-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Q6BXjp1IqkKA0z9XjfQgsP4Kt9sA5uyGvsO60PAgUbkLyk2kNtr/2TCnUcDaD4RD PEZuC0rh5GYStM+IOTjsNA== 0000023675-99-000002.txt : 19990330 0000023675-99-000002.hdr.sgml : 19990330 ACCESSION NUMBER: 0000023675-99-000002 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990329 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CNF TRANSPORTATION INC CENTRAL INDEX KEY: 0000023675 STANDARD INDUSTRIAL CLASSIFICATION: TRUCKING (NO LOCAL) [4213] IRS NUMBER: 941444798 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-05046 FILM NUMBER: 99576613 BUSINESS ADDRESS: STREET 1: 3240 HILLVIEW AVE CITY: PALO A LTO STATE: CA ZIP: 94304 BUSINESS PHONE: 4154942900 FORMER COMPANY: FORMER CONFORMED NAME: CONSOLIDATED FREIGHTWAYS INC DATE OF NAME CHANGE: 19920703 10-K 1 10K DOCUMENT Page 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended December 31, 1998 Commission File Number 1-5046 CNF TRANSPORTATION INC. Incorporated in the State of Delaware I.R.S. Employer Identification No. 94-1444798 3240 Hillview Avenue, Palo Alto, California 94304 Telephone Number (650) 494-2900 Securities Registered Pursuant to Section 12(b) of the Act: Name of Each Exchange on Title of Each Class Which Registered Common Stock ($.625 par value) New York Stock Exchange Pacific Stock Exchange Securities Registered Pursuant to Section 12(g) of the Act: 9-1/8% Notes Due 1999 Medium-Term Notes, Series A 7.35% Notes Due 2005 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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___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 registrant'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. Yes ___X__ No ___ ___ Aggregate market value of voting stock held by persons other than Directors, Officers and those shareholders holding more than 5% of the outstanding voting stock, based upon the closing price per share Composite Tape on January 31, 1999: $1,763,505,000. Number of shares of Common Stock outstanding as of February 28, 1999: 48,108,715 DOCUMENTS INCORPORATED BY REFERENCE Parts I, II and IV CNF Transportation Inc. 1998 Annual Report to Shareholders (only those portions referenced herein are incorporated in this Form 10-K). Part III Proxy Statement dated March 22, 1999 (only those portions referenced herein are incorporated in this Form 10-K). PAGE 2 CNF TRANSPORTATION INC. FORM 10-K Year Ended December 31, 1998 ___________________________________________________________________________ INDEX Item Page PART I 1. Business 3 2. Properties 13 3. Legal Proceedings 15 4. Submission of Matters to a Vote of Security Holders 15 PART II 5. Market for the Company's Common Stock and Related Security Holder Matters 15 6. Selected Financial Data 16 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 16 8. Financial Statements and Supplementary Data 17 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 17 PART III 10. Directors and Executive Officers of the Company 17 11. Executive Compensation 18 12. Security Ownership of Certain Beneficial Owners and Management 18 13. Certain Relationships and Related Transactions 18 PART IV 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 19 SIGNATURES 20 INDEX TO FINANCIAL INFORMATION 23 PAGE 3 CNF TRANSPORTATION INC. FORM 10-K Year Ended December 31, 1998 ___________________________________________________________________________ PART I ITEM 1. BUSINESS CNF Transportation Inc. and subsidiaries (collectively the Registrant or the Company) is a leading provider of transportation and logistics services. The continuing operations of the Company encompass four business segments: Con-Way Transportation Services (Con-Way), Emery Worldwide (Emery), Menlo Logistics (Menlo), and Other. Con-Way provides regional one- and two-day LTL freight trucking and full-service truckload freight delivery throughout the U.S., portions of Canada and Mexico, and expedited and guaranteed ground transportation. In 1998, Con-Way introduced integrated supply chain services to provide logistics solutions to targeted customers. Emery provides expedited and deferred domestic and international air cargo services, ocean delivery, and customs brokerage. Domestically, Emery relies primarily on aircraft operated by Emery Worldwide Airlines (EWA) and its ground fleet to provide its services. Internationally, Emery acts principally as a freight forwarder. Menlo is a full-service contract logistics company that specializes in developing and managing complex distribution networks. The Other operations consist primarily of the Priority Mail contract with the U.S. Postal Service (USPS), and include Road Systems, a trailer manufacturer, and VantageParts, a wholesale distributor of truck parts and supplies. EWA provides nightly air delivery services for Emery and Express Mail (a next-day delivery service) under a contract awarded by the USPS. The operations of the Express Mail contract are reported in the Emery business segment. In 1997, EWA was awarded a new contract for the sortation and transportation of Priority Mail (a second-day delivery service) in the eastern United States. The operations of the Priority Mail contract are included in the Other business segment. On December 2, 1996, the Company completed the tax-free distribution (the Spin-off) to its shareholders of a new publicly traded company, Consolidated Freightways Corporation (CFC), a long-haul LTL motor carrier and its related businesses. The Registrant's shareholders received one share of CFC stock for every two shares of the Registrant's stock that was owned on November 15, 1996. Following the Spin-off, the Company changed its name to CNF Transportation Inc. CNF Transportation Inc., formerly Consolidated Freightways, Inc., was incorporated in Delaware in 1958 as a successor to a business originally established in 1929. In the fourth quarter of 1998, the Company adopted SFAS 131, "Disclosures about Segments of an Enterprise and Related Information". SFAS 131 changed the method of disclosing segment information to the manner in which the Company's chief operating decision maker organizes the components for making operating decisions, assessing performance and allocating resources. Further discussion of SFAS 131, and an PAGE 4 analysis by operating segment of revenues, operating income, depreciation and amortization and capital expenditures for the years ended December 31, 1998, 1997 and 1996, and identifiable assets as of those dates are presented in Note 15 on pages 42 and 43 of the 1998 Annual Report to Shareholders and is incorporated herein by reference. The operations of the Company are primarily conducted in the U.S. but to an increasing extent are conducted in major foreign countries. Geographic group information is also presented in Note 15 of the 1998 Annual Report to Shareholders. Intersegment revenues and related earnings have been eliminated to reconcile to consolidated revenue and operating income. CON-WAY TRANSPORTATION SERVICES SEGMENT Con-Way Transportation Services (Con-Way) provides time-definite and day- definite ground transportation services in the form of regional one- and two-day LTL freight trucking, and full-service nationwide truckload freight delivery, inter-regional joint service, guaranteed service and expedited delivery. In 1998, Con-Way also introduced integrated supply chain services to provide logistics solutions to targeted customers. Con-Way's infrastructure facilitates service to all 50 states in the U.S. and Puerto Rico and certain major population centers in Canada and Mexico. Con-Way's strategies continue to emphasize operating margin improvement, particularly through efforts to secure pricing commensurate with its premium service. In addition, Con-Way's strategies include efforts to increase the utilization of its freight system especially in the Pacific Northwest and northeastern U.S. (areas in which it expanded its operations in 1995 and 1996) and through the introduction and expansion of new premium services. Con-Way Regional Carriers Con-Way's primary business units are three regional LTL motor carriers, each of which operates a dedicated regional trucking network principally serving core geographic territories with next-day and second-day service. The regional carriers serve manufacturing, industrial, commercial and retail business-to-business customers with a fleet of approximately 26,000 trucks, tractors and trailers at December 31, 1998. The regional carriers include: Con-Way Central Express (CCX), which was founded in June 1983, today serves 23 states of the central and northeast U.S., Ontario and Quebec, Canada and Puerto Rico. At December 31, 1998, CCX operated 211 service centers. Con-Way Southern