cost of repurchased common stock
(6,934,434 and 6,977,848 shares,
respectively) (170,977) (172,048)
Total Common Shareholders' Equity 719,271 628,264
Total Shareholders' Equity 752,705 658,103
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $2,624,269 $2,421,496
The accompanying notes are an integral part of these statements.
<TABLE>
PAGE 5
CNF TRANSPORTATION INC.
STATEMENTS OF CONSOLIDATED INCOME
(Dollars in thousands except per share amounts)
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
<S> <C> <C> <C> <C>
REVENUES
Con-Way Transportation Services $ 438,595 $ 387,975 $ 1,256,818 $ 1,087,838
Emery Worldwide 556,176 599,830 1,604,535 1,627,332
Other 287,739 139,557 710,677 357,383
1,282,510 1,127,362 3,572,030 3,072,553
COSTS AND EXPENSES
Con-Way Transportation Services
Operating Expenses 310,148 275,631 880,056 786,849
Selling and Administrative Expenses 57,877 54,347 163,774 143,946
Depreciation 19,904 16,838 57,831 47,326
387,929 346,816 1,101,661 978,121
Emery Worldwide
Operating Expenses 438,743 462,476 1,277,374 1,280,757
Selling and Administrative Expenses 83,695 90,938 240,828 241,111
Depreciation 12,139 10,197 35,008 28,637
534,577 563,611 1,553,210 1,550,505
Other
Operating Expenses 241,787 125,873 623,209 318,545
Selling and Administrative Expenses 23,366 7,622 62,339 22,020
Depreciation 5,808 1,593 13,760 4,281
270,961 135,088 699,308 344,846
1,193,467 1,045,515 3,354,179 2,873,472
OPERATING INCOME
Con-Way Transportation Services 50,666 41,159 155,157 109,717
Emery Worldwide 21,599 36,219 51,325 76,827
Other 16,778 4,469 11,369 12,537
89,043 81,847 217,851 199,081
OTHER INCOME (EXPENSE)
Investment Income 20 516 111 640
Interest Expense (8,154) (8,815) (25,135) (29,882)
Dividend Requirement on Preferred
Securities of Subsidiary Trust (Note 5) (1,563) (1,561) (4,689) (1,908)
Miscellaneous, Net (119) 756 (301) 11
(9,816) (9,104) (30,014) (31,139)
Income before Income Taxes 79,227 72,743 187,837 167,942
Income Taxes 35,257 33,098 83,588 76,364
Net Income 43,970 39,645 104,249 91,578
Preferred Dividends 2,031 1,951 6,078 5,861
NET INCOME AVAILABLE
TO COMMON SHAREHOLDERS $ 41,939 $ 37,694 $ 98,171 $ 85,717
Weighted-Average Shares 47,698,568 46,630,121 47,607,124 45,956,459
EARNINGS PER SHARE (Note 4)
Basic $ 0.88 $ 0.81 $ 2.06 $ 1.87
Diluted $ 0.78 $ 0.70 $ 1.83 $ 1.67
The accompanying notes are an integral part of these statements.
</TABLE>
PAGE 6
CNF TRANSPORTATION INC.
STATEMENTS OF CONSOLIDATED CASH FLOWS
(Dollars in thousands)
Nine Months Ended
September 30,
1998 1997
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD $ 97,617 $ 82,094
CASH FLOWS FROM OPERATING ACTIVITIES
Net income 104,249 91,578
Adjustments to reconcile net income
to net cash provided by operating activities:
Depreciation and amortization 119,515 88,748
Amortization of deferred compensation 6,465 5,717
Increase in deferred income taxes 2,601 10,155
Gains from property disposals, net (1,544) (456)
Changes in assets and liabilities:
Receivables (55,268) (87,704)
Prepaid expenses (2,633) (9,317)
Accounts payable (9,262) 49,095
Accrued liabilities 47,757 47,257
Accrued incentive compensation 9,437 32,289
Accrued claims costs 8,834 8,880
Federal and other income taxes 40,895 22,994
Employee benefits 23,704 18,712
Deferred charges and credits (56,627) (29,296)
Other (14,431) (4,970)
Net Cash Provided by Operating Activities 223,692 243,682
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures (199,437) (136,183)
Proceeds from sales of property 12,925 3,372
Net Cash Used by Investing Activities (186,512) (132,811)
CASH FLOWS FROM FINANCING ACTIVITIES
Net payments of long-term debt
and capital lease obligations (5,443) (1,983)
Net payments under revolving lines of credit - (155,000)
Net proceeds from issuance of subsidiary preferred
stock - 121,431
Proceeds from exercises of stock options 4,161 32,025
Payments of common dividends (14,288) (13,777)
Payments of preferred dividends (11,212) (11,776)
Net Cash Used by Financing Activities (26,782) (29,080)
Increase in Cash and Cash Equivalents 10,398 81,791
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 108,015 $ 163,885
The accompanying notes are an integral part of these statements.
