ITEM 1. BUSINESS
GENERAL
ADVO, Inc. ("ADVO" or the "Company") is a direct marketing firm primarily engaged in soliciting and processing printed advertising from retailers, manufacturers and service companies for targeted distribution by both shared and solo mail to consumer households in the United States on a national, regional and local basis. Founded in 1929 as a hand delivery company, the Company entered the direct mail industry as a solo mailer in 1946 and began its shared mail program in 1980. The Company currently is the largest commercial user of third-class mail in the United States.
ADVO competes primarily with newspapers, direct mail companies, broadcast media, periodicals and other local distribution entities for retail advertising expenditures. The Company believes that direct mail, which enables advertisers to target advertisements to specific customers or geographic areas, is the most efficient vehicle for delivering printed advertising on a saturation or full market coverage basis, as well as an effective means of targeted coverage.
ADVO's principal executive offices are located at One Univac Lane, Windsor, Connecticut 06095.
In fiscal year 1995, the Company announced its plan to sell its in-store marketing segment which provided marketing services to a wide range of manufacturers and marketers using proprietary operating systems. The sale of substantially all of the net assets of this segment was completed on March 1, 1996. For fiscal year 1995 and 1996 (and by restatement of prior periods), the Company is accounting for its in-store marketing segment as a discontinued operation in this Annual Report on Form 10-K. The discussion of the Company's business under Items 1 and 2 hereof includes only the Company's continuing operations.
PRODUCTS AND SERVICES
ADVO's direct marketing products and services include shared mail and solo mail. ADVO also provides certain transportation and ancillary services in conjunction with its direct marketing programs.
SHARED MAIL
In the Company's shared mail programs (Marriage Mail(R) and Mailbox Values(R)), the advertisements of several advertisers are combined in a single mail package.
Shared mail packages are assembled by the Company for distribution by ZIP Code and, in most instances, each household within the ZIP Code will receive a mail package. Individual customers can choose a portion of the designated mailing area for their distributions, ranging from part of a ZIP Code to all ZIP Codes covered by the program. This flexibility enables major customers, such as retail store chains, to select areas serviced by their retail stores and, at the same time, distribute different versions of their advertisements to accommodate the needs of their individual stores. It also allows a smaller retailer to target only those ZIP Codes or portions of ZIP Codes needed to accommodate its customer base, thereby reducing overall advertising costs.
The Company's shared mail programs offer the features of penetration and target marketing at a significant cost reduction when compared to mailing on an individual or solo mail basis. This cost advantage is available because the Company pays the total postage expense, and advertisers are generally charged a selling price based upon, among other factors, the incremental weight of their promotional pieces.
As a part of its shared mail programs, the Company provides the addresses of the households receiving the mail packages; and sorts, processes and transports the advertising material for ultimate delivery through the United States Postal Service ("USPS"). Generally, larger businesses, such as food chains and mass merchandisers, will provide the Company with preprinted advertising materials in predetermined quantities. In the case of manufacturers and small retail customers, the Company may perform graphics services and act as a broker for the required printing. The Company also offers shared mail customers numerous standard turnkey advertising products in a variety of sizes and colors.
The Company believes its shared mail programs are the largest programs of their kind.
Marriage Mail(R) is a weekly mail program with coverage, on average, of 61 million households in approximately 120 markets. This program is used by local and national retailers. The ZIP Code configuration selected for each market is normally determined by population density and by proximity to retail outlets. Retailers with multiple locations and weekly frequency have a great influence on the ZIP Codes chosen by the Company for its weekly mailings. The Company derives most of its revenues from the Marriage Mail(R) program.
At the beginning of fiscal 1997, the Company announced that it had formed a new network, known as A.N.N.E. (ADVO National Network Extension), of regional shared mail companies to provide its clients with extended coverage outside the markets already served by the Company. The Company handles the clients' orders directly and manages distribution of their advertising through A.N.N.E.'s network partners. Conversely, the A.N.N.E. network enables participating partners (shared mail companies) to offer their clients extended marketplace reach using the Company's services.