Express (CSE) was founded in April 1987. CSE serves a 12-state southern market from Texas to the Carolinas and Florida, and also serves Puerto Rico and parts of Mexico. CSE operated 100 service centers at December 31, 1998. Con-Way Western Express (CWX), which was founded in May 1983, today operates in 15 western states and serves parts of Canada and Mexico. CWX completed major geographic expansions in 1995 in the Pacific Northwest and British Columbia. At December 31, 1998, CWX operated 81 service centers. PAGE 5 In 1998, Con-Way completed coast-to-coast service by fully linking its three regional carriers. The expansion of Con-Way's joint service offerings permits Con-Way's three regional carriers to provide full service throughout the U.S. and to certain major population centers in Canada. By offering joint services, the three regional carriers can now provide next- day and second-day freight delivery between their respective core territories utilizing existing infrastructure. The joint service program generates additional business by allowing each carrier to provide coverage of inter-regional market lanes not serviced as part of its core territory. Due in large part to implementation of the joint service program, the average length of haul for shipments handled by the regional carriers grew to 561 in 1998. Also, average revenue per shipment grew from $111 in 1994 to $140 in 1998. The average weight per shipment was approximately 1,100 pounds in 1998. Con-Way Truckload Services, Con-Way NOW and Con-Way Integrated Services Con-Way's operations also include Con-Way Truckload Services (CWT), a full- service, multi-modal truckload company, and Con-Way NOW, which serves the expedited surface shipment market. CWT provides door-to-door delivery of truckload shipments by highway and rail forwarding with domestic intermodal marketing services, and assembly and distribution services. In addition, CWT provides on-time service as a subcontractor for the Priority Mail operation. Con-Way NOW specializes in time- definite shipments, such as replacement parts, medical equipment and other urgent shipments, where expedited delivery is critical. Con-Way NOW began operations in 1996 in the Midwest, expanded to parts of the southeastern U.S. in 1997, and now has delivery service to 48 states and parts of Canada. In 1998, Con-Way introduced Con-Way Integrated Services to provide logistics services including operating multi-client warehouses for medium-sized shipping customers. Employees Con-Way's domestic employment has increased to approximately 16,600 regular and supplemental employees at December 31, 1998 from 15,000 employees at December 31, 1997 and approximately 14,300 at December 31, 1996. Customers There is broad diversity among customers served, size of shipments, commodities transported and length of haul. No single customer or commodity accounted for more than a small fraction of total revenues. Competition The trucking industry is intensely competitive. Principal competitors of Con-Way include both regional carriers and national LTL companies (some of which have continued to extend into regional markets and to acquire and combine formerly independent regional carriers into inter-regional groups). Competition in the trucking industry is based on, among other things, freight rates, quality of service, reliability, transit times and scope of operations. Over the past 15 years, periods of over-capacity in the trucking industry have led to intense competition and price discounting, resulting in decreased margins and a significant number of business failures. PAGE 6 Federal and State Regulation Con-Way's business is subject to extensive regulation by various federal and state governmental entities. Deregulation of the trucking industry allowed easier access to the industry by new trucking companies, and has removed many restrictions on expansion of services by existing carriers and increased price competition. These and other factors have contributed to a consolidation in the trucking industry, as a number of trucking companies have either merged or gone out of business. Currently, the motor carrier industry is subject to federal regulation by the Federal Highway Administration (FHWA) and the Surface Transportation Board (STB), both of which are units of the United States Department of Transportation (DOT). The FHWA performs certain functions inherited from the ICC relating chiefly to motor carrier registration, cargo and liability insurance, extension of credit to motor carrier customers, and leasing of equipment by motor carriers from owner-operators. In addition, the FHWA enforces comprehensive trucking safety regulations relating to driver qualifications, driver hours of service, safety-related equipment requirements, vehicle inspection and maintenance, record keeping on accidents, and transportation of hazardous materials. As pertinent to the general freight trucking industry, the STB has authority to resolve certain types of pricing disputes and authorize certain types of intercarrier agreements under jurisdiction inherited from the ICC. At the state level, federal preemption of economic regulation does not prevent the states from regulating motor vehicle safety on their highways. In addition, federal law allows all states to impose insurance requirements on motor carriers conducting business within their borders, and empowers most states to require motor carriers conducting interstate operations through their territory to make annual filings verifying that they hold appropriate registrations from FHWA. Motor carriers also must pay state fuel taxes and vehicle registration fees, which normally are apportioned on the basis of mileage operated in each state. EMERY WORLDWIDE SEGMENT Emery Worldwide (Emery) was formed when the Company purchased Emery Air Freight Corporation (EAFC) in April 1989. EAFC provides both domestic and international air freight services. In North America, EAFC relies principally on the dedicated aircraft of a separate subsidiary of the Company, Emery Worldwide Airlines, Inc. (EWA) and EAFC's own ground fleet to provide commercial door-to-door delivery for next-day, second-day and deferred shipments. Internationally, EAFC acts principally as a freight forwarder by providing door-to-door and airport-to-airport commercial services in approximately 200 countries. International business is defined as shipments that either originate or terminate outside of the United States. At December 31, 1998, EAFC operated approximately 2,000 trucks, vans, tractors and trailers, as well as equipment provided by its agents. In providing the airlift for the commercial air freight operations of EAFC, EWA utilized a fleet of 76 dedicated aircraft as of December 31, 1998. Of these aircraft, 49 were leased on a long-term basis, 6 were owned and 21 were contracted on a short-term basis to supplement nightly capacity and to provide feeder services. At December 31, 1998, the nightly lift capacity of this aircraft fleet, excluding charters, was over 4 million pounds. PAGE 7 In addition to providing aircraft for EAFC's commercial air freight operations, EWA also provides air delivery services for Express Mail (a next-day delivery service) under a ten-year contract with the USPS. The original contract for this operation was awarded to EWA in 1989, and the current contract was awarded to EWA in 1993. At December 31, 1998, EWA used 23 dedicated aircraft to provide services to the USPS under this contract. In addition, EWA has also received separate contracts to carry peak-season Christmas and other mail for the USPS. Excluding Priority Mail, Emery recognized approximately $214 million, $163 million and $140 million of revenue in 1998, 1997 and 1996, respectively, from contracts and other arrangements to carry mail, primarily Express Mail, for the USPS. The operations of the Express Mail contract and the separate peak-season mail contracts are reported in the Emery Worldwide segment. In 1997, EWA was also awarded a new contract for the sortation and transportation of Priority Mail (a second-day delivery service) originating in the eastern United States. In compliance with the adoption of SFAS 131, the operations of the Priority Mail contract are included in the Other segment. (Refer to Other Segment for discussion of the Priority Mail operations). While Emery's freight system is designed to handle parcels, packages and shipments of a variety of sizes and weights, its air freight operations are focused primarily on heavy air freight (defined as shipments of 70 pounds or more) as opposed to envelopes. In 1998, Emery's air freight shipments weighed an average of approximately 248 pounds and generated