SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For Quarter Ended June 30, 1999 Commission File Number 1-6512 AIRBORNE FREIGHT CORPORATION ------------------------------------------------------ (Exact name of registrant as specified in its charter) Delaware ---------------------------------------- (State of incorporation or organization) 91-0837469 --------------------------------- (IRS Employer Identification No.) 3101 Western Avenue P.O. Box 662 Seattle, Washington 98111-0662 ------------------------------ (Address of Principal Executive Office) Registrant's telephone number, including area code: (206) 285-4600 -------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes: XXX No: --- --- Indicate the number of shares outstanding of each of the issuer's classes of common stock as of the close of the period covered by this report. Common Stock, par value $1 per share Outstanding (net of 2,497,078 treasury shares) as of June 30, 1999 48,635,206 shares ----------------- AIRBORNE FREIGHT CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF NET EARNINGS (Dollars in thousands except per share data) (Unaudited) Three Months Ended Six Months Ended ------------------ ---------------- June 30 June 30 ------- ------- 1999 1998 1999 1998 ---- ---- ---- ---- REVENUES: Domestic $686,395 $672,378 $1,367,656 $1,334,896 International 92,913 91,759 181,083 179,434 -------- -------- ---------- ---------- 779,308 764,137 1,548,739 1,514,330 OPERATING EXPENSES: Transportation purchased 238,197 234,797 472,172 465,120 Station and ground operations 238,517 228,282 479,834 450,976 Flight operations and maintenance 123,620 117,480 245,803 234,883 General and administrative 61,172 61,940 120,191 121,890 Sales and marketing 18,603 17,569 36,951 34,968 Depreciation and amortization 50,980 45,182 100,593 90,070 -------- -------- ---------- ---------- 731,089 705,250 1,455,544 1,397,907 -------- -------- ---------- ---------- EARNINGS FROM OPERATIONS 48,219 58,887 93,195 116,423 INTEREST, NET 4,047 2,960 7,679 6,876 -------- -------- ---------- ---------- EARNINGS BEFORE INCOME TAXES 44,172 55,927 85,516 109,547 INCOME TAXES 17,150 22,100 33,250 43,360 -------- -------- ---------- ---------- NET EARNINGS $ 27,022 $ 33,827 $ 52,266 $ 66,187 ======== ======== ========== ========== NET EARNINGS PER SHARE: Basic $ .56 $ .67 $ 1.08 $ 1.32 ======== ======== ========== ========== Diluted $ .55 $ .66 $ 1.06 $ 1.29 ======== ======== ========== ========== DIVIDENDS PER SHARE $ .040 $ .040 $ .080 $ .078 ======== ======== ========== ========== See notes to consolidated financial statements. AIRBORNE FREIGHT CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (Dollars in thousands) June 30 December 31 ------- ----------- 1999 1998 ---- ---- (Unaudited) ASSETS ------ CURRENT ASSETS: Cash $ 19,294 $ 18,679 Trade accounts receivable, less allowance of $9,840 and $10,140 320,617 323,178 Spare parts and fuel inventory 43,160 39,726 Deferred income tax assets 30,773 28,508 Prepaid expenses and other 27,424 25,697 ---------- ---------- TOTAL CURRENT ASSETS 441,268 435,788 PROPERTY AND EQUIPMENT, NET 1,075,786 1,021,885 EQUIPMENT DEPOSITS and OTHER ASSETS 47,445 43,904 ---------- ---------- TOTAL ASSETS $1,564,499 $1,501,577 ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY ------------------------------------ CURRENT LIABILITIES: Accounts payable $ 134,997 $ 153,000 Salaries, wages and related taxes 81,383 77,030 Accrued expenses 79,834 93,997 Income taxes payable 12,246 8,820 Current portion of debt 423 410 ---------- ---------- TOTAL CURRENT LIABILITIES 308,883 333,257 LONG-TERM DEBT 268,969 249,149 DEFERRED INCOME TAX LIABILITIES 91,873 88,838 OTHER LIABILITIES 72,278 61,181 SHAREHOLDERS' EQUITY: Preferred Stock, without par value - Authorized 5,200,000 shares, no shares issued Common stock, par value $1 per share - Authorized 120,000,000 shares Issued 51,132,284 and 50,818,493 shares 51,132 50,819 Additional paid-in capital 298,464 293,629 Retained earnings 511,919 463,539 Accumulated other comprehensive income 582 766 ---------- ---------- 862,097 808,753 Treasury stock, 2,497,078 and 2,497,078 (39,601) (39,601) shares, at cost ---------- ---------- 822,496 769,152 ---------- ---------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $1,564,499 $1,501,577 ========== ========== See notes to consolidated financial