Item 1. Business -------- GENERAL -------
Pitney Bowes Credit Corporation (the Company or PBCC) operates primarily in the United States and is a wholly-owned subsidiary of Pitney Bowes Inc. (PBI or Pitney Bowes). The Company is principally engaged in the business of providing lease financing for PBI products as well as other financial services in the commercial and industrial, and mortgage servicing markets.
The Internal Financing Division of PBCC provides marketing support to PBI and its discontinued subsidiaries Dictaphone Corporation (Dictaphone) and Monarch Marking Systems, Inc. (Monarch), both of which were sold in 1995. Equipment leased or financed for these Internal Division programs include mailing, paper handling and shipping equipment, scales, copiers, facsimile units, voice processing systems and retail price marking and identification equipment. The transaction size for this equipment generally ranges from $500 to $500,000, although historically most transactions have occurred in the $1,000 to $10,000 range, with lease terms generally from 36 to 60 months. As part of the Company's focus on new business initiatives, the Company launched in August, 1996, a revolving credit product called Purchase Power (SM). This product allows Pitney Bowes customers to finance postage as well as mailing, copier and facsimile supplies. The Company earns income on balances from customers who elect to use this credit facility.
PBCC's External Financing Division (renamed Pitney Bowes Capital Services in 1997) operates in the commercial and industrial market by offering financial services to its customers for products not manufactured or sold by PBI or its subsidiaries. Products financed through the External Financing Division large-ticket financing programs include both commercial and non-commercial aircraft, over-the-road trucks and trailers, railcars and locomotives, and high-technology equipment such as data processing and communications equipment. Transaction sizes (other than aircraft leases) range from $50,000 to several million dollars, with lease terms generally from 36 to 180 months. Aircraft transaction sizes range from $1 million to $27 million for non-commercial aircraft and up to $43 million for commercial aircraft. Lease terms are generally from three to 12 years for non-commercial aircraft and from 12 to 25 years for commercial aircraft. The Company has also participated in ten commercial aircraft leveraged lease transactions with a total investment of $285.1 million at December 31, 1996. The Company's External Financing Division also participates, on a select basis, in certain other types of financial transactions including: sales of lease transactions, senior secured loans in connection with acquisition, leveraged buyout and recapitalization financings, and certain project financings. Sales of lease transactions are part of the Company's ongoing strategy to shift the foundation of the External Financing business from asset-based to service-based revenues.
PBCC's External Financing Division is also responsible for managing Pitney Bowes Real Estate Financing Corporation (PREFCO), a wholly-owned subsidiary of PBCC providing lease financing for commercial real estate properties. Both PBCC and Pitney Bowes have provided capital for PREFCO's investments.
Effective May 31, 1996, the Company sold its Custom Vendor Finance (CVF) operations which had provided funding source financing programs for non-affiliated vendors selling equipment with a cost generally in the range of $5,000 to $250,000. This sale included twelve U.S. vendor finance programs with a portfolio of secured loans valued at $126 million.
Colonial Pacific Leasing Corporation (CPLC), a wholly-owned subsidiary of PBCC, located in Tualatin, Oregon operates in the small-ticket external market. CPLC provides lease financing services to small- and medium-sized businesses throughout the United States, marketing exclusively through a nationwide network of brokers and independent lessors. Transaction sizes range from $2,000 to $250,000, with lease terms generally from 24 to 60 months.
CPLC, CVF, Dictaphone and Monarch are reported as "External small- ticket programs" in this Annual Report for 1996. Prior to January 1, 1996 Dictaphone and Monarch had been reported as part of the Company's Internal small-ticket financing programs.
Atlantic Mortgage & Investment Corporation (AMIC), a wholly-owned subsidiary of PBCC, located in Jacksonville, Florida, specializes in servicing residential first mortgages for a fee. AMIC does not originate, or generally hold or assume the credit risk on mortgages it services. In return for a servicing fee, AMIC provides billing services and collects principal, interest and tax and insurance escrow payments for mortgage investors such as Federal National Mortgage Association, Federal Home Loan Mortgage Corporation, Government National Mortgage Association and private investors.
Financial Structures Limited (FSL), a wholly-owned and independent subsidiary of PBCC, was incorporated in Bermuda in June, 1995. FSL provides residual value insurance to unaffiliated third parties, including manufacturers, financial institutions and leasing companies involved in financing transactions. FSL plans on mitigating its residual risk by diversifying its portfolio by both asset type and maturity date.
Substantially all lease financing is done through full payout leases or security agreements whereby PBCC recovers its costs plus a return on investment over the initial, noncancelable term of the contract. The Company has also entered into a limited amount of syndicated, leveraged and operating lease structures.
The Company's gross finance assets (contracts receivable plus estimated residual values) outstanding for the Internal and External financing programs at December 31, 1992 through 1996 are presented in Item 6, Selected Financial Data. Total Company gross finance assets at December 31, 1996 were $5.5 billion of which approximately 31 percent were related to mailing, paper handling and shipping products, 14 percent to commercial aircraft, 11 percent to railcars, six percent to copier and office equipment, four percent to both data processing equipment and manufacturing products and three percent to over-the-road trucks and trailers. In 1996, total gross finance contracts acquired excluding assets held for sale amounted to $1.9 billion compared to $2.2 billion in 1995. External large-ticket programs accounted for 17 percent of gross finance contracts acquired in 1996 compared to 26 percent in 1995.
As of December 31, 1996, PBCC had approximately 648,000 active accounts compared with 606,000 active accounts at December 31, 1995.
At December 31, 1996, PBCC's largest customer accounted for $158.3 million, or 3.3 percent of gross finance receivables, and the Company's ten largest customers accounted for $795.3 million in gross finance receivables, or 16.5 percent of the receivable portfolio.
CREDIT EXPERIENCE -----------------
The percent of receivables over 30 days delinquent was 2.9 percent at December 31, 1996 compared to 2.3 percent at both December 31, 1995 and 1994, respectively. Delinquencies increased as a result of a higher mix of small-ticket leases which historically have had higher delinquency rates, as well as an increase in delinquency in the small-ticket internal and external portfolios versus the prior year-end.
CREDIT POLICIES ---------------
PBCC's management and Board of Directors establish credit approval limits at regional, divisional, subsidiary and corporate levels based on the credit quality of the customer and the type of equipment financed. The Company and PBI have established an Automatic Approval Program (AAP) for certain products within the Internal Financing Division. The AAP dictates the criteria under which PBCC will accept a customer without performing the Company's usual credit investigation. The AAP considers criteria such as maximum equipment cost, a customer's time in business and current payment experience with PBCC.
PBCC bases credit decisions primarily on a customer's financial strength. However, with the Company's External Financing Division programs, collateral values may also be considered.
LOSS EXPERIENCE ---------------
PBCC has charged against the allowance for credit losses $69.2 million, $52.5 million and $59.2 million in 1996, 1995 and 1994, respectively. The increase in write-offs in 1996 was primarily due to higher write-offs related to assets originated by the Company's German affiliate, which totaled $20.9 million in 1996 compared to $14.2 million in 1995 and from higher write-offs at CPLC of $23.4 million in 1996 compared to $13.0 million in 1995, partially offset by slightly lower write-offs in the Internal Financing Division. Excluding the losses related to assets purchased from the Company's German affiliate in prior years, losses as a percentage of average net lease receivables were .94 percent for 1996 and .81 percent for both 1995 and 1994, respectively. For further information see Note 5 and Note 7 to the Company's consolidated financial statements.
RELATIONSHIP WITH PITNEY BOWES INC. -----------------------------------
PBCC is PBI's domestic finance subsidiary and provides the largest financing support of PBI's business equipment, business services and commercial and industrial segments. Approximately 13 percent of PBI's consolidated revenue from continuing operations in 1996, 1995 and 1994 resulted from continuing operations' equipment sales made to PBCC for lease to third parties.
Business relationships between PBCC and PBI are defined by several agreements including an Operating Agreement, Finance Agreement and Tax Sharing Agreement.
Operating Agreement: An Operating Agreement with PBI was initiated on March 3, 1977 and was subsequently amended. This agreement was terminated in its entirety and superseded with the successor agreement on November 6, 1996 as the First Amended and Restated Operating Agreement (Operating Agreement). The Operating Agreement can be modified or cancelled on a prospective basis by either party upon 90 days prior written notice. PBI and PBCC have entered into detailed written operating procedures (Operating Procedures) which govern among other things: the terms and prices of equipment purchases by PBCC for lease to third parties; computation and payment of fees for referrals and services provided by PBI sales personnel; the AAP for PBI equipment; buyback allowances; and the handling of contract terminations, cancellations, trade-ups and trade-ins.
In connection with the sales of finance assets of the Internal small-ticket financing programs, PBI agreed not to cancel or modify, in any material respect, its obligations under the Operating Agreement concerning the sold receivables, without the prior written consent of PBCC and the transferee.
Pursuant to the Operating Procedures, the purchase of equipment by the Company is contingent upon a lessee entering into a full payout lease with the Company and delivery to and acceptance of the equipment by the lessee. Service and maintenance of the equipment leased is the responsibility of the lessee and is generally arranged through a separate equipment maintenance agreement between the lessee and PBI.
In connection with the buyback provision of the Operating Procedures, PBCC has the option to request a buyback from PBI for non-copier equipment subject to a lease which is terminated or cancelled, provided the equipment is available for repossession. Following such buyback, PBI is responsible for the repossession and disposition of equipment. The buyback provision sets forth a stipulated amount that is payable by PBI to PBCC for certain terminated leases; such amount is calculated on the basis of a declining percentage, based upon the passage of time, of the original total invoice value to PBCC. The difference between the buyback amount received from PBI and the remaining value of the lease usually results in a loss that is charged against PBCC's allowance for credit losses.
The Pitney Bowes Copier Division does not remanufacture used copier equipment; therefore copier equipment is excluded from the buyback arrangement described above. There is no AAP for copier equipment. All copier equipment lease transactions are subject to the Company's standard credit review investigation.
In 1994, Pitney Bowes announced that it had refined its strategic focus to capitalize on its strengths and competitive position by concentrating its energies and resources on products and services which facilitate the preparation, organization, movement, delivery, tracking, storage and retrieval of documents, packages, letters and other materials, in hard copy and digital form for its customers. As a result, it sold its Monarch and Dictaphone subsidiaries in June 1995 and August 1995, respectively. For the purpose of this Annual Report, Monarch and Dictaphone are included as part of the Internal Financing Division results prior to December 31, 1995 and are classified as part of the External small-ticket financing programs for 1996 and thereafter. In connection with this change in PBI's business focus, Dictaphone paid PBCC $11.2 million in January 1995 to terminate its obligations under the buyback agreement. Under modified operating agreements, PBCC continues to provide uninterrupted financing programs to both Monarch and Dictaphone.