average revenue of approximately $229 per shipment. Customers are typically concerned with timely deliveries rather than the mode of transportation used to transport freight. Because the average cost of ground transportation is considerably less than air transportation, Emery seeks to manage its costs by using trucks, rather than aircraft, to transport freight whenever possible, typically in connection with second- day and deferred deliveries. EAFC provides services in North America through a system of sales offices and service centers, and overseas through foreign subsidiaries, branches, service centers and agents. EAFC's door-to-door service within North America relies on the airlift system of EWA, supplemented with commercial airlines. Internationally, EAFC operates primarily as an air freight forwarder using commercial airlines, while utilizing controlled lift only on a limited basis. EAFC's expansion plans have been focused on international operations due to the expectation of greater opportunities in an expanding worldwide economy and the lower capital requirements of the non-asset based international operations. As a result of this strategy, EAFC's total international air freight revenues increased 67% from 1994 through 1998, compared with a 15% increase for its total North American air freight revenues for the same period. For 1998, total international revenues of approximately $960 million comprised nearly 44% of Emery's total revenues. Emery's fastest-growing regions internationally have been Latin America and Asia, although in 1998 Asia declined as a result of a severe regional economic downturn which also adversely impacted other international regions. EAFC's strategic initiatives include efforts to improve service and reliability in order to achieve higher revenue-per-pound. Combined with efforts to improve PAGE 8 efficiencies, management expects these initiatives to improve financial results. Accordingly, EAFC is modernizing its main Hub facility, initiating programs to improve freight handling, increasing use of owned agents in international markets and globally applying new technologies. In addition, EWA is making modifications to its aircraft fleet and increasing the pool of available aircraft. EAFC's hub-and-spoke system is based at the Dayton, Ohio International Airport, where its leased air cargo facility (the Hub) and related support facilities are located. The Hub handles a wide variety of shipments, ranging from small packages to heavyweight cargo, with a total effective sort capacity of approximately 1.2 million pounds per hour, generally handling over 5 million pounds of freight daily. In 1997, EAFC began a $60 million redesign and expansion of the Hub that is expected to increase capacity 30% by the year 2000. The operation of the Hub in conjunction with EWA's airlift system contributes to EAFC's ability to maintain service reliability. In addition to the Dayton Hub, EAFC operates nine regional hubs, strategically located around the United States near Sacramento and Los Angeles, California; Dallas, Texas; Chicago, Illinois; Poughkeepsie, New York; Charlotte, North Carolina; Atlanta, Georgia; Nashville, Tennessee; and Orlando, Florida. In 1997, EAFC opened new distribution centers in Singapore and Miami to serve Asia and Latin America, respectively. Because of the growing prominence of its international and logistics services, Emery management modified certain of its strategic initiatives in 1998. Emery's growth strategy is focused on leveraging its unique position as a worldwide, integrated forwarder. To execute this strategy, Emery will further emphasize its inter-related logistics, expedited customs clearance and ocean capabilities, while maintaining its key strength of time- definite, global air freight services. Among its efforts to grow worldwide revenues, Emery has acquired several agents in key international locations and entered into partnerships with several others. In 1998, Emery launched a joint venture in China to provide freight forwarding and logistics services. Other services To enhance the range of services it can offer to its customers and to provide further avenues for growth, Emery has established several non-asset based "strategic business units." (The Company defines a non-asset-based business as one requiring substantially less capital investment than its principal domestic air freight and ground transportation business). These other units include Emery Expedite!, a rapid response freight handling subsidiary providing door-to-door delivery of shipments in North America and overseas. Emery's logistics subsidiary, Emery Global Logistics, operates warehouse and distribution centers for customers in six countries. Emery Customs Brokerage (ECB) provides full service customs clearance regardless of mode or carrier. Through ECB, Emery also serves as a global freight forwarder and non-vessel-operating common carrier that provides full and less-than-container load service. Employees As of December 31, 1998, Emery had approximately 11,500 regular full-time employees compared with approximately 10,000 employees at December 31, 1997 and about 9,000 at December 31, 1996. PAGE 9 Approximately 13% of the Emery's full-time employees were represented by various labor unions. This percentage includes EWA's pilots who, on July 2, 1997, voted to approve representation by the Airline Pilots Association (ALPA). Although contract negotiations between the Company and ALPA have begun, the Company is unable to predict the outcome of those negotiations or their effect on its results of operations. Customers The air freight industry is intensely competitive. Principal competitors of Emery include other integrated air freight carriers, air freight forwarders and international airlines and, to a lesser extent, trucking companies, passenger and cargo air carriers. In 1998, Emery saw an increase in competition from ground based competitors for shipments under 1000 pounds and moving less than 1000 miles. Competition in the air freight industry is based on, among other things, freight rates, quality of service, reliability, transit times and scope of operations. Technology An important element in the movement of goods is the rapid movement of information to track freight, optimize carrier selections, and interlink and analyze customer data. Starting in 1996, Emery began to invest in what is expected to be a $75 million multi-year technology program to upgrade its hardware and software systems architecture, including its global tracking system called Emcon 2000. The Emcon 2000 system is expected to provide enhanced tracking information for shipments to reduce mis-sorts, avoid potential overloads and to signal freight with specialized handling requirements. Regulation of Air Transportation EWA's and EAFC's business is subject to extensive regulation by various federal, state and foreign governmental entities. The air transportation industry is subject to federal regulation under the Federal Aviation Act of 1958, as amended (Aviation Act) and regulations issued by the Department of Transportation (DOT) pursuant to the Aviation Act. EAFC, as an air freight forwarder, and EWA, as an airline, are subject to different regulations. Air freight forwarders are exempted from most DOT economic regulations and are not subject to Federal Aviation Administration (FAA) safety regulations, except security-related rules. Airlines such as EWA are subject to, among other things, maintenance, operating and other safety- related regulations by the FAA, including Airworthiness Directives promulgated by the FAA which require airlines such as EWA to make modifications to aircraft. In that regard, EWA expects that it will be required to make expenditures to reinforce the floors and modify the doors of up to 17 of its Boeing 727 aircraft to comply with Airworthiness Directives. Likewise, the relative age of EWA's aircraft fleet may increase the likelihood that EWA will be required to make expenditures in order for its aircraft to comply with future government regulations. During recent years, operations at several airports have been subject to restrictions or curfews on arrivals or departures during certain night-time hours designed to reduce or eliminate noise for surrounding residential areas. None of these restrictions have materially affected EWA's or EAFC's operations. If such restrictions were to be imposed with respect to the airports at which EWA's or EAFC's activities are centered (particularly EAFC's major Hub at the Dayton International Airport), and no alternative airports were available to serve the PAGE 10 affected areas, there could be a material adverse effect on EWA's