statements. AIRBORNE FREIGHT CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (Dollars in thousands) (Unaudited) Six Months Ended ---------------- June 30 ---------------- 1999 1998 ---- ---- OPERATING ACTIVITIES: Net Earnings $ 52,266 $ 66,187 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 90,632 82,412 Provision for aircraft engine overhauls 9,961 7,658 Deferred income taxes 770 10,649 Other 11,190 14,695 -------- -------- CASH PROVIDED BY OPERATIONS 164,819 181,601 Change in: Receivables 2,561 11,851 Inventories and prepaid expenses (5,161) (3,613) Accounts payable (18,003) 512 Accrued expenses, salaries & taxes payable (6,384) (37,922) -------- -------- NET CASH PROVIDED BY OPERATING ACTIVITIES 137,832 152,429 INVESTING ACTIVITIES: Additions to property and equipment (147,748) (126,377) Dispositions of property and equipment 390 633 Expenditures for engine overhauls (8,620) (8,471) Other (2,334) (1,811) -------- -------- NET CASH USED BY INVESTING ACTIVITIES (158,312) (136,026) FINANCING ACTIVITIES: Proceeds (payments) on bank notes, net 20,000 (27,500) Principal payments on debt (167) (155) Proceeds from common stock issuance 5,148 6,535 Dividends paid (3,886) (3,886) -------- -------- NET CASH PROVIDED (USED) BY FINANCING 21,095 (25,006) ACTIVITIES -------- -------- NET INCREASE (DECREASE) IN CASH 615 (8,603) CASH AT JANUARY 1 18,679 25,525 -------- -------- CASH AT JUNE 30 $ 19,294 $ 16,922 ======== ======== See notes to consolidated financial statements. AIRBORNE FREIGHT CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS June 30, 1999 (Unaudited) NOTE A - SUMMARY OF FINANCIAL STATEMENT PREPARATION: The consolidated financial statements included herein are unaudited but include all adjustments which are, in the opinion of management, necessary for a fair presentation of the financial position and results of operations and cash flows for the interim periods reported. Certain amounts for prior periods have been reclassified to conform to the 1999 presentation. NOTE B - LONG-TERM DEBT: Long-term debt consists of the following: June 30 December 31 ------- ----------- 1999 1998 ---- ---- (In thousands) Senior debt: Revolving bank credit $ 40,000 $ - Notes payable 9,000 29,000 Senior notes 200,000 200,000 Revenue bonds 13,200 13,200 Other debt 7,192 7,359 -------- -------- 269,392 249,559 Less current portion 423 410 -------- -------- $268,969 $249,149 ======== ======== NOTE C - EARNINGS PER SHARE: Basic earnings per share are based upon the weighted average number of common shares outstanding during the interim period. Diluted earnings per share are based upon the weighted average number of common shares outstanding during the interim period plus dilutive common equivalent shares applicable to the assumed exercise of outstanding stock options. Weighted average shares outstanding used in earnings per share computations were as follows: Three Months Ended Six Months Ended ------------------ ---------------- June 30 June 30 ------- ------- 1999 1998 1999 1998 ---- ---- ---- ---- WEIGHTED AVERAGE SHARES OUTSTANDING: Basic 48,616,630 50,220,364 48,547,851 50,123,331 Diluted 49,333,901 51,288,921 49,343,279 51,235,062 NOTE D-SEGMENT INFORMATION The Company has organized its business into two reportable operating segments. The domestic segment derives its revenues from the door-to-door delivery of small packages and documents throughout the United States, Canada, and Puerto Rico. Domestic operations are supported principally by Company operated aircraft and facilities. The international segment derives its revenues from express door-to-door delivery and a variety of freight services. International revenues are recognized on shipments where the origin and/or destination is outside of locations supported by the domestic segment. The Company uses a variable cost approach to delivering international services through use of existing commercial airline capacity in connection with its domestic network and independent express and freight agents in locations not currently served by Company-owned foreign operations. The following is a summary of key segment information (in thousands): Three Months Ended Six Months Ended ------------------ ---------------- June 30 June 30 ------- ------- 1999 1998 1999 1998 ---- ---- ---- ---- SEGMENT REVENUES: Domestic $686,395 $672,378 $1,367,656 $1,334,896 International 