Finance Agreement: Pursuant to the Amended and Restated Finance Agreement (the Finance Agreement) dated June 12, 1995, between PBI and PBCC, PBI has agreed to retain, directly or indirectly, ownership of the majority of the outstanding shares of capital stock of the Company having voting power in the election of directors, to make payments, if necessary, to enable the Company to maintain a ratio of income available for fixed charges as defined to such fixed charges of 1.25 to 1 as of the end of each fiscal quarter, and to provide or cause to be provided funds sufficient to make timely payment of any principal, interest or premium in respect of any of the Company's indebtedness for borrowed money that has the benefit of the Finance Agreement if the Company is unable to make such payment.
Under the terms of the Finance Agreement and the Indenture dated as of November 1, 1995, between the Company and Chemical Bank, as Trustee (the 1995 Indenture), the Finance Agreement may not be amended, in any material respect, or terminated while the Company has any series of debt securities issued under the 1995 Indenture or any series of other debt outstanding that is, by its express terms, entitled to the provisions of the Finance Agreement unless at least two nationally recognized statistical rating agencies that have been rating such series of debt, confirm that their ratings for such series of debt will not be downgraded as a result or the holders of at least a majority of the outstanding principal amount of such series of debt have consented in writing.
Under the Indenture dated as of May 1, 1985 (together with all Supplemental Indentures as noted in Part IV Item 14(a) 3, the Indenture), between PBCC and the trustee (Sun Trust Bank effective December 16, 1996 replacing Bankers Trust Company), as Trustee (the Trustee), PBCC agreed it would not waive compliance with, or amend in any material respect, the Finance Agreement without the consent of the holders of a majority in principal amount of the outstanding securities of each series of debt securities issued under the Indenture. In addition, PBI has entered into a Letter Agreement with the Trustee pursuant to which it agreed, among other things, that it would not default under the Finance Agreement nor terminate the Finance Agreement without the consent of the holders of a majority in principal amount of the outstanding securities issued under the Indenture.
Tax Sharing Agreement: The Company's taxable results are included in the consolidated Federal and certain state income tax returns of Pitney Bowes. Under the Tax Sharing Agreement, dated April 1, 1977, between the Company and Pitney Bowes (the Tax Sharing Agreement), the Company makes payment to Pitney Bowes for its share of consolidated income taxes, or receives cash equal to the benefit of tax losses utilized in consolidated returns in exchange for which it issues non-interest bearing subordinated notes with a maturity one day after all senior debt is repaid. The Tax Sharing Agreement can be cancelled by either PBI or PBCC upon twelve months written notice.
Real Estate Transactions: When the Company entered into real estate lease financing, PBI agreed to make capital contributions up to a maximum of $15.0 million to provide a portion of the financing for such transactions, of which $13.8 million has been received to date. There is no formal agreement in place and PBI is under no obligation to continue to make capital contributions. There have been no capital contributions made since 1993.
PITNEY BOWES INC. -----------------
PBI, a Delaware corporation organized in 1920, is listed on the New York Stock Exchange. Headquartered in Stamford, Connecticut, PBI employs approximately 28,600 people throughout the United States, Europe, Canada, Australia and other countries. PBI operates within three industry segments: business equipment, business services and commercial and industrial financing.
The business equipment segment consists of four products, supplies and service classes: mailing, copying and facsimile systems, and related financing. These products are sold, rented or leased by PBI, while supplies and services are sold. In accordance with postal regulations, postage meters may not be sold in the United States; they are rented to users and therefore are not subject to lease by PBCC. The financial services operations provide global lease financing for PBI's products.
The business services segment consists of facilities management and mortgage servicing. Facilities management services are provided for a variety of business support functions. Mortgage servicing is administered by AMIC.
The commercial and industrial financing segment provides large-ticket financing programs, covering a broad range of products, and other financial services to the commercial and industrial markets in the United States. It also provides small-ticket lease financing services to small and medium-sized businesses throughout the United States.
As of December 31, 1996, PBI and its consolidated subsidiaries had total assets of $8.2 billion and stockholders' equity of $2.2 billion. For the year ended December 31, 1996, PBI's consolidated revenue and income from continuing operations were $3.9 billion and $469.4 million, respectively, compared with $3.6 billion and $407.7 million for 1995.
COMPETITION AND REGULATION --------------------------
The finance business is highly competitive with aggressive rate competition. Leasing companies, commercial finance companies, commercial banks and other financial institutions compete in varying degrees in the several markets in which PBCC does business and range from very large diversified financial institutions to many small, specialized firms. In view of the market fragmentation and absence of any dominant competitors which result from such competition, it is not possible to provide a meaningful description of PBCC's competitive position in its markets.
While financing rates are generally considered by customers to be the principal factor in choosing a financing source, the Company believes there are additional important factors related to a customer's decision, including simplicity of documentation, flexibility and ease of doing business over the duration of the contract. PBCC seeks to distinguish itself from its competition by providing excellent service to its customers. PBCC considers its documentation and systems to be among the best in the industry. The Company has an established communication network in its regional offices to eliminate costly delays and to increase the quality of service offered to customers and vendors.
PBI has historically been a leading supplier of certain products and services in its business segments, particularly postage meters and mailing machines. However, all segments have strong competition from a number of companies. In particular, PBI is facing competition in many countries for new placements from several postage meter and mailing machine suppliers, and its mailing systems products face some competition from products and services offered as alternative means of message communications. Pitney Bowes believes that its long experience and reputation for product quality, and its sales and support service organizations, along with PBCC, are important factors in influencing customer choices with respect to its products and services.
Several states have ceilings on interest rates which may be charged to commercial customers on secured lending transactions. PBCC may be required to charge lower interest rates in certain jurisdictions than it charges elsewhere, or to cease offering secured lending transactions in such states. PBCC does not extend consumer credit as defined in the Federal Consumer Credit Protection Act. Accordingly, PBCC's financing transactions are not subject to that Act.
FUNDING POLICY --------------
PBCC's borrowing strategy is to use a balanced mix of debt maturities, variable- and fixed-rate debt and interest rate swap agreements (interest rate swaps) to control its sensitivity to interest rate volatility. The Company utilizes interest rate swaps when it considers the economic benefits to be favorable. Interest rate swaps have been principally utilized to fix interest rates on commercial paper and/or obtain a lower cost on debt than would otherwise be available absent the swap. The Company may borrow through the sale of commercial paper, under its confirmed bank lines of credit and by private and public offerings of intermediate- or long-term debt securities. The Company may also issue debt securities having maturities ranging from nine months to 30 years through a medium-term note program.
While the Company's funding strategy of balancing short-term and longer-term borrowings and variable- and fixed-rate debt may reduce sensitivity to interest rate changes over the long-term, effective interest costs have been and will continue to be impacted by interest rate changes. The Company periodically adjusts prices on its new leasing and financing transactions to reflect changes in interest rates; however, the impact of these rate changes on revenue is usually less immediate than the impact on borrowing costs.
EMPLOYEE RELATIONS ------------------
At December 31, 1996, 972 people were employed by the Company and its subsidiaries. Employee relations are considered to be highly satisfactory. Management follows the policy of keeping employees informed of its decisions, and encourages and implements suggestions whenever practicable.
Item 2.
Item 2. Properties ----------
All of the Company's office space is occupied under operating leases with original terms ranging from one to eight years. PBCC's executive and administrative offices are located in Norwalk, Connecticut. PBCC has three regional offices located throughout the United States and seven district sales offices located in or near major metropolitan areas. Colonial Pacific Leasing Corporation's executive and administrative offices are located in Tualatin, Oregon. Atlantic Mortgage & Investment Corporation's executive and administrative offices are located in Jacksonville, Florida.
Item 3.
Item 3. Legal proceedings -----------------
From time to time, the Company is a party to lawsuits that arise in the ordinary course of its business. These lawsuits may involve litigation by or against the Company to enforce contractual rights under vendor, insurance or other contracts; lawsuits by or against the Company relating to equipment, service or payment disputes with customers; disputes with employees; or other matters. The Company is currently a defendant in a number of lawsuits, none of which should have, in the opinion of management and legal counsel, a material adverse effect on the Company's financial position or results of operations.
Item 4.
Item 4. Submission of matters to a vote of security holders ---------------------------------------------------
Omitted pursuant to General Instruction J.
Part II
Item 5.
Item 5. Market for the registrant's common equity and related stockholder matters ------------------------------------------------
All of the Company's common stock is owned by Pitney Bowes Inc. Accordingly, there is no public trading market for the Company's common stock. The Board of Directors declared and the Company paid dividends to PBI in amounts totaling $71.2 million in 1996, $62.0 million in 1995 and $42.0 million in 1994. The Company intends to continue to pay dividends to PBI in 1997.
Item 6.
Item 6. Selected financial data -----------------------
Item 7.
Item 7. Management's discussion and analysis of financial condition and results of operations -------------------------------------------------
Events Impacting Comparability - ------------------------------
The Company adopted Statement of Financial Accounting Standards No. 112, "Employers' Accounting for Postemployment Benefits" (FAS 112), as of January 1, 1994. FAS 112 requires that postemployment benefits be recognized on the accrual basis of accounting. The effect of adopting FAS 112 in the first quarter of 1994 was a one- time non-cash, after-tax charge of $2.8 million (net of approximately $1.9 million of income taxes). Additional information with respect to accounting for postemployment benefits is disclosed in Note 18 to the Company's consolidated financial statements.
Accounting Changes - ------------------
The Company adopted Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" (FAS 121), on January 1, 1996. The Company periodically reviews the fair value of long-lived assets, the results of which have had no material affect on the Company's reported results.
The Company also adopted Statement of Financial Accounting Standards No. 122, "Accounting for Mortgage Servicing Rights" (FAS 122), on January 1, 1996. FAS 122 requires that capitalized mortgage servicing rights be assessed periodically for impairment based on the fair value of those rights. Based on the evaluations performed throughout the year, no impairment was recognized in PBCC's mortgage servicing rights portfolio.
In 1996, Statement of Financial Accounting Standards No. 125, "Accounting for Transactions and Servicing of Financial Assets and Extinguishments of Liabilities" (FAS 125) was issued. This statement may impact the method used to sell finance assets on a prospective basis. This statement must be adopted effective January 1, 1997.