or EAFC's operations. Under applicable law, the FAA is authorized to establish aircraft noise standards and the administrator of the Environmental Protection Agency is authorized to issue regulations setting forth standards for aircraft emissions. The Company believes that its present fleet of owned, leased and chartered aircraft is operating in substantial compliance with currently applicable noise and emission laws. The Aviation Noise and Capacity Act of 1990 establishes a national aviation noise policy. The FAA has promulgated regulations under this Act regarding the phase-in requirements for compliance. This legislation and the related regulations will require all of EWA's owned and leased aircraft eligible for operation in the contiguous United States to either undergo modifications or otherwise comply with Stage 3 noise restrictions by year- end 1999. Although the ultimate cost of complying with these requirements cannot be predicted with certainty, the Company estimates it will make capital expenditures of approximately $10 million in 1999 to modify owned or leased aircraft in order to comply with these requirements. Regulation of Ground Transportation When EAFC provides ground transportation of cargo having prior or subsequent air movement, the ground transportation is exempt from the motor carrier registration requirements and economic regulations that were inherited from the ICC by the FHWA and the STB, respectively. Such ground transportation, however, is subject to comprehensive trucking safety regulation by the FHWA as described in the Con-Way Transportation Services section. In addition, EAFC holds FHWA motor carrier registrations, which can be utilized in providing non-exempt ground transportation. For a description of applicable state regulations, refer to the discussion in the Con-Way Transportation Services section. MENLO LOGISTICS SEGMENT Menlo Logistics, Inc. (Menlo), founded in 1990, specializes in developing and managing complex national and global supply and distribution networks, including transportation management, dedicated contract warehousing and dedicated contract carriage. In serving its customers, Menlo uses and develops logistics optimization and customer order and shipment tracking software, and also provides real time warehouse, transportation and order management systems. Menlo has developed the ability to link these systems both with each other and with its customers' internal systems. The Company believes that Menlo's technology skills, operations processes and design expertise with respect to sophisticated logistics systems have established it as a leader in the emerging field of contract logistics. Complex projects which call upon Menlo's skills in managing carrier networks, dedicated vehicle fleets and automated warehouses as an integrated system recently have been the fastest growing segment of Menlo's business. Menlo operates in a relatively new industry and has a limited number of major competitors. Nonetheless, competition for the provision of logistics services is intense. Menlo's competitors include both domestic and foreign logistics companies and the logistics arms of integrated transportation companies. Competition in this industry is based largely on computer system skills and the ability to rapidly implement logistics solutions. PAGE 11 The Company believes that three industry trends have driven Menlo's recent growth. First, the Company believes that a number of businesses are increasingly evaluating their overall logistics costs, including transportation, warehousing and inventory carrying costs. Second, the Company believes that outsourcing of non-core services, such as distribution, has become more commonplace with many businesses. Finally, the Company believes that the ability to access information through computer networks has increased the value of capturing real time logistics information to track inventories, shipments and deliveries. Menlo's ability to provide solutions to intricate distribution issues for large companies with complex supply chains helped them secure six new projects in 1998. One of Menlo's primary strategies is also to increase the services that it provides to current customers. In 1997 and 1996, Menlo expanded the services it provides to existing clients such as Hewlett- Packard, Sears, Coca-Cola and IBM. Menlo was also awarded projects in 1997 and 1996 by new clients such as Imation, Nike, Frigidaire, Herman Miller, GM Delphi and Bell Atlantic. Compensation from Menlo's customers takes different forms, including cost-plus, gain-sharing, per-piece, fixed dollar and consulting fees. In some cases, customers reimburse start-up and development costs. Menlo seeks to limit the financial commitments it undertakes by typically providing that any facility or major equipment lease that it enters into on behalf of a customer must be assumed by the customer upon termination of the contract with Menlo. However, to date relatively few customer relationships have been ended by either Menlo or its customers. At December 31, 1998, Menlo had a regular full-time workforce of approximately 1,800 compared to approximately 1,300 employees at December 31, 1997 and nearly 1,000 at December 31, 1996. Menlo also uses a significant number of professionals under contract for various projects. While the Company seeks to take advantage of cross-business synergies whenever possible, Menlo is operated as an independent business segment within the Company and not as a conduit through which business can be referred to Con-Way or Emery. The independence of Menlo from the Company's other primary business units is viewed as essential to maintaining Menlo's credibility with its customers. OTHER SEGMENT The Other segment comprises primarily operations under the Priority Mail contract with the USPS, but also includes the operations of Road Systems and VantageParts. Priority Mail Contract In April 1997, the USPS awarded EWA a contract for the sortation and transportation of Priority Mail (a second-day delivery service) in portions of 13 states in the eastern United States. This contract has an initial term that ends in 2002 and may be renewed by the USPS for two successive three-year terms. At the time the Priority Mail contract was entered into, the USPS indicated that the Company could receive revenues of approximately $1.7 billion over the initial term of the contract. However, this amount is subject to a number of uncertainties and assumptions, and there can be no assurance that the revenues realized by the PAGE 12 Company will not be less than this amount. Although the contract does not specifically set forth a minimum volume of Priority Mail to be handled by the Company, current revenue run rates are consistent with the Company receiving at least the projected $1.7 billion of revenue over the life of the contract. Among other things, the Priority Mail contract called for EWA to lease or acquire, improve, equip, fully staff and operate ten Priority Mail Processing Centers (PMPCs) in ten major metropolitan areas, primarily along the eastern seaboard. All ten of the PMPCs were operational as of June 30, 1998. In 1998, the PMPC's processed over 350 million pieces of priority mail. EWA provides air transportation under the new USPS contract, manages the ten PMPCs and provides ground transportation between the PMPCs and other USPS facilities. Con-Way Truckload Services, a subsidiary of Con-Way Transportation Services, acts as a subcontractor and provides highway transportation between PMPCs. All revenues from the Priority Mail operations are reported in the Other segment. At December 31, 1998, the Priority Mail operations had approximately 3,800 regular full-time employees. Road Systems and VantageParts Two non-carrier operations are included in the Other segment and generate a majority of their revenues from sales to other subsidiaries of the Company and, prior to year-end 1996, from CFC. Road Systems primarily manufactures and rebuilds trailers, converter dollies and other transportation equipment. VantageParts serves as a distributor and remanufacturer of vehicle component parts and accessories to the heavy-duty truck and trailer industry, as well as the maritime, construction and aviation industries. GENERAL The research and development activities of the Company are not significant. During 1998, 1997 and 1996 there was no single customer of the Company that accounted for more than 10% of consolidated revenues. The total number of regular, full-time employees is presented in the "Five Year Financial Summary" on page 46 of the 1998 Annual Report to Shareholders and is incorporated herein by reference. The Company operates in industries