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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (FEE REQUIRED) For the fiscal year ended
December 31, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED) For the transition period from
____ to ____
Commission file number 1-4717
KANSAS CITY SOUTHERN INDUSTRIES, INC.
(Exact name of Company as specified in its charter)
Delaware 44-0663509
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
114 West 11th Street, Kansas City, Missouri 64105
(Address of principal executive offices) (Zip Code)
Company's telephone number, including area code (816) 983-1303
Securities registered pursuant to Section 12 (b) of the Act:
Name of each exchange on
Title of each class which registered
Preferred Stock, Par Value $25 Per Share,
4%, Noncumulative New York Stock Exchange
Common Stock, $.01 Per Share Par Value New York Stock Exchange
Securities registered pursuant to Section 12 (g) of the Act: None
Indicate by check mark whether the Company (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Company
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Company's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. [ ]
Company Stock. The Company's common stock is listed on the New York Stock
Exchange under the symbol "KSU." As of March 3, 1997, 36,032,136 shares of
common stock and 242,170 shares of voting preferred stock were outstanding.
On such date, the aggregate market value of the voting common and preferred
stock held by non-affiliates was $1,913,699,013 (amount computed based on
closing prices of preferred and common stock on New York Stock Exchange).
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the following documents are incorporated herein by reference into
Part of the Form 10-K as indicated:
Document Part of Form 10-K
into which incorporated
Company's Definitive Proxy Statement for the 1997 Part III
Annual Meeting of Stockholders, which will be filed
no later than 120 days after December 31, 1996
KANSAS CITY SOUTHERN INDUSTRIES, INC.
1996 FORM 10-K ANNUAL REPORT
Table of Contents
Page
PART I
Item 1. Business . . . . . . . . . . . . . . . . . . . . . . . 1
Item 2. Properties . . . . . . . . . . . . . . . . . . . . . . 2
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . . 5
Item 4. Submission of Matters to a Vote of Security Holders. . 5
Executive Officers of the Company. . . . . . . . . . . 5
PART II
Item 5. Market for the Company's Common Stock and
Related Stockholder Matters. . . . . . . . . . . . . 7
Item 6. Selected Financial Data. . . . . . . . . . . . . . . . 7
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . . 9
Item 8. Financial Statements and Supplementary Data. . . . . .38
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure. . . . . . . . .78
PART III
Item 10. Directors and Executive Officers of the Company. . . .79
Item 11. Executive Compensation . . . . . . . . . . . . . . . .79
Item 12. Security Ownership of Certain Beneficial Owners and
Management . . . . . . . . . . . . . . . . . . . . .79
Item 13. Certain Relationships and Related Transactions . . . .79
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K. . . . . . . . . . . . . . . . . . . . .80
Signatures . . . . . . . . . . . . . . . . . . . . . .85
ii
[Page 1]
Part I
Item 1. Business
(a) GENERAL DEVELOPMENT OF COMPANY BUSINESS
The information set forth in response to Item 101 of Regulation S-K under Part
II Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations, on pages 9 through 37 of this Form 10-K is incorporated
by reference in response to this Item 1.
(b) INDUSTRY SEGMENT FINANCIAL INFORMATION
The information set forth in response to Item 101 of Regulation S-K relative
to financial information by industry segment for the three years ended
December 31, 1996 under Part II Item 7, Management's Discussion and Analysis
of Financial Condition and Results of Operations, on pages 17 through 28 of
this Form 10-K, and Item 8, Financial Statements and Supplementary Data, at
Note 13. Industry Segments on pages 72 through 75 of this Form 10-K, is
incorporated by reference in response to this Item 1.
(c) NARRATIVE DESCRIPTION OF THE BUSINESS
The information set forth in response to Item 101 of Regulation S-K under Part
II Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations, on pages 9 through 37 of this Form 10-K is incorporated
by reference in partial response to this Item 1.
Employees. As of December 31, 1996, Kansas City Southern Industries, Inc.
("Company" or "KCSI") and its majority owned subsidiaries employed
approximately 3,800 persons, with approximately 2,780 employed in The Kansas
City Southern Railway Company, 900 in Financial Asset Management, and 120 in
Corporate & Other. In addition, unconsolidated affiliates of the Company and
its subsidiaries employed approximately 6,000 persons, including approximately
5,600 at DST Systems, Inc. ("DST"), the largest employer of such ventures.
[Page 2]
Item 2. Properties
In the opinion of management, the various facilities, office space and other
properties owned and/or leased by the Company (and its subsidiaries and
affiliates) are adequate for existing operating needs.
The Kansas City Southern Railway Company
The Kansas City Southern Railway Company ("KCSR") owns and operates
approximately 2,739 miles of main and branch lines, and approximately 1,106
miles of other tracks, in a nine state region, including Missouri, Kansas,
Arkansas, Oklahoma, Mississippi, Alabama, Tennessee, Louisiana, and Texas. In
addition, approximately 215 miles of main and branch lines and 87 miles of
other tracks are operated by KCSR under trackage rights and leases.
Kansas City Terminal Railway Company (of which KCSR is a partial owner), with
other railroads, owns and operates approximately 80 miles of track, and
operates an additional 8 miles of track under trackage rights in greater
Kansas City, Missouri. KCSR also leases for operating purposes certain short
sections of trackage owned by various other railroad companies and jointly
owns certain other facilities with such railroads.
KCSR and the Union Pacific Railroad ("UP") have a haulage and trackage rights
agreement, which gives KCSR access to Nebraska and Iowa, and additional routes
in Kansas, Missouri and Texas. The haulage rights require the UP to move KCSR
traffic in UP trains; the trackage rights allow KCSR to operate its trains
over UP tracks.
KCSR owns and operates repair shops, depots and office buildings along its
right-of-way in support of its transportation operations. A major facility,
Deramus Yard, is located in Shreveport, Louisiana and includes a general
office building, locomotive repair shop, car repair shops, customer service
center, material warehouses and fueling facilities totaling approximately
226,750 square feet. KCSR owns a 108,000 square foot major diesel locomotive
repair facility in Pittsburg, Kansas. KCSR owns freight and truck maintenance
buildings in Dallas, Texas totaling approximately 125,000 square feet. KCSR
and KCSI executive offices are located in an eight story office building in
Kansas City, Missouri and are leased from a subsidiary of the Company.
KCSR owns and operates six intermodal facilities. These facilities are
located in Dallas, Texas; Kansas City, Missouri; Sallisaw, Oklahoma;
Shreveport and New Orleans, Louisiana; and Jackson, Mississippi. The facility
in Jackson was completed in December 1996. The various locations include
strip tracks, cranes and other equipment used in facilitating the transfer and
movement of trailers and containers.
At December 31, 1996, KCSR's fleet of rolling stock consisted of:
* 435 diesel locomotives: 160 owned by KCSR and 275 leased from
affiliates;
* 15,285 freight cars: 3,675 owned by KCSR, 8,612 leased from
non-affiliates, and 2,998 leased
from affiliates;
* 3,143 tractors, trucks and trailers: 7 owned or leased from an affiliate
and 3,136 leased from non-affiliates.
Some of this equipment is subject to liens created under conditional sales
agreements, equipment trust certificates and leases in connection with the
original purchase or lease of such equipment. KCSR indebtedness with respect
to equipment trust certificates, conditional sales agreements and capital
leases totaled approximately $96 million at December 31, 1996.
[Page 3]
Maintenance expenses for Way and Structure and Equipment (pursuant to
regulatory accounting rules, which include depreciation) for the three years
ended December 31, 1996 and as a percent of KCSR revenues are as follows
(dollars in millions):
KCSR Maintenance
Way and Structure Equipment
Percent of Percent of
Amount Revenue Amount Revenue
1996 $ 92.6 18.8% $ 99.8 20.3%
1995 88.0 17.5 108.8 21.7
1994 73.6 15.6 83.4 17.6
Southern Group, Inc. leases approximately 4,150 square feet of office space in
downtown Kansas City, Missouri from an affiliate of DST.
Financial Asset Management
Janus Capital Corporation ("Janus"). Janus leases from non-affiliates 227,000
square feet of office space in three facilities for administrative,
investment, and shareowner processing operations, and approximately 34,000
square feet for mail processing and storage requirements. These corporate
offices and mail processing facilities are located in Denver, Colorado. Janus
also leases 5,500 square feet for a customer service and telephone center in
Kansas City, Missouri and 1,400 square feet of office space in London, England
for securities research and trading.
Berger Associates, Inc. ("Berger"). Berger leases from a non-affiliate
approximately 29,800 square feet of office space in Denver, Colorado for its
administrative and corporate functions.
Corporate & Other
The Company is an 80% owner of Wyandotte Garage Corporation, which owns a
parking facility in downtown Kansas City, Missouri. The facility is located
adjacent to the Company's and KCSR's executive offices, and consists of 1,147
parking spaces which are utilized by the employees of the Company and its
affiliates, as well as the public.
Trans-Serve, Inc. operates a railroad wood tie treating plant in Vivian,
Louisiana under an industrial revenue bond lease arrangement with an option to
purchase. This facility includes buildings totaling approximately 12,000
square feet.
Pabtex, Inc. owns a 70 acre coal and petroleum coke bulk handling facility in
Port Arthur, Texas.
Mid-South Microwave, Inc. owns and operates a microwave system, which extends
essentially along the right-of-way of KCSR from Kansas City, Missouri to
Dallas, Beaumont and Port Arthur, Texas and New Orleans, Louisiana. This
system is leased to KCSR.
Other subsidiaries of the Company own approximately 8,000 acres of land at
various points adjacent to the KCSR right-of-way. Other properties also
include a 354,000 square foot warehouse at Shreveport, Louisiana, a bulk
handling facility at Port Arthur, Texas, and several former railway buildings
now being rented to non-affiliated companies, primarily as warehouse space.
The Company owns 1,025 acres of property located on the waterfront in the Port
Arthur, Texas area, which includes 22,000 linear feet of deep water frontage
and three docks. Port Arthur is an uncongested port with direct access to the
Gulf of Mexico. Approximately 75% of this property is available for
development.
[Page 4]
Unconsolidated Affiliates
DST, an approximate 41% owned unconsolidated affiliate, owns a 161,000 square
foot Data Center located in Kansas City, Missouri, commonly known as its
Winchester Data Center.
DST master-leases three downtown Kansas City office buildings consisting of
approximately 353,000 square feet, in which DST or its affiliates occupy
approximately 145,000 square feet and the balance is leased to non-affiliated
tenants. This space is utilized by DST for its shareholder operations,
systems development and other support functions.
DST's subsidiaries own additional facilities in Kansas City, Missouri,
comprising approximately 1,746,000 square feet, and lease 1,030,000 square
feet in various locations throughout the United States. DST also leases
international properties with an aggregate 190,000 square feet of office
space.
In addition to the above properties, DST and its various subsidiaries own or
lease a number of surface parking lots in downtown Kansas City, Missouri, nine
properties outside the Kansas City, Missouri metropolitan area used for office
or production space, and office space in the Netherlands, Switzerland, Belgium
and South Africa.
DST owns or leases mainframe computers and significant amounts of auxiliary
computer support equipment (such as disk and tape drives, CRT terminals,
etc.), all of which are necessary for its computer and communications
operations.
Mexrail, Inc., a 49% owned KCSI affiliate, owns 100% of The Texas Mexican
Railway Company ("Tex-Mex") and certain other assets, including the northern
U.S. half of a rail traffic bridge at Laredo, Texas spanning the Rio Grande
river. This bridge is a significant entry point for rail traffic between
Mexico and the U.S. The Tex-Mex operates a 157 mile rail line extending from
Corpus Christi to Laredo, Texas, and also has trackage rights (from UP)
totaling approximately 360 miles between Corpus Christi and Beaumont, Texas.