Results of Operations - ---------------------
The Company's finance income increased 10.8 percent to $746.0 million in 1996 compared with $673.0 million in 1995, which was up 20.1 percent from 1994. Finance income for Internal small-ticket financing programs increased 2.5 percent to $308.1 million in 1996 compared with $300.7 million in 1995, which was up 12.8 percent from 1994. The small increase in 1996 is primarily due to exclusion of the Dictaphone and Monarch portfolios in the Internal small-ticket segment for 1996, partly offset by higher investment levels for the Mailing and Copier portfolios and higher income from fee-based programs. Finance income for External large-ticket financing programs increased 1.9 percent to $199.7 million in 1996 compared with $195.9 million in 1995, which was up 17.4 percent from 1994. The increase in 1996 compared with 1995 is primarily due to higher income from fee-based programs and the sale of $139 million of finance assets in March, 1996, substantially offset by lower investment levels and lower lease rates on new business. Finance income for External small-ticket financing programs increased 32.9 percent to $185.2 million in 1996 compared with $139.3 million in 1995, which was up 36.8 percent from 1994. The increase in 1996 as compared to 1995 is due to the inclusion of the Dictaphone and Monarch portfolios in the External small-ticket segment for 1996, higher investment levels, higher lease rates on new business and higher income from fee-based programs. Income from fee-based programs include gains from the sale of $270 million and $100 million of External small-ticket finance assets in 1996 and 1995, respectively. The External small-ticket asset sale figures reflect the May, 1996 Custom Vendor Finance (CVF) sale of its operations and portfolio of secured loans (valued at $126 million with an associated pre-tax gain of $3.2 million). Excluding the sale of finance assets and the inclusion of Dictaphone and Monarch, finance income for External small-ticket financing programs would have increased 21.5 percent in 1996 and 29.5 percent in 1995. Revenue generated from mortgage servicing increased 42.7 percent to $53.0 million in 1996 compared with $37.1 million in 1995, which was up 48.4 percent from 1994. The increases for the current and prior year are due to a growing mortgage servicing portfolio and is consistent with the Company's strategy to increase its fee-based programs.
During 1996, the Company sold operating lease assets which generated $26.7 million in revenue compared to $2.7 million in 1995. The cost of such equipment sales was $22.8 million in 1996 and $2.2 million in 1995.
Selling, general and administrative (SG&A) expenses increased 17.2 percent to $175.2 million in 1996 compared with $149.5 million in 1995, which was up 31.8 percent from 1994. SG&A expenses for Internal small-ticket financing programs increased 7.7 percent to $60.4 million in 1996 compared to $56.2 million in 1995, which was 3.9 percent above 1994. The increase over the prior year is principally due to higher startup and personnel costs related to the launch of the Purchase Power (SM) program and to a lesser degree higher sales assistance fees paid to PBI in 1996. SG&A expenses for External large-ticket financing programs increased 20.2 percent to $20.8 million in 1996 compared with $17.3 million in 1995, up 24.9 percent from 1994. The increases in 1996 and 1995 are due to higher personnel related costs and higher utilization of Corporate systems and legal resources and support. SG&A expenses for External small-ticket financing programs increased 20.5 percent to $74.4 million in 1996 compared with $61.7 million in 1995, which was up 74.6 percent from 1994. The increases in 1996 and 1995 are primarily due to portfolio growth, higher marketing fees paid to brokers, impact of the sales of finance assets in both years and the inclusion of the Dictaphone and Monarch portfolios in the External small-ticket segment for 1996. Excluding the sale of finance assets and the inclusion of Dictaphone and Monarch, SG&A for External small-ticket financing programs would have increased 26.6 percent in 1996 and 58.6 percent in 1995. SG&A expenses related to mortgage servicing increased 35.1 percent to $18.9 million in 1996 compared with $14.0 million in 1995, which was up 37.2 percent from 1994 primarily due to a growing mortgage servicing portfolio. SG&A expenses related to the start-up of residual value operations was $.7 million in 1996 and $.3 million in 1995.
Depreciation on operating leases was $15.4 million in 1996 and $13.5 million in 1995 reflecting a slightly higher operating lease average investment balance and adjustments during 1996. Amortization of mortgage servicing rights and acquisition fees was $22.2 million in 1996 compared to $16.1 million in 1995. This increase is principally due to a larger mortgage servicing portfolio in 1996. The amortization of fees incurred in connection with the 1993 majority-owned commercial aircraft partnership was $2.5 million in 1996 and $2.4 million in 1995. Amortization of Financial Structures LTD. (FSL) acquisitions costs was $.4 million in 1996.
The provision for credit losses in 1996 increased 13.6 percent to $66.5 million compared to $58.5 million for 1995, which increased 4.3 percent from 1994. The provision for credit losses for the Internal small-ticket financing programs decreased 9.5 percent to $31.0 million in 1996 compared with a provision of $34.2 million in 1995, which had increased 5.4 percent from 1994. The provision for credit losses for the External small-ticket financing programs increased 32.9 percent to $34.8 million in 1996 compared with $26.2 million in 1995, which increased 18.4 percent from 1994. The increase for External small-ticket financing programs in 1996 is principally due to higher earning asset levels, the impact of finance asset sales in 1996 and 1995 and the inclusion of the Dictaphone and Monarch portfolios in the External small-ticket segment for 1996. Excluding the impact of asset sales and the inclusion of Dictaphone and Monarch, the provision for credit losses for the External small-ticket programs would have increased 22.7 percent in 1996 and 6.3 percent in 1995, respectively. The provision for credit losses for the External large-ticket financing programs was a charge of $.7 million in 1996 compared with a credit of $1.9 million in 1995, reflecting adjustments for management's current evaluation of expected losses.
As disclosed in previous filings, in December 1992, as part of the restructuring of its German affiliate, Adrema Leasing Corporation (Adrema), the Company purchased certain finance receivables and other assets from Adrema. Based on the evaluation of these assets, Pitney Bowes and the Company believe that sufficient reserves for credit losses are in place to provide for currently expected losses. As part of the orderly liquidation of assets from leasing non-Pitney Bowes products in Germany, Adrema continues to bill and collect accounts and repossess and remarket collateral where possible over the remainder of the lease terms.
The Company's allowance for credit losses as a percentage of net lease receivables (net investments before allowance for credit losses plus the uncollected principal balance of receivables sold, exclusive of assets held for sale) was 1.88 percent at December 31, 1996, 2.03 percent at December 31, 1995 and 2.14 percent at December 31, 1994. PBCC charged $69.2 million, $52.5 million and $59.2 million against the allowance for credit losses in 1996, 1995 and 1994, respectively. These write-offs included $20.9 million, $14.2 million and $25.2 million in 1996, 1995 and 1994, respectively, which were related to assets purchased from Adrema.
Interest expense was $201.6 million in 1996 compared with $202.1 million in 1995, a decrease of .3 percent. The decrease in 1996 reflects lower short-term interest rates, partially offset by slightly higher average borrowings required to fund additional investments in earning assets. The effective interest rate on short-term average borrowings was 4.89 percent in 1996 compared to 5.50 percent in 1995 and 4.19 percent in 1994. The Company does not match fund its financing investments and does not apply different interest rates to its various financing programs.
The effective tax rate for 1996 was 32.6 percent compared to 31.4 percent for 1995 and 32.8 percent in 1994. The higher effective tax rate is principally due to the declining impact of the residual portfolio purchase completed in the fourth quarter of 1994 and a lower level of tax exempt income.
Income before effect of accounting change increased 13.0 percent to $179.2 million in 1996 compared with $158.7 million in 1995, which was up 7.9 percent from 1994. The increase in 1996 is primarily attributable to higher External Financing Division asset sales, higher Internal Financing Division investment levels, additional fee-based income and lower short-term interest rates partly offset by higher SG&A and depreciation and amortization expenses.
The Company's ratio of earnings to fixed charges was 2.31 times for 1996 compared with 2.14 times for 1995 and 2.43 times for 1994.
Liquidity and Capital Resources - -------------------------------
The Company's principal sources of funds are from operations and borrowings. It has been PBCC's practice to use a balanced mix of debt maturities, variable- and fixed-rate debt and interest rate swap agreements (interest rate swaps) to control its sensitivity to interest rate volatility. PBCC's debt mix was 58 percent short- term and 42 percent long-term at December 31, 1996 and 66 percent short-term and 34 percent long-term at December 31, 1995. The Company utilizes interest rate swaps when it considers the economic benefits to be favorable. Interest rate swaps have been principally utilized to fix interest rates on commercial paper and/or obtain a lower cost on debt than would otherwise be available without the interest rate swap. PBCC's swap-adjusted fixed rate versus variable rate debt mix was 43 percent variable rate and 57 percent fixed rate at December 31, 1996 and 57 percent variable rate and 43 percent fixed rate at December 31, 1995. The Company may borrow through the sale of commercial paper, under its confirmed bank lines of credit, and by private and public offerings of intermediate- or long-term debt securities.
In July 1996, the Company issued $200 million of medium-term notes due in July 1999 and $100 million of medium-term notes due in July 2001 with coupon rates of 6.54 percent and 6.78 percent, respectively.
In September 1996, the Company issued $100 million of medium-term notes due in October 1998 and $100 million of medium-term notes due in October 2001 with coupon rates of 6.31 percent and 6.80 percent, respectively.
The Company has $250 million of unissued debt securities remaining from a shelf registration statement filed with the Securities and Exchange Commission in September 1995. The $250 million available under this shelf registration statement should meet the Company's financing needs for approximately the next year. The Company also had unused lines of credit and revolving credit facilities totaling $1.50 billion at December 31, 1996, largely supporting its commercial paper borrowings.
In January 1994, the Company sold approximately $88 million of assets with recourse in a privately-placed transaction with a third-party investor. These assets, representing finance receivables and other assets, were previously transferred in December 1992 from the Company's German affiliate, Adrema Leasing Corporation. This transaction had no material effect on the Company's results. Additionally, during 1996, 1995 and 1994, the Company sold approximately $270 million, $100 million and $55 million, respectively, of External small-ticket finance assets and in 1996 the Company sold approximately $139 million of External large-ticket finance assets with recourse in privately-placed transactions with third-party investors. The proceeds from the sale of these assets were used to repay a portion of the Company's commercial paper borrowings. The uncollected principal balance of receivables sold at December 31, 1996 and 1995 was $270 million and $149 million, respectively.
The Company continues to develop strategies in support of ongoing debt level management. Emphasis on fee-based transactions and consideration of the sale of financing transactions are expected to continue to control the growth of External large-ticket investments and debt levels. These reductions are part of the Company's ongoing strategy to shift the foundation of the External financing business from asset-based to service-based revenues.
Additional financing will continue to be arranged as deemed necessary. Borrowing requirements will be primarily dependent upon the level of equipment purchases from Pitney Bowes and its subsidiaries, the level of External Division financing activity, financing of any fee-based business initiatives and the refinancing of maturing debt.