PAGE 7
CNF TRANSPORTATION INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The accompanying consolidated financial statements of CNF Transportation
Inc. and subsidiaries (the Company) have been prepared by the Company,
without audit by independent public accountants, pursuant to the rules and
regulations of the Securities and Exchange Commission. In the opinion of
management, the consolidated financial statements include all normal
recurring adjustments necessary to present fairly the information required
to be set forth therein. Certain information and note disclosures normally
included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted from these
statements pursuant to such rules and regulations and, accordingly, should
be read in conjunction with the consolidated financial statements included
in the Company's 1997 Annual Report to Shareholders.
There were no significant changes in the Company's commitments and
contingencies as previously described in the 1997 Annual Report to
Shareholders and related annual report to the Securities and Exchange
Commission Form 10-K.
2. Long-term Debt and Long-term Obligations under Capital Leases
The aggregate principal amount of the Company's unsecured 9 1/8% notes
is repayable on August 15, 1999. The Company has the ability to refinance
the outstanding principal on a long-term basis and it is therefore included
in Long-term Debt and Guarantees in the Consolidated Balance Sheet as of
September 30, 1998.
On October 1, 1998, the Company redeemed $46 million of Series A revenue
bonds used as partial financing of a sorting facility in Dayton, Ohio.
These redeemed bonds, with an effective interest rate of 8% and due in
October 2009, were replaced with $46 million of Series A refinancing bonds
due in February 2018 with an interest rate of 5.625%.
The restructured and non-restructured notes issued by the Company's
Thrift and Stock Plan (the "TASP") are guaranteed by the Company. Holders
of both the restructured and non-restructured notes have the right to
require the Company to purchase the notes, in whole or in part, on July 1,
1999. The Company has the ability to refinance the outstanding principal
on a long-term basis and it is therefore included in Long-term Debt and
Guarantees in the Consolidated Balance Sheet as of September 30, 1998.
3. Non-Owner Changes in Equity
In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) 130, "Reporting
Comprehensive Income", which requires companies to report a measure of all
changes in equity except those resulting from investments by owners and
distributions to owners. Total non-owner changes in equity were as
follows:
Three Months Ended Nine Months Ended
(Dollars in thousands) September 30, September 30,
1998 1997 1998 1997
Net Income $43,970 $39,645 $104,249 $91,578
Foreign currency
translation adjustment 1,403 (6,287) 60 (8,083)
$45,373 $33,358 $104,309 $83,495
PAGE 8
4. Earnings Per Share
Effective December 31, 1997, the Company adopted SFAS 128, "Earnings Per
Share". SFAS 128 prescribes new Basic and Diluted Earnings Per Share (EPS)
calculations that replace the former calculations for Primary and Fully
Diluted EPS. Prior years have been restated to conform to the requirements
of SFAS 128.
Basic earnings per share is computed by dividing net income available to
common shareholders by the weighted-average shares outstanding. Diluted
earnings per share was calculated as follows:
Three Months Ended Nine Months Ended
(Dollars in thousands except September 30, September 30,
per share data) 1998 1997 1998 1997
Earnings:
Net Income Available
to Common Shareholders $ 41,939 $ 37,694 $ 98,171 $ 85,717
Add-backs:
Dividends on Series B
preferred stock, net
of replacement funding 316 281 979 888
Dividends on preferred
securities of subsidiary
trust, net of tax 954 954 2,862 1,165
$ 43,209 $ 38,929 $ 102,012 $ 87,770
Shares:
Basic shares (weighted-
average shares
outstanding) 47,698,568 46,630,121 47,607,124 45,956,459
Stock option and
restricted stock dilution 667,151 1,468,319 774,227 1,212,769
Series B preferred stock 4,146,066 4,080,249 4,146,066 4,080,249
Subsidiary trust preferred
securities 3,125,000 3,125,000 3,125,000 1,273,148
55,636,785 55,303,689 55,652,417 52,522,625
Diluted Earnings Per Share $ 0.78 $ 0.70 $ 1.83 $ 1.67
5. Preferred Securities of Subsidiary Trust
On June 11, 1997, CNF Trust I (the Trust), a Delaware business trust
wholly owned by the Company, issued 2,500,000 of its $2.50 Term Convertible
Securities, Series A (TECONS) to the public for gross proceeds of $125
million. The combined proceeds from the issuance of the TECONS and the
issuance to the Company of the common securities of the Trust were invested
by the Trust in $128.9 million aggregate principal amount of 5% convertible
subordinated debentures due June 1, 2012 (the Debentures) issued by the
Company. The Debentures are the sole assets of the Trust.