Transportacion Ferroviaria Mexicana S. de R.L. de C.V. ("TFM") was awarded by
the Mexican Government the right to purchase 80% of the common stock of
Ferrocarril del Noreste, S.A. de C.V. ("FNE"). FNE holds the concession to
operate Mexico's approximate 2,500 mile "Northeast Railway" for the next 50
years, with the option of a 50 year extension (subject to certain conditions).
This railway, a strategically important rail link to Mexico and the North
American Free Trade Agreement corridor, is estimated to be responsible for
transporting approximately 40% of Mexico's rail cargo and is located next to
primary north/south truck routes. FNE will have the exclusive right to
operate the rail, but will not own the land, roadway or associated structures.
However, certain rail equipment, including approximately 370 locomotives and
8,800 freight cars, is included in the purchase price and will be owned by FNE
upon gaining operational control of the railway. In addition to the railway,
TFM (through FNE) also will have rights to office space at which various
operational, accounting, managerial and other activities will be performed.
The primary facilities are located in Mexico City and Monterrey, Mexico. TFM
was a 49% owned KCSI affiliate at December 31, 1996, but this interest may be
reduced to approximately 37% in 1997 if a letter of intent to sell a portion
of TFM to the Mexican Government is finalized. See additional information in
Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations, on pages 10 and 11.
The outstanding stock of Gateway Western Railway Company ("Gateway Western")
is beneficially owned by KCS Transportation Company (a wholly-owned subsidiary
of the Company). At December 31, 1996, the Company reported Gateway Western
as an unconsolidated subsidiary. If the Company receives approval for the
acquisition of Gateway Western from the Surface Transportation Board, Gateway
Western will become a consolidated subsidiary of the Company. Gateway Western
operates a 402 mile rail line extending from Kansas City, Missouri to East St.
Louis and Springfield, Illinois. Additionally, Gateway Western has restricted
haulage rights extending to Chicago, Illinois from the Southern Pacific Rail
Corporation. Gateway Western connects with various eastern rail carriers at
East St. Louis.
[Page 5]
Item 3. Legal Proceedings
The information set forth in response to Item 103 of Regulation S-K under Part
II Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations, on pages 34 through 36 of this Form 10-K is
incorporated by reference in response to this Item 3. In addition, see
discussion in Part II Item 8, Financial Statements and Supplementary Data, at
Note 11. Commitments and Contingencies on pages 69 and 70 of this Form 10-K.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the three month
period ended December 31, 1996.
Executive Officers of the Company
Pursuant to General Instruction G(3) of Form 10-K and instruction 3 to
paragraph (b) of Item 401 of Regulation S-K, the following list is included as
an unnumbered Item in Part I of this Form 10-K in lieu of being included in
KCSI's Definitive Proxy Statement which will be filed no later than 120 days
after December 31, 1996. All executive officers are elected annually and
serve at the discretion of the Board of Directors. Certain of the executive
officers have employment agreements with the Company.
Name Age Position(s)
L.H. Rowland 59 President and Chief Executive Officer, Director
M.R. Haverty 52 Executive Vice President, Director
P.S. Brown 60 Vice President and Associate General
Counsel and Assistant Secretary
R.P. Bruening 58 Vice President, General Counsel and
Corporate Secretary
D.R. Carpenter 50 Vice President - Finance
A.P. McCarthy 50 Vice President and Treasurer
J.D. Monello 52 Vice President and Chief Financial Officer
L.G. Van Horn 38 Vice President and Comptroller
Mr. Rowland has continuously served as President since July 1983 and Chief
Executive Officer since January 1987. He has been employed by the Company
since 1980, serving in numerous management positions, and has served as a
Director of the Company continuously since 1983. He also serves as Chairman
of the Board of KCSR and as a Director of Janus and Berger.
Mr. Haverty has continuously served as Executive Vice President and Director
of the Company since May 1995. From 1993 to 1995, he served as Chairman and
Chief Executive Officer of Haverty Corporation. From 1991 to 1993, he was an
independent executive transportation adviser. From 1989 to 1991, he served as
the President and Chief Operating Officer of The Atchison, Topeka & Santa Fe
Railway Company, and for several years prior, held numerous positions within
that organization. He also served as a director of Wisconsin Central Ltd. and
Gateway Western within the last five years. He serves as President and Chief
Executive Officer of KCSR.
Mr. Brown has continuously served as Vice President and Associate General
Counsel and Assistant Secretary since July 1992. From 1981 to July 1992, he
served as Vice President - Governmental Affairs.
[Page 6]
Mr. Bruening has continuously served as Vice President, General Counsel and
Corporate Secretary since July 1995. From May 1982 to July 1995, he served as
Vice President and General Counsel. He also serves as Senior Vice President
and General Counsel of KCSR.
Mr. Carpenter has continuously served as Vice President - Finance since
November 1996. He was Vice President - Finance and Tax from May 1995 to
November 1996. He was Vice President - Tax from June 1993 to May 1995. From
1978 to June 1993, he was a member in the law firm of Watson & Marshall L.C.,
Kansas City, Missouri. He also serves as Vice President - Finance of KCSR.
Mr. McCarthy has continuously served as Vice President and Treasurer since May
1996. He was Treasurer from December 1989 to May 1996. He also serves as
Vice President and Treasurer of KCSR.
Mr. Monello has continuously served as Vice President and Chief Financial
Officer since March 1994. From October 1992 to March 1994, he served as Vice
President - Finance. From January 1992 to October 1992, he served as Vice
President - Finance and Comptroller. From May 1989 to January 1992, he served
as Vice President and Assistant Comptroller. He also serves as Senior Vice
President and Chief Financial Officer of KCSR.
Mr. Van Horn has continuously served as Vice President and Comptroller since
May 1996. He was Comptroller from October 1992 to May 1996. From January
1992 to October 1992, he served as Assistant Comptroller. From January 1989
to January 1992, he served as Manager - Financial Reporting. He also serves
as Vice President and Comptroller of KCSR.
There are no arrangements or understandings between the executive officers and
any other person pursuant to which the executive officer was or is to be
selected as an officer, except with respect to the executive officers who have
entered into employment agreements, which agreements designate the position(s)
to be held by the executive officer.
None of the above officers are related to one another by family.
[Page 7]
Part II
Item 5. Market for the Company's Common Stock and Related Stockholder
Matters
The information set forth in response to Item 201 of Regulation S-K on the
cover (page i) under the heading "Company Stock," and in Part II Item 8,
Financial Statements and Supplementary Data, at Note 14. Quarterly Financial
Data (Unaudited) on pages 76 and 77 of this Form 10-K is incorporated by
reference in partial response to this Item 5.
The Company's Board of Directors authorized a 33% increase in its common stock
dividend in January 1996. The dividend will be reviewed annually and
adjustments considered that are consistent with growth in real earnings and
prevailing business conditions. Unrestricted retained earnings of the Company
at December 31, 1996 were $285.6 million.
At March 3, 1997, there were 6,183 holders of the Company's common stock based
upon an accumulation of the registered stockholder listing.
Item 6. Selected Financial Data
(in millions, except per share and ratio data)
The selected financial data below should be read in conjunction with the
consolidated financial statements and the related notes thereto, and the
Report of Independent Accountants thereon, included under Item 8 of this Form
10-K, and such data is qualified by reference thereto.
1996(i) 1995(ii) 1994 1993 1992
Revenues $ 847.3 $ 775.2 $1,088.4 $ 946.0 $ 722.3
Income from continuing
operations $ 150.9 $ 236.7 $ 104.9 $ 97.0 $ 63.8
Income from continuing
operations per
common share $ 3.92 $ 5.41 $ 2.32 $ 2.16 $ 1.43
Total assets $2,084.1 $2,039.6 $2,230.8 $1,917.0 $1,248.4
Long-term obligations$ 637.5 $ 633.8 $ 928.8 $ 776.2 $ 387.0
Cash dividends per
common share $ .40 $ .30 $ .30 $ .30 $ .30
Ratio of earnings
to fixed charges
(Exhibit 12.1 hereto) 3.30 6.14 (iii) 3.28 3.68 3.40
(i) Includes a one time after-tax gain of $47.7 million (or $1.24 per share),
representing the Company's proportionate share of the one time gain
recognized by DST in connection with the merger of The Continuum
Company, Inc., formerly a DST unconsolidated equity affiliate, with
Computer Sciences Corporation in a tax-free share exchange (see Note 2
to the consolidated financial statements in this Form 10-K).
[Page 8]
(ii) Reflects DST as an unconsolidated affiliate as of January 1, 1995 due to
the DST public offering and associated transactions completed in November
1995, which reduced the Company's ownership of DST to approximately 41%
and resulted in deconsolidation of DST from the Company's consolidated
financial statements. The public offering and associated transactions
resulted in a $144.6 million after-tax gain, or $3.31 per share to the
Company (see Note 2 to the consolidated financial statements included
in this Form 10-K).
(iii) Financial information from which the ratio of earnings to fixed charges
was computed for the year ended December 31, 1995 reflects DST as a
majority owned unconsolidated subsidiary through October 31, 1995, and
an unconsolidated 41% owned affiliate thereafter, in accordance with
applicable U.S. Securities and Exchange Commission rules and regula-
tions. If the ratio was computed to exclude the one time pretax gain
of $296.3 million associated with the November 1995 public offering
and associated transactions, the 1995 ratio of earnings to fixed
charges would have been 3.04.
All years reflect the reclassification of certain income/expense items from
"Revenues" and "Costs and Expenses" to a separate "Other, net" line item in
the Consolidated Statements of Income.
Above amounts reflect the 2-for-1 common stock split to shareholders of record
on February 19, 1993, paid March 17, 1993 and the 2-for-1 common stock split
to shareholders of record on February 14, 1992, paid March 17, 1992.
The information set forth in response to Item 301 of Regulation S-K under Part
II Item 7, Management's Discussion and Analysis of Financial Condition and
Results of Operations, on pages 9 through 37 of this Form 10-K is incorporated
by reference in partial response to this Item 6.
[Page 9]
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
OVERVIEW
The discussion set forth below, as well as other portions of this Form 10-K,
contains comments not based upon historical fact. Such forward-looking
comments are based upon information currently available to management and
management's perception thereof as of the date of this Form 10-K. The actual
results of operations of Kansas City Southern Industries, Inc. ("KCSI" or
"Company") could materially differ from those indicated in forward-looking
comments. The differences could be caused by a number of factors or
combination of factors including, but not limited to, those factors identified
in the Company's Current Report on Form 8-K dated November 12, 1996, which has
been filed with the U.S. Securities and Exchange Commission (File No. 1-4717)
and is hereby incorporated by reference herein. Readers are strongly
encouraged to consider these factors when evaluating any such forward-looking
comments.
The discussion herein is intended to clarify and focus on the Company's
results of operations, certain changes in its financial position, liquidity,
capital structure and business developments for the periods covered by the
consolidated financial statements included under Item 8 of this Form 10-K.
This discussion should be read in conjunction with these consolidated
financial statements, the related notes and the Report of Independent
Accountants thereon, and is qualified by reference thereto.
KCSI, a Delaware corporation organized in 1962, is a diversified holding
company with principal operations in rail transportation, through its
subsidiary The Kansas City Southern Railway Company and various equity
investments, and Financial Asset Management, through its subsidiaries Janus
Capital Corporation ("Janus") and Berger Associates, Inc. ("Berger"). The
Company supplies its various subsidiaries with managerial, legal, tax,
financial and accounting services, in addition to managing other
"non-operating" and more passive investments.
The Company's business activities by industry segment and principal subsidiary
companies are:
The Kansas City Southern Railway Company - The Kansas City Southern Railway
Company ("KCSR"), a wholly-owned subsidiary of the Company, operates a Class I
Common Carrier railroad system. Also included in this segment is Southern
Group, Inc. ("SGI"), a wholly-owned subsidiary of KCSR. SGI is the holding
company for Carland, Inc. ("Carland"), as well as the accounting and loan
portfolio manager for Southern Capital Corporation, LLC ("Southern Capital"),
a 50% owned joint venture. See the "Results of Operations" section below for
information regarding the contribution of the majority of Carland assets and
certain assets of KCSR to Southern Capital in October 1996.