SOLO MAIL
Solo mail services include addressing and processing brochures and circulars for an individual customer for distribution through the USPS. Each customer bears the full cost of postage and handling for each mailing. Customers choosing this form of direct mail are generally those who wish to maintain an exclusive image and complete control over the timing and the target of their mailings.
The Company processes solo mail using its own mailing list or lists supplied by the customer. The Company charges a processing fee based on the solo mail services rendered.
OTHER PRODUCTS AND SERVICES
The Company rents portions of its mailing list to organizations interested in distributing their own solo mailings. The Company may or may not perform the associated distribution services for the customer.
Trans-ADVO, Inc., a wholly-owned subsidiary of the Company, is a Class 1 ICC Contract Carrier presently engaged in the transportation of time-sensitive advertising material and general freight. Trans-ADVO, Inc., utilizes contracted carriers to provide direct pickup and delivery services throughout the 48 contiguous states.
ADVO Creative Services, Inc., based in Texas, is a wholly-owned subsidiary of the Company which specializes in the coordination and production of custom promotional magazines and circulars which, in most cases, are then distributed by the Company.
MAILING LIST
ADVO's management believes its computerized mailing list is the largest residential/household mailing list in the country. It contains over 114 million delivery points (constituting nearly all of the
households in the continental United States) and was used by the U.S. Census Bureau as a base for developing the mailing list for its 1980 and 1990 census questionnaire mailings. The Company's management believes that the list is particularly valuable and that replication in its entirety by competitors would be extremely difficult and costly. The list enables the Company to target mailings to best serve its customers.
ADVO's list is updated on a regular basis with information supplied by the USPS. Bimonthly, ADVO submits each address on its mailing list to the USPS. The USPS then provides to ADVO any changes to the addresses within the ZIP Code. Such changes would cover whether the address is still occupied, whether the address still exists at all (i.e., demolished buildings) and any new addresses included in the ZIP Code (i.e., new construction). The USPS also indicates to ADVO changes in the walk sequence order of addresses so that ADVO can qualify for the lowest possible postage rates. The USPS provides these updates for a fee, provided that the user's list is at least 90% complete on a ZIP Code basis. ADVO believes its list is nearly 100% accurate.
CUSTOMER BASE
Typically, the Company's customers are those businesses whose products and services are used by the general population. These businesses (supermarkets, fast food, drug stores, discount and department stores and consumer products manufacturers) require continuous advertising to a mass audience. No one customer accounted for more than 4% of the Company's sales in fiscal 1997, 1996 or 1995.
OPERATIONS
Customers' advertising circulars are processed by approximately 2,500 production employees who work at 19 mail processing facilities which are strategically located throughout the nation. State-of-the-art inserting machines (which combine the individual advertising pieces into the mailing packages), addressing and labeling, and quarter-folding machines are the principal equipment used to process the Company's products and services. At several of the Company's production facilities, new computerized mail sorters are being utilized and developed. In all 19 of ADVO's mail processing facilities, the USPS accepts and verifies the Company's mail to help ensure rapid package acceptance and distribution, which benefits both the USPS and the Company. In most instances, the mail is then shipped by the Company to the destination office of the USPS for final delivery.
During fiscal 1996, the Company entered into a ten year agreement with Integrated Systems Solutions Corporation, now known as IBM Global Services, to provide systems development and technical support to the Company. As a result of this outsourcing, ADVO's computer center moved from Hartford to IBM Global Services' computer center located in Southbury, Connecticut. The Company's branches are on-line to this computer center which enables the day-to-day processing functions to be performed and provides corporate headquarters with management information. The systems include: order processing and production control, transportation/distribution, address list maintenance, market analysis, label printing and distribution, billing and financial and carrier routing of addresses received from customer files and demographic analyses.
COMPETITION
In general, the printed advertising market is highly competitive with companies competing primarily on the basis of price, speed of delivery and ability to target selected potential customers on a cost-effective basis. ADVO's competitors for the delivery of retail and other printed advertising are numerous, and include newspapers, regional and local mailers, direct marketing firms, "shoppers" and "pennysavers".
Newspapers represent the Company's most significant and direct competition. Through the distribution of preprinted circulars, classified advertising and run of press advertising ("ROP"), newspapers have been the traditional and dominant medium for advertising by retailers for many years. Insertion rates are highly competitive and many newspapers' financial resources are substantial.