Holders of the TECONS are entitled to receive cumulative cash
distributions at an annual rate of $2.50 per TECONS (equivalent to a rate
of 5% per annum of the stated liquidation amount of $50 per TECONS). The
Company has guaranteed, on a subordinated basis, distributions and other
payments due on the TECONS, to the extent the Trust has funds available
therefor and subject to certain other limitations (the Guarantee). The
Guarantee, when taken together with the obligations of the Company under
the Debentures, the Indenture pursuant to which the Debentures were issued,
and the Amended and Restated Declaration of Trust of the Trust (including
its obligations to pay costs, fees, expenses, debts and other obligations
of the Trust (other than with respect to the TECONS and the common
securities of the Trust)), provide a full and unconditional guarantee of
amounts due on the TECONS.
PAGE 9
The Debentures are redeemable for cash, at the option of the Company, in
whole or in part, on or after June 1, 2000, at a price equal to 103.125% of
the principal amount, declining annually to par if redeemed on or after
June 1, 2005, plus accrued and unpaid interest. In certain circumstances
relating to federal income tax matters, the Debentures may be redeemed by
the Company at 100% of the principal plus accrued and unpaid interest. Upon
any redemption of the Debentures, a like aggregate liquidation amount of
TECONS will be redeemed. The TECONS do not have a stated maturity date,
although they are subject to mandatory redemption upon maturity of the
Debentures on June 1, 2012, or upon earlier redemption.
Each TECONS is convertible at any time prior to the close of business on
June 1, 2012, at the option of the holder into shares of the Company's
common stock at a conversion rate of 1.25 shares of the Company's common
stock for each TECONS, subject to adjustment in certain circumstances.
6. Contingencies
In connection with the spin-off of Consolidated Freightways Corporation
(CFC) on December 2, 1996, the Company agreed to indemnify certain states,
insurance companies and sureties against the failure of CFC to pay certain
worker's compensation, tax and public liability claims that were pending as
of September 30, 1996. In some cases, these indemnities are supported by
letters of credit under which the Company is liable to the issuing bank and
by bonds issued by surety companies. In order to secure CFC's obligation
to reimburse and indemnify the Company against liability with respect to
these claims, CFC has provided the Company with approximately $13.5 million
of letters of credit and $22.0 million of real property collateral.
The Company has entered into a Transition Services Agreement to provide
CFC with certain information systems, data processing and other
administrative services and administers CFC's retirement and benefits
plans. The agreement expires on December 2, 1999, although CFC may
terminate any or all services with six months notice. The Company also may
terminate all services other than the telecommunications and data
processing services at any time with six months notice. Services performed
by the Company under the agreement are paid by CFC on an arm's-length
negotiated basis.
The Internal Revenue Service (the "IRS") has proposed adjustments that
would require Emery Worldwide pay substantial additional aviation excise
taxes for the period from January 1, 1990 through September 30, 1995. The
Company has filed protests contesting these proposed adjustments and is
engaged in discussions with the administrative conference division (Appeals
Office) of the IRS.
The Company believes that there is legal authority to support the manner
in which it has calculated and paid the aviation excise taxes and,
accordingly, the Company intends to continue to vigorously challenge the
proposed adjustments. Nevertheless, the Company is unable to predict the
ultimate outcome of this matter. As a result, there can be no assurance
that the Company will not have to pay a substantial amount of additional
aviation excise taxes for the 1990 through 1995 tax period. In addition,
it is possible that the IRS may seek to increase the amount of the aviation
excise tax payable by Emery Worldwide for periods subsequent to September
30, 1995. As a result, there can be no assurance that this matter will not
have a material adverse effect on the Company.
PAGE 10
The IRS has also proposed a substantial adjustment for tax years 1987
through 1990 based on the IRS' position that certain aircraft maintenance
costs should have been capitalized rather than expensed for federal income
tax purposes. In addition, the Company believes it likely that the IRS will
propose an additional adjustment, based on the same IRS position with
respect to aircraft maintenance costs, for subsequent tax years. The
Company believes that its practice of expensing these types of maintenance
costs is consistent with industry practice. However, if this issue is
determined adversely to the Company, there can be no assurance that the
Company will not have to pay substantial additional tax. The Company is
unable to predict the ultimate outcome of this matter and intends to
vigorously contest the proposed adjustment. There can be no assurance,
however, that this matter will not have a material adverse effect on the
Company.
The Company has received notices from the Environmental Protection
Agency and others that it has been identified as a potentially responsible
party (PRP) under the Comprehensive Environmental Response Compensation and
Liability Act (CERCLA) or other Federal and state environmental statutes at
several hazardous waste sites. Under CERCLA, PRPs are jointly and
severally liable for all site remediation and expenses. After
investigating the Company's involvement at such sites, based upon cost
studies performed by independent third parties, the Company believes its
obligations with respect to such sites would not have a material adverse
effect on the Company's financial position or results of operations.
In addition to the matters discussed above, the Company and its
subsidiaries are defendants in various lawsuits incidental to their
businesses. It is the opinion of management that the ultimate outcome of
these actions will not have a material impact on the Company's financial
position or results of operations.