In addition to equity earnings from Southern Capital, the KCSR segment
includes equity earnings in Gateway Western Railway Company ("Gateway
Western"). As discussed below, KCS Transportation Company ("KCSTC," a
wholly-owned subsidiary of the Company) acquired beneficial ownership of the
outstanding stock of Gateway Western in December 1996. Until the Company's
proposed acquisition of Gateway Western is approved by the Surface
Transportation Board ("STB"), which is currently pending, Gateway Western will
be accounted for under the equity method as an unconsolidated subsidiary.
Financial Asset Management - This segment is engaged in the management of
investments for mutual funds, private and other accounts through Janus (an 83%
owned subsidiary) and Berger (an 80% owned subsidiary as of December 31, 1996,
increased to approximately 87% during January 1997).
Corporate & Other - Corporate & Other consists of equity in certain
unconsolidated affiliates, primarily DST Systems, Inc. ("DST," an approximate
41% owned affiliate), Mexrail, Inc. ("Mexrail," a 49% owned affiliate) and
Transportacion Ferroviaria Mexicana S. de R.L. de C.V. ("TFM," a 49% owned
affiliate at December 31, 1996, but which may be reduced to approximately 37%
during 1997 - see below); unallocated holding company expenses; intercompany
eliminations; and other less significant consolidated subsidiaries, including
Pabtex, Inc. ("Pabtex") and Trans-Serve, Inc. Beginning in 1997, equity
earnings from Mexrail and TFM will be included in the KCSR segment.
[Page 10]
As more fully discussed below, the Company and DST completed a public offering
of DST common stock and associated transactions in November 1995, which
reduced the Company's ownership of DST to approximately 41%. Accordingly, the
Company's investment in DST was accounted for under the equity method for the
year ended December 31, 1995 retroactive to January 1, 1995.
RECENT DEVELOPMENTS
Concession to Operate Mexico's Northeast Railway. On December 6, 1996, the
Company and Transportacion Maritima Mexicana, S.A. de C.V. ("TMM"), together
with their joint venture, TFM, announced that the Mexican Government
("Government") had awarded to TFM the right to purchase 80% of the common
stock of Ferrocarril del Noreste, S.A. de C.V. ("FNE") for approximately
11.072 billion Mexican pesos (approximately $1.4 billion U.S.). FNE holds the
concession to operate Mexico's approximate 2,500 mile "Northeast Railway" for
the next 50 years, with the option of a 50 year extension (subject to certain
conditions).
The Northeast Railway is a strategically important rail link to Mexico and the
North American Free Trade Agreement ("NAFTA") corridor. The line is estimated
to transport approximately 40% of Mexico's rail cargo and is located next to
primary north/south truck routes. The Northeast Railway directly links Mexico
City and Monterrey, as well as Guadalajara (through trackage rights), with the
ports of Lazaro Cardenas, Veracruz, Tampico, and the cities of Matamoros and
Nuevo Laredo. Nuevo Laredo is a primary transportation gateway between Mexico
and the United States. The Northeast Railway will connect in Laredo, Texas to
the Union Pacific Railroad ("UP") and the Texas-Mexican Railroad Company
("Tex-Mex"), a wholly-owned subsidiary of Mexrail. The Tex-Mex links to KCSR
at Beaumont, Texas through trackage rights. With the KCSR and Tex-Mex
interchange at Beaumont, and through KCSR's connections with major rail
carriers at various other points in the United States, KCSR, together with
TMM, has developed a NAFTA rail system which is expected to facilitate the
economic integration of the North American marketplace.
TFM deposited approximately $560 million U.S. with the Government on January
31, 1997 (representing approximately 40% of the purchase price) as the initial
installment under the agreement to purchase FNE. The Company funded its
proportionate amount (approximately $277 million U.S.) of the initial
installment as a capital contribution to TFM using borrowings under existing
lines of credit. The Government has transferred to TFM 32% of the stock of
FNE and deposited an additional 48% of the stock in trust pending receipt of
the final installment of the purchase price from TFM. The remaining 20% of
FNE will be retained by the Government. The Government has the option of
selling its 20% interest through a public offering, or selling it to TFM
subsequent to October 31, 2003 at the share price paid by TFM indexed for
inflation at the Mexican Base Rate (i.e., the Unidad de Inversiones (UDI)
published by Banco de Mexico). In the event that TFM does not purchase the
Government's 20% interest, TMM and KCSI are obligated to purchase the
interest in proportion to their ownership interest in TFM.
The remaining 60% of the purchase price will be paid when TFM gains
operational control of the Northeast Railway, but in no case later than July
16, 1997. TFM (through FNE) has entered into a letter of intent with an
investment banking institution to finance the majority of this remaining
amount through a combination of a senior bank facility, a high yield note
offering, and (if necessary) a high yield bridge loan facility. Together with
a line of credit, the arrangements are expected to make available to TFM
approximately $875 million. The terms of the letter of intent include a
possible capital call of $150 million from TMM and the Company if certain
performance benchmarks, to be agreed upon, are not met. The Company would be
responsible for approximately $74 million of the capital call.
Concurrent with the arrangement of financing for TFM, TMM and the Company
entered into a letter of intent to sell approximately 24.5% of TFM to the
Government for approximately $200 million U.S. The letter of intent
contemplates that the Government's interest would have limited voting rights,
and that TMM and the Company would have a call option, which could be
exercised at the share price paid by the Government plus a (U.S.
dollar-denominated) interest factor based on one-year U.S. Treasury
securities.
[Page 11]
The proceeds from the Government will be used to finance a
portion of the FNE purchase price. Upon completion of the transaction, the
Company's interest in TFM would be reduced from 49% to approximately 37%, and
the Company would account for its investment in TFM under the equity method.
In the event that the proceeds from the proposed debt financing and sale of
24.5% of TFM to the Government do not provide funds sufficient for TFM to make
the final installment of the purchase price, the Company may be required to
make additional capital contributions. In order to hedge against a portion of
the Company's exposure to a strengthening Mexican peso, in February and March
1997, the Company entered into two separate forward contracts to purchase
Mexican pesos - $98 million to mature in July 1997 and $100 million to mature
in May 1997. Any gains or losses associated with these contracts will be
deferred until maturity and accounted for as components of the Company's
investment in TFM. These contracts are intended to hedge only a portion of
the Company's exposure related to the final installment of the purchase price
and not any other transactions or balances. Additionally, TFM has entered
into approximately $600 million in forward contracts to hedge against its
exposure to a strengthening Mexican peso. See "Foreign Exchange Matters"
below.
Upon completion of TFM's purchase of 80% of FNE, the Company expects that its
investment in TFM will total approximately $300 million.
In addition to the initial contribution to TFM in connection with the
acquisition of FNE, the Company expects that TFM will require substantial
funding as it begins its efforts to upgrade the Northeast Railway's equipment,
systems, procedures and marketing capabilities in order to meet the growing
needs of Mexico's domestic and foreign trade. The Company believes the
anticipated financing arrangements discussed above will be sufficient to fund
these expected investments.(1)
Gateway Western Purchase. In December 1996, KCSTC (a wholly-owned subsidiary
of the Company) acquired beneficial ownership of the outstanding stock of
Gateway Western, a regional rail carrier with operations from Kansas City,
Missouri to East St. Louis and Springfield, Illinois. Gateway Western also
has restricted haulage rights between Springfield and Chicago from the
Southern Pacific Rail Corporation ("SP"). The acquisition will be accounted
for as a purchase. The consideration paid for Gateway Western (including
various acquisition costs and liabilities) was approximately $12.2 million,
which, based on initial purchase price allocations, exceeded the fair value of
the underlying net assets by approximately $12.1 million. The resulting
intangible will be amortized over a period of 40 years.
The stock acquired by KCSTC will be held in an independent voting trust until
the Company receives approval from the STB on the proposed transaction. The
approval process is expected to take approximately five months. If approved,
the voting trust will be dissolved and the shares transferred to KCSTC;
however, if the acquisition is not approved, the shares would have to be
disposed to a non-affiliated third party. While the Gateway Western stock is
held in trust, the Company will account for Gateway Western under the equity
method as a majority-owned unconsolidated subsidiary. If the shares are
transferred to KCSTC, purchase price allocations will be completed and Gateway
Western will become a consolidated subsidiary reported under the KCSR segment.
Under a prior agreement with The Atchison, Topeka & Santa Fe Railway Company,
Burlington Northern Santa Fe Corporation has the option of purchasing the
assets of Gateway Western (based on a fixed formula in the agreement) through
the year 2004.
Panama Railroad Concession. On July 1, 1996, the Panamanian Government
notified the Company and its partner, Mi-Jack Products, Inc., that they had
been awarded the exclusive right to negotiate a definitive agreement for the
concession to operate the Panama Railroad Company. The current route of the
Panama Railroad Company runs parallel to the Panama Canal. The Company is in
the process of evaluating the various alternatives available with respect to
the concession.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 12]
RESULTS OF OPERATIONS
Consolidated operating results during 1994-1996 were affected by the following
significant developments.
Southern Capital Joint Venture. On October 21, 1996, the Company and GATX
Capital Corporation ("GATX") completed the formation and financing of a joint
venture to perform certain leasing and financing activities. The venture,
Southern Capital, was formed through a GATX contribution of $25 million in
cash, and a Company contribution (through its subsidiaries KCSR and Carland)
of $25 million in net assets, comprising a negotiated fair value of
locomotives and rolling stock and long-term indebtedness owed to KCSI and its
subsidiaries. In an associated transaction, Southern Leasing Corporation (an
indirect wholly-owned subsidiary of the Company prior to dissolution in
October 1996), sold to Southern Capital approximately $75 million of loan
portfolio assets and rail equipment.
As a result of these transactions and subsequent repayment by Southern Capital
of indebtedness owed to KCSI and its subsidiaries, the Company received cash
which exceeded the net book value of its assets by approximately $47.2
million. Concurrent with the formation of the joint venture, KCSR entered
into operating leases with Southern Capital for the majority of the rail
equipment acquired by or contributed to Southern Capital. Accordingly, this
excess fair value over book value is being recognized over the terms of the
leases.
The cash received by the Company was used to reduce outstanding indebtedness
by approximately $217 million, after consideration of applicable income taxes,
through repayments on various lines of credit and subsidiary indebtedness.
The Company reports its 50% ownership interest in Southern Capital under the
equity method of accounting.
DST's Investment in Continuum. On August 1, 1996, The Continuum Company, Inc.
("Continuum"), formerly an approximate 23% owned DST unconsolidated equity
affiliate, merged with Computer Sciences Corporation ("CSC," a publicly traded
company) in a tax-free share exchange. In exchange for its ownership interest
in Continuum, DST received approximately 4.3 million shares (representing an
approximate 6% interest) of CSC common stock.
As a result of the transaction, the Company's 1996 earnings include
approximately $47.7 million (after-tax), or $1.24 per share, representing the
Company's proportionate share of the one time gain recognized by DST in
connection with the merger. Continuum ceased to be an equity affiliate of
DST, thereby eliminating any future Continuum equity affiliate earnings or
losses. DST recognized equity losses in Continuum of $4.9 million for the
first six months of 1996 and $1.1 million for the year ended December 31,
1995. DST recognized $5.0 million in equity earnings from Continuum in 1994.
CSC did not pay any dividends in 1996, consistent with historical practice.
Railroad Industry Trends and Competition. During the period from 1994 to
1996, the railroad industry has experienced ongoing consolidation.