ADVO's principal direct marketing competitors are other companies with residential lists or similar cooperative mailing programs. These companies have a significant presence in many of the Company's markets and represent serious competition to the Company's Marriage Mail(R) programs in those markets.
There are local mailers in practically every market of the country. In addition to local mailers, there are many local private delivery services such as "shoppers" and "pennysavers" which compete by selling ROP advertisements and classified advertisements. ADVO believes that it competes effectively in its various markets.
SEASONALITY
ADVO's business generally follows the trends of retail advertising spending. The Company has historically experienced higher revenues in the second half of the calendar year.
RESEARCH AND DEVELOPMENT
Expenditures of the Company in research and development during the last three years have not been material.
ENVIRONMENTAL MATTERS
The Company believes that it is substantially in compliance with all regulations concerning the discharge of materials into the environment, and such regulations have not had a material effect on the capital expenditures or operations of the Company.
RAW MATERIALS
The Company manages approximately 45,000 tons of paper per year and another 10,000 tons through its printing network on behalf of its print vendors. ADVO has agreements with various paper suppliers and print vendors to assure the supply of proper paper grades at competitive prices.
EMPLOYEES
As of September 27, 1997, the Company had a total of approximately 4,700 full and part-time employees. ADVO also uses outside temporary employees, particularly during busy seasons.
ADVO has one union contract, covering production employees in the Hartford, Connecticut branch. The Company believes that its relations with its employees are satisfactory.
FORWARD LOOKING STATEMENTS
Except for the historical information stated herein, the matters discussed in this Report on Form 10-K contain forward looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Such forward looking statements are accompanied by cautionary factors which would cause the Company's actual results to differ materially from those in the forward looking statements. Such factors include but are not limited to changes in customer demand; postal and paper prices; the realization of benefits associated with the Company's reengineering initiative; possible governmental regulation or legislation affecting aspects of the Company's business; the risk of damage
to the Company's data centers and telecommunication lines; the efficiencies achieved with technology upgrades; the amount of shares the Company will purchase in the future under its buyback program; the evaluation of the impact of year 2000 costs; and other general economic factors.
ITEM 2.
ITEM 2. PROPERTIES
ADVO does not own any real estate except for its corporate headquarters, which the Company purchased in fiscal year 1995. The corporate headquarters, located in Windsor, Connecticut, consist of two buildings totaling approximately 136,000 square feet. The Company leases 19 mail processing facilities and approximately 65 sales offices (which excludes the sales offices that are located in the mail processing facilities) throughout the United States. The Company believes its facilities are suitable and adequate for the purposes for which they are used and are adequately maintained.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
ADVO is party to various lawsuits and regulatory proceedings which are incidental to its business and which the Company believes will not have a material adverse effect on its consolidated financial condition, liquidity or results of operations.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
EXECUTIVE OFFICERS OF THE REGISTRANT
Mr. Kamerschen has been the Chairman of the Board since January 1989. From November 1988 to February 1989, he was President of the Company and he has been Chief Executive Officer and a Director since November 1988. Mr. Kamerschen is also a Director of Micrografx, Inc., Domain, Inc. and Cognizant Corporation.
Mr. Mulloy has been President and Chief Operating Officer since November 4, 1996 and was elected to the Board of Directors on December 3, 1996. From 1990 to October 1996 he was President and Chief Executive Officer of Pilkington Barnes-Hind, Inc., a division of Pilkington Vision Care.
Mr. McCombs became Senior Vice President and Chief Financial Officer on November 7, 1997. From 1989 to October 1997, he was Vice President--Financial Planning and Measurements. He had held that position for the last eight years.
Mr. Kurz became Senior Vice President and Chief Strategic Growth Officer on April 15, 1997. From April 1993 to March 1997, he held the position of Senior Vice President--Chief Marketing Officer. Prior to that, he was a Managing Partner of Marketing Corporation of America, a marketing consulting firm.
Mr. Lubin became Senior Vice President--Chief Sales Officer on December 4, 1995. From January 1990 to November 1995, he held the position of Senior Vice President-President Western Division.