The Company's utilization of derivative instruments is currently limited to interest rate swap agreements (interest rate swaps) and foreign currency exchange forward contracts (foreign currency contracts). The Company periodically enters into interest rate swaps as a means of managing interest rate exposure. The interest rate differential to be paid or received is recognized over the life of the agreements as an adjustment to interest expense. The Company is exposed to credit loss in the event of non-performance by the counterparties to the interest rate swaps to the extent of the differential between fixed- and variable-rates; such exposure is considered minimal. The Company has entered into foreign currency contracts for the purpose of minimizing its risk of loss from fluctuations in exchange rates in connection with certain intercompany loans and certain transfers to the Company by foreign affiliates of foreign currency denominated lease receivables. The Company is exposed to credit loss in the event of non-performance by the counterparties to the foreign currency contracts to the extent of the difference between the spot rate at the date of the contract delivery and the contracted rate; such exposure is considered minimal. See Note 13 to the Company's consolidated financial statements for further information regarding derivative instruments.
The Company's liquidity ratio (finance contracts receivable plus residuals expected to be realized in cash over the next 12 months to current maturities of debt over the same period) was .78 and .61 times at December 31, 1996 and 1995, respectively.
Under the Finance Agreement between Pitney Bowes and the Company, Pitney Bowes is obligated on a quarterly basis to make payments, to the extent necessary, so that the Company's income available for fixed charges for the preceding one year period shall not be less than 1.25 times its fixed charges. Pitney Bowes has also agreed to make any past due principal, interest or premium payments on behalf of PBCC in respect to all approved debt and/or commercial paper, in the event that PBCC is unable to make such payments. To date, no such payments from Pitney Bowes have been required.
The Company will continue to use cash to invest in finance assets with emphasis on Internal and External small-ticket leasing transactions and selective investment in External large-ticket financing transactions. The Company believes that cash generated from operations and collections on existing lease contracts will provide the majority of cash needed for such investment activities. Additional cash, to the extent needed, is expected to be provided from commercial paper and intermediate- or long-term debt securities. While the Company expects that market acceptance of its short- and long-term debt will continue to be strong, additional liquidity is available, if needed, under revolving credit facilities and credit lines.
Legal, Environmental and Regulatory Matters - -------------------------------------------
From time to time, the Company is a party to lawsuits that arise in the ordinary course of its business. These lawsuits may involve litigation by or against the Company to enforce contractual rights under vendor, insurance or other contracts; lawsuits by or against the Company relating to equipment, service or payment disputes with customers; disputes with employees; or other matters. The Company is currently a defendant in a number of lawsuits, none of which should have, in the opinion of management and legal counsel, a material adverse effect on the Company's financial position or results of operations.
Pitney Bowes is subject to Federal, state and local laws and regulations related to the environment, and is currently named as a member of various groups of potentially responsible parties in administrative or court proceedings. Based on facts presently known to it, PBI believes that the outcome of any current proceeding will not have a material adverse effect on its financial condition or results of operations.
In June 1995, the United States Postal Service (U.S.P.S.) issued final regulations on the manufacture, distribution and use of postage meters. The regulations cover four general categories: meter security, administrative controls, Computerized Meter Resetting Systems (C.M.R.S.) and other issues. In general, the regulations put reporting and performance obligations on meter manufacturers, outline potential administrative sanctions for failure to meet these obligations and require changes in the fund management system of C.M.R.S., (such as PBI's Postage by Phone(R) System), to give the U.S.P.S. more direct control over meter licensee deposits. PBI is working with the U.S.P.S. to ensure that these regulations provide mailing customers and the U.S.P.S. with the intended benefits, and that Pitney Bowes also benefits. Pitney Bowes has begun implementation of these changes, including modifying its Postage by Phone(R) System so that customers deposit prepayments of postage into a U.S.P.S. account rather than a trust account. Resetting meters through Postage by Phone(R) still requires the customer to request an authorization and a reset code from Pitney Bowes, a service for which PBI charges a fee. PBI continues to believe that the financial impact of implementating these regulations will not be material to its results of operations.
In May 1996, the U.S.P.S. issued a proposed schedule for the phase out of mechanical meters in the United States marketplace. The schedule proposed that: (i) as of June 1, 1996, placements of mechanical meters will be available only as replacements for existing licensed mechanical meters; and (ii) as of March 1, 1997, mechanical meters may not be used by persons or firms who process mail for a fee; and (iii) as of December 31, 1997, mechanical meters that interface with mail machines or processors will no longer be approved; and (iv) as of March 1, 1999, all other mechanical meters (stand-alone meters) will no longer be approved.
Pitney Bowes has voluntarily halted new placements of mechanical meters in the United States as of June 1, 1996. Pitney Bowes also has been actively and voluntarily pursuing removal from the market by March 1997, of mechanical meters used by persons or firms who process mail for a fee as set forth in the U.S.P.S. proposed schedule for that segment of meter users. Further, PBI agreed, in March 1997, to use its best efforts to remove from the market mechanical systems meters (meters that interface with mail machines or processors), by a revised target date of December 31, 1998, in lieu of the December 31, 1997 date specified in the U.S.P.S proposed schedule.
Pitney Bowes will continue to work with the U.S.P.S. to reach agreement on all aspects of a mechanical meter migration schedule that reflects the interests of PBI's customers while minimizing any negative impact on itself. PBI's constant focus on bringing new technologies into the mailing market has already resulted in a significant shift in the makeup of Pitney Bowes meter base. In the last 10 years, 1986 to 1996, the percentage of electronic meters in the Pitney Bowes' U.S. installed base has risen from 6% to nearly 60%. Until a mechanical meter migration plan is finalized, the financial impact, if any, on PBI cannot be determined with certainty. However, based on the proposed schedule and agreements reached to date, Pitney Bowes believes that the plan will not cause a material adverse financial impact to the Company.
The May 1996 U.S.P.S. proposal also contemplates the evolution of metering technology to include a digital information-based indicia standard which has not yet been developed. In July 1996, the U.S.P.S. proposed initial specifications for a digital information- based indicia program. The U.S.P.S. anticipates that digital metering would eventually replace electronic metering in the United States at some undetermined date in the future. Pitney Bowes long- term strategy also envisions the use of digital technology in new product offerings, and PBI has taken the lead in deploying digital meters in the marketplace with over 100,000 digital printing meters already placed into service during 1995 and 1996. Pitney Bowes anticipates working with the U.S.P.S. in this effort to achieve a timely and effective substitution plan. However, until final standards for a digital information-based indicia program are completed, and transition to the new standard is clarified by the U.S.P.S., the impact of this proposal, if any, on Pitney Bowes cannot be determined.
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The Company wishes to caution readers that any forward-looking statements (those which talk about the Company's or management's current expectations as to the future), in this Form 10-K or made by Company management involve risks and uncertainties which may change based on various important factors. Some of the factors which could cause future financial performance to differ materially from the expectations as expressed in any forward-looking statement made by or on behalf of the Company include: the level of business and financial performance of Pitney Bowes, including the impact of changes in postal regulations in the United States; the impact of governmental financing regulations; the success of the Company in developing strategies to manage debt levels, including the ability of the Company to access the capital markets; the strength of worldwide economies; the effects of and changes in trade, monetary and fiscal policies and laws, and inflation and monetary fluctuations, including changes in interest rates; the willingness of customers to substitute financing sources; and the success of the Company at managing customer credit risk and associated collection and asset management efforts.
Item 8.
Item 8. Financial statements and supplementary data -------------------------------------------
Report of Independent Accountants
To the Stockholder and Board of Directors of Pitney Bowes Credit Corporation
In our opinion, the consolidated financial statements listed in the index appearing under Item 14(a)(1) and (2) on pages 51 and 52 present fairly, in all material respects, the financial position of Pitney Bowes Credit Corporation and its subsidiaries (the "Company") at December 31, 1996 and 1995, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. 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 of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above.
As discussed in Note 18 to the consolidated financial statements, the Company adopted a new accounting standard for postemployment benefits in 1994.
PRICE WATERHOUSE LLP
Stamford, Connecticut January 17, 1997
The accompanying notes are an integral part of the financial statements.
Consolidated Balance Sheet (Dollars in thousands)
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December 31 1996 1995
Assets
Cash $ 20,937 $ 10,129 --------- --------- Investments: Finance assets 4,241,359 4,117,353 Investment in leveraged leases 617,970 562,500 Assets transferred from affiliate 32,825 53,717 Investment in operating leases, net of accumulated depreciation: 1996, $44,952; 1995, $51,657 86,634 114,587 Allowance for credit losses (98,721) (101,355) --------- --------- Net investments 4,880,067 4,746,802 --------- --------- Mortgage servicing rights, net of accumulated amortization: 1996, $63,666; 1995, $42,554 138,146 108,851 Assets held for sale 140,420 71,917 Other assets 167,432 120,175 --------- --------- Total assets $5,347,002 $5,057,874 ========= ========= Liabilities
Senior notes payable within one year $1,901,581 $2,122,880 Short-term notes payable to affiliates 139,400 149,709 Accounts payable to affiliates 168,558 127,007 Accounts payable and accrued liabilities 176,657 155,603 Deferred taxes 478,624 441,324 Senior notes payable after one year 1,275,000 1,020,500 Subordinated notes payable 229,154 170,857 --------- --------- Total liabilities 4,368,974 4,187,880 --------- --------- Stockholder's Equity
Common stock 46,000 46,000 Capital surplus 41,725 41,725 Retained earnings 890,303 782,269 --------- --------- Total stockholder's equity 978,028 869,994 --------- --------- Total liabilities and stockholder's equity $5,347,002 $5,057,874 ========= =========
The accompanying notes are an integral part of the financial statements.
The accompanying notes are an integral part of the financial statements.
The accompanying notes are an integral part of the financial statements.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 1. - Summary of Significant Accounting Policies
Consolidation: The consolidated financial statements include the accounts of Pitney Bowes Credit Corporation and all of its subsidiaries (the Company or PBCC). All significant intercompany transactions have been eliminated.
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 reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Reclassifications: Certain amounts have been reclassified to conform with current year presentation.
Basis of accounting for financing transactions: At the time a finance transaction is consummated, the Company records on its balance sheet the total receivable, unearned income and the estimated residual value of leased equipment. Unearned income represents the excess of the total receivable plus the estimated residual value over the cost of equipment or contract acquired. Unearned income is recognized as finance income under the interest method over the term of the transaction. Initial direct costs incurred in consummating transactions, including fees paid to Pitney Bowes Inc. (Pitney Bowes or PBI), are accounted for as part of the investment in a direct financing lease and amortized to income using the interest method over the term of the lease.
The Company has, from time-to-time, sold selected finance assets. The Company follows Statement of Financial Accounting Standards No. 77, "Reporting by Transferors for Transfers of Receivables with Recourse", when accounting for its sale of finance assets. The difference between the sale price and the net receivable, exclusive of residuals, is recognized as a gain or loss.