that are affected directly by general economic conditions and seasonal fluctuations, both of which affect demand for transportation services. In a typical year for the trucking and air freight industries, the months of September and October usually have the highest business levels while the months of January and February usually have the lowest business levels. Operations under the Priority Mail contract peak in December due primarily to higher shipping demand related to the holiday season. The Company is subject to stringent laws and regulations that (i) govern activities or operations that may have adverse environmental effects such as discharges to air and water, as well as handling and disposal practices for solid and hazardous PAGE 13 waste, and (ii) impose liability for the costs of cleaning up, and certain damages resulting from, sites of past spills, disposals or other releases of hazardous materials. In particular, under applicable environmental laws, the Company may be responsible for remediation of environmental conditions and may be subject to associated liabilities (including liabilities resulting from lawsuits brought by private litigants) relating to its operations and properties. Environmental liabilities relating to the Company's properties may be imposed regardless of whether the Company leases or owns the properties in question and regardless of whether such environmental conditions were created by the Company or by a prior owner or tenant, and also may be imposed with respect to properties which the Company may have owned or leased in the past. The Company's operations involve the storage, handling and use of diesel and jet fuel and other hazardous substances. In particular, the Company is subject to stringent environmental laws and regulations dealing with underground fuel storage tanks and the transportation of hazardous materials. The Company has been designated a Potentially Responsible Party (PRP) by the EPA with respect to the disposal of hazardous substances at various sites. The Company expects that its share of the clean-up costs will not have a material adverse effect on the Company's financial position or results of operations. The Company expects the costs of complying with existing and future environmental laws and regulations to continue to increase. On the other hand, it does not anticipate that such cost increases will have a materially adverse effect on the Company. ITEM 2. PROPERTIES The following summarizes the freight service centers, warehouses and sortation centers operated by the Company at December 31, 1998: Owned Leased Total Con-Way Transportation Services 80 289 369 Emery Worldwide 29 229 258 Menlo Logistics - 16 16 Priority Mail - 10 10 The following table sets forth the location and square footage of the Company's principal freight service centers, warehouses and sortation centers at December 31, 1998: Location Square Footage Con-Way - freight service centers Des Plaines, IA 100,440 Indianapolis, IN 95,498 Columbus, OH 95,430 Oakland, CA 91,240 Coldwater, MI 88,234 Atlanta, GA 88,095 PAGE 14 Aurora, IL 86,475 Chicago, IL 84,500 Dallas, TX 82,000 Cincinnati, OH 80,346 Cleveland, OH 77,419 Shreveport, LA 74,040 Little Falls, NJ 73,190 Newburgh, NY 69,106 Houston, TX 67,160 Detroit, MI 66,320 Minneapolis, MN 65,873 Santa Fe Springs, CA 63,136 Chicopee, MA 62,378 Jackson, MS 61,860 Charlotte, NC 59,450 Carlstadt, NJ 54,629 Jacksonville, FL 53,667 Gary, IN 51,950 Milwaukee, WI 51,460 New Orleans, LA 51,050 Emery - freight service centers and warehouses * Dayton, OH 800,000 Miami, FL 118,370 Kennedy Airport, NY 104,355 Los Angeles, CA 75,707 San Jose, CA 73,500 Chicago, IL 66,000 Dallas, TX 58,200 Atlanta, GA 56,000 Columbus, OH 55,000 * Facility partially or wholly financed through the issuance of industrial revenue bonds. Principal amount of debt is secured by the property. Menlo - warehouses Richmond, VA 315,867 Lathrop, CA 276,000 Memphis, CA 250,600 Holland, MI 120,000 Kansas City, MO 115,260 Dayton, OH 103,062 Ontario, CA 96,950 Middletown, PA 90,571 Boise, ID 80,600 Grove City, OH 78,505 Medford, OR 70,000 PAGE 15 Priority Mail - processing centers Newark, NJ 301,742 Bethpage, NY 281,054 Boston, MA 260,000 Philadelphia, PA 246,091 Pittsburgh, PA 205,718 Miami, FL 195,148 Orlando, FL 167,051 Rochester, NY 161,211 Hartford, CT 158,200 Jacksonville, FL 124,507 ITEM 3. LEGAL PROCEEDINGS The legal proceedings of the Company are summarized in Notes 6 and 13 on pages 35, 36, 41 and 42 of the 1998 Annual Report to Shareholders and are incorporated herein by reference. Discussions of certain environmental matters are presented in Item 1 and Item 7. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. PART II ITEM 5. MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS The Company's common stock is listed for trading on the New York and Pacific Stock Exchanges under the symbol "CNF". The Company's common stock prices for each of the quarters in 1998 and 1997 are included in Note 16 on page 44 of the 1998 Annual Report to Shareholders and are incorporated herein by reference. Cash dividends on common shares were paid in every year from 1962 to 1990. In June 1990, the Company's Board of Directors suspended the quarterly dividend. In December 1994, the Board of Directors reinstated a $.10 per share quarterly cash dividend on common stock. The amounts of quarterly dividends declared on common stock for the last two years are included in Note 16 on page 44 of the 1998 Annual Report to Shareholders and are incorporated herein by reference. Under the terms of the restructured TASP Notes, as set forth in Note 4 on page 33 of the 1998 Annual Report to Shareholders, the Company is restricted from paying dividends in an aggregate amount in excess of $10 million plus one-half of the cumulative net income applicable to common shareholders since the commencement of the agreement (which allows for $194 million of dividend payments at December 31, 1998). As of December 31, 1998, there were 9,870 holders of record of the common stock ($.625 par value) of the Company. The number of shareholders is also presented in PAGE 16 the "Five Year Financial Summary" on page 46 of the 1998 Annual Report to Shareholders and is incorporated herein by reference. ITEM 6. SELECTED FINANCIAL DATA The Selected Financial Data is presented in the "Five Year Financial Summary" on page 46 of the 1998 Annual Report to Shareholders and is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Financial Condition and Results of Operations is presented in the "Financial Review and Management Discussion" on pages 18 through 23, inclusive, of the 1998 Annual Report to Shareholders and is incorporated herein by reference. Certain statements included or incorporated by reference herein constitute "forward-looking statements" within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to a number of risks and uncertainties. Any such forward-looking statements contained or incorporated by reference herein should not be relied upon as predictions of future events. Certain such forward-looking statements can be identified by the use of forward-looking terminology such as "believes," "expects," "may," "will," "should," "seeks," "approximately," "intends," "plans," "estimates" or "anticipates" or the negative thereof or other variations thereof or comparable terminology, or by discussions of strategy, plans or intentions. Such forward-looking statements are necessarily dependent on assumptions, data or methods that may be incorrect or imprecise and they may be incapable of being realized. In that regard, the following factors, among others and in addition to the matters discussed below and elsewhere in this document and in documents incorporated by reference herein, could cause actual results and other matters to differ materially from those in such forward-looking statements: changes in general business and economic conditions; increasing domestic and international competition and pricing pressure; changes in fuel prices; uncertainty regarding the Company's Priority Mail contract with the USPS; labor matters, including changes in labor costs, renegotiations of labor contracts and the risk of work stoppages or strikes; changes in governmental regulation; environmental and tax matters, including the aviation excise tax and aircraft maintenance tax matters discussed in documents incorporated by reference; and matters relating to the spin-off of Consolidated Freightways Corporation (CFC). In that regard, the Company is or may be subject to substantial liabilities with respect to certain matters relating to CFC's business and operations, including, without limitation, guarantees of certain