92,913 91,759 181,083 179,434 ---------- ---------- ---------- ---------- $779,308 $764,137 $1,548,739 $1,514,330 ========== ========== ========== ========== SEGMENT EARNINGS FROM OPERATIONS: Domestic $46,442 $57,192 $90,788 $115,541 International 1,777 1,695 2,407 882 ---------- ---------- ---------- ---------- $48,219 $58,887 $93,195 $116,423 ========== ========== ========== ========== NOTE E-OTHER COMPREHENSIVE INCOME Other comprehensive income includes the following transactions and tax effects for the three and six month period ended June 30, 1999 (in thousands): Three Months Ended June 30, 1999 Six Months Ended June 30, 1999 -------------------------------- ------------------------------ Income Tax Income Tax Before (Expense) Net of Before (Expense) Net of Tax or Benefit Tax Tax or Benefit Tax ------ ---------- ------ ------ ---------- ------ Unrealized securities gains (losses) arising during the period $ 212 $(82) $ 130 $(148) $ 57 $ (91) Less: Reclassification adjustment for gains realized in net income (77) 30 (47) (142) 55 (87) ------ ------ ------ ------ ------ ------ Net unrealized securities gains (losses) 135 (52) 83 (290) 112 (178) Foreign currency translation adjustments 20 (22) (2) 14 (20) (6) ------ ------ ------ ------ ------ ------ Other comprehensive income $ 155 $(74) $ 81 $(276) $ 92 $(184) ====== ====== ====== ====== ====== ====== NOTE F-NEW ACCOUNTING PRONOUNCEMENTS: ACCOUNTING FOR DERIVATIVE INSTRUMENTS: In 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities". As amended by SFAS No. 137, this statement will be effective for fiscal year 2001. SFAS No. 133 requires an entity to recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The Company has entered into certain derivative contracts with financial institutions to limit its exposure to volatility in jet fuel prices. Under terms of the contracts, the Company either makes or receives payments if the market price of heating oil, as determined by an index of monthly NYMEX Heating Oil futures contracts, is lower or exceeds certain prices agreed to between the Company and the financial institutions. The contracts, which have no cost basis, are accounted for as hedges since there has historically existed a high correlation between the changes in the NYMEX index and the price of jet fuel. Settlements are made in cash and are recorded in the earnings statement in the period of settlement as either an increase or decrease to fuel expense. Under the cash flow hedge provisions of SFAS No. 133, the Company will be required to record the contracts at fair value, with corresponding changes in fair value recorded as a component of other comprehensive income. The Company has not adopted the provisions of SFAS No. 133 as of June 30, 1999. However, if the provisions of the statement had been adopted, a cumulative charge of $136,000, net of tax, would have been recorded to shareholders' equity and a credit to comprehensive income of approximately $210,000 and $2,700,000 would have been reported for the three and six month periods ended June 30, 1999, respectively. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION RESULTS OF OPERATIONS: The Company's operating performance in the second quarter and the first six months of 1999 resulted in operating income and net earnings below that of the comparable periods of 1998. The lack of growth in domestic shipments experienced in the first quarter of 1999 continued through the second quarter. While the yield on domestic shipments continued to improve, the average operating cost per shipment increased at a faster rate than the average revenue per shipment. These factors combined with a decline in productivity had a negative impact on operating performance in the first six months of 1999. Net earnings for the second quarter of 1999 were $27.0 million, or $.55 per share on a diluted basis, on revenues of $779 million, compared to $33.8 million, or $.66 per share on revenues of $764 million, for the second quarter of 1998. Net earnings for the first six months of 1999 were $52.3 million, or $1.06 per share on revenues of $1.55 billion, compared to $66.2 million, or $1.29 per share on revenues of $1.51 billion for the corresponding period in 1998. The following table sets forth selected shipment and revenue data for the periods indicated: Three Months Ended Six Months Ended ------------------ ---------------- June 30 June 30 -------- % ------- % 1999 1998 Change 1999 1998 Change ---- ---- ------ ---- ---- ------ Shipments (in thousands): Domestic Overnight 46,422 46,632 (0.5%) 92,743 92,391 0.4% Next Afternoon Service 14,132 14,718 (4.0%) 28,816 29,101 (1.0%) Second Day Service 17,897 17,673 1.3% 35,711 35,684 0.1% 100 Lbs. and Over 73 87 (16.1%) 148 178 (16.9%) ------ ------ ------- ------- Total Domestic 78,524 79,110 (0.7%) 157,418 157,354 0.0% ------ ------ ------- ------- International Express 1,636 1,507 8.6% 3,213 2,896 10.9% Freight 101 113 (10.6%) 200 223 (10.3%) ------ ------ ------- ------- Total International 1,737 1,620 7.2% 3,413 3,119 9.4% ------ ------ ------- ------- Total Shipments 80,261 80,730 (0.6%) 160,831 160,473 0.2% ====== ====== ======= ======= Average Pounds per Shipment: Domestic 4.18 4.22 (0.9%) 4.19 4.29 (2.3%) International 44.68 41.62 7.4% 43.92 42.85 2.5% Average Revenue per Pound: Domestic $2.06 $1.98 4.0% $2.04 $1.95 4.6% International $1.18 $1.34 (11.9%) $1.19 $1.33 (10.5%) Average Revenue per Shipment: Domestic $8.74 $8.49 2.9% $8.69 $8.48 2.5% International $53.49 $56.64 (5.6%) $53.06 $57.53 (7.8%) Total revenues increased 2.0% and 2.3% in the second quarter and first half of 1999, respectively, compared to the same periods of 1998. Total shipment growth was flat for the first half of 1999 over the first half of 1998, and decreased 0.6% in the second quarter of 1999 compared to the second quarter of 1998. Domestic revenue growth for the second quarter and the first half of 1999 was impacted by the relatively flat growth in all categories of domestic shipments. Domestic revenues increased 2.1% and 2.5% in the second quarter and first half of 1999, respectively, compared to 9.9% and 13.7% in the comparable periods of 1998. Although the growth rate in domestic revenue was much lower than last year, the fact that it exceeded the growth rate in shipments for the first half of the year continues a positive trend. The average revenue per domestic shipment increased 2.9% to $8.74 in the second quarter of 1999 compared to the second quarter of 1998. Overnight shipments accounted for 59.1% of total domestic shipments in the second quarter of 1999, comparable to the overnight shipment percentage achieved in the second quarter of 1998. The higher yielding overnight shipments decreased 0.5% in the second quarter of 1999, compared to a 10.3% increase in the corresponding 1998 period. The Company's Next Afternoon Service shipments decreased 4.0% and the Second Day Service shipments increased 1.3% in 1999 compared to growth of 7.3% and 6.1%, respectively, in the second quarter of 1998. The Company began a pilot program in mid-July, 1999 to test a new service for business to residential delivery. This service, referred to as Airborne@Home, will target shipments from Internet, catalog, and mail order businesses which are primarily directed to residential delivery. Delivery of this product will be accomplished through an arrangement with the U.S. Postal Service. The pilot program for Airborne@Home will be evaluated on an ongoing basis to determine longer-term application. International revenues increased 1.3% and .9% in the second quarter and first six months of 1999, respectively, compared to a decrease of 9.0% and 7.6% in the comparable periods of 1998. Shipments in the heavier weight, higher revenue per shipment freight segment decreased 10.6% in the second quarter of 1999. Mitigating some of the weakness in freight volumes, the Company experienced strong growth in its international express segment. International express shipments increased 8.6% in the second quarter of 1999. International segment contribution to earnings from operations was $1.8 million and $2.4 million for the second quarter and first half of 1999, respectively, compared to $1.7 million and $.9 million in the comparable periods of 1998. Operating expenses as a percentage of revenues were 93.8% and 94.0% for the second quarter and first six months of 1999, respectively, compared to 92.3% in both the second quarter and first six months of 1998, and 92.4% for all of 1998. Operating cost per shipment handled increased 3.9% to $9.05 for the first six months of 1999 compared to the first six months of 1998. The operating cost per shipment for the second quarter of 1999 increased 4.3% to $9.11, compared to the second quarter of 1998. Relatively flat shipment growth had a negative impact on productivity. The Company experienced a decline of 2.7% and 2.8% in productivity for the second quarter and first half of 1999, respectively, compared to the same periods of 1998, as measured by shipments handled per paid employee hour. The decline in year to date productivity and additional first quarter 1999 weather related costs were significant factors having a negative impact on 1999 operating results. Comparisons of certain operating expense components are discussed below. Transportation purchased decreased as a percentage of revenues to 30.5% in the first six months of 1999 compared to 30.7% in the comparable period of 1998. This decrease was primarily due to commercial airline costs which were lower in total and as a percentage of total revenues in the first six months of 1999 due to the decline in international freight shipments. Station and ground expense increased to 31.0% of revenues in the first six months of 1999 compared to 29.8% in the first six months of 1998. The decline in productivity and the weather related costs incurred in the first quarter had a negative impact on this category of expense. Flight operations and maintenance expense as a percentage of revenues during the first half of 1999 was 15.9%, compared to 15.5% in the first six months of 1998. Aviation fuel consumption decreased to 44.4 million gallons in the second quarter of 1999, a 2.6% decrease over the second quarter of 1998. For the first six months of 1999, aviation fuel consumption of 89.1 million gallons decreased .8% from the first six months of 1998. The average aviation fuel price for the second quarter and first six months of 1999 was $.58 and $.54 per gallon, respectively, compared to $.57 and $.60 per gallon, respectively, in the comparable periods of 1998. As a result of fuel hedging contracts, the Company incurred $2.4 million of expense in the first six months of 1999 compared to $1.0 million in the first six months of 1998. General and administrative expense was 7.8% of revenues in the first six months of 1999 compared to 8.0% in the comparable period of 1998. This category of cost decreased in total and as a percentage of revenues primarily due to lower profit sharing and management incentive compensation costs. These lower costs are a result of reduced levels of operating earnings in comparison to the first six months of 1998. The increase in depreciation and amortization expense in the first six months of 1999 is due in large part to the increased number of aircraft in service since the first half of 1998. Interest expense in the first six months of 1999 was higher than the first six months of 1998, primarily as the result of higher levels of average outstanding borrowings which offset the benefit of lower average effective interest rates realized. The Company's effective tax rate was 38.9% in the first six months of 1999 compared to 39.6% in the first six months of 1998 and 38.0% for all of 1998. The Company anticipates the effective tax rate for all of 1999 will be in a range comparable to the first six months of 1999. YEAR 2000 ISSUE: The Company has implemented a compliance program to address the challenges Year 2000 issues may present to its business. This program includes computer systems and applications operated by the Company, computer systems of third parties upon whose data or functionality the Company relies, and certain other fixed assets, including aircraft, which contain date sensitive technology critical to their operation. Modifications to the Company's critical operational and financial systems and conversions to new software were substantially complete at the end of 1998. Testing of these critical systems and software as well as remediation efforts and related testing on less critical applications have been substantially completed. As part of the compliance program, the Company has also initiated communications with third parties - primarily customers, vendors, airport authorities, and other governmental agencies (domestic and foreign), including the Federal Aviation Administration - whose failure to have Year 2000 compliant systems could have an adverse impact on the Company's operations. The Company is scheduling testing of customer interfaces of shipment information as this data