In 1996, Statement of Financial Accounting Standards No. 125, "Accounting for Transactions and Servicing of Financial Assets and Extinguishments of Liabilities" (FAS 125) was issued. This statement may impact the method used to sell finance assets on a prospective basis. This statement must be adopted effective January 1, 1997.
Allowance for credit losses: The Company evaluates the collectibility of its net investment in finance assets based upon its loss experience and assessment of prospective risk, and does so through ongoing reviews of its exposures to net asset impairment. The Company adjusts the carrying value of its net investment in finance assets to the estimated collectible amount through adjustments to the allowance for credit losses. Losses are charged against the allowance for credit losses. For further information see Note 7 - Allowance for Credit Losses.
Notes to Consolidated Financial Statements (Dollars in thousands)
Income taxes: The Company's taxable results are included in the consolidated Federal and certain state income tax returns of Pitney Bowes. For tax purposes, income from leases is recognized under the operating method and represents the difference between gross rentals billed and operating expenses. Under a tax-sharing agreement between the Company and Pitney Bowes, the Company makes payment to Pitney Bowes for its share of consolidated income taxes, or receives cash equal to the benefit of tax losses utilized in consolidated returns in exchange for which it issues non-interest bearing subordinated notes with a maturity one day after all senior debt is repaid. Deferred taxes reflected in the Company's balance sheet represent the difference between Federal and state income taxes reported for financial and tax reporting purposes, less non-interest bearing subordinated notes issued, including those capitalized.
Investment in operating leases: Equipment under operating leases is depreciated over the initial term of the lease to its estimated residual value. Rental revenue is recognized on a straight-line basis over the related lease term.
Mortgage servicing rights: Mortgage servicing rights (MSR) represent the cost of purchasing the right to service mortgage loans originated by others. MSR's are recorded at the lower of amortized cost or present value of the estimated future net servicing income, which does not exceed fair market value and are amortized in proportion to, and over the period of, estimated future net servicing income of the underlying mortgages. On January 1, 1996, the Company adopted Statement of Financial Accounting Standards No. 122, "Accounting for Mortgage Servicing Rights" (FAS 122). FAS 122 requires that capitalized MSR's be assessed periodically for impairment based on the fair value of those rights.
The Company estimates the fair value of MSR's based on estimated future net servicing income, using a valuation model which considers such factors as market discount rates and loan prepayments. The Company's policy for evaluating MSR's is based on the predominant risk characteristics of the underlying loans, which include adjustable rate versus fixed rate, segregated into strata by loan type and interest rate bands. The Company may adjust amortization prospectively in response to changes in actual and anticipated prepayment, foreclosure, delinquency and cost experience.
Assets held for sale: Certain high quality External large-ticket transactions are funded and held for a short period of time pending sale to prospective buyers. Assets held for sale are segregated from the Company's net investment amounts and are recorded at net carrying value (cost plus accrued interest less finance receipts). Income is recognized when the contract for the sale of the asset is executed, representing the excess of sale proceeds over net asset carrying value. The Company does not maintain a separate loss reserve for assets held for sale due to their relatively short holding period and valuation method.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 2. - New Business Subsidiary
In December 1995, the Company invested $25.0 million for 100 percent of the common stock of Financial Structures Limited (FSL). This wholly- owned and independent subsidiary provides residual value insurance to unaffiliated third parties. Residual value insurance typically guarantees a lessor that a physical asset with significant market liquidity will not sell for less than the asset's pre-agreed price on its scheduled lease termination date. The Company's liability is limited to the deficiency, if any, between actual price and the guaranteed price on the asset's specified scheduled lease termination date. Gross policy premiums are collected at lease inception and amortized on a straight- line basis over the life of the policy.
Note 3. - Finance Assets
The composition of the Company's finance assets is as follows:
December 31 1996 1995 ---------- ---------- Gross finance receivables $ 4,826,361 $ 4,801,084 Unguaranteed residual valuation 700,776 649,549 Initial direct cost deferred 91,588 89,173 Unearned income (1,377,366) (1,422,453) ---------- ---------- Finance assets $ 4,241,359 $ 4,117,353 ========== ==========
Gross finance receivables represent earning assets held by the Company which are generally due in monthly, quarterly or semi-annual installments over original periods ranging from 36 to 180 months. In addition, gross finance receivables for the Company's External large-ticket programs include commercial jet aircraft transactions with original lease terms up to 25 years and other non-commercial jet aircraft transactions with lease terms ranging from three to 12 years. The balance due at December 31, 1996, including estimated residual value realizable at the end of the lease term, is payable as follows:
Gross Finance Assets -------------------------------------------------------------- Internal External External small-ticket large-ticket small-ticket programs programs programs Total ------------ ------------ ------------ --------- 1997 $ 792,791 $ 261,779 $ 402,418 $1,456,988 1998 568,286 227,071 294,668 1,090,025 1999 401,991 243,673 200,572 846,236 2000 214,437 253,319 117,233 584,989 2001 58,608 216,318 38,871 313,797 Thereafter 3,454 1,231,290 358 1,235,102 --------- --------- --------- --------- Total $2,039,567 $2,433,450 $1,054,120 $5,527,137 ========= ========= ========= =========
Notes to Consolidated Financial Statements (Dollars in thousands)
Net equipment financed for Pitney Bowes products were $571.6 million, $545.6 million and $521.0 million in 1996, 1995, and 1994, respectively. Net equipment financed for Dictaphone and Monarch products were $19.1 million, $27.9 million and $30.8 million in 1996, 1995 and 1994, respectively.
During 1996, the Company sold approximately $409 million of External large and small-ticket finance assets with recourse in privately- placed transactions with third-party investors. In 1995 and 1994, the Company sold approximately $100 million and $55 million, respectively, of finance assets in similarly structured transactions. The uncollected principal balance of receivables sold at December 31, 1996 and 1995 was $270 million and $149 million, respectively. In addition, the Company has sold receivables while retaining residual value exposure of $55 million. The maximum risk of loss in these transactions arises from the possible non-performance of lessees to meet the terms of their contracts and from changes in the value of the underlying equipment. Conversely, these contracts are supported by the underlying equipment value and creditworthiness of customers. As part of the review of its exposure to risk, the Company believes adequate provisions have been made for sold receivables which may become uncollectible.
As of December 31, 1996, $537.4 million (12.7 percent) of the Company's finance assets and $792.0 million (14.3 percent) of the Company's gross finance assets were related to aircraft leased to commercial airlines. The Company considers its credit risk for these leases to be minimal since all commercial aircraft lessees are making payments in accordance with lease agreements. The Company believes any potential exposure in commercial aircraft investment is mitigated by the value of the collateral as the Company retains a security interest in the leased aircraft.
Note 4. - Net Investment in Leveraged Leases
The Company's net investment in leveraged leases is composed of the following elements:
December 31 1996 1995 -------- -------- Net rents receivable $ 532,205 $ 519,306 Unguaranteed residual valuation 640,978 584,456 Unearned income (555,213) (541,262) -------- -------- Investment in leveraged leases 617,970 562,500 Deferred taxes arising from leveraged leases (1) (257,760) (216,873) -------- -------- Net investment in leveraged leases $ 360,210 $ 345,627 ======== ========
(1) Includes amounts reclassified to subordinated debt.
Notes to Consolidated Financial Statements (Dollars in thousands)
Following is a summary of the components of income from leveraged leases:
December 31 1996 1995 1994 ------ ------ ------ Pretax leveraged lease income $ 7,145 $11,236 $ 6,606 Income tax benefit 7,080 4,609 5,091 ------ ------ ------ Income from leveraged leases $14,225 $15,845 $11,697 ====== ====== ======
Leveraged lease assets acquired by the Company are financed primarily through nonrecourse loans from third-party debt participants. These loans are secured by the lessee's rental obligations and the leased property. Net rents receivable represent gross rents less the principal and interest on the nonrecourse debt obligations. Unguaranteed residual values are principally based on independent appraisals of the values of leased assets remaining at the expiration of the lease.
Leveraged lease investments totaling $299.6 million (48.5 percent) are related to commercial real estate facilities, with original lease terms ranging up to 25 years. Also included are ten aircraft transactions with major commercial airlines, with a total investment of $285.1 million (46.1 percent) and with original lease terms ranging from 22 to 25 years and one transaction involving locomotives with a total investment of $33.2 million (5.4 percent) with an original lease term of 38 years.
Note 5. - Transfer of Assets from Affiliate
As disclosed in previous filings, in December 1992, as part of the restructuring of its German affiliate, Adrema Leasing Corporation (Adrema), the Company purchased certain finance receivables and other assets from Adrema. Based on the evaluation of these assets, Pitney Bowes and the Company believe that sufficient reserves for credit losses are in place to provide for currently expected losses. As part of the orderly liquidation of assets from leasing non-Pitney Bowes products in Germany, Adrema continues to bill and collect accounts and repossess and remarket collateral where possible over the remainder of the lease terms.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 6. - Investment in Operating Leases, Net
The Company is the lessor of various types of equipment under operating leases including data processing, transportation and production equipment.
Minimum future rental payments to be received in each of the next five years under noncancelable operating leases are $11.9 million in 1997, $11.3 million in 1998, $8.0 million in 1999, $6.7 million in 2000, $5.7 million in 2001 and $16.8 million in later years.
Note 7. - Allowance for Credit Losses
The following is a summary of the allowance for credit losses, substantially all of which relates to lease financing:
1996 1995 1994 ------- ------- ------ Balance at beginning of period $101,355 $ 95,271 $98,311 ------- ------- ------
Additions charged to operations 66,529 58,549 56,133 ------- ------- ------ Amounts written-off: Internal small-ticket programs 22,879 24,330 20,177 External large-ticket programs 101 356 668 External small-ticket programs 46,183 27,779 38,328 ------- ------- ------ Total write-offs 69,163 52,465 59,173 ------- ------- ------ Balance at end of period $ 98,721 $101,355 $95,271 ======= ======= ======
The increase in the amount of additions charged to operations in 1996 and 1995 compared to 1994 is the result of higher investment levels in all of PBCC's financing programs and the impact of finance asset sales in 1996 and 1995, offset by favorable adjustments to the External large-ticket financing program provision reflecting management's current evaluation of expected losses.
Write-offs related to assets purchased from Adrema totaled $20.9 million in 1996, $14.2 million in 1995 and $25.2 million in 1994. Excluding the impact of the write-offs related to assets purchased from Adrema, External small-ticket write-offs increased $11.7 million. This increase is due to a 21 percent increase in the lease portfolio at Colonial Pacific Leasing Corporation (CPLC) combined with a 28 percent increase in bankruptcies. Management has implemented various measures to control this increase including modifying new credit policies and improving collection and recovery procedures.