indebtedness of CFC and liabilities for employment-related, tax and environmental matters. Although CFC is, in general, either the primary or secondary obligor or jointly and severally liable with the Company with respect to these matters, a failure to pay or other default by CFC with respect to the obligations as to which the Company is or may be, or may be perceived to be, liable, whether because of CFC's bankruptcy or insolvency or otherwise, could lead to substantial claims against the Company. As a result of the foregoing, no assurance can be given as to future results of operations or financial condition. PAGE 17 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Consolidated Financial Statements and Report of Independent Public Accountants are presented on pages 24 through 45, inclusive, of the 1998 Annual Report to Shareholders and are incorporated herein by reference. The unaudited quarterly financial data is included in Note 16 on page 44 of the 1998 Annual Report to Shareholders and is incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY The identification of the Company's Directors is presented on pages 3 through 9, inclusive, of the Company's Proxy Statement dated March 22, 1999 and those pages are incorporated herein by reference. The Executive Officers of the Company, their ages at December 31, 1998, and their applicable business experience are as follows: Gregory L. Quesnel, 50, President and Chief Executive Officer of the Company. Mr. Quesnel joined the CNF organization as Director of Accounting in 1975, following several years of professional experience with major corporations in the petroleum and wood products industries. Mr. Quesnel advanced through increasingly responsible positions and in 1986 was promoted to the top financial officer position at the Company's largest subsidiary. In 1990, Mr. Quesnel was elected Vice President and Treasurer of CNF; in 1991, he was elected Senior Vice President and Chief Financial Officer; and he was promoted to Executive Vice President and Chief Financial Officer in 1994. As part of a planned succession, Mr. Quesnel was elected President and Chief Operating Officer in July 1997. In May 1998, Mr. Quesnel was named President and Chief Executive Officer of the Company. At that time, he was also elected as a member of the CNF Board of Directors. Mr. Quesnel is a member of the Financial Executives Institute, the California Business Roundtable, and the Conference Board. He also serves as a member of the Executive Committee of the Bay Area Council of the Boy Scouts of America. Mr. Quesnel earned a bachelor's degree in finance from the University of Oregon and holds a master's degree in business administration from the University of Portland. Mr. Quesnel is a member of the Executive and Director Affairs Committees of the Board. Gerald L. Detter, 54, President and Chief Executive Officer of Con-Way Transportation Services and Senior Vice President of the Company. Mr. Detter joined the former Consolidated Freightways Corporation of Delaware (CFCD) in 1964 as a dockman and advanced through several positions of increasing responsibility to become Division Manager in Detroit, Michigan in 1976. In 1982, he was named the first President and Chief Executive Officer of Con-Way Central Express. In 1997, Mr. Detter was named to his current position. PAGE 18 Roger Piazza, 59, President and Chief Executive Officer of Emery Worldwide and Senior Vice President of the Company. Mr. Piazza originally joined the former CF AirFreight in 1976 as manager of the Detroit Service Center. During the following ten years he served as a division manager and area vice president. Following the merger of CF AirFreight and Emery Worldwide in 1989, Mr. Piazza was named Vice President - North America. In 1998, Mr. Piazza was named to his current position. Chutta Ratnathicam, 51, Senior Vice President and Chief Financial Officer of the Company. Mr. Ratnathicam joined the Company in 1977 as a corporate auditor and following several increasingly responsible positions was named Vice President Internal Audit for the Company in 1989. In 1991, he was promoted to Vice President-International for Emery. In 1997, Mr. Ratnathicam was named Senior Vice President and Chief Financial Officer of the Company. Eberhard G.H. Schmoller, 55, Senior Vice President, General Counsel and Secretary of the Company. Mr. Schmoller joined CFCD in 1974 as a staff attorney and in 1976 was promoted to CFCD Assistant General Counsel. In 1983, he was appointed Vice President and General Counsel of the former CF AirFreight and assumed the same position with Emery after the acquisition in 1989. Mr. Schmoller was named Senior Vice President and General Counsel of the Company in 1993. John H. Williford, 42, President and Chief Executive Officer of Menlo Logistics and Senior Vice President of the Company. Mr. Williford joined the Company in 1981 as an Economics/Senior Marketing Analyst. In 1984, he was named Director of Marketing for the Company's international operations and was later appointed Director of Marketing for the Company. Since its inception in 1990, Mr. Williford has been the principal executive in charge of Menlo Logistics, first as General Manager and then as President and Chief Executive Officer. In 1998, Mr. Williford was named Senior Vice President of the Company. ITEM 11. EXECUTIVE COMPENSATION The required information for Item 11 is presented on pages 13 through 17, inclusive, of the Company's Proxy Statement dated March 22, 1999, and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The required information for Item 12 is included on pages 10, 11 and 25 of the Proxy Statement dated March 22, 1999 and is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Not applicable. PAGE 19 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Financial Statements and Exhibits Filed 1. Financial Statements See Index to Financial Information. 2. Financial Statement Schedules See Index to Financial Information. 3. Exhibits See Index to Exhibits. (b) Reports on Form 8-K No reports on Form 8-K were filed during the quarter ended December 31, 1998. PAGE 20 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Form 10-K Annual Report to be signed on its behalf by the undersigned, thereunto duly authorized. CNF TRANSPORTATION INC. (Registrant) March 26, 1999 /s/Gregory L. Quesnel Gregory L. Quesnel President and Chief Executive Officer March 26, 1999 /s/Chutta Ratnathicam Chutta Ratnathicam Senior Vice President and Chief Financial Officer March 26, 1999 /s/Gary D. Taliaferro Gary D. Taliaferro Corporate Controller PAGE 21 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. March 26, 1999 /s/Donald E. Moffitt Donald E. Moffitt Chairman of the Board March 26, 1999 /s/Gregory L. Quesnel Gregory L. Quesnel President, Chief Executive Officer and Director March 26, 1999 /s/Robert Alpert Robert Alpert, Director March 26, 1999 /s/Earl F. Cheit Earl F. Cheit, Director March 26, 1999 ___________________________ Richard A. Clarke, Director March 26, 1999 /s/Margaret G. Gill _ Margaret G. Gill, Director March 26, 1999 /s/Robert Jaunich II Robert Jaunich II, Director March 26, 1999 _______________________________ W. Keith Kennedy, Jr., Director PAGE 22 SIGNATURES March 26, 1999 /s/Richard B. Madden Richard B. Madden, Director March 26, 1999 /s/Michael J. Murray Michael J. Murray, Director March 26, 1999 /s/Robert D. Rogers_ Robert D. Rogers, Director March 26, 1999 /s/William J. Schroeder William J. Schroeder, Director March 26, 1999 /s/Robert P. Wayman Robert P. Wayman, Director PAGE 23 CNF TRANSPORTATION INC. FORM 10-K Year Ended December 31, 1998 ___________________________________________________________________________ INDEX TO FINANCIAL INFORMATION CNF Transportation Inc. and Subsidiaries The following Consolidated Financial Statements of CNF Transportation Inc. and Subsidiaries appearing on pages 24 through 45, inclusive, of the Company's 1998 Annual Report to Shareholders are incorporated herein by reference: Report of Independent Public Accountants Consolidated Balance Sheets - December 31, 1998 and 1997 Statements of Consolidated Income - Years Ended December 31, 1998, 1997 and 1996 Statements of Consolidated Cash Flows - Years Ended December 31, 1998, 1997 and 1996 Statements of Consolidated Shareholders' Equity - Years Ended December 31, 1998, 1997 and 1996 Notes to Consolidated Financial Statements In addition to the above, the following consolidated financial information is filed as part of this Form 10-K: Page Consent of Independent Public Accountants 24 Report of Independent Public Accountants 24 Schedule II - Valuation and Qualifying Accounts 25 The other schedules have been omitted