Mr. Sanders became Senior Vice President--Chief Marketing Officer on May 19, 1997. For the five years prior to that he held several executive positions at Pilkington Barnes-Hind, Inc., a division of Pilkington Vision Care.
Mr. Hirst became Vice President and Controller on April 16, 1990. He has held that position for the last seven years.
The Company is not aware of any family relationships between any of the foregoing officers and any of the Company's directors. Each of the foregoing officers hold such office until his successor shall have been duly chosen and shall have been qualified, or until his earlier resignation or removal.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
ADVO's 1997 Annual Report to Stockholders includes on page 37 under the caption "Quarterly Financial Data (Unaudited)" the reported high and low market prices of ADVO's common stock for the past two fiscal years, and such information is incorporated herein by reference and made a part hereof (see Exhibit 13).
For the fiscal year ended September 27, 1997, the Company declared no cash dividends. During fiscal 1996, the Company paid a regular first quarter dividend of $.025 per share of ADVO common stock, payable to shareholders of record on December 27, 1995. On January 17, 1996 the Company announced the declaration of a special one time dividend (the "Special Dividend") of $10 per share of ADVO common stock to shareholders of record on February 20, 1996. The announcement was a result of the Company's initiative to explore strategic alternatives aimed at increasing shareholder value, which began at the end of fiscal 1995. In addition, the Board of Directors suspended the Company's regular quarterly dividend of $.025 per share of ADVO common stock after the declaration of the Special Dividend. The Company is currently subject to ratio restrictions regarding future cash dividends exceeding $.025 per share as stipulated in its renegotiated credit agreement dated September 29, 1997, with Chase Manhattan Bank.
The Company declared quarterly cash dividends of $.025 per share to holders of ADVO common stock during the fiscal year ended September 30, 1995 for total cash dividends of $.10 per share.
The closing price as of November 28, 1997 of the Company's common stock, under the symbol AD, on the New York Stock Exchange as reported in The Wall Street Journal was $21 3/4 per share. The approximate number of holders of record of the common stock on November 28, 1997 was 915.
During fiscal 1997, the Company engaged in no sales of its securities that were not registered under the Securities Act of 1933.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this item is included in ADVO's 1997 Annual Report to Stockholders on page 20 under the caption "Selected Financial Data" and is incorporated herein by reference and made a part hereof (see Exhibit 13).
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information required by this item is included in ADVO's 1997 Annual Report to Stockholders on pages 21 through 25 under the caption "Financial Report" and is incorporated herein by reference and made a part hereof (see Exhibit 13).
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
ADVO's consolidated financial statements, together with the Report of Independent Auditors thereon dated October 21, 1997, appearing on pages 26 through 38 of ADVO's 1997 Annual Report to Stockholders, are incorporated herein by reference and made a part hereof (see Exhibit 13).
The selected quarterly information required by this item is included under the caption "Quarterly Financial Data (Unaudited)" on page 37 of ADVO's 1997 Annual Report to Stockholders and is incorporated herein by reference and made a part hereof (see Exhibit 13).
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
The information required by this item, to the extent not included under the caption "Executive Officers of the Registrant" in Part I of this Annual Report on Form 10-K, appears on pages 3 and 4 of the Company's definitive proxy statement dated December 18, 1997 for the annual meeting of stockholders to be held on January 22, 1998 (the "Proxy Statement"), under the caption "Election of Directors", and on page 6 of the Proxy Statement under the subcaption "Section 16 Reports", and is incorporated herein by reference and made a part hereof.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is included under the caption "Executive Compensation" on pages 6 through 16 (except for those portions appearing under the subcaptions "Report of the Compensation Committee" and "Company Financial Performance"), and "Governance of the Company" on pages 2 and 3, of ADVO's Proxy Statement and is incorporated herein by reference and made a part hereof.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is included under the captions "Security Ownership of Certain Beneficial Owners" and "Security Ownership of Management" on page 2 and on pages 5 and 6, respectively, of ADVO's Proxy Statement and is incorporated herein by reference and made a part hereof.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is included under the caption "Related Party Transactions" on page 16 and page 17 of ADVO's Proxy Statement and in footnote 8 under the caption "Security Ownership of Management" on pages 5 and 6 of ADVO's Proxy Statement and is incorporated herein by reference and made a part hereof.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) Financial Statements. See the Index to Financial Statements and Financial Statement Schedules on page.