is critical to providing services and billing. Although the Company does not believe the Year 2000 issue will have a material impact on its operations, there can be no guarantee that the Company's or any third party's Year 2000 remediation efforts will be fully compliant. If noncompliance is extensive and, in the worse case, involves some form of temporary suspension of operations, this could have a material adverse effect on the Company's business, financial condition and results of operations. The Company believes however, the most likely worst case scenario would include pickup or delivery delays in a particular geographic location or locations. To assist in mitigating the risk of noncompliance, the Company has and continues to develop contingency plans regarding critical systems should they fail to become Year 2000 compliant. These plans are focusing on the Company's own critical operational and financial systems as well as customer interfaces of shipment information. The contingency plans include, among other things, the development of systems rollover check plans and manual procedures to be performed by field and headquarters personnel in the event of communications systems failures. Management estimates the total cost of the Year 2000 compliance program to be approximately $4.0 million, of which $3.3 million has been incurred through June 30, 1999. Total information technology costs are not expected to differ from the normal recurring costs that are incurred for systems development, in part due to the reallocation of internal resources and the deferral of other projects. Funding of the compliance program is from internal cash flows. LIQUIDITY AND CAPITAL RESOURCES: Cash provided by operations net of change in working capital for the first six months of 1999 was $138 million, compared to $152 million in the first six months of 1998. Capital expenditures continue to be a primary factor affecting the financial condition of the Company. The Company anticipates total capital expenditures to approximate $350 million in 1999. During the first half of 1999, total capital expenditures net of dispositions were $147 million. Cash provided by operations and bank borrowings were the primary sources for funding capital expenditures in the first half of 1999. The Company's strong operating cash flow is a major source of liquidity. Also, the Company's $250 million unsecured revolving bank credit agreement has traditionally been used as a major source of liquidity for periods between other financing transactions. The Company also has available $65 million under unsecured uncommitted money market lines of credit with several banks used in conjunction with the revolving credit agreement to facilitate settlement and accommodate short-term borrowing fluctuations. With the higher level of capital expenditures in 1999 compared to 1998, reliance on the bank facilities has increased, with a total of $49.0 million outstanding at June 30, 1999 under the revolving bank credit and money market credit lines, compared to $29.0 million outstanding at December 31, 1998 and $2.5 million outstanding at June 30, 1998. In management's opinion, the available capacity under the bank credit agreements coupled with internally generated cash flow from remaining 1999 operations should provide adequate flexibility to finance anticipated capital expenditures for the balance of 1999. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK: There have been no material changes in the Company's market risk sensitive instruments and positions since its disclosure in its Annual Report on Form 10-K for the year ended December 31, 1998. See Note F of the Notes to Consolidated Financial Statements to this Form 10-Q for further discussion regarding the Company's fuel hedging activities. PART II. OTHER INFORMATION -------------------------- Item 6. Exhibits and Reports or Form 8-K. (a) Exhibits - Exhibit No. 27 - Financial Data Schedule SIGNATURES ---------- Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized: AIRBORNE FREIGHT CORPORATION ---------------------------- (Registrant) Date: 8/12/99 /s/Roy C. Liljebeck ------- ------------------------- Roy C. Liljebeck Executive Vice President, Chief Financial Officer Date: 8/12/99 /s/Lanny H. Michael ------- ------------------------- Lanny H. Michael Senior Vice President, Treasurer and Controller