PART I. FINANCIAL INFORMATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Total Company revenues for the third quarter and first nine months of
1998 were at record levels and up 13.8% and 16.3% over the respective
periods last year. Despite signs of a slowing economy in 1998, revenue
increases were posted by Con-Way Transportation Services (Con-Way) and
Menlo Logistics (Menlo). Operations under the Priority Mail contract with
the U.S. Postal Service also contributed to higher revenues. Partially
offsetting these increases was lower revenue at Emery Worldwide (Emery).
Operating income, also a record for the third quarter and first nine
months of 1998, increased 8.8% and 9.4%, respectively, over the comparable
periods in 1997. The Company's higher operating income in the third
quarter of 1998 was primarily the result of higher operating income at Con-
Way and Menlo and operating profit from Priority Mail operations offset by
lower operating income from Emery. In the first nine months of 1998, higher
operating income from Con-Way and Menlo more than offset lower operating
income from Emery and year-to-date operating losses incurred during
completion of the start-up phase of the Priority Mail contract.
Effective January 1, 1998, the Company adopted AICPA SOP 98-1
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal-Use". For the third quarter and first nine months of 1998, the
Company capitalized $8.1 million and $24.0 million, respectively, of
internally developed internal-use software. Internally developed software
costs, as well as costs of externally purchased software, are amortized
over 3 to 5 years. In prior years, purchased software was capitalized and
the costs of internally developed software were recorded as operating
expenses. In the third quarter and first nine months of 1998, the Company
expensed approximately $6 million and $13 million, respectively, for the
costs of replacing or modifying certain information systems to address year
2000 issues.
PAGE 11
Net income available to common shareholders in the 1998 third quarter
increased 11.3% compared to last year's third quarter due primarily to
higher total operating income and a decrease in the effective tax rate from
45.5% in 1997 to 44.5% in 1998. For the first nine months of 1998, net
income available to common shareholders increased 14.5% due primarily to
higher total operating income, a lower effective tax rate, and lower
interest expense on short-term borrowings. Compared to the nine-month
period last year, lower interest expense for the first nine months of 1998
was partially offset by dividend requirements on preferred securities of a
subsidiary trust issued in June 1997. Compared to the same periods last
year, the lower effective tax rate in the third quarter and first nine
months of 1998 was due primarily to lower estimated non-deductible
expenses.
Con-Way Transportation Services
Third-quarter revenues for Con-Way Transportation Services (Con-Way)
were 13.0% higher than the third quarter of last year and nine-month
revenues were 15.5% higher than the first nine months of last year. Record
revenues for both the quarter and year-to-date periods were primarily due
to tonnage growth and higher yields. Tonnage for the regional carriers for
the third quarter and first nine months of 1998 increased 5.2% and 7.3%,
respectively, when compared to the same periods in 1997. Third quarter and
year-to-date revenue per hundredweight in 1998 increased 9.7% and 9.5%,
respectively, over the comparable periods last year. The higher tonnage
and improved pricing was primarily attributable to increased demand for Con-
Way's core regional carrier services as well as inter-regional joint
services. New inter-regional joint service between Con-Way's western and
central carriers contributed to the 1998 third-quarter operating results,
while new joint service between Con-Way's western and southern carriers
benefited the entire first nine months of 1998. A portion of the tonnage
increase in the first nine months of 1998 was attributable to shippers who
redirected freight to Con-Way from unionized motor carriers due to concerns
with uncertainty over the National Master Freight Agreement, a labor
agreement applicable to several unionized carriers, that was ultimately
signed in February 1998.
Con-Way's operating income for the third quarter and first nine months
of 1998 increased 23.1% and 41.4%, respectively, over the same periods last
year. Improved operating results for both the quarter and year-to-date
periods were primarily due to higher revenues, improved freight system
utilization, expanded inter-regional joint services, and lower fuel costs.
The third quarter and first nine months of last year benefited from a small
amount of incremental income attributed to the two-week United Parcel
Service (UPS) strike in August 1997.
Emery Worldwide
Revenues for Emery Worldwide (Emery) in the third quarter and first
nine months of 1998 decreased 7.3% and 1.4%, respectively, when compared to
the same periods last year. International revenues in the third quarter of
1998 were down 4.0% compared to the third quarter last year and nine-month
international revenues were essentially flat compared to the same period in
1997. North American third-quarter and year-to-date revenues in 1998 were
down 9.7% and 2.8%, respectively.
PAGE 12
International revenues in the third quarter and first nine months of
1998 were adversely impacted by lower revenue in Asia due to the economic
crisis in that region. Total international tonnage in the third quarter of
1998 decreased 3.6% from the same period last year. Total international
tonnage in the first nine months of 1998 increased 2.5% over the first nine
months of 1997. With business in Asia providing higher-than-average yields,
lower tonnage in this region contributed disproportionately to lower total
international revenues in both the third quarter and first nine months of
1998 when compared to the respective periods last year.