Notes to Consolidated Financial Statements (Dollars in thousands)
In establishing the provision for credit losses, the Company utilizes an asset based percentage. This percentage varies depending on the nature of the asset, recent historical experience, vendor recourse, management judgement, and for External large-ticket financing transactions, the credit ratings assigned by Moody's and Standard & Poor's. In evaluating the adequacy of reserves, estimates of expected losses, again by nature of the asset, are utilized. While historical experience is the principal factor in determining loss percentages, adjustments will also be made for current economic conditions, deviations from historical aging patterns, seasonal write-off patterns and levels of non-earning assets. If the resulting evaluation of expected losses differs from the actual aggregate reserve, adjustments are made to the reserve.
For transactions in the Internal small-ticket programs, the Company discontinues income recognition for finance receivables past due over 120 days. The Company has utilized this period because historically internal collection efforts have continued for this time period. In External large-ticket programs, income recognition is discontinued as soon as it is apparent that the obligor will not be making payments in accordance with lease terms, such as in the event of bankruptcy. In External small-ticket programs, income recognition is discontinued when accounts are past due over 90 days.
Finance receivables are written-off to the allowance for credit losses after collection efforts are exhausted and the account is deemed uncollectible. For Internal and External small-ticket financing transactions, this usually occurs near the point in time when the transaction is placed in a non-earning status. For External large-ticket financing transactions, write-offs are normally made after efforts are made to repossess the underlying collateral, the repossessed collateral is sold, and efforts to recover remaining balances are exhausted. On External large-ticket financing transactions, periodic adjustments also may be made and/or a cost recovery approach for cash proceeds utilized to reduce the face value to an estimated present value of the future expected recovery. All write-offs and adjustments are recorded on a transaction by transaction basis.
Resumption of income recognition on Internal and External small-ticket program non-earning accounts occurs when payments are reduced to 60 days or less past due. On External large-ticket financing transactions, resumption of income recognition occurs after the Company has had sufficient experience on resumption of payments and is satisfied that such payments will continue in accordance with the original or restructured contract terms.
Notes to Consolidated Financial Statements (Dollars in thousands)
The carrying values of non-performing, restructured and troubled finance assets are outlined below. There are no leveraged leases classified under these categories.
The increase in non-performing transactions in 1996 in the External small- ticket programs reflects higher volumes together with an increase in bankruptcy levels among lease customers. Management has taken various measures to counter non-performing growth such as revalidating credit scorecards, modifying audit procedures and improving transaction verification processes. The increase in troubled/potential problem transactions for the External large-ticket programs is due to a real estate transaction which is currently in the process of being restructured. The Company believes it has sufficient reserves to provide for any losses which may result from the final resolution of the above transactions.
Historically, the Company has not allocated a specific amount of credit loss reserve to non-performing and troubled transactions. This is due to the historically low level of write-offs in the External large-ticket financing programs and the limited number of transactions with material credit loss exposure in other areas. As stated previously, the Company evaluates its aggregate reserve position in comparison to estimates of aggregate expected losses. However, for non-performing External large-ticket financing transactions, the Company has adjusted the face value of these receivables through the following adjustments:
Notes to Consolidated Financial Statements (Dollars in thousands)
December 31 1996 1995 1994 ------- ------- -------
Face value of receivables $ 2,500 $ 4,511 $ 4,512 Cash collections applied to principal (1,252) (2,436) (2,087) Write-offs to allowance for credit losses - (627) (427) ------- ------- ------- Carrying value $ 1,248 $ 1,448 $ 1,998 ======= ======= =======
Note 8. - Mortgage Servicing Rights
The Company purchased rights to service loans with aggregate unpaid principal balances of approximately $5.3 billion in 1996, $4.1 billion in 1995 and $3.1 billion in 1994. The costs associated with acquiring these rights were capitalized and recorded as mortgage servicing rights (MSR).
The following summarizes the Company's capitalized MSR activity:
December 31 1996 1995 1994 ------- ------- -------
Balance at beginning of period $108,851 $ 59,506 $ 41,833 MSR acquisitions 50,407 64,310 27,825 MSR amortization (21,112) (14,965) (10,152) ------- ------- ------- Balance at end of period $138,146 $108,851 $ 59,506 ======= ======= =======
At December 31, 1996, the fair value of MSR's was approximately $158.8 million. There were no valuation allowances for MSR's at December 31, 1996 or 1995.
Note 9. - Assets Held for Sale
The Company funded transactions totaling $326.7 million in 1996, $151.6 million in 1995 and $37.7 million in 1994, relating to assets held for sale. Transactions totalling $257.8 million in 1996 and $117.4 million in 1995, were sold for a net gain before taxes of $8.5 million in 1996 and $10.3 million in 1995, respectively, which is recorded as part of finance income. Fourteen transactions relating to assets held for sale remain in inventory with a net carrying value of $140.4 million at December 31, 1996 compared with eleven transactions with a net carrying value of $71.9 million at the end of 1995.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 10. - Other Assets
December 31 1996 1995 ------- ------- Loans held for investment $ 29,590 $ 11,626 Billed meter rental receivables 23,399 17,747 Equipment and leasehold improvements, net of accumulated depreciation and amortization: 1996, $18,123; 1995, $13,870 22,873 14,831 Mortgage escrow advances 19,413 11,789 Foreclosure claims receivable, net 9,902 6,160 Interest discount on commercial paper 9,603 6,934 Loans and advances to affiliated companies 8,711 6,199 Deferred partnership fees 7,250 9,209 Deferred debt placement fees 4,791 4,324 Goodwill, net of accumulated amortization: 1996, $1,744; 1995, $1,356 2,906 3,294 Investment securities 1,026 - Prepaid expenses and other assets 27,968 28,062 ------- ------- Total other assets $167,432 $120,175 ======= =======
Loans held for investment consist primarily of purchased mortgage loans, secured by first real estate mortgages, and are held to maturity. Mortgage loans held for investment are stated at the lower of cost or market value at the date acquired. The amount of discount, if any, recorded to reduce the carrying value of loans to market value is amortized to income over the anticipated life of the investment. The Company periodically evaluates the credit risks associated with these loans. Any provision for possible losses is included in the reserve for possible losses associated with foreclosure claims receivables.
Billed meter rental receivables represent uncollected meter rental receivables billed to customers who have opted to have their meter rental charged on their lease invoice. PBCC remits these charges to PBI based on billings. There is no reserve established at PBCC, since any unpaid meter rentals are netted against future payments due PBI. The increase in billed meter rental receivables resulted from a larger customer base and higher meter rates, partly offset by a slightly lower delinquency at December 31, 1996.
Equipment and leasehold improvements are stated at cost. Equipment is depreciated on a straight-line basis over the anticipated useful life generally ranging from five to ten years. Leasehold improvements are amortized on a straight-line basis over the remaining lease terms.
Mortgage escrow advances include advances made in connection with loan servicing activities. These advances consist primarily of property taxes and insurance premiums made before they are collected from mortgagors.
Notes to Consolidated Financial Statements (Dollars in thousands)
Foreclosure claims receivable include loans and related advances in the process of foreclosure. Such loans are insured or guaranteed by either the Federal Housing Administration, the Veterans Administration or private mortgage insurance and will be repaid when the foreclosure process is completed. The Company has established reserves for possible losses in excess of insured or guaranteed amounts of approximately $3.1 million and $2.5 million at December 31, 1996 and 1995, respectively, which have been netted against the foreclosure claims receivable balances.
In the fourth quarter of 1993, the Company completed a transaction whereby it contributed certain commercial aircraft, subject to direct finance leases, to a majority-owned partnership. Partnership fees incurred in connection with this transaction are amortized over the term of the transaction.
Deferred debt placement fees incurred in connection with placing senior and subordinated notes are amortized on a straight-line basis over the related terms of the notes.
Note 11. - Accounts Payable and Accrued Liabilities
December 31 1996 1995 ------- ------- Advances and deposits from customers $ 45,131 $ 33,650 Accounts payable 36,653 41,919 Accrued interest payable 30,488 28,474 Sales and use, property and sundry taxes 12,879 10,499 Portfolio purchase price payable 8,319 9,426 Minority interest in partnership 7,512 7,024 Accrued salary and benefits payable 7,120 6,800 Other liabilities 28,555 17,811 ------- ------- Total accounts payable and accrued liabilities $176,657 $155,603 ======= =======
The increase in advances and deposits from customers is primarily due to an increase in lease rents payable to investors (where PBCC does the billing and collecting on their behalf) resulting from an increase in syndication activity and the sale of the CVF portfolio.
Note 12. - Notes Payable
Short-term notes payable totaled $1.9 billion at December 31, 1996 and $2.1 billion at December 31, 1995. These notes were issued as commercial paper, loans against bank lines of credit, or to trust departments of banks and others at rates below the prevailing prime rate.
Notes to Consolidated Financial Statements (Dollars in thousands)
The composition of the Company's notes payable is as follows:
December 31 1996 1995 --------- --------- Senior Notes Payable
Commercial paper at a weighted average interest rate of 5.54% (5.69% in 1995) $1,359,200 $1,864,000 Notes payable against bank lines of credit and others at a weighted average interest rate of 2.11% (2.35% in 1995) 296,881 258,880 Current installment of long-term debt due within one year at interest rates of 5.63% to 7.48% 245,500 - --------- ---------
Total senior notes payable within one year 1,901,581 2,122,880
Senior notes payable after one year at interest rates of 5.63% to 9.25% through 2009 1,275,000 1,020,500 --------- --------- Total senior notes payable 3,176,581 3,143,380 --------- --------- Short-Term Notes Payable to Affiliates
Notes payable to Pitney Bowes Inc. at a weighted average rate of 5.40% (5.72% in 1995) 139,400 132,000
Notes payable to Pitney Bowes International at a weighted average interest rate of 5.85% in 1995 - 17,709 -------- --------- Total short-term notes payable to affiliates 139,400 149,709
Subordinated Notes Payable
Non-interest bearing notes due Pitney Bowes 229,154 170,857 --------- --------- Total notes payable $3,545,135 $3,463,946 ========= =========
At December 31, 1996, the Company had unused lines of credit and revolving credit facilities totaling $1.50 billion largely supporting commercial paper borrowings. The Company recorded fees of $1.3 million, $1.4 million and $2.2 million in 1996, 1995 and 1994 to maintain its lines of credit. The reduction in 1995 facility fees is a direct result of the Company's renegotiation of its revolving credit facilities with its smaller banking group initiated in the fourth quarter of 1995.