Specifically, Burlington Northern, Inc. and Santa Fe Pacific Corporation
("BN/SF") merged in 1995, as did the UP and the Chicago and North Western
Transportation Company ("UP/CNW"). Also in 1995, the UP announced its
intentions to merge with SP, and the STB issued its formal approval of this
merger in August 1996 ("UP/SP"). In March 1997, CSX Corporation and Norfolk
Southern Corporation announced that they would each be purchasing parts of
Conrail, Inc.
As these transactions are not completed or have only recently been completed,
the Company cannot predict their ultimate outcome or effect on KCSR. However,
the Company believes that KCSR revenues are being negatively affected by
increased competition from the BN/SF and UP/CNW consolidations as a result of
diversions of rail traffic away from KCSR lines. When taken together with the
UP/SP merger, management believes that the recent railroad consolidations will
negatively impact KCSR revenues by approximately $25 million to $50 million
annually given current operating conditions and traffic patterns.(1)
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 13]
In addition to competition within the railroad industry, highway carriers
compete with KCSR throughout its operating area. Since deregulation of the
railroad industry, competition has resulted in extensive downward pressure on
freight rates. Truck carriers have eroded the railroad industry's share of
total transportation revenues. However, rail carriers, including KCSR, have
placed an emphasis on competing in the intermodal marketplace, working
together to provide end-to-end transportation of products.
Mississippi and Missouri River barge traffic, among others, also competes with
KCSR in the transportation of bulk commodities such as grains, steel, and
petroleum products.
See "Union Labor Negotiations" below for a discussion of the impact of labor
issues and regulations on competition in the transportation industry.
Stock Repurchase Program. The Company's Board of Directors ("Board") has
authorized management to repurchase a total of eleven million shares of KCSI
common stock as market conditions permit. During 1996, approximately 3.3
million shares were repurchased at an aggregate cost of approximately $151.3
million. Cumulatively, in excess of 8.2 million shares had been repurchased
under the program as of December 31, 1996. The repurchases were financed
through borrowings from existing lines of credit, and proceeds received from
issuance of Debentures in December 1995 and in connection with the November
1995 DST public offering and debt repayment to KCSI. In connection with this
program, the Company entered into a forward stock purchase contract for the
repurchase of shares. See discussion in "Financial Instruments and Purchase
Commitments" below.
Berger Joint Venture. Berger entered into a joint venture agreement with Bank
of Ireland Asset Management (U.S.) Limited, a subsidiary of Bank of Ireland,
to develop and market a series of international and global mutual funds. The
new venture, named BBOI Worldwide LLC ("BBOI"), is headquartered in Denver,
Colorado. Regulatory approvals were received in October 1996, and the first
no-load mutual fund product - the Berger/BIAM International Fund - was
introduced in fourth quarter 1996. Berger accounts for its 50% investment in
BBOI under the equity method.
Union Labor Negotiations. Approximately 86% of KCSR's employees are covered
under various collective bargaining agreements. In 1996, the Company
effectively settled labor contract disputes with all major railroad unions,
including the United Transportation Union, the Brotherhood of Locomotive
Engineers, the Transportation Communications International Union, the
Brotherhood of Maintenance of Way Employees, and the International Association
of Machinists and Aerospace Workers. The provisions of the various labor
agreements, which extend to December 31, 1999, generally include periodic
general wage increases, lump-sum payments to workers, and greater work rule
flexibility, among other provisions. Settlement of these labor issues
effectively mitigates the possibility of a work stoppage and did not have a
material effect on the Company's consolidated results of operations or
financial position.
As a result of these labor agreements, which will result in operating
efficiencies, management believes the Company is better positioned to compete
effectively with alternative forms of transportation, as well as other
railroads. However, railroads remain restricted by certain remaining
antiquated operating rules and are thus prevented from achieving optimum
productivity with existing technology and systems.(1)
KCSR and other railroads continue to be affected by labor regulations which
are more burdensome than those governing non-rail industries, such as trucking
competitors. The Railroad Retirement Act requires up to a 23.75% contribution
by railroad employers on eligible wages, while the Social Security and
Medicare Acts only require a 7.65% employer contribution on similar wage
bases. Other programs, such as The Federal Employees Liability Act (FELA),
when compared to worker's compensation laws, vividly illustrate the
competitive disadvantage placed upon the rail industry by federal labor
regulations.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 14]
Senior Management Employment Agreements. On January 16, 1996, the Company
announced the adoption of a performance based compensation plan for KCSI and
KCSR senior management. Senior officers agreed to freeze their salaries for
three years effective January 1, 1996, and to forego cash incentive
compensation for the same period, in exchange for performance stock options,
which provide returns based upon appreciation in the market value of the
Company's stock.
DST Public Offering. On October 31, 1995, DST and the Company effected an
initial public offering for a total of 22 million shares of DST common stock.
In conjunction with the offering, the Company completed an exchange of DST
shares for 1.8 million shares of KCSI common stock held by The Employee Stock
Ownership Plan ("ESOP"). On November 6, 1995, an over-allotment option was
exercised by the underwriters of the DST common stock offering for an
additional 3.3 million shares of DST common stock held by KCSI, effectively
completing the public offering. The Company recorded an after-tax gain of
approximately $144.6 million during the fourth quarter of 1995 from this
transaction, representing $3.45 per share in fourth quarter 1995 and $3.31 per
share for the year ended December 31, 1995. As a result of the offering and
associated transactions, the Company's ownership in DST decreased to
approximately 41%, and the DST investment was accounted for under the equity
method retroactive to January 1, 1995.
The purpose of the offering was to achieve market recognition of DST's
performance as a stand-alone entity and to obtain proceeds for the retirement
of debt, repurchase of Company common stock and general corporate purposes.
The net proceeds to the Company from the offering and repayment of
indebtedness by DST totaled approximately $200 million, after applicable
income taxes.
Mexrail Investment. In November 1995, the Company purchased 49% of the common
stock of Mexrail from TMM. Mexrail owns 100% of the Tex-Mex, as well as
certain other assets. The Tex-Mex operates a 157 mile rail line extending
from Corpus Christi to Laredo, Texas. The purchase price of $23 million was
financed through existing lines of credit. Upon completion of purchase price
allocations in 1996, approximately $9.8 million of intangibles were recorded
as the purchase price exceeded the fair value of the underlying net assets.
The intangible amounts are being amortized over a period of 40 years. The
investment is being accounted for under the equity method.
As a result of efforts by the Company in connection with the UP/SP merger, the
STB, as a condition for approval of the merger, granted the Tex-Mex trackage
rights to operate over UP lines between Corpus Christi and Beaumont, Texas.
In Beaumont, the Tex-Mex interchanges with KCSR, effectively extending the
KCSR rail network to the Mexican border, where it connects with the Northeast
Railway. As noted earlier, this interchange, together with KCSR's connections
with major rail carriers at various other points in the United States and the
Company's partial ownership of the Northeast Railway (through its equity
investment, TFM), positions KCSR to be an integral component of the economic
integration of the North American marketplace.
New KCSR Management. In May 1995, the Company's Board of Directors elected
Michael R. Haverty to the offices of President and Chief Executive Officer of
KCSR, and Executive Vice President of KCSI. He was also appointed a Director
of KCSI. With more than 25 years of railroad experience, the addition of Mr.
Haverty demonstrates the Company's renewed focus on its railroad operations.
The Company also filled several other important KCSR senior management
positions, bringing numerous years of relevant industry experience to the
organization.
KCSR Unusual Costs. During the first and second quarters of 1995, KCSR
recorded approximately $19.2 million (after-tax), or approximately $0.44 per
share, of unusual costs and expenses related to employee separations and other
personnel related activities, unusual system operational related expenses, and
reserves for contracts, leases and property.
[Page 15]
Debt Securities Registration and Offerings. The U.S. Securities and Exchange
Commission declared the Company's Registration Statement on Form S-3 (File No.
33-69648, originally filed on September 29, 1993) effective April 22, 1996,
registering $500 million in securities. However, no securities have been
issued. The securities may be offered in the form of Common Stock, New Series
Preferred Stock $1 par value, Convertible Debt Securities, or other Debt
Securities (collectively, "the Securities"). Net proceeds from the sale of
the Securities would be added to the general funds of the Company and used
principally for general corporate purposes, including working capital, capital
expenditures, and acquisitions of or investments in businesses and assets.
On December 18, 1995, the Company issued $100 million of 7% Debentures due
2025. The Debentures are redeemable at the option of the Company at any time,
in whole or in part, at a redemption price equal to the greater of (a) 100% of
the principal amount of such Debentures or (b) the sum of the present values
of the remaining scheduled payments of principal and interest thereon
discounted to the date of redemption on a semiannual basis at the Treasury
Rate (as defined in the Debentures agreement) plus 20 basis points, and in
each case accrued interest thereon to the date of redemption. The net
proceeds of this transaction were used to repay indebtedness on the Company's
existing lines of credit and for acquisition of KCSI common stock.
KCSI Credit Agreements. On May 5, 1995, the Company established a credit
agreement in the amount of $400 million. The credit agreement replaced
approximately $420 million of then existing Company credit agreements which
had been in place for varying periods since 1992. Proceeds of the facility
have been and are anticipated to be used for general corporate purposes. The
agreement contains a facility fee ranging from .07-.25% per annum, interest
rates below prime and terms ranging from one to five years. The Company also
has various other lines of credit totaling $120 million. These additional
lines, which are available for general corporate purposes, have interest rates
below prime and terms of less than one year. At December 31, 1996, the
Company had $40 million outstanding under its various lines of credit.
As discussed earlier, the Company funded its proportionate amount
(approximately $277 million) of the initial FNE purchase price payment made by
TFM to the Mexican Government using borrowings under its lines of credit.
KCSR Equipment Trust Certificates. In late 1994, KCSR completed the private
placement of financing for locomotives and rolling stock using Equipment Trust
Certificates ("ETC's"). The ETC's were placed for an aggregate of $54.7
million representing 31 locomotives, 625 boxcars and 300 covered hoppers,
which had been placed in service during 1993 and 1994. The financing
represents 85% of equipment value, bears interest at a rate of 8.56% and
matures in 2006.
Berger Acquisition. In October 1994, the Company acquired a controlling
interest in Berger. Berger is the investment advisor to The Berger One
Hundred Fund, The Berger Growth and Income Fund (formerly The Berger One
Hundred and One Fund), The Berger Small Company Growth Fund and The Berger New
Generation Fund, as well as to private and other accounts. In 1994, the
Company made payments of $47.5 million in cash, pursuant to a Stock Purchase
Agreement (the "Agreement"). The Agreement also provides for additional
purchase price payments totaling approximately $62.4 million, contingent upon
Berger attaining certain levels (up to $10 billion) of assets under
management, as defined in the Agreement, over a five year period. Any
additional payments made under the contingency clause of the Agreement will be
reflected as an adjustment to the purchase price.
The acquisition, which was accounted for as a purchase, increased the
Company's ownership in Berger from approximately 18% (acquired in 1992) to
over 80%. Adjustments to appropriate asset and liability balances were
recorded based upon estimated fair values of such assets and liabilities. The
transaction resulted in the recording of intangibles as the purchase price
exceeded the fair value of underlying tangible assets. In 1996 and 1995,
contingent payments were made totaling $23.9 and $3.1 million, respectively,
resulting in adjustment to the purchase price. The intangible amounts are
being amortized over their estimated economic life of 15 years.
[Page 16]
The financial statements of Berger were consolidated into the Company
effective with the closing of the transaction. Assuming the transaction had
been completed on January 1, 1994, the addition of Berger's revenues and net
income (including adjustments to reflect the effects of the acquisition on a
pro forma basis) as of and for the year ended December 31, 1994, would not
have had a material effect on the Company's consolidated results of
operations.
In January 1997, Berger purchased for treasury the common stock of a minority
shareholder. This transaction increased the Company's ownership in Berger to
approximately 87%, and resulted in approximately $8.7 million of intangibles,
which will be amortized over their estimated economic life of 15 years.