Lower North American revenue in the third quarter and first nine
months of 1998 was partially due to incremental revenue attributed to the
two-week UPS strike in August 1997, which benefited both the third quarter
and first nine months of last year. North American tonnage declines of
13.8% in the third quarter of 1998 and 6.8% in the first nine months of
1998 were also in part due to strikes in the automotive industry, slow-
downs in the automotive and technology industries, general softening of the
domestic economy, and implementation of Emery's yield management program
designed to reprice or eliminate certain low margin business.
Emery's operating income for the third quarter and first nine months
of 1998 decreased 40.4% and 33.2% from the respective periods of 1997.
Emery's operating income in the third quarter and first nine months of last
year include the benefit of incremental income attributed to the UPS strike
in August 1997. Lower operating income in the third quarter of 1998 was
due primarily to lower revenue combined with costs of maintaining air fleet
capacity, handling operations, and information technology. Maintaining
this cost structure despite lower revenues in the third quarter of 1998
reflects management's initiative to improve the quality of service both in
the 1998 third quarter and through the 1998 fourth quarter seasonal peak.
Nine-month operating income in 1998 was also adversely affected by lower
income in the first quarter of 1998 due to a sudden and larger-than-
expected decline in revenues.
Emery's management strategies include efforts that are intended, in
the long-term, to improve operating margins by increasing the proportion of
business requiring premium levels of service, which generally generates
higher operating margins. If slower future economic growth results in
lower airfreight revenues, management intends to reduce costs
commensurately but will also seek to regulate such cost reductions in an
effort to ensure premium service.
Other Operations
The Other segment is comprised of Menlo Logistics (Menlo), operations
under the Priority Mail contract with the U.S. Postal Service, Road
Systems, and VantageParts. For the third quarter and first nine months of
1998, revenues from the Other segment increased 106.2% and 98.9%,
respectively, over the same periods last year. Higher revenues for both
the third quarter and first nine months of 1998 were due primarily to
Priority Mail revenues and increases at Menlo. Operating income increased
$12.3 million from $4.5 million in the 1997 third quarter to $16.8 million
in the third quarter of 1998 due primarily to Priority Mail quarterly
operating income and higher quarterly operating income at Menlo. For the
first nine months of 1998, operating income from the Other segment declined
9.3% from the same period last year due primarily to the Priority Mail
operation's year-to-date operating loss partially offset by higher
operating income at Menlo.
PAGE 13
Menlo's revenues for the third quarter and first nine months of 1998
increased 23.9% and 30.4%, respectively, over the comparable periods in
1997. New business with several large customers positively affected
revenues in the 1998 third quarter and, to a lesser extent, the first nine
months of 1998. Operating income for the third quarter and first nine
months of 1998 increased 17.0% and 15.2%, respectively, over the same
periods of last year due primarily to higher revenues.
Priority Mail revenues in the third quarter and first nine months of
1998 were $110.9 million and $241.4 million, respectively. Third quarter
operating income in 1998 was $10.5 million and the year-to-date operating
loss was $5.0 million. Operations under the Priority Mail contract, which
was signed in April 1997, were minimal during the third quarter and first
nine months of last year. The third quarter of 1998 was the first quarter
in which the full system of 10 Priority Mail Processing Centers was
complete and operational. Operating losses from Priority Mail operations
for the nine months ended September 30, 1998 reflected losses during the
completion of the contract's start-up phases (primarily during the first
half of the year), which more than offset operating profit under the
Priority Mail contract for the three months ended September 30, 1998.
LIQUIDITY AND CAPITAL RESOURCES
In the first nine months of 1998, the Company's cash and cash
equivalents increased $10.4 million from $97.6 million at December 31, 1997
to $108.0 million at September 30, 1998. Cash flow from operations of
$223.7 million in the first nine months of 1998 provided the primary
funding for $199.4 million used for capital expenditures and $25.5 million
of dividend payments.
Cash flows from operating activities in the first three quarters of
1998 were $20.0 million lower than the first three quarters of 1997,
primarily due to asset and liability changes, which used $7.6 million in
the first nine months of 1998 but provided $47.9 million in the same period
of 1997. Net income and adjustments to income, which were $35.5 million
higher in the first nine months of 1998 compared to the first nine months
of 1997, partially offset the greater cash requirements related to changes
in assets and liabilities. Adjustments to income include depreciation,
amortization, deferred taxes, and gains from property disposals.
Capital expenditures for the first nine months of 1998 were $63.3
million higher than the same period last year due primarily to expenditures
of $40.1 million related to the Priority Mail contract. Proceeds from
sales of certain equipment and idle properties generated an additional $9.6
million of cash in the first nine months of 1998 compared to the first nine
months of 1997.
In the first nine months of 1998, proceeds from the exercise of stock
options decreased $27.9 million from the same period last year and common
and preferred stock dividend payments of $25.5 million were essentially the
same as the first nine months of last year.
As was the case at December 31, 1997, there were no short-term
borrowings outstanding at September 30, 1998. In the first nine months of
last year, a $155.0 million net payment of short-term borrowings was
largely facilitated by $121.4 million in net proceeds from the issuance of
preferred stock of a subsidiary trust in June 1997. Other net debt
repayments used $5.4 million in the first nine months of 1998 compared to
$2.0 million in the same period last year.