Total notes payable at December 31, 1996 mature as follows: $2,041.0 million in 1997, $225.0 million in 1998, $200.0 million in 1999, $50.0 million in 2000, $200.0 million in 2001 and $829.1 million beyond 2001.
Notes to Consolidated Financial Statements (Dollars in thousands)
Lending Arrangements: Under terms of its senior and subordinated loan agreements, the Company is required to maintain earnings before taxes and interest charges at prescribed levels. With respect to such loan agreements, Pitney Bowes will endeavor to have the Company maintain compliance with such terms and, under certain loan agreements, is obligated, if necessary, to pay to the Company amounts sufficient to maintain a prescribed ratio of income available for fixed charges or make approved debt/commercial paper principal, interest or premium payments in the event that PBCC is unable to. To date, no such payments have been required to maintain income available for fixed charge coverage or to maintain the Company's contractual liquidity obligations.
In July 1996, the Company issued $200 million of medium-term notes due in July 1999 and $100 million of medium-term notes due in July 2001 with coupon rates of 6.54 percent and 6.78 percent, respectively.
In September 1996, the Company issued $100 million of medium-term notes due in October 1998 and $100 million of medium-term notes due in October 2001 with coupon rates of 6.31 percent and 6.80 percent, respectively.
The Company has $250 million of unissued debt securities remaining from a shelf registration statement filed with the Securities and Exchange Commission in September 1995. The $250 million available under this shelf registration statement should meet the Company's financing needs for approximately the next year.
In 1996 and 1995, the Company issued $58.3 million and $37.9 million, respectively, of non-interest bearing subordinated notes to Pitney Bowes in exchange for funds equal to tax losses generated by the Company and utilized by Pitney Bowes in the 1995 and 1994 consolidated tax returns. Any non-interest bearing subordinated notes payable to Pitney Bowes mature after all senior notes now outstanding and executed hereafter are paid.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 13. - Derivative Instruments
The Company's utilization of derivative instruments is currently limited to interest rate swap agreements (interest rate swaps) and foreign currency exchange forward contracts (foreign currency contracts). The Company periodically enters into interest rate swaps as a means of managing interest rate exposure. The interest rate differential to be paid or received is recognized over the life of the agreements as an adjustment to interest expense. The Company is exposed to credit loss in the event of non-performance by the counterparties to the interest rate swaps to the extent of the differential between fixed- and variable- rates; such exposure is considered minimal. The Company has entered into foreign currency contracts for the purpose of minimizing its risk of loss from fluctuations in exchange rates in connection with certain intercompany loans and certain transfers to the Company by foreign affiliates of foreign currency denominated lease receivables. The Company is exposed to credit loss in the event of non-performance by the counterparties to the foreign currency contracts to the extent of the difference between the spot rate at the date of the contract delivery and the contracted rate; such exposure is considered minimal.
The aggregate amount of interest rate swaps categorized by type, and the related weighted average interest rate paid and received assuming current market conditions is reflected below:
Weighted Average Major Type Total Interest Rates of Interest Hedged Notional ------------------ Rate Swap Liability Amount Fixed Variable(A) - ----------- --------- -------- ----- ---------- Pay fixed Commercial paper $300,000 8.85% 5.66%
Pay variable Senior notes payable after one year 26,048 7.94% 6.10% ------- ---- ---- Total $326,048 8.77% 5.69% ======= ==== ====
(A) The variable rate is indexed from the 30 day Fed AA composite commercial paper rate. The Fed AA composite rate at December 31, 1996 was used to calculate the weighted average interest rate.
Notes to Consolidated Financial Statements (Dollars in thousands)
The aggregate notional amount of interest rate swaps categorized by annual maturity is reflected below:
Annual Maturity ------------------------------------------ Pay Fixed Pay Variable Total --------- ------------ -------- 1997 $100,000 $ 2,400 $102,400 1998 - 23,648 23,648 1999 - - - 2000 - - - 2001 - - - Thereafter 200,000 - 200,000 ------- ------ ------- Total $300,000 $26,048 $326,048 ======= ====== =======
The following is a reconciliation of interest rate swap activity by major type of swap:
Pay Fixed Pay Variable Total --------- ------------ --------- Balance December 31, 1994 $440,700 $14,000 $454,700 New contracts 100,000 24,100 124,100 Expired contracts (235,000) (14,000) (249,000) -------- -------- -------- Balance December 31, 1995 305,700 24,100 329,800 New contracts - 26,048 26,048 Expired contracts (5,700) (24,100) (29,800) -------- -------- -------- Balance December 31, 1996 $300,000 $26,048 $326,048 ======== ======= =======
Interest rate swaps are used in the majority of circumstances to convert variable rate commercial paper interest payments to fixed rate interest payments. The impact of interest rate swaps on interest expense and the weighted average borrowing rate is as follows:
1996 1995 1994 ------- ------- ------- Impact of interest rate swaps on interest expense $ 7,346 $ 9,376 $ 13,930 Weighted average borrowing rate excluding interest rate swaps 5.81% 6.14% 5.44% Weighted average borrowing rate including interest rate swaps 6.03% 6.45% 6.01%
The Company has entered into foreign currency contracts for the purpose of minimizing its risk of loss from fluctuations in exchange rates in connection with certain intercompany loans and certain sales of receivables with recourse of foreign currency denominated lease receivables.
Notes to Consolidated Financial Statements (Dollars in thousands)
The following summarizes the contractual amount of the Company's foreign currency contract as of December 31, 1996:
Hedged Currency Maturity Contract Transaction Sold Date Amount - ----------------------- ----------- ------------- -------- Transfer of receivables with recourse U.S. Dollar January, 1997 $146
Since the Company normally enters into derivative transactions only with members of its banking group, the credit risk of these transactions is monitored as part of the normal credit review of the banking group. The Company monitors the market risk of derivative instruments through periodic review of the fair market values.
There were no deferred gains or losses relating to terminated interest rate swaps or foreign currency contracts at December 31, 1996 and 1995. The fair value of interest rate swaps and foreign currency contracts is disclosed in Note 15 - Fair Value of Financial Instruments.
Note 14. - Stockholder's Equity
The following is a reconciliation of stockholder's equity:
At December 31, 1996, 10,000 shares of common stock, no-par with a stated value of $100,000 per share were authorized and 460 shares were issued and outstanding and amounted to $46.0 million at December 31, 1996 and 1995. All of the Company's stock is owned by Pitney Bowes.
When the Company entered into real estate lease financing, PBI agreed to make capital contributions up to a maximum of $15.0 million to provide a portion of the financing for such transactions, of which $13.8 million has been received to date. There is no formal agreement in place and PBI is under no obligation to continue with capital contributions. No capital contributions have been made since 1993.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 15. - Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instruments:
Cash, assets held for sale, accounts payable and senior notes payable within one year. The carrying amounts approximate fair value because of the short maturity of these instruments.
Investment securities. The fair value of investment securities is estimated based on quoted market prices, dealer quotes and other estimates.
Loans receivable. The fair value of loans receivable is estimated based on quoted market prices, dealer quotes or by discounting the future cash flows using current interest rates at which similar loans would be made to borrowers with similar credit ratings and similar remaining maturities.
Senior notes payable after one year. The fair value of long-term debt is estimated based on quoted dealer prices for the same or similar issues.
Interest rate swaps and foreign currency contracts. The fair values of interest rate swaps and foreign currency contracts are obtained from dealer quotes. These values represent the estimated amount the Company would receive or pay to terminate the agreements taking into consideration current interest rates, the creditworthiness of the counterparties and current foreign currency exchange rates.
Transfers of receivables with recourse. The fair value of the recourse liability represents the estimate of expected future losses. The Company periodically evaluates the adequacy of reserves and estimates of expected losses, if the resulting evaluation of expected losses differs from the actual reserve, adjustments are made to the reserve.
Financial guarantee contracts. The Company has provided standby guarantees for its foreign affiliates under a $250 million European commercial paper program and in connection with receivable transfers with recourse. The Company also has recourse obligations in connection with certain mortgages it services. Aggregate exposure under the guarantees at December 31, 1996 and 1995 was $115 million and $88 million, respectively. The fair value of the European Commercial Paper program is based on the cost to the Company for obtaining a letter of credit to support performance under the guarantee. The fair value of the guarantees under the receivable transfers with recourse and the recourse obligations on certain mortgages serviced represents the estimate of expected future losses. In certain instances, reserves established in connection with these receivable transfers have been established on the affiliated companies' financial statements approximately equal to the fair value disclosures presented on the following page.
Notes to Consolidated Financial Statements (Dollars in thousands)
Residual and conditional commitment guarantee contracts. The fair value of residual and conditional commitment guarantee contracts is based on the projected fair market value of the collateral as compared to the guaranteed amount plus a commitment fee generally required by the counterparty to assume the guarantee.
Commitments to extend credit. The fair value of commitments to extend credit is estimated by comparing current market conditions taking into account the remaining terms of existing agreements and the creditworthiness of the counterparties.
The estimated fair value of the Company's financial instruments is as follows:
December 31 1996 1995 ---------------------- ---------------------- Carrying Fair Carrying Fair Value(1) Value Value(1) Value -------- ------- --------- ------- Investment securities $ 1,031 $ 1,031 $ - $ - Loans receivable (2) 381,789 365,560 288,361 288,485 Senior notes payable after one year (1,298,074) (1,346,255) (1,039,441) (1,130,182) Interest rate swaps (1,327) (25,435) (1,050) (41,538) Foreign currency contracts - 15 - (420) Transfers of receivables with recourse (10,489) (10,489) (12,929) (12,929) Financial guarantee contracts (601) (601) (4,420) (4,420) Residual and conditional commitment guarantee contracts (3,759) (4,694) (3,341) (4,454) Commitments to extend credit - - - (165)
(1) Carrying value includes accrued interest and deferred fee income, where applicable.
(2) Carrying value for loans receivable and other debt financing is net of applicable allowance for credit losses.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 16. - Taxes on Income
Income before income taxes and the provision for income taxes were as follows:
Years ended December 31 1996 1995 1994 -------- ------- -------
Income before income taxes $266,089 $231,334 $218,913 ======= ======= =======
Provisions for income taxes: Federal: Current $(22,772) $(70,605) $(29,325) Deferred 92,908 130,521 86,169 ------- ------- ------- Total Federal 70,136 59,916 56,844 ------- ------- ------- State and Local: Current (8,120) (9,302) (4,215) Deferred 24,839 22,064 19,191 ------- ------- ------- Total state and local 16,719 12,762 14,976 ------- ------- ------- Total $ 86,855 $ 72,678 $ 71,820 ======= ======= =======
Deferred tax liabilities and (assets):
December 31 1996 1995 1994 -------- -------- -------- Deferred tax liabilities: Lease revenue and related depreciation $553,206 $491,467 $400,468
Deferred tax assets: Alternative minimum tax (AMT) credit carryforwards (74,582) (50,143) (58,434) ------- ------- ------- Total $478,624 $441,324 $342,034 ======= ======= =======
In 1993, the Company completed a transaction whereby it contributed certain commercial aircraft, subject to direct finance leases, to a majority-owned partnership. The partnership transaction had the effect of reducing the Company's obligation for previously accrued deferred taxes and generated tax benefits over the past three years.