Termination of Janus Compensation Arrangements/Berger Minority Stock
Transaction. In fourth quarter 1994, the Company recorded certain one time
charges to earnings from its Financial Asset Management businesses. These one
time items were a result of the early termination of employment and earnings
related compensation arrangements for certain Janus key employees, and the
establishment of additional minority stock ownership of Berger for key Berger
employees.
The Janus compensation arrangements, which began in 1991, permitted
individuals to earn units which vested over time based upon Janus earnings.
These arrangements were scheduled to be fully vested at the end of 1996 and
would have continued to accrue benefits in subsequent years. The Company
negotiated the early termination of the arrangements, resulting in payments by
Janus of $48 million in cash, of which approximately $21 million had been
accrued. Termination of the arrangements resulted in a net reduction in
Janus' 1994 contribution to KCSI's consolidated earnings of $13.6 million or
$0.30 per share. By terminating this program, 1995 Janus operating expenses
were approximately $10 million lower than what they would have been if the
compensation arrangements were still in effect. Future years should continue
to benefit from this transaction through savings in compensation expense that
would have been incurred if these arrangements were still in effect.
The Berger stock transaction established minority stock ownership for certain
key Berger employees and resulted in a one time pretax increase in Berger's
operating expenses of $1.8 million. The additional minority stock was
intended to provide ownership incentive to these key employees for future
growth of Berger, and was anticipated in the Berger acquisition discussed
earlier.
Together, these Janus and Berger transactions reduced KCSI's consolidated 1994
earnings by $0.32 per share.
Completion of KCSR Track and Structure Rebuilding Program/Acceleration of
MidSouth Corporation Rebuilding Program. During 1994, KCSR concluded the
major portions of a rail track and structure program which began in 1986.
This program was implemented to upgrade the roadway in order to reduce
operating costs, improve safety, increase the capabilities of KCSR and
increase quality of service to customers. In addition, as part of the
MidSouth Corporation ("MidSouth") acquisition in July 1993, a planned upgrade
of the existing MidSouth roadbed was added to the program. Increased traffic
levels on both the original KCSR route and the MidSouth, however, accentuated
the need to accelerate the MidSouth portion of the program. By the end of
1994, KCSR had essentially completed the MidSouth upgrade program thereby
improving the capacity, efficiency and safety of the East/West MidSouth route.
Accordingly, KCSR capital expenditures for 1994 were $191 million.
Acceleration of the MidSouth program and completion of the majority of the
KCSR program in 1994 resulted in a reduction of railway capital expenditures
to $110 million in 1995. This roadway rebuilding program was funded with
internally generated cash flows.
[Page 17]
MidSouth Net Operating Loss Carryovers. In connection with the Company's
1993 purchase of MidSouth, the Company acquired operating loss carryovers
totaling $54 million, of which $22 million remained at December 31, 1996 (with
expiration dates beginning in the year 2004). Annual utilization of these
loss carryovers may be limited by the Internal Revenue Code as a result of a
change in ownership. Anticipated future tax benefits associated with the loss
carryovers were recorded as a reduction of recorded intangibles.
Safety and Quality Programs. KCSR continued the implementation of important
safety and quality programs during 1996. Related benefits are expected to be
recurring in nature and realizable over future years.(1) "Safety" and "Quality"
programs comprise two important ongoing elements of KCSR management's goal of
reducing employee injuries. Associated program expenses are not anticipated
to have a material impact on operating results in future years.
INDUSTRY SEGMENT RESULTS
The Company's major business activities are classified as follows (in
millions):
1996 1995(i) 1994
Revenues
KCSR $ 492.5 $ 502.1 $ 472.5
Financial Asset Management 329.9 239.8 186.3
Information & Transaction Processing 401.7
Corporate & Other 24.9 33.3 27.9
Total $ 847.3 $ 775.2 $1,088.4
% Change from Prior Year 9.3% (28.8)% 15.1%
Operating Income (Loss)
KCSR $ 74.1 $ 66.6 $ 106.7
Financial Asset Management 142.3 92.7 51.1
Information & Transaction Processing 31.2
Corporate & Other (12.5) (0.1) (1.8)
Total $ 203.9 $ 159.2 $ 187.2
% Change from Prior Year 28.1% (15.0)% (7.2)%
(i) Financial information for the year ended December 31, 1995 was restated to
reflect DST as an unconsolidated affiliate as of January 1, 1995 as a result
of the DST public offering and associated transactions completed in November
1995, which reduced the Company's ownership in DST to approximately 41%.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 18]
The presentation above presents 1996 and 1995 with DST as an unconsolidated
affiliate versus historical 1994. If 1994 was restated to a comparable basis
(i.e., DST would be reflected as an unconsolidated affiliate), consolidated
revenues and operating income would have been as follows (in millions):
1996 1995 1994
Revenues $ 847.3 $ 775.2 $ 691.2
% Change from Prior Year 9.3% 12.2% 13.7%
Operating Income $ 203.9 $ 159.2 $ 155.9
% Change from Prior Year 28.1% 2.1% (9.3)%
The Kansas City Southern Railway Company
The Kansas City Southern Railway Company segment includes KCSR, KCSR's
wholly-owned subsidiary, SGI (which owns Carland), and equity investments in
Southern Capital and Gateway Western.
KCSR operates a rail system of 2,954 main and branch line route miles and
4,147 total track miles in a nine state region, including Missouri, Kansas,
Arkansas, Oklahoma, Mississippi, Alabama, Tennessee, Louisiana, and Texas.
KCSR has the shortest rail route between Kansas City and the Gulf of Mexico,
serving the ports of Beaumont and Port Arthur, Texas; and New Orleans, Baton
Rouge, Reserve and West Lake Charles, Louisiana. Through haulage rights, KCSR
accesses the states of Nebraska and Iowa, and serves the ports of Houston and
Galveston, Texas. Kansas City, Missouri, as the second largest rail center in
the United States, represents an important interchange gateway for KCSR. KCSR
also has interchange gateways in New Orleans and Shreveport, Louisiana; Dallas
and Beaumont, Texas; and Jackson and Meridian, Mississippi.
Major commodities moved by KCSR include coal, grain and farm products,
petroleum, chemicals, paper and forest products, as well as other general
commodities. KCSR competes in the intermodal traffic market, including an
East/West line running from Dallas, Texas to Meridian, Mississippi, which has
allowed KCSR to be more competitive in transcontinental intermodal
transportation. Additionally, in November 1994, KCSR began dedicated through
train service between Dallas, Texas and Meridian, Mississippi for intermodal
traffic, which competes directly with truck carriers along the Interstate 20
corridor, offering service times which are competitive with both truck and
other rail carriers.
In 1996, The Kansas City Southern Railway Company segment contributed $17.1
million to the Company's consolidated earnings as compared to $11.4 million in
1995. The increase in 1996 over 1995 is primarily attributable to the 1995
unusual costs and expenses discussed in "Results of Operations" above, which
reduced KCSR net income by approximately $19.2 million in 1995. Exclusive of
the 1995 unusual costs and expenses, KCSR 1996 earnings were lower than 1995,
mainly due to reduced revenues and higher operating costs attributable to
adverse winter weather (in first quarter 1996), train derailment expenses
(primarily in second quarter 1996), and expenditures associated with KCSR's
continuing emphasis on providing improved and reliable customer service.
The following summarizes components of KCSR's revenues (in millions):
1996 1995 1994
General Commodities $ 327.3 $ 339.8 $ 324.6
Coal 101.4 102.6 101.7
Intermodal 40.3 39.0 25.5
Other 23.5 20.7 20.7
Total $ 492.5 $ 502.1 $ 472.5
[Page 19]
1996 KCSR revenues were lower than 1995 due to a 4% reduction in general
commodities revenues. In particular, revenues decreased in grain traffic
(26%), bulk commodities (such as non-metallic minerals and petroleum coke -
9%), and paper/forest products (4%). These lower general commodities revenues
were primarily a result of an 8% decrease in carloading volumes, offset
partially by slightly improved revenue per carload average rates. KCSR
revenues were 6% higher in 1995 than 1994 from increased volumes in general
commodities (3%), coal (4%) and intermodal (48%).
Lower KCSR carloading volumes in 1996 were primarily a result of competitive
pressures from the various mergers recently completed in the railroad
industry. However, overall 1996 revenue per carload average rates were
slightly better than 1995 largely due to changes in the mix of general
commodities traffic (e.g., fewer carloadings of paper/forest products compared
to chemical and petroleum products in 1996 versus 1995). As noted earlier, the
recent mergers could negatively impact KCSR revenues by approximately $25
million to $50 million annually given current operating conditions and traffic
patterns.(1)
In contrast to 1996, rates in the last several years have experienced downward
pressures, largely due to competition from over the road truck transportation.
Changing regulations, subsidized highway improvement programs and favorable
labor regulations have improved the competitive position of trucks as an
alternative mode of surface transportation for many commodities. In recent
years, railroad industry management has sought avenues for improving its
competitive positions and forged alliances with truck companies in order to
provide faster, safer and more efficient service to its customers. KCSR
joined this industry trend and entered into agreements with several truck
companies for through train intermodal service between Dallas, Texas and
Meridian, Mississippi in November 1994 as noted above. In 1995, business
volumes benefited from a full year associated with this new intermodal
service, resulting in a $13.5 million (53%) increase in revenues over
comparable 1994. KCSR's 1996 intermodal revenues continued this growth trend
increasing 3% over 1995, despite a flat intermodal market in general.
In terms of carloadings, coal continues to be the largest single commodity
handled by KCSR, generating 22% of total revenue carloadings in 1996. KCSR
delivers coal to six electric generating plants, located at Amsterdam,
Missouri; Flint Creek, Arkansas; Welsh, Texas; Mossville, Louisiana; Kansas
City, Missouri; and Pittsburg, Kansas. Two coal customers, Southwestern
Electric Power Company and Gulf States Utility Company, comprised
approximately 83% of total coal revenues generated by KCSR in 1996. KCSR also
delivers lignite to an electric generating plant at Monticello, Texas
("TUMCO"). 1996 unit coal revenues were essentially equal to 1995, reflecting
historical tendencies of unit coal revenues to equalize on an annual basis.
Petroleum and chemicals, serviced via tank and hopper cars primarily to
markets in the Southeast and Northeast through interchange with other rail
carriers, as a combined group represents the largest commodity to KCSR in
terms of revenue ($116 million in 1996 versus $114 million in 1995). The
increase in 1996 is a result of increased volumes. Further, these carloading
volumes and revenues could grow in future years if the STB approves KCSR's
petition seeking approval for construction of a nine mile rail line from
KCSR's main line into the Geismar, Louisiana industrial area, which is
supported by three major chemical manufacturers.(1) The Geismar area is a
large industrial corridor with several companies engaged in the petro-chemical
industry, and is currently served by only one rail carrier. However, initial
construction will be delayed until the Company receives approval from the STB
(which is still pending).
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 20]
Paper and forest products carloadings decreased 6% versus comparable 1995 as a
result of business related volume declines. KCSR, the third largest railroad
in terms of pulp and paper carload originations in the U.S., serves eleven
paper mills directly (including International Paper Co. and Georgia Pacific,
among others) and six others indirectly through short-line connections, and
transports pulpwood, woodchips and raw fiber used in the production of paper,
pulp and paperboard.
Revenues from grain, farm and food products declined 16% compared to 1995,
largely from significantly reduced export grain traffic. This decline is
attributable to traffic diversions resulting from the various rail mergers and
the impact of weaker harvest conditions in fall 1995.