PAGE 14
The Company's ratio of total debt to capital decreased to 35.0% at
September 30, 1998 from 37.9% at December 31, 1997 due primarily to higher
shareholders' equity from net income.
At September 30, 1998, the Company had available for borrowings $276.5
million under its $350 million unsecured credit facility and another $95.0
million under uncommitted lines of credit.
The $350 million facility is also available for issuance of letters of
credit. Under that facility, outstanding letters of credit totaled $73.5
million at September 30, 1998. Under several other unsecured facilities,
$55.1 million of letters of credit were outstanding at that date.
The Company filed a shelf registration statement with the Securities
and Exchange Commission in June 1998 that covers $250 million of debt and
equity securities for future issuance with terms to be decided at the time
of and if issued.
CYCLICALITY AND SEASONALITY
The Company operates in industries that are affected directly by
general economic conditions and seasonal fluctuations, both of which affect
demand for transportation services. In the trucking and air freight
industries, the months of September and October of each year usually have
the highest business levels while the months of January and February of
each year usually have the lowest business levels. Operations under the
Priority Mail contract are expected to peak in December due primarily to
higher shipping demand related to the holiday season.
ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133 (SFAS 133), "Accounting
for Derivative Instruments and Hedging Activities". SFAS 133 establishes
accounting and reporting standards requiring that every derivative
instrument be recorded in the balance sheet as either an asset or liability
measured at its fair value and that changes in fair value be recognized
currently in earnings unless specific hedge accounting criteria are met.
Qualifying hedges allow a derivative's gains and losses to offset related
results on the hedged item in the income statement. SFAS 133 is effective
for fiscal years beginning after June 15, 1999. Management is assessing
the impact of adopting SFAS 133 on the Company's financial statements and
has not determined the timing of adoption.
YEAR 2000
Like many other companies, an issue affecting the Company is the
inability of many computer systems and software to process the year 2000
(Y2K or Year 2000). To ensure that the Company's systems are Year 2000
compliant, a team of Information Technology professionals began preparing
for the Y2K issue in 1996. In 1997, the Company formed a Steering
Committee comprised of senior executives to address compliance issues. The
Y2K team developed, and the Steering Committee approved, a Company-wide
initiative to address issues associated with the Year 2000. Company
management has designated the Y2K project as the highest priority of the
Company's Information Technology Department.
The Company's Y2K compliance efforts are focused on business-critical
items. Systems and software are considered "business-critical" if a failure
would either have a material adverse impact on the Company's business,
financial condition or results of operations or involve a safety exposure
to employees or customers.
PAGE 15
State of Readiness
The Company has identified distinct categories for its Y2K compliance
efforts: (1) information technology ("IT") systems, (2) non-IT systems, and
(3) IT and non-IT systems of third parties with which the Company has major
relationships. The Company intends to fix or replace non-compliant
software and systems through a process that involves taking inventory of
its systems, assessing risks and impact, renovating non-compliant systems
through remediation or replacement, and validating compliance through
testing. The Company intends to commit the resources necessary to bring
the project to scheduled completion.
IT Systems
IT systems include mainframes, mid-range computers and servers,
networks and workstations, related operating systems and application
software. The Company has inventoried and assessed all business-
critical IT systems. Renovation efforts are in progress or are
substantially complete, depending on the system or software.
Mainframe computers have been fully renovated and certain peripheral
mainframe hardware is approximately 80% renovated. Mainframe
operating systems and mainframe applications software are
approximately 70% and 25% renovated, respectively. Mid-range
computers and servers are estimated to be 30% renovated while
approximately 10% of related operating systems and application
software programs have been renovated. Network hardware (excluding
servers) and computer workstations are approximately 50% renovated
while an estimated 30% of the related operating systems and
application software programs have been renovated. Renovation of all
business-critical IT systems is scheduled to be substantially complete
by the end of the first quarter of 1999. Validation, which is
currently in process for many systems and software applications, is
scheduled for completion by the end of the third quarter of 1999.
Non-IT Systems
Non-IT systems include operating equipment, security systems, and
other equipment that may contain microcontrollers with embedded
technology. Certain IT systems may also include embedded technology.
The Company has contacted all business-critical operating and support
facilities to identify the extent of its embedded technology and has
received responses from approximately 70% of those surveyed locations.
The Company is assessing these results and, when embedded technology
is determined to exist, the Company is surveying the vendor or
manufacturer of the embedded technology or the affected equipment or
system to identify risks related to the Year 2000. Approximately 30%
of the embedded technology the Company is aware of has been confirmed
as Y2K compliant. The Company's remaining systems are being assessed
and, if necessary, will be replaced if determined to be non-compliant.
These systems are expected to be Y2K compliant by the end of the first
quarter of 1999 and to be validated by the end of the third quarter of
1999.