because either (1) they are neither required nor applicable or (2) the required information has been included in the consolidated financial statements or notes thereto. PAGE 24 SIGNATURE CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS As independent public accountants, we hereby consent to the incorporation of our reports included and incorporated by reference in this Form 10-K, into the Company's previously filed Registration Statement File Nos. 2- 81030, 33-52599, 33-60619, 33-60625, 33-60629, 333-26595, 333-30327, 333- 48733 and 333-56667. /s/Arthur Andersen LLP ARTHUR ANDERSEN LLP San Francisco, California March 25, 1999 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Shareholders and Board of Directors of CNF Transportation Inc.: We have audited in accordance with generally accepted auditing standards, the consolidated financial statements included in CNF Transportation Inc.'s 1998 Annual Report to Shareholders incorporated by reference in this Form 10-K, and have issued our report thereon dated January 22, 1999. Our audit was made for the purpose of forming an opinion on those statements taken as a whole. The Schedule II--Valuation and Qualifying Accounts on page 25 is the responsibility of the Company's management and is presented for the purpose of complying with the Securities and Exchange Commission's rules and is not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. /s/Arthur Andersen LLP ARTHUR ANDERSEN LLP San Francisco, California January 22, 1999 PAGE 25 SCHEDULE II CNF TRANSPORTATION INC. VALUATION AND QUALIFYING ACCOUNTS THREE YEARS ENDED DECEMBER 31, 1998 (In thousands) DESCRIPTION ALLOWANCE FOR DOUBTFUL ACCOUNTS ADDITIONS BALANCE AT CHARGED TO CHARGED TO BALANCE AT BEGINNING COSTS AND OTHER END OF PERIOD EXPENSES ACCOUNTS DEDUCTIONS PERIOD 1998 $20,155 $11,050 $ - $(10,107)(a) $21,098 1997 $18,712 $12,528 $ - $(11,085)(a) $20,155 1996 $16,870 $16,729 $ - $(14,887)(a) $18,712 (a) Accounts written off net of recoveries. PAGE 26 INDEX TO EXHIBITS ITEM 14(a)(3) Exhibit No. (3) Articles of incorporation and by-laws: 3.1 CNF Transportation Inc. Certificate of Incorporation, as amended. (Exhibit 4(a) to the Company's registration statement on Form S-3 dated May 6, 1997.*) 3.2 CNF Transportation Inc. By-laws, as amended September 28, 1998 (Exhibit 4(b) to the Company's registration statement on Form S-3 dated November 10, 1998.*). (4) Instruments defining the rights of security holders, including debentures: 4.1 Certificate of Designations of the Series B Cumulative Convertible Preferred Stock. (Exhibit 4.1 as filed on Form SE dated May 25, 1989*) 4.2 Indenture between the Registrant and Bank One, Columbus, NA, as successor trustee, with respect to 9-1/8% Notes Due 1999, Medium- Term Notes, Series A and 7.35% Notes due 2005. (Exhibit 4.1 as filed on Form SE dated March 20, 1990*) 4.3 Form of Security for 9-1/8% Notes Due 1999 issued by Consolidated Freightways, Inc. (Exhibit 4.1 as filed on Form SE dated August 25, 1989*) 4.4 Officers' Certificate dated as of August 24, 1989 establishing the form and terms of debt securities issued by Consolidated Freightways, Inc. (Exhibit 4.2 as filed on Form SE dated August 25, 1989*) 4.5 Form of Security for Medium-Term Notes, Series A to be issued by Consolidated Freightways, Inc. (Exhibit 4.1 as filed on Form SE dated September 18, 1989*) 4.6 Officers' Certificate dated September 18, 1989, establishing the form and terms of debt securities to be issued by Consolidated Freightways, Inc. (Exhibit 4.2 as filed on Form SE dated September 19, 1989*) 4.7 Indenture between the Registrant and The First National Bank of Chicago Bank, trustee, with respect to debt securities. (Exhibit 4(d) as filed on Form S-3 dated June 27, 1995*) 4.8 Indenture between the Registrant and Bank One, Columbus, NA, trustee, with respect to subordinated debt securities. (Exhibit 4(e) as filed on Form S-3 dated June 27, 1995*) 4.9 Form of Security for 7.35% Notes due 2005 issued by Consolidated Freightways, Inc. (Exhibit 4.4 as filed on Form S-4 dated June 27, 1995*) * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. PAGE 27 Exhibit No. 4.10 Declaration of Trust of the Trust (Exhibit 4(k) to the Company's Amendment 1 to Form S-3 dated May 30, 1997*) 4.11 Form of Amended and Restated Declaration of Trust of the Trust, including form of Trust Preferred Security. (Exhibit 4(l) to the Company's Amendment 1 to Form S-3 dated May 9, 1997*) 4.12 Form of Guarantee Agreement with respect to Trust Preferred Securities. (Exhibit 4(m) to the Company's Amendment 1 to Form S-3 dated May 30, 1997*) Instruments defining the rights of security holders of long-term debt of CNF Transportation Inc., and its subsidiaries for which financial statements are required to be filed with this Form 10-K, of which the total amount of securities authorized under each such instrument is less than 10% of the total assets of CNF Transportation Inc. and its subsidiaries on a consolidated basis, have not been filed as exhibits to this Form 10-K. The Company agrees to furnish a copy of each applicable instrument to the Securities and Exchange Commission upon request. (10) Material contracts: 10.1 Consolidated Freightways, Inc. Long-Term Incentive Plan of 1988 as amended through Amendment 3. (Exhibit 10.2 as filed on Form SE dated March 25, 1991*#) 10.2 Consolidated Freightways, Inc. Stock Option Plan of 1988 as amended. (Exhibit 10(i) to the Company's Form 10-K for the year ended December 31, 1987 as amended in Form S-8 dated December 16, 1992*#) 10.3 Emery Air Freight Plan for Retirees, effective October 31, 1987. (Exhibit 4.23 to the Emery Air Freight Corporation Quarterly Report on Form 10-Q dated November 16, 1987**) 10.4 Consolidated Freightways, Inc. Common Stock Fund (formerly Emery Air Freight Corporation Employee Stock Ownership Plan, as effective October 1, 1987 ("ESOP"). (Exhibit 4.33 to the Emery Air Freight Corporation Annual Report on Form 10-K dated March 28, 1988**) * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. ** Incorporated by reference to indicated reports filed under the Securities Act of 1934, as amended, by Emery Air Freight Corporation File No. 1-3893. # Designates a contract or compensation plan for Management or Directors. PAGE 28 Exhibit No. 10.5 Employee Stock Ownership Trust Agreement, dated as of October 8, 1987, as amended, between Emery Air Freight Corporation and Arthur W. DeMelle, Daniel J. McCauley and Daniel W. Shea, as Trustees under the ESOP Trust. (Exhibit 4.34 to the Emery Air Freight Corporation Annual Report on Form 10-K dated March 28, 1988**) 10.6 Amended and Restated Subscription and Stock Purchase Agreement dated as of December 31, 1987 between Emery Air Freight Corporation and Boston Safe Deposit and Trust Company in its capacity as successor trustee under the Emery Air Freight Corporation Employee Stock Ownership Plan Trust ("Boston Safe"). (Exhibit B to the Emery Air Freight Corporation Current Report on Form 8-K dated January 11, 1988**) 10.7 Supplemental Subscription and Stock Purchase Agreement dated as of January 29, 1988 between Emery Air Freight Corporation and Boston Safe. (Exhibit B to the Emery Air Freight Corporation Current Report on Form 8-K dated February 12, 1988**) 10.8 Trust Indenture, dated as of November 1, 1988, between City of Dayton, Ohio and Security Pacific National Trust Company (New York), as Trustee and Bankers Trust Company, Trustee. (Exhibit 4.1 to Emery Air Freight Corporation Current Report on Form 8-K dated December 2, 1988**) 10.9 Bond Purchase Agreement dated November 7, 1988, among the City of Dayton, Ohio, the Emery Air Freight Corporation and Drexel Burnham Lambert Incorporated. (Exhibit 28.7 to the Emery Air Freight Corporation Current Report on Form 8-K dated December 2, 1988**) 10.10 Lease agreement dated November 1, 1988 between the City of Dayton, Ohio and Emery Air Freight Corporation. (Exhibit 10.1 to the Emery Air Freight Corporation Annual Report on Form 10-K for the year ended December 31, 1988**) 10.11 $350 million Amended and Restated Credit Agreement dated November 21, 1996 among Consolidated Freightways, Inc. and various financial institutions. (Exhibit 10.18 to the Company's Form 10-K for the year ended December 31, 1996*). 10.12 Official Statement of the Issuer's Special Facilities Revenue Refunding Bonds, 1993 Series E and F dated September 29, 1993 among the City of Dayton, Ohio and Emery Air Freight Corporation. (Exhibit 10.1 to the Company's Form 10-Q for the quarterly period ended September 30, 1993*). * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. ** Incorporated by reference to indicated reports filed under the Securities Act of 1934, as amended, by Emery Air Freight Corporation File No. 1-3893. # Designates a contract or compensation plan for Management or Directors. PAGE 29 Exhibit No. 10.13 Trust Indenture, dated September 1, 1993 between the City of Dayton, Ohio and Banker's Trust Company as Trustee. (Exhibit 10.2 to the Company's Form 10-Q for the quarterly period ended September 30, 1993*). 