Despite the decrease in total KCSR revenues in 1996 versus 1995, KCSR 1996
operating income increased $7.5 million as a result of a 5% decrease in costs
and expenses (to $359.3 million) compared to 1995. This decrease is
attributable to the 1995 unusual costs and expenses. Exclusive of the 1995
unusual items, 1996 costs and expenses were higher than 1995 primarily due to
adverse winter weather (in first quarter 1996), train derailment expenses, and
KCSR's continuing emphasis on providing improved and reliable customer
service. Increased costs were evident in salaries and wages, material and
supplies and casualties/insurance. KCSR management implemented various cost
containment measures during third quarter, which stabilized expenses somewhat
in the second half of 1996, particularly in salaries and wages and car hire
costs.
KCSR depreciation and amortization expense increased 7% to $59.1 million in
1996 (versus $55.3 million in 1995) due to capital expenditures. The
depreciation savings associated with KCSR's October 1996 contribution of
locomotives and rolling stock to Southern Capital was minimal in 1996, but
will be greater in 1997 due to a full year of savings (although depreciation
on any 1997 capital expenditures will partially offset these savings).
Interest expense was slightly lower (3%) compared to 1995 due to a reduction
in debt as a result of the Southern Capital joint venture formation and
associated transactions.
Equity earnings from Southern Capital and Gateway Western were immaterial in
1996. See further discussion of equity earnings in the "Unconsolidated
Affiliates" section below.
KCSR's operating ratio, a common efficiency measurement among Class I
railroads, decreased to 84.5% for the year ended December 31, 1996 versus
84.8% for 1995. Excluding unusual costs and expenses, the 1995 operating
ratio would have been 78.9%, with the increase in 1996 largely due to lower
revenues and higher costs and expenses as discussed above. Additionally, the
Southern Capital joint venture transaction, while slightly increasing KCSR's
overall net income in 1996, raised the operating ratio by approximately
one-half percent for the year ended 1996 as a result of higher equipment lease
expense. The operating ratio for 1997 and thereafter will continue to be
affected by higher equipment lease expense resulting from the operating leases
entered into by KCSR with Southern Capital.
Revenue growth in 1995 was largely driven by a 5% increase in petroleum and
chemical carloadings over 1994. KCSR also experienced an 18% increase in
pulp/paper revenues in 1995 compared to 1994, due to a strong market for
paper, coupled with reduced 1994 revenues attributable to service interruption
caused by a Soo Line strike. Revenues for farm products increased
approximately 12% in 1995 versus 1994, largely a result of the Company's
increased focus on the domestic market in 1995 and weak results in 1994 as a
result of slow export grain traffic. 1995 unit coal revenues were slightly
higher than comparable 1994 due to increased volumes, primarily from the
resumption of shipments to TUMCO, which had been out of service since late
1993 and returned on line in June 1995.
The increased traffic levels in 1995, together with the unusual costs and
expenses through second quarter 1995, increased costs and expenses to $380.2
million versus $318.0 million in 1994. Higher costs were particularly evident
in the transportation, maintenance of way and maintenance of equipment areas,
mainly due to increases in the number of employees (e.g., train crews to
manage higher volumes). Also, during fourth quarter 1995, KCSR recorded an
expense of approximately $3.1 million (pretax) for expected payments to
employees upon ratification of new labor agreements. KCSR depreciation and
amortization expense increased 16% to $55.3 million in 1995 versus $47.8 in
1994 due to the completion, in late 1994, of KCSR's substantial track and
roadbed rebuilding program. 1995 interest expense was
[Page 21]
29% higher than 1994 primarily from higher average debt levels related to
capital programs. KCSR's operating ratio increased to 84.8% for the year
ended December 31, 1995 versus 76.2% for 1994, primarily as a result of the
unusual first and second quarter 1995 costs and expenses discussed earlier.
Excluding these unusual costs and expenses, the operating ratio would have
been 78.9%, with the increase over 1994 largely due to increased depreciation.
KCSR operations are faced with substantial costs related to fuel, labor, and
maintenance of its roadbed and equipment. KCSR locomotive fuel usage
represented 8% of KCSR operating costs in 1996 (7% in 1995). Fuel costs are
affected by traffic levels, efficiency of operations and equipment, and
petroleum market conditions. Control of fuel expenses is a constant concern
of management, and fuel savings remains a top priority. Based on favorable
market conditions at the end of 1995 and to help control fuel costs, the
Company entered into purchase commitments for approximately 50% of expected
1996 diesel fuel usage. As a result of increasing fuel prices during 1996,
these commitments saved KCSR approximately $3.7 million. Due to higher fuel
prices in 1996, minimal commitments have been made for 1997. If fuel prices
throughout 1997 remain relatively consistent with prices as of year end 1996,
KCSR operating expenses are expected to be higher.(1) See "Financial
Instruments and Purchase Commitments" below.
Portions of roadway maintenance costs are capitalized and other portions
expensed, as appropriate. Expenses aggregated $51, $49 and $43 million for
1996, 1995 and 1994, respectively. Maintenance and capital improvement
programs are in conformity with the Federal Railroad Administration's track
standards and are accounted for in accordance with the regulatory accounting
rules. Management expects to continue to fund roadway maintenance
expenditures with internally generated cash flows.(1)
Assuming no major economic deterioration occurs in the region serviced by
KCSR, management expects 1997 revenues to be relatively consistent with 1996,
indicative of the competitive pressures resulting from the various rail
mergers. Intermodal volumes should continue to grow, benefiting from
investment in and modernization of the Company's intermodal facilities, but
revenue growth will be at a slower rate due to increased price competition.
Additionally, KCSR cost containment initiatives implemented during 1996 will
continue into 1997. Beginning in 1997, the Company's equity investments in
TFM and Mexrail will be included in the KCSR segment. Management expects to
record losses associated with its investment in TFM during the initial years
of TFM's operation of the Northeast Railway; however, these losses will be
partially offset by equity earnings from the Southern Capital and Mexrail
investments.(1)
Financial Asset Management
Financial Asset Management contributed $69.1 million to 1996 consolidated
earnings, a 58% increase over the $43.8 million for comparable 1995. Assets
under management at December 31, 1996 were 46% higher than year end 1995,
fueling a 38% growth in 1996 revenues. Although variable operating expenses
increased in 1996, the increase was at a lower proportionate rate than
revenues, resulting in a 54% improvement in operating income over 1995 ($142.3
million in 1996 versus $92.7 million in 1995). The increase in variable
operating expenses was associated with higher business volumes, as well as
higher Janus performance-based compensation.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 22]
In 1995, Financial Asset Management contributed $43.8 million to consolidated
earnings, a 79% increase over comparable 1994. Excluding from 1994 earnings
the one time charge of $14.5 million from the early termination of employment
and earnings related compensation arrangements at Janus and establishment of
additional minority ownership at Berger, discussed earlier, 1995 Financial
Asset Management results were 12% higher than 1994. Increases in assets under
management, coupled with successful cost containment initiatives, helped to
improve operating income to $92.7 million, an increase of approximately 24%
over 1994 (exclusive of the one time charges discussed above).
The following table highlights assets under management and revenues:
1996 1995 1994
Assets Under Management (in billions):
Janus No-Load Funds $ 35.7 $ 24.2 $ 17.2
Janus Aspen Series (i) 1.4 0.4 0.1
IDEX Load Funds (ii) 1.4 1.1 0.9
Institutional and Separately
Managed Accounts (iii) 8.2 5.4 4.7
Total Janus 46.7 31.1 22.9
Berger Funds 3.6 3.4 3.0
Total $ 50.3 $ 34.5 $ 25.9
Revenues (in millions):
Janus $ 295.3 $ 207.8 $ 178.5
Berger $ 34.6 $ 32.0 $ 7.8 (iv)
(i) The Janus Aspen Series currently consists of nine portfolios offered
through variable annuity and variable life insurance policies, and
certain qualified pension plans
(ii) Janus serves as subadvisor to five of the IDEX Funds, whose assets are
included herein
(iii) 1994 includes Cash Equivalent Funds of $0.8 billion, which were serviced
by Janus, but advised by an unaffiliated party. In February 1995, Janus
introduced its own line of Money Market funds, replacing the Cash
Equivalent Funds
(iv) since October 1994 acquisition
Financial Asset Management revenue and operating income increases are a direct
result of increases in assets under management. Assets under management and
shareholder accounts have grown in recent years from a combination of new
money investments (i.e., fund sales) and market appreciation. Fund sales have
risen in response to marketing efforts, favorable fund performance,
introduction and market reception of new products, and the current popularity
of no-load mutual funds. Market appreciation has resulted from increases in
investment values.
Janus. Janus 1996 revenues, operating income and net income increased
significantly over 1995, largely due to 50% growth in assets under
management since December 31, 1995. Fund sales (net of redemptions) of $9.3
billion, coupled with market appreciation, raised total assets under
management to $46.7 billion at December 31, 1996. The value of net assets
in the Janus Funds (Janus No-Load Funds and Janus Aspen Series) increased
51% to $37.1 billion at December 31, 1996 versus $24.6 billion at December
31, 1995. Shareowner accounts grew to 2.3 million, a 9% increase over 1995.
[Page 23]
Operating expenses increased as a result of higher business volumes,
together with increases in incentive and variable compensation as a result
of strong investment and financial performance. However, operating expenses
declined as a percent of revenue due to successful cost containment efforts,
including a $5.1 million decrease in promotional and marketing expenses from
1995 due to a more focused marketing approach. Additionally, depreciation
and amortization costs declined approximately $1.9 million due to the
disposal of equipment during 1996.
The Janus Funds are marketed to pension plan sponsors through alliance
arrangements with record keeping organizations and by participating in
mutual fund "supermarkets," such as Charles Schwab's Mutual Fund "OneSource"
service and a similar program offered by Fidelity Investments. At December
31, 1996 and 1995, approximately 23% and 16%, respectively, of Janus' total
assets under management were generated through such alliance arrangements
and mutual fund "supermarkets."
Janus also markets advisory services directly to insurance companies, banks
and brokerage firms for their proprietary investment products, and directly
with private individuals, foundations, defined benefit pension plans and
other organizations. These areas accounted for $9.6, $6.5 and $4.8 billion
in assets under management at December 31, 1996, 1995 and 1994,
respectively.
In May 1996, the Janus Aspen High Yield Portfolio was introduced. In June
1996, Janus began managing the Janus Equity Income Fund. Janus introduced
the Janus Special Situations Fund, an equity fund, in December 1996.
Janus' 1995 performance reflects the results experienced by the mutual funds
market, in general. 1995 operating income increased significantly over 1994
due to growth in assets under management, coupled with depressed results in
1994 as a result of the one time charge of $13.6 million ($27.1 million
pretax increase in operating expenses) from the early termination of
employment and earnings related compensation arrangements, as discussed
earlier. Janus assets under management rebounded from slower growth
throughout 1994, increasing 36% to $31.1 billion at December 31, 1995
compared to $22.9 billion at December 31, 1994. Total fund sales were
$11.4 billion during fiscal 1995 versus $6.5 billion in 1994. These
improved earnings were partially offset by higher promotional and marketing
expenses (up $4.2 million over 1994), as a result of efforts to increase
recognition of the Janus brand name and to reach a class of potential
investors who have not typically used mutual funds as an investment
alternative.
In December 1995, the Janus Olympus Fund (equity fund) and Janus High Yield
Fund (bond fund) were introduced. On November 1, 1995, the Janus Twenty
Fund reopened to new share sales for the first time since February 1993.
Additionally, Janus introduced its own line of Money Market funds in 1995.
Berger. The Company made its first investment in Berger in 1992, when it
acquired an 18% interest. In October 1994, the Company acquired a
controlling interest in Berger (over 80%), and Berger became a consolidated
subsidiary of KCSI. In January 1997, KCSI's ownership in Berger increased
to approximately 87% due to Berger's repurchase of its common stock (for
treasury) from a minority shareholder.