(2) Financial Statement Schedules. See the Index to Financial Statements and Financial Statement Schedules on page.
(3) Exhibits. The following is a list of the exhibits to this Report:
- -------- * Management contract or compensatory plan required to be filed as an exhibit pursuant to item 14(c) of this report.
(b) Reports on Form 8-K.
No report on Form 8-K was filed by the Company with respect to the quarter ended September 27, 1997.
A report on Form 8-K dated September 29, 1997 was filed by the Company subsequent to year end. The Form reported under Item 5 thereof, that the Company announced it had increased its previously announced stock repurchase authorization from 2 million shares to 3.2 million shares. In connection with the increased authorization, the Company purchased 1,936,098 shares of its common stock from Warburg, Pincus Capital Partners, L. P. for $34.8 million, at $18.00 per share. The closing price on September 29, 1997 was $18 3/8 per share.
The Company also announced it had renegotiated its March 4, 1996 credit agreement with a consortium of banks, led by Chase Manhattan Bank. The most prominent features of the new agreement included an increased credit limit to $300 million (from $250 million); a reduction in the interest rate; and an increased limit on the Company's authorization to buyback its stock from $40 million to $100 million.
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.
Date: December 18, 1997 ADVO, Inc. -------------------------------
By: Robert S. Hirst /s/ --------------------------------- ROBERT S. HIRST VICE PRESIDENT AND CONTROLLER
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED. EACH PERSON WHOSE SIGNATURE APPEARS BELOW HEREBY CONSTITUTES DAVID M. STIGLER AND ROBERT S. HIRST, AND EACH OF THEM SINGLY, SUCH PERSON'S TRUE AND LAWFUL ATTORNEYS, WITH FULL POWER TO THEM AND EACH OF THEM, TO SIGN FOR SUCH PERSON AND IN SUCH PERSON'S NAME AND CAPACITY AS INDICATED BELOW, ANY AND ALL AMENDMENTS TO THIS REPORT, HEREBY RATIFYING AND CONFIRMING SUCH PERSON'S SIGNATURE AS IT MAY BE SIGNED BY SAID ATTORNEYS TO ANY AND ALL AMENDMENTS.
DATE SIGNATURE TITLE
December 18, 1997 Robert Kamerschen /s/ Chairman, Chief Executive ---------------------------- Officer and Director ROBERT KAMERSCHEN (Principal Executive Officer)
December 18, 1997 Gary M. Mulloy /s/ President, Chief ---------------------------- Operating Officer and GARY M. MULLOY Director
December 18, 1997 Donald E. McCombs /s/ Senior Vice President and ---------------------------- Chief Financial Officer DONALD E. MCCOMBS (Principal Financial Officer)
December 18, 1997 Robert S. Hirst /s/ Vice President and ---------------------------- Controller (Principal ROBERT S. HIRST Accounting Officer)
December 18, 1997 Bruce Crawford /s/ Director ---------------------------- BRUCE CRAWFORD
December 18, 1997 David F. Dyer /s/ Director ---------------------------- DAVID F. DYER
December 18, 1997 James A. Eskridge /s/ Director ---------------------------- JAMES A. ESKRIDGE
December 18, 1997 Jack W. Fritz /s/ Director ---------------------------- JACK W. FRITZ
December 18, 1997 Howard H. Newman /s/ Director ---------------------------- HOWARD H. NEWMAN
December 18, 1997 John R. Rockwell /s/ Director ---------------------------- JOHN R. ROCKWELL
December 18, 1997 John L. Vogelstein /s/ Director ---------------------------- JOHN L. VOGELSTEIN
ADVO, INC.
AND FINANCIAL STATEMENT SCHEDULES
All other schedules have been omitted since the required information is not present. - -------- * Incorporated herein by reference from pages 26 to 38 of the ADVO, Inc. 1997 Annual Report to Stockholders.
ADVO, INC.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS)
- -------- (a) Write off of uncollectible accounts, net of recoveries on accounts previously written off. (b) Reduction of revenues. (c) Reclassification of allowances related to discontinued operations.