Third Party Systems
In addition to its own IT and non-IT systems, the Company is also
reliant upon system capabilities of third parties (including, among
others, customers, vendors, domestic and international government
agencies, and U.S. and international airports). The Company believes
these third party risks are inherent in the industry and not specific
to the Company.
PAGE 16
The Company has initiated communications with third parties with whom
the Company has material business relationships to determine the
extent to which the Company's systems are vulnerable to those third
parties' failure to make necessary changes related to Y2K issues. The
intent of these inquiries through questionnaires and interviews is to
ascertain the level of readiness of the identified third parties.
Essentially all of the Company's critical vendors have been contacted
and approximately 65% have responded to the surveys. By the end of
1998, the Company expects to have received responses from
substantially all of its critical vendors. If a vendor is determined
to be non-compliant, the Company is working to identify a Y2K-
compliant vendor as a replacement. In an effort to mitigate risks
related to the system capabilities of certain customers, the Company
plans to provide Y2K-compliant software upgrades to its tracking and
tracing software and other proprietary software utilized by its
customers.
The International Air Transport Association and the Air Transport
Association of America are involved in global and industry-wide
studies aimed at assessing the Y2K compliance status of airports and
other U.S. and international government agencies. As a member of these
associations, Emery Worldwide expects to receive and to analyze the
results of these studies.
Costs to Address Y2K Compliance
Since 1996, the Company has expensed approximately $16 million on Y2K
compliance and expects that approximately $18 million of additional Y2K
compliance costs will be expensed through December 31, 1999. All Y2K costs
have been and are expected to be funded from operations. In the third
quarter and first nine months of 1998, the Company capitalized $11.1
million and $35.4 million, respectively, of purchased and internally
developed software costs. A portion of the capitalized software costs was
for new financial and administrative systems that are Y2K compliant. These
systems have replaced or are expected to replace certain non-compliant
systems.
Risks
While the Company believes its efforts to address the Year 2000 issue
will be successful in avoiding any material adverse effect on the Company's
operations or financial condition, it recognizes that failing to resolve
Year 2000 issues on a timely basis would, in a most reasonably likely worst
case scenario, significantly limit its ability to provide its services for
a period of time, especially if such failure is coupled with a third party
failure. As a result, there can be no assurance that this matter will not
have a material adverse effect on the Company.
Contingency Plans
The Company is establishing a Y2K contingency plan to evaluate
business disruption scenarios, coordinate the establishment of Y2K
contingency plans, and identify and implement preemptive strategies.
Detailed contingency plans for critical business processes are scheduled to
be formulated by the end of the second quarter of 1999 and, if necessary,
would undergo modification should there be any changes in the status of the
Company's Y2K renovation efforts.
PAGE 17
FORWARD-LOOKING STATEMENTS
Certain statements included or incorporated by reference herein
constitute "forward-looking statements" within the meaning of Section 21E
of the Securities Exchange Act of 1934, as amended, and are subject to a
number of risks and uncertainties. Any such forward-looking statements
contained or incorporated by reference herein should not be relied upon as
predictions of future events. Certain such forward-looking statements can
be identified by the use of forward-looking terminology such as "believes,"
"expects," "may," "will," "should," "seeks," "approximately," "intends,"
"plans," "estimates" or "anticipates" or the negative thereof or other
variations thereof or comparable terminology, or by discussions of
strategy, plans or intentions. Such forward-looking statements are
necessarily dependent on assumptions, data or methods that may be incorrect
or imprecise and they may be incapable of being realized. In that regard,
the following factors, among others and in addition to the matters
discussed below and elsewhere in this document and in documents
incorporated or deemed to be incorporated by reference herein, could cause
actual results and other matters to differ materially from those in such
forward-looking statements: changes in general business and economic
conditions; increasing domestic and international competition and pricing
pressure; changes in fuel prices; uncertainty regarding the Company's
Priority Mail contract with the United States Postal Service; labor
matters, including changes in labor costs, renegotiations of labor
contracts and the risk of work stoppages or strikes; changes in
governmental regulation; environmental and tax matters, including the
aviation excise tax and aircraft maintenance tax matters discussed herein;
and matters relating to the spin-off of CFC. In that regard, the Company
is or may be subject to substantial liabilities with respect to certain
matters relating to CFC's business and operations, including, without
limitation, guarantees of certain indebtedness of CFC and liabilities for
employment-related, tax and environmental matters. Although CFC is, in
general, either the primary or secondary obligor or jointly and severally
liable with the Company with respect to these matters, a failure to pay or
other default by CFC with respect to the obligations as to which the
Company is or may be, or may be perceived to be, liable, whether because of
CFC's bankruptcy or insolvency or otherwise, could lead to substantial
claims against the Company. As a result of the foregoing, no assurance can
be given as to future results of operations or financial condition.