Notes to Consolidated Financial Statements (Dollars in thousands)
In the fourth quarter of 1994, the Company completed the purchase of a lease portfolio whereby it receives all rights to the value of the underlying equipment at lease termination. The transaction will have the effect of reducing the current period tax liabilities and associated effective tax rates over the portfolio life.
A reconciliation of the U.S. Federal statutory rate to the Company's effective income tax rate follows:
Percent of Pretax Income 1996 1995 1994 ----- ----- ----- U.S. Federal statutory rate 35.0% 35.0% 35.0% State and local income taxes 4.0 3.9 4.4 Partnership tax benefits (0.9) (1.1) (1.6) Tax-exempt foreign trade income (2.2) (2.7) (3.0) Tax-exempt finance income (0.5) (.8) (.3) Residual portfolio acquisition (0.6) (1.1) (.4) Other (2.2) (1.8) (1.3) ----- ----- ----- Effective income tax rate 32.6% 31.4% 32.8% ===== ===== =====
Note 17. - Retirement Plan
The Company participates in the Pitney Bowes retirement plan which covers the majority of PBCC employees. The assets of this plan fully fund vested benefits. Pitney Bowes' plan assumptions for 1996 and 1995 remained constant at 7.25 percent for the discount rate, 4.25 percent for the expected rate of increase in future compensation levels and 9.50 percent for the expected long-term rate of return on plan assets. The Company's pension expense was $1.6 million in 1996, $1.3 million in 1995 and $1.6 million in 1994.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 18. - Nonpension Postretirement and Postemployment Benefits
The Company participates in the Pitney Bowes nonpension postretirement benefit plan, which provides certain health care and life insurance benefits to eligible retirees and their dependents.
The Company adopted Statement of Financial Accounting Standards No. 112, "Employers' Accounting for Postemployment Benefits" (FAS 112) as of January 1, 1994. FAS 112 requires that postemployment benefits be recognized on the accrual basis of accounting. The effect of adopting FAS 112 was a one-time non-cash, after-tax charge of $2.8 million (net of approximately $1.9 million of income taxes).
Note 19. - Nonrecurring Items, Net
In the third quarter of 1994, a net nonrecurring credit of $3.3 million resulted from a $3.5 million credit to income for changes made to certain postemployment benefits and Pitney Bowes' decision to undertake certain strategic actions which resulted in the Company's establishment of a $.2 million reserve.
Since the first quarter of 1994, the Company's parent Pitney Bowes, as part of its employee work-life initiatives, has actively sought employee input regarding benefits and it was concluded that employees prefer benefits more closely related to their changing work-life needs. As a result, in the third quarter of 1994, Pitney Bowes significantly reduced or eliminated certain postemployment benefits, specifically service- related company-subsidized life insurance, salary continuance and medical benefits, resulting in an after-tax credit to income of $2.1 million (net of approximately $1.4 million of income taxes).
Note 20. - Commitments, Contingencies and Regulatory Matters
The Company is the lessee under noncancelable operating leases for office space and automobiles. Future minimum lease payments under these leases are as follows: $4.9 million in 1997, $4.5 million in 1998, $3.5 million in 1999, $2.7 million in 2000, $2.7 million in 2001 and $2.1 million thereafter. Rental expense under operating leases was $4.6 million, $4.7 million and $4.4 million in 1996, 1995 and 1994, respectively.
Notes to Consolidated Financial Statements (Dollars in thousands)
At December 31, 1996, the Company had no unfunded commitments to extend credit to customers. The Company evaluates each customer's creditworthiness on a case-by-case basis. Upon extension of credit, the amount and type of collateral obtained, if deemed necessary by the Company, is based on management's credit assessment of the customer. Fees received under the agreements are recognized over the commitment period. The maximum risk of loss arises from the possible non- performance of the customer to meet the terms of the credit agreement. As part of the Company's review of its exposure to risk, adequate provisions are made for finance assets which may be uncollectible.
From time to time, the Company is a party to lawsuits that arise in the ordinary course of its business. These lawsuits may involve litigation by or against the Company to enforce contractual rights under vendor, insurance or other contracts; lawsuits by or against the Company relating to equipment, service or payment disputes with customers; disputes with employees; or other matters. The Company is currently a defendant in a number of lawsuits, none of which should have, in the opinion of management and legal counsel, a material adverse effect on the Company's financial position or results of operations.
Pitney Bowes is subject to Federal, state and local laws and regulations related to the environment, and is currently named as a member of various groups of potentially responsible parties in administrative or court proceedings. Based on facts presently known to it, PBI believes that the outcome of any current proceeding will not have a material adverse effect on its financial condition or results of operations.
In June 1995, the United States Postal Service (U.S.P.S.) issued final regulations on the manufacture, distribution and use of postage meters. The regulations cover four general categories: meter security, administrative controls, Computerized Meter Resetting Systems (C.M.R.S.) and other issues. In general, the regulations put reporting and performance obligations on meter manufacturers, outline potential administrative sanctions for failure to meet these obligations and require changes in the fund management system of C.M.R.S., (such as PBI's Postage by Phone(R) System), to give the U.S.P.S. more direct control over meter licensee deposits. PBI is working with the U.S.P.S. to ensure that these regulations provide mailing customers and the U.S.P.S. with the intended benefits, and that Pitney Bowes also benefits. Pitney Bowes has begun implementation of these changes, including modifying its Postage by Phone(R) System so that customers deposit prepayments of postage into a U.S.P.S. account rather than a trust account. Resetting meters through Postage by Phone(R) still requires the customer to request an authorization and a reset code from Pitney Bowes, a service for which PBI charges a fee. PBI continues to believe that the financial impact of implementating these regulations will not be material to its results of operations.
Notes to Consolidated Financial Statements (Dollars in thousands)
In May 1996, the U.S.P.S. issued a proposed schedule for the phase out of mechanical meters in the United States marketplace. The schedule proposed that: (i) as of June 1, 1996, placements of mechanical meters will be available only as replacements for existing licensed mechanical meters; and (ii) as of March 1, 1997, mechanical meters may not be used by persons or firms who process mail for a fee; and (iii) as of December 31, 1997, mechanical meters that interface with mail machines or processors will no longer be approved; and (iv) as of March 1, 1999, all other mechanical meters (stand-alone meters) will no longer be approved.
Pitney Bowes has voluntarily halted new placements of mechanical meters in the United States as of June 1, 1996. Pitney Bowes also has been actively and voluntarily pursuing removal from the market by March 1997, of mechanical meters used by persons or firms who process mail for a fee as set forth in the U.S.P.S. proposed schedule for that segment of meter users. Further, PBI agreed, in March 1997, to use its best efforts to remove from the market mechanical systems meters (meters that interface with mail machines or processors), by a revised target date of December 31, 1998, in lieu of the December 31, 1997 date specified in the U.S.P.S. proposed schedule.
Pitney Bowes will continue to work with the U.S.P.S. to reach agreement on all aspects of a mechanical meter migration schedule that reflects the interests of PBI's customers while minimizing any negative impact on itself. PBI's constant focus on bringing new technologies into the mailing market has already resulted in a significant shift in the makeup of Pitney Bowes meter base. In the last 10 years, 1986 to 1996, the percentage of electronic meters in the Pitney Bowes' U.S. installed base has risen from 6% to nearly 60%. Until a mechanical meter migration plan is finalized, the financial impact, if any, on PBI cannot be determined with certainty. However, based on the proposed schedule and agreements reached to date, Pitney Bowes believes that the plan will not cause a material adverse financial impact to the Company.
The May 1996 U.S.P.S. proposal also contemplates the evolution of metering technology to include a digital information-based indicia standard which has not yet been developed. In July 1996, the U.S.P.S. proposed initial specifications for a digital information-based indicia program. The U.S.P.S. anticipates that digital metering would eventually replace electronic metering in the United States at some undetermined date in the future. Pitney Bowes long-term strategy also envisions the use of digital technology in new product offerings, and PBI has taken the lead in deploying digital meters in the marketplace with over 100,000 digital printing meters already placed into service during 1995 and 1996. Pitney Bowes anticipates working with the U.S.P.S. in this effort to achieve a timely and effective substitution plan. However, until final standards for a digital information-based indicia program are completed, and transition to the new standard is clarified by the U.S.P.S., the impact of this proposal, if any, on Pitney Bowes cannot be determined.
Notes to Consolidated Financial Statements (Dollars in thousands)
Note 21. - Quarterly Financial Information (Unaudited)
Summarized quarterly financial data for 1996 and 1995 follows:
Item 9.
Item 9. Changes in and disagreements with accountants on accounting and --------------------------------------------------------------- financial disclosure --------------------
None. Part III
Item 10.
Item 10. Directors and executive officers of the Registrant --------------------------------------------------
Omitted pursuant to General Instruction J.
Item 11.
Item 11. Executive compensation ----------------------
Omitted pursuant to General Instruction J.
Item 12.
Item 12. Security ownership of certain beneficial owners and management --------------------------------------------------------------
Omitted pursuant to General Instruction J.
Item 13.
Item 13. Certain relationships and related transactions ----------------------------------------------
Omitted pursuant to General Instruction J.
Part IV
Item 14.
Item 14. Exhibits, financial statement schedules and reports on Form 8-K ---------------------------------------------------------------
(a) Index of documents filed as part of this report:
1. Consolidated Financial Statements Page(s) --------------------------------- -------
Included in Part II of this report:
Report of Independent Accountants 22
Consolidated Statements of Income and of Retained Earnings for each of the three years in the period ended December 31, 1996 23
Consolidated Balance Sheet at December 31, 1996 and 1995 24
Consolidated Statement of Cash Flows for each of the three years in the period ended December 31, 1996 25-26
Notes to Consolidated Financial Statements 27-50
2. Financial Statement Schedules ----------------------------- Valuation and qualifying accounts and reserves (Schedule II) 55
The additional financial data should be read in conjunction with the financial statements included in Item 8 to this Form 10-K. Schedules not included with this additional financial data have been omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
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.
Pitney Bowes Credit Corporation
By: /s/ Matthew S. Kissner ------------------------------------- Matthew S. Kissner President and Chief Executive Officer
Date: March 28, 1997 -------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.