10.14 Supplemental Lease Agreement dated September 1, 1993 between the City of Dayton, Ohio, as Lessor, and Emery Air Freight Corporation, as Lessee. (Exhibit 10.3 to the Company's Form 10-Q for the quarterly period ended September 30, 1993*). 10.15 Supplemental Retirement Plan dated January 1, 1990. (Exhibit 10.31 to the Company's Form 10-K for the year ended December 31, 1993*#) 10.16 Directors' 24-Hour Accidental Death and Dismemberment Plan. (Exhibit 10.32 to the Company's Form 10-K for the year ended December 31, 1993*#) 10.17 Executive Split-Dollar Life Insurance Plan dated January 1, 1994. (Exhibit 10.33 to the Company's Form 10-K for the year ended December 31, 1993*#) 10.18 Board of Directors' Compensation Plan dated January 1, 1994. (Exhibit 10.34 to the Company's Form 10-K for the year ended December 31, 1993*#) 10.19 Directors' Business Travel Insurance Plan. (Exhibit 10.36 to the Company's Form 10-K for the year ended December 31, 1993*#) 10.20 Deferred Compensation Plan for Executives 1998 Restatement. (Exhibit 10.20 to the Company's Form 10-K for the year ended December 31, 1997. *#) 10.21 Amended and Restated 1993 Nonqualified Employee Benefit Plans Trust Agreement dated January 1, 1995. (Exhibit 10.38 to the Company's Form 10-K for the year ended December 31, 1994.*#) 10.22 CNF Transportation Inc., 1997 Equity and Incentive Plan for Non- Employee Directors, as amended June 30, 1997. (Exhibit 10.33 to the Company's Form 10-K for the year ended December 31, 1997. *#) 10.23 Amended and Restated Retirement Plan for Directors of Consolidated Freightways, Inc. dated January 1, 1994. (Exhibit 10.40 to the Company's Form 10-K for the year ended December 31, 1994.*#) 10.24 CNF Transportation Inc. Return on Equity Plan, as amended through Amendment No. 1 (Exhibit 10.24 to the Company's Form 10-K for the year ended December 31, 1997. *#) 10.25 Employee Benefit Matters Agreement by and between Consolidated Freightways, Inc. and Consolidated Freightways Corporation dated December 2, 1996. (Exhibit 10.33 to the Company's form 10-K for the year ended December 31, 1996.*#) * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. ** Incorporated by reference to indicated reports filed under the Securities Act of 1934, as amended, by Emery Air Freight Corporation File No. 1-3893. # Designates a contract or compensation plan for Management or Directors. PAGE 30 Exhibit No. 10.26 Distribution Agreement between Consolidated Freightways, Inc., and Consolidated Freightways Corporation dated November 25, 1996. (Exhibit 10.34 to the Company's Form 10- K for the year ended December 31, 1996.*#) 10.27 Transition Services Agreement between CNF Service Company, Inc. and Consolidated Freightways Corporation dated December 2, 1996. (Exhibit to the Company's Form 10-K for the year ended December 31, 1996.*#) 10.28 Tax Sharing Agreement between Consolidated Freightways, Inc., and Consolidated Freightways Corporation dated December 2, 1996. (Exhibit to the Company's Form 10-K for the year ended December 31, 1996.*#) 10.29 CNF Transportation Inc. 1997 Equity and Incentive Plan as amended June 30, 1997. (Exhibit 10.22 to the Company's Form 10-K for the year ended December 31, 1997. *#) 10.30 CNF Transportation Inc. Deferred Compensation Plan for Directors 1998 Restatement. (Exhibit 10.34 to the Company's Form 10-K for the year ended December 31, 1997. *#) 10.31 CNF Transportation Inc. Summary of Incentive Compensation plans for 1999. # 10.32 CNF Transportation Inc. Executive Severance Plan. # (12a) Computation of ratios of earnings to fixed charges (12b) Computation of ratios of earnings to combined fixed charges and preferred stock dividends. (13) Annual report to security holders: CNF Transportation Inc. 1998 Annual Report to Shareholders (Only those portions referenced herein are incorporated in this Form 10-K. Other portions such as "Letter to Shareholders" are not required and, therefore, are not "filed" as part of this Form 10-K.) (21) Significant Subsidiaries of the Company. (27) Financial Data Schedule * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. # Designates a contract or compensation plan for Management or Directors. PAGE 31 Exhibit No. (99) Additional documents: 99.1 CNF Transportation Inc. 1998 Notice of Annual Meeting and Proxy Statement dated March 22, 1999. (Only those portions referenced herein are incorporated in this Form 10-K. Other portions are not required and, therefore, are not "filed" as a part of this Form 10-K. *) 99.2 Note Agreement dated as of July 17, 1989, between the ESOP, Consolidated Freightways, Inc. and the Note Purchasers named therein. (Exhibit 28.1 as filed on Form SE dated July 21, 1989*) 99.3 Guarantee and Agreement dated as of July 17, 1989, delivered by Consolidated Freightways, Inc. (Exhibit 28.2 as filed on Form SE dated July 21, 1989*). 99.4 Form of Restructured Note Agreement between Consolidated Freightways, Inc., Thrift and Stock Ownership Trust as Issuer and various financial institutions as Purchasers named therein, dated as of November 3, 1992. (Exhibit 28.4 to the Company's Form 10-K for the year ended December 31, 1992*). The remaining exhibits have been omitted because either (1) they are neither required nor applicable or (2) the required information has been included in the consolidated financial statements or notes thereto. * Previously filed with the Securities and Exchange Commission and incorporated herein by reference. # Designates a compensation plan for Management or Directors. EX-10 2 EXHIBIT 10.31 EXHIBIT 10.31 CNF TRANSPORTATION INC. SUMMARY OF INCENTIVE COMPENSATION PLANS FOR 1999 For 1999, CNF Transportation Inc. and certain of its subsidiaries (each a "CNF Company") have adopted short- term incentive compensation plans that provide for annual incentive compensation to be paid to plan participants if certain performance goals are met by the applicable CNF Company. This document summarizes the general terms of those plans. The plans vary in terms of the performance measures to be met, and the amount of compensation to be paid, but generally contain the terms as described below. THE PLANS In order to motivate eligible employees to perform more effectively and efficiently, each CNF Company has established a short-term incentive compensation plan (Plan), under which participants are eligible to receive short-term incentive compensation payments based upon calendar year 1999 Incentive Performance Goals. DESIGNATION OF PARTICIPANTS Participation in each Plan is limited to full-time non- contractual employees of the applicable CNF Company. A master list of each Plan's participants is maintained in the office of the President of the applicable CNF Company. ELIGIBILITY FOR PAYMENT Participants generally commence participation in the Plans on January 1, 1999. Eligible employees who are employed by a CNF Company after January 1 commence participation at the beginning of the first full calendar quarter after joining the CNF Company. Calendar quarters begin January 1, April 1, July 1, and October 1 or the first working day thereafter. A participant who commences participation in the Plan during the 1999 Plan year, and who participates less than four full quarters, receives a pro rata payment based on the number of full calendar quarters of Plan participation. Subject to the following exceptions, no participant is eligible to receive any payment under a Plan unless on the date the payment is actually made that person is then currently (i) employed by a CNF Company and (ii) a Plan participant. EXCEPTION 1. A Plan participant who is employed by a CNF Company through December 31, 1999 but leaves that employment or otherwise becomes ineligible after December 31, 1999 but before the final payment is made relating to 1999, unless terminated for cause, is entitled to receive payments under the Plan. EXCEPTION 2. An appropriate pro rata payment will be made (1) to a Plan participant who retires prior to December 31, 1999 pursuant to the CNF Transportation Inc. Retirement Plan and who, at the time of retirement, was a participant in the Plan, (2) to the heirs, legatees, administrators or executors of a Plan participant who dies prior to December 31, 1999 and who, at the time of death, was a participant in the Plan, (3) to a Plan participant who is placed on an approved leave prior to