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
As previously reported, the Company has been designated a potentially
responsible party (PRP) by the EPA with respect to the disposal of
hazardous substances at various sites. The Company expects its share of
the clean-up cost will not have a material adverse effect on the Company's
financial position or results of operations. The Company expects the costs
of complying with existing and future federal, state and local
environmental regulations to continue to increase. On the other hand, it
does not anticipate that such cost increases will have a materially adverse
effect on the Company. Certain legal matters are discussed in Note 6 in
the Notes to Consolidated Financial Statements in Part I of this form.
PAGE 18
ITEM 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27 Financial Data Schedule
99(a) Computation of Ratios of Earnings to Fixed
Charges -- the ratios of earnings to fixed charges were
3.6x and 3.3x for the nine months ended September 30,
1998 and 1997, respectively.
(b) Computation of Ratios of Earnings to Combined Fixed
Charges and Preferred Stock Dividends -- the ratios of
earnings to combined fixed charges and preferred stock
dividends were 3.4x and 3.2x for the nine months ended
September 30, 1998 and 1997, respectively.
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter
ended September 30, 1998.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company (Registrant) has duly caused this Form
10-Q Quarterly Report to be signed on its behalf by the undersigned,
thereunto duly authorized.
CNF Transportation Inc.
(Registrant)
November 12, 1998 /s/Chutta Ratnathicam
Chutta Ratnathicam
Senior Vice President and
Chief Financial Officer
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 108,015
<SECURITIES> 0
<RECEIVABLES> 789,034
<ALLOWANCES> (20,743)
<INVENTORY> 40,266
<CURRENT-ASSETS> 1,090,670
<PP&E> 1,667,124
<DEPRECIATION> (708,106)
<TOTAL-ASSETS> 2,624,269
<CURRENT-LIABILITIES> 898,050
<BONDS> 467,658
125,000
130,274
<COMMON> 343,514
<OTHER-SE> 278,917
<TOTAL-LIABILITY-AND-EQUITY> 2,624,269
<SALES> 0
<TOTAL-REVENUES> 3,572,030
<CGS> 0
<TOTAL-COSTS> 3,354,179
<OTHER-EXPENSES> 30,014
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 25,135
<INCOME-PRETAX> 187,837
<INCOME-TAX> 83,588
<INCOME-CONTINUING> 104,249
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 98,171
<EPS-PRIMARY> 2.06
<EPS-DILUTED> 1.83
</TABLE>
Exhibit 99(a)
CNF TRANSPORTATION INC.
COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES
(Dollars in thousands)
Nine Months Ended
September 30
1998 1997
Fixed Charges:
Interest Expense $ 25,135 $ 29,882
Capitalized Interest 1,585 1,786
Dividend Requirement on
Series B Preferred Stock [1] 11,212 11,776
Interest Component of
Rental Expense [2] 28,977 24,755
$ 66,909 $ 68,199
Earnings:
Income before Taxes $ 187,837 $ 167,942
Fixed Charges 66,909 68,199
Capitalized Interest (1,585) (1,786)
Preferred Dividend
Requirements [3] (11,212) (11,776)
$ 241,949 $ 222,579
Ratio of Earnings to Fixed Charges: 3.6 x 3.3 x
[1] Dividends on shares of the Series B cumulative convertible preferred
stock are used to pay debt service on notes issued by the Company's
Thrift and Stock Plan.
[2] Estimate of the interest portion of lease payments. The nine month
period ended September 30, 1997 was restated for a change in the
estimation method.
[3] Preferred stock dividend requirements included in fixed charges but not
deducted in the determination of Income before Taxes.
Exhibit 99(b)
Exhibit 99(b)
CNF TRANSPORTATION INC.
COMPUTATION OF RATIOS OF EARNINGS TO COMBINED FIXED CHARGES
AND PREFERRED STOCK DIVIDENDS
(Dollars in thousands)
Nine Months Ended
September 30
1998 1997
Combined Fixed Charges and
Preferred Stock Dividends:
Interest Expense $ 25,135 $ 29,882
Capitalized Interest 1,585 1,786
Dividend Requirement on
Series B Preferred
Stock [1] 11,212 11,776
Dividend Requirement on
Preferred Securities of
Subsidiary Trust 4,689 1,908
Interest Component of
Rental Expense [2] 28,977 24,755
$ 71,598 $ 70,107
Earnings:
Income before Taxes $ 187,837 $ 167,942
Fixed Charges 71,598 70,107
Capitalized Interest (1,585) (1,786)
Preferred Dividend
Requirements [3] (11,212) (11,776)
$ 246,638 $ 224,487
Ratio of Earnings to Combined
Fixed Charges and Preferred
Stock Dividends: 3.4 x 3.2 x
[1] Dividends on shares of the Series B cumulative convertible preferred
stock are used to pay debt service on notes issued by the Company's
Thrift and Stock Plan.
[2] Estimate of the interest portion of lease payments. The nine month
period ended September 30, 1997 was restated for a change in the
estimation method.
[3] Preferred stock dividend requirements included in fixed charges but not
deducted in the determination of Income before Taxes.