Berger contributed a net loss of $1.2 million to consolidated earnings in
1996. Assets under management increased 6% to $3.6 billion at December 31,
1996 (compared to $3.4 billion at December 31, 1995), leading to an 8%
increase in revenues. However, increased operating costs, partially due to
amortization associated with intangibles, more than offset this increase in
revenues. Amortization increased as a result of the $23.9 million payment
made in May 1996 pursuant to the Berger Stock Purchase Agreement (as
discussed in "Results of Operations" above). Additionally, 1996 interest
expense was higher than 1995 due to indebtedness incurred to fund the May
1996 contingency payment. Shareholder accounts totaled 379,500 at December
31, 1996, a slight decrease from year end 1995.
[Page 24]
Each of Berger's newer product offerings, The Berger Small Company Growth
Fund and The Berger New Generation Fund, reported steady growth in assets
under management throughout 1996 (cumulatively increasing 55% from year end
1995). However, The Berger One Hundred Fund and The Berger Growth and
Income Fund, together representing over 64% of total Berger assets under
management, performed below their respective peer groups, and their total
assets under management decreased 7% since December 31, 1995.
In February 1997, Berger announced that Patrick Adams, formerly a fund
manager at Zurich Kemper Investments, Inc., would assume the
responsibilities as Portfolio Manager for The Berger One Hundred Fund, as
well as co-manage The Berger Growth and Income Fund with Mark McKinney,
formerly a senior analyst with Berger.
At December 31, 1996, approximately 27% of Berger's total assets under
management were generated through mutual fund "supermarkets."
Berger contributed essentially break-even results to the Company's 1995
consolidated earnings. An increase in revenues over 1994 (from a 13% gain
in assets under management) was offset by amortization and interest expense
increases (up $2.4 million and $2.3 million, respectively, over 1994)
associated with the additional acquisition made in 1994. Berger shareholder
accounts remained stable from 1994 to 1995, totaling approximately 381,000
at December 31, 1995. Berger expenses in 1995 were comparable to 1994.
Management believes Berger has name recognition in the industry, has had
favorable fund performance for certain products and, through the use of
marketing and promotional efforts, has attracted increasing fund sales and
investors. As discussed in "Results of Operations" above, Berger entered
into a joint venture (BBOI) to introduce a series of international and
global mutual funds. The first no-load mutual fund product, an international
equity fund, was introduced in fourth quarter 1996. Berger will account for
its 50% investment in BBOI under the equity method.
Future growth of the Company's Financial Asset Management revenues and
operating income will be largely dependent on prevailing financial market
conditions, relative performance of Janus' and Berger's products, introduction
and market reception of new products, as well as other factors, including
declines in the stock and bond markets, increases in the rate of return of
alternative investments, increasing competition as the number of mutual funds
continues to grow, and changes in marketing and distribution channels. Costs
and expenses should continue at operating levels consistent with the rate of
growth, if any, in revenues.(1)
Corporate & Other
The Corporate & Other segment in 1996 and 1995 consisted of equity in earnings
of DST, Midland Data Systems, Inc. / Midland Loan Services, L.P. (collectively
"Midland") and other less material unconsolidated affiliates; earnings of less
significant consolidated subsidiaries; unallocated KCSI Holding Company
operating expenses; intercompany eliminations; and miscellaneous other
investment activities. Additionally, the Company's equity investments in TFM
and Mexrail are included in the Corporate & Other segment in 1996. The
Company sold its investment in Midland in April 1996, resulting in a one time
after-tax gain of $1.7 million. For 1994, DST was reported as a consolidated
entity and its results included as a separate segment, Information &
Transaction Processing (see discussion below).
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 25]
Consolidated subsidiaries in this segment include, among others:
* Trans-Serve, Inc., an owner of a railroad wood tie treating facility and a
vehicle maintenance operation;
* Pabtex (located in Port Arthur, Texas with deep water access to the Gulf
of Mexico), an owner and operator of a bulk materials handling facility
which stores and transfers coal and petroleum coke from trucks and rail
cars to ships and barges primarily for export;
* Mid-South Microwave, Inc., which owns and leases a 1,600 mile industrial
frequency microwave transmission system that is the primary communications
facility used by KCSR;
* Rice-Carden Corporation and Tolmak, Inc., both owning and operating
various industrial real estate and spur rail trackage contiguous to the
KCSR right-of-way; and
* Southern Development Company, the owner of the executive office building
in downtown Kansas City, Missouri used by KCSI and KCSR.
Corporate & Other earnings for the year ended December 31, 1996 were $64.7
million compared to $181.5 million in 1995. 1995 earnings include the $144.6
million after-tax gain resulting from the DST stock offering. 1996 earnings
were favorably impacted ($47.7 million after-tax) by KCSI's proportion of the
DST one time gain on the Continuum merger discussed previously.
Exclusive of these non-recurring items in 1996 and 1995, Corporate & Other
1996 earnings decreased approximately $19.9 million from 1995. This decrease
is attributable to the following factors:
i) increased KCSI Holding Company costs due to the Company's activities
related to the UP/SP merger ($2.9 million after-tax during 1996);
ii) reduced equity earnings from DST due to a lower ownership percentage
throughout 1996 (i.e., 1995 DST earnings were reported at 100% until the
public offering in October 1995);
iii) lower equity earnings from other investments, primarily Midland; and
iv) a $2.2 million decrease in Pabtex earnings for the year ended December 31,
1996 as a result of the loss of a major customer in December 1995.
These decreases in net income were partially offset by reduced interest
expense in 1996 compared to 1995 due to lower average debt balances in 1996,
largely because of lower balances in early 1996 as a result of debt repayments
made from the proceeds received by the Company in connection with the DST
stock offering in November 1995.
Corporate & Other contributed $181.5 million to the Company's 1995
consolidated earnings versus $6.0 million in 1994, reflecting the $144.6
million after-tax gain associated with the DST public offering and associated
transactions. Additionally, equity in earnings of DST totaling $24.6 million
were included for the year ended December 31, 1995 as if DST was an
unconsolidated affiliate as of January 1, 1995. In 1994, equity in earnings
included in the Corporate & Other segment represent only minor investments.
See additional discussion in "Unconsolidated Affiliates" below.
Earnings of consolidated subsidiaries included in the Corporate & Other
segment were not material in 1995. Pabtex experienced an earnings increase in
1995 of approximately $1.5 million compared to 1994 associated with increased
volumes at the petroleum coke export facility.
The Company expects any earnings in this segment to derive primarily from its
equity ownership in DST. As a result of the 1996 Continuum merger, DST
earnings will no longer include equity earnings from Continuum. Future
earnings for other subsidiaries and affiliates are expected to be relatively
consistent with historical performance and not material to the Company's
consolidated results of operations.(1)
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 26]
Information & Transaction Processing (1994)
The Company's previously wholly-owned subsidiary, DST, comprised the
Information & Transaction Processing segment in 1994. Equity earnings from
DST are currently reported under "Unconsolidated Affiliates" (see below).
DST, formed in 1968, together with its subsidiaries and joint ventures,
provides sophisticated information processing and computer software services
and products, primarily to mutual funds, insurance providers, banks and other
financial services organizations. Historically, the majority of DST revenue
was generated from full-service and remote-service record keeping for the
mutual fund industry. Output Technologies, Inc., a DST subsidiary, is
involved in the financial printing, mailing, output processing and related
business lines. DST's principal product lines include: Mutual Fund
Shareowners Accounting System, Securities Transfer and Portfolio Accounting
Systems, Automated Work Distributor TM, and products/services for
international markets. A significant amount of DST's net income has
historically been derived from the operations of its various joint ventures.
Unconsolidated Affiliates
In 1996 and 1995, earnings from unconsolidated affiliates consisted
principally of DST, Midland (a 45% owned affiliate prior to its sale in April
1996), and Mexrail. Also, equity earnings from Southern Capital for its first
two months of operations are included in 1996, as are minimal results of
operations from the Company's Gateway Western and TFM investments. In 1994,
earnings from unconsolidated affiliates were attributable to DST's equity in
the earnings of Investors Fiduciary Trust Company Holdings, Inc. ("IFTC," a
50% owned DST affiliate prior to its sale discussed below), Boston Financial
Data Services, Inc. (a 50% owned DST affiliate), Continuum (a 29% owned DST
affiliate in 1994), Argus Health Systems, Inc. (a 50% owned DST affiliate) and
Midland. During 1995, DST sold its interest in Midland to the Company, and
accordingly, Midland earnings were included in the Company's earnings from
unconsolidated affiliates.
1996. Equity in net earnings of DST totaled $68.1 million for the year ended
December 31, 1996. This total includes KCSI's proportionate share of the DST
one time gain on the Continuum merger discussed in "Results of Operations"
above. Exclusive of this non-recurring item, equity earnings from DST
decreased approximately 33% from 1995. This decrease is attributable to a
lower percentage ownership of DST in 1996 versus 1995 as discussed earlier.
In addition to the gain on the Continuum merger, comparisons of DST earnings
in 1996 versus 1995 were affected by several factors, including: i) the 1995
after-tax gain of $4.7 million associated with DST's sale of IFTC (discussed
below); ii) lower fourth quarter 1995 equity earnings due to acquisition
related expenses of DST's Continuum investment (discussed below); iii) the
first quarter 1996 effect of a $4.1 million non-recurring charge related to
Continuum; iv) a 20% increase in revenues over 1995; v) a 13% increase in
mutual fund shareowner accounts serviced; and vi) a $15 million decline in
interest costs from 1995.
Equity earnings from the Company's investments in Southern Capital, Mexrail,
Gateway Western and TFM were immaterial in 1996. However, as noted earlier,
management expects to record losses from its investment in TFM during the
initial years of TFM's operation (through FNE) of the Northeast Railway until
the Company is able to implement more efficient railroad operations consistent
with plans.(1) Additionally, the investment in TFM has certain risks associated
with operating in Mexico, including, among others, foreign currency exchange,
cultural differences, varying labor and operating practices, and differences
between the U.S. and Mexican economies. TFM losses are expected, however, to
be offset somewhat by equity earnings from the Southern Capital and Mexrail
investments.(1)
Prior to the sale of Midland in April 1996, the Company recorded equity in
earnings from Midland of $0.7 million versus $5.2 million in 1995.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 27]
1995. Equity earnings from DST of $24.6 million were included for the year
ended December 31, 1995 as if DST had been an unconsolidated affiliate as of
January 1, 1995. DST's 1995 results were impacted by two significant
transactions:
In fourth quarter 1995, Continuum recorded a non-recurring charge related
to its December 1995 acquisition of SOCS Groupe, S.A., a French insurance
software firm. DST recognized an estimated $8.4 million loss for its
share of Continuum's non-recurring charge, of which the Company's
approximate 41% share is included in 1995 equity in earnings from
unconsolidated affiliates.
On January 31, 1995, DST completed the sale of its 50% interest in IFTC
to State Street Boston Corporation ("State Street"). At closing, DST
received 2,986,111 shares of State Street common stock in a tax-free
exchange (representing an approximate 4% ownership interest in State
Street). As a result of this transaction, the Company recognized a net
gain of $4.7 million in first quarter 1995. With the closing of the
transaction, IFTC ceased to be an unconsolidated affiliate of DST and no
further equity in earnings of IFTC were recorded by DST. The Company
recognized equity in earnings from IFTC of $6.5 million in 1994. DST
received approximately $2.2 and $1.5 million in dividends from State
Street during 1996 and 1995, respectively.
In addition to these transactions, DST's 1995 earnings reflect a 20% increase
in revenues over 1994, a 14% increase in mutual fund shareowner accounts
serviced, and continued efforts to develop and integrate developmental and
international business units.
Midland equity in earnings were $5.2 million in 1995 versus $1.7 million in
1994. The significant increase in 1995 was due to the receipt of incentive
payments under certain contracts during fourth quarter 1995.
Equity in earnings from Mexrail were immaterial to the Company's consolidated
results of operations during 1995 as they were included as an equity
investment for less than two months in 1995.
Interest Expense
Consolidated interest expense decreased 9% in 1996 to $59.6 million versus
$65.5 million in 1995. This decrease resulted from lower average debt
balances throughout 1996, largely due to lower year end 1995 debt balances as
a result of the repayment of indebtedness using the proceeds received in
connection with the DST public offering and associated transactions.
Additionally, interest savings from the October 1996 Southern Capital joint
venture formation and associated transactions substantially offset interest
associated with borrowings throughout 1996 used to repurchase Company common
stock.
Consolidated interest expense increased 22% in 1995 to $65.5 million compared
to $53.6 million in 1994. This increase was a result of higher average debt
balances throughout 1995 (although ending balances were lower due to repayment
of credit lines using the proceeds received from the DST public offering and
associated transactions). Higher 1995 debt balances were due to the
acquisition of a controlling interest in Berger in late 1994, the purchase of
additional ownership in Janus in early 1995, and the Company's stock
repurchase program.
Management expects interest expense to be higher in 1997 compared to 1996 due
to borrowings under the Company's lines of credit to fund its investment in
TFM.(1) However, as a significant portion of the Company's debt at December
31, 1996 represents fixed rate debt instruments, the Company's risk to
increasing interest rates is somewhat mitigated.
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
[Page 28]
Other, Net
Generally, modest fluctuations have occurred within this component from 1994
to 1996. The increase in 1996 from 1995 is largely due to the one time gain
of approximately $2.9 million recorded by KCSR in connection with the sale of
real estate, partially offset by higher 1995 interest income from advances to
DST throughout the first nine months of 1995. The increase in 1995 from 1994
primarily relates to interest income earned by the Company from advances to
DST during 1995, partially offset by the exclusion of DST interest income
resulting from the deconsolidation of DST from KCSI's consolidated results in
1995.
LIQUIDITY
Operating Cash Flows. The Company's cash flow from operations has
historically been positive and sufficient to fund operations, KCSR roadway
capital improvements, and debt service. External sources of cash -
principally negotiated bank debt, public debt and sales of investments - have
typically been used to fund acquisitions, new investments, equipment additions
and Company stock repurchases.
The following table summarizes operating cash flow information. Financial
information for the year ended December 31, 1995 was restated to reflect DST
as an unconsolidated affiliate as of January 1, 1995 due to the DST public
offering and associated transactions completed in November 1995, which reduced
the Company's ownership in DST to approximately 41%. Financial information
for the year ended December 31, 1994 reflects historical results which include
DST as a consolidated entity. Certain reclassifications have been made to
prior years' information to conform to current year presentation.
(in millions):
1996 1995 1994
Net income $ 150.9 $ 236.7 $ 104.9
Depreciation and amortization 76.1 75.0 119.1
Equity in undistributed earnings (66.4) (29.8) (23.9)
Gain on sale of equity investment, net (144.6) (i)
Dividend from DST Systems, Inc. 150.0
Change in working capital items (74.2) 20.2 (ii) 13.5
Deferred income taxes 18.6 25.9 (ii) 20.0
Other 16.0 18.5 3.8
Net operating cash flow $ 121.0 $ 351.9 $ 237.4
(i) Gain associated with DST public offering
(ii) Exclusive of the tax components related to the gain on sale of equity
investment
1996 operating cash flows decreased by $230.9 million from 1995, largely
attributable to the $150 million dividend paid by DST to the Company in 1995,
together with a significant decrease in accrued liabilities as a result of the
payment (in 1996) of approximately $74 million in federal and state income
taxes associated with the taxable gains from the DST stock offering in
November 1995. Operating cash flows in 1995 were $351.9 million, a 48%
increase over 1994. The improved operating cash flow in 1995 was primarily
due to the $150 million dividend paid by DST in May 1995, partially offset by
lower net income, after adjustment for the net gain on the sale of DST, and
non-cash depreciation and amortization. Depreciation and amortization
decreased in 1995 due to the deconsolidation of DST, offset somewhat by
increased amortization associated with the purchase of additional ownership
interests in Berger and Janus, and higher depreciation at KCSR due to capital
expenditures.
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Summary cash flow data is as follows (in millions):
1996 1995 1994
Cash flows provided by (used for):
Operating activities $ 121.0 $ 351.9 $ 237.4
Investing activities 20.9 69.3 (335.7)
Financing activities (150.8) (402.1) 104.4
Net increase (decrease) in
cash and equivalents (8.9) 19.1 6.1
Cash and equivalents at beginning of year 31.8 12.7 6.6
Cash and equivalents at end of year $ 22.9 $ 31.8 $ 12.7
Investing Cash Flows. Cash was used for the following investing activities:
i) property acquisitions of $144.0, $121.1 and $287.7 million in 1996, 1995
and 1994, respectively; and ii) investments in and loans with affiliates of
$41.9, $94.5, and $24.6 million in 1996, 1995 and 1994, respectively. In
addition, due to growth throughout 1996, Janus had approximately $39.2 million
in short-term investments, representing invested cash at December 31, 1996.
Cash received in connection with the Southern Capital joint venture formation
and associated transactions (approximately $217 million, after consideration
of related income taxes) is included as proceeds from disposal of property and
from disposal of other investments based on the underlying assets
contributed/sold to Southern Capital.
In 1995, the DST stock offering and debt repayment to KCSI resulted in $276.2
million of proceeds to the Company (prior to payment of income taxes, which
occurred in 1996).
Generally, operating cash flows and borrowings under lines of credit have been
used to finance property acquisitions and investments in and loans with
affiliates during the period from 1994 to 1996.
Financing Cash Flows. Financing cash flows include: (i) borrowings of $234,
$98 and $201 million in 1996, 1995 and 1994, respectively; (ii) repayment of
indebtedness in the amounts of $233, $371 and $66 million in 1996, 1995 and
1994, respectively; and (iii) cash dividends of $15, $10 and $13 million in
1996, 1995 and 1994, respectively.
Proceeds from the issuance of debt in 1996 were used for stock repurchases
($151 million), additional investment in Berger ($24 million), and for working
capital purposes ($59 million, including payments of federal and state income
taxes associated with the DST public offering). Debt proceeds in 1995 were
used for stock repurchases ($12 million) and subsidiary refinancing and
working capital ($86 million). Proceeds from the issuance of debt in 1994
were used for KCSR equipment purchases ($64 million), DST property additions
($59 million), the Berger acquisition ($48 million), DST Continuum stock
purchases ($18 million), and ESOP contributions ($12 million).
Repayment of indebtedness includes scheduled maturities. In 1996, proceeds
(approximately $217 million, after consideration of income taxes) received in
connection with the Southern Capital joint venture formation and associated
transactions were used to repay outstanding amounts under the Company's lines
of credit. In 1995, proceeds received from the DST public offering and
repayment by DST of indebtedness to KCSI were used to repay outstanding
amounts under existing lines of credit and repurchase Company common stock.
As discussed earlier, in January 1997, the Company made an approximate $277
million capital contribution to TFM, representing the Company's proportionate
amount of the initial payment required of TFM by the Mexican Government for
the purchase of FNE. The Company funded this contribution through its
existing lines of credit. Based on the anticipated financing plan developed
by TFM, TMM and
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the Company, significant additional contributions to TFM should not be
necessary in the near future. However, if circumstances develop in which a
contribution may be requested, the Company will evaluate the contribution
based on the merits of the specific underlying need. In any such instance,
the contribution would be funded using the Company's currently available
financing resources.(1)
See discussion under "Financial Instruments and Purchase Commitments" for
information relative to certain anticipated 1997 cash expenditures.
CAPITAL STRUCTURE
Capital Requirements. The Company has traditionally funded KCSR capital
expenditures using Equipment Trust Certificates for major purchases of
locomotive and rolling stock, and negotiated term financing or used internally
generated cash flows for other equipment. Capital improvements for KCSR
roadway track structure have historically been funded with cash flows from
operations. For Janus and Berger operations, and other subsidiary and Holding
Company capital needs, the Company has generally used cash flows from
operations and negotiated term financing, when necessary. With the formation
of Southern Capital, the Company has the ability to finance equipment through
the joint venture.
Capital programs from 1994 to 1996 included the accelerated completion of the
KCSR and MidSouth track structure rebuilding program, discussed in "Results of
Operations" above. By the end of 1994, the major portions of the MidSouth
program were complete. The 1994 capital expenditures (totaling $191 million)
were financed through internally generated cash flows. These same sources
were used to finance KCSR capital expenditures in 1996 ($135 million) and 1995
($110 million). In addition, KCSR acquired locomotives and rolling stock
during 1994 through the issuance of $55 million in privately placed Equipment
Trust Certificates.
Relative to 1994, DST capital requirements typically consisted of mainframe,
peripheral and other data processing computer equipment. DST began a physical
expansion of its Winchester Data Center during 1994 to accommodate customer
growth demands. The Data Center expansion, completed in 1995, effectively
doubled the size of the facility. During 1994, DST terminated certain
mainframe computer equipment leases and purchased other mainframe equipment in
the amount of $11 million, which was funded through vendor arranged financing.
In the last several years, Janus has upgraded its customer service
capabilities through new equipment and technology enhancements, generally
funded with existing cash flows and negotiated indebtedness, when necessary.
Overall, however, the Company's Financial Asset Management businesses require
minimal capital for operations.
Capital. Components of capital are shown as follows (in millions):
1996 1995 1994
Debt due within one year $ 7.6 $ 10.4 $ 56.4
Long-term debt 637.5 633.8 928.8
Total debt 645.1 644.2 985.2
Stockholders' equity 715.7 695.2 667.2
Total debt plus equity $ 1,360.8 $ 1,339.4 $ 1,652.4
Total debt as a percent of
total debt plus equity 47.4% 48.1% 59.6%
(1) See the first paragraph of "Overview" section of Item 7, Management's
Discussion and Analysis of Financial Condition and Results of Operations
(page 9), regarding forward-looking comments
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The Company's consolidated debt ratio (total debt as a percent of total debt
plus equity) decreased slightly as of December 31, 1996 to 47.4% versus 48.1%
at December 31, 1995. Total debt at December 31, 1996 of $645.1 million was
$0.9 million higher than 1995. Significant repurchases of Company common
stock ($151.3 million) using borrowings under the Company's lines of credit
were essentially offset by the reduction in debt resulting from the Southern
Capital joint venture formation and associated transactions. Equity increased
as a result of net income, issuance of common stock from option exercises and
other stock plans, and a positive non-cash equity adjustment related to
unrealized gains (net of tax) on "available-for-sale" securities held by
affiliates, primarily DST. These increases were largely offset by the
Company's common stock repurchases and dividends. The decrease in the debt
ratio as of December 31, 1996 compared to 1995 was due to this increase in
equity, together with essentially unchanged debt levels.
The debt ratio as of December 31, 1995 declined significantly to 48.1% versus
59.6% on December 31, 1994. Total debt at December 31, 1995 ($644.2 million)
declined $341.0 million (or 35%) from December 31, 1994, primarily due to the
repayment of lines of credit using the $150 million dividend from DST and
proceeds from the DST public offering and repayment by DST of indebtedness
owed to KCSI. The decrease in the debt ratio was attributable to this decline
in debt together with the gain on the sale of DST common stock, offset
partially by significant repurchases of the Company's common stock
(approximately $223.7 million including the exchange of DST common stock for
KCSI common stock owned by the ESOP).
As a result of the Company's approximate $277 million capital contribution to
TFM in January 1997, which was funded using borrowings under the Company's
lines of credit, the Company's debt ratio increased to 56.7% as of January 31,
1997. Management anticipates that the debt ratio will increase slightly
during the remainder of 1997 as a result of continued repurchases of Company
common stock, partially offset by profitable operations, which are expected to
generate positive cash flow for debt retirement.(1)
Minority Purchase Agreements. Agreements between KCSI and certain Janus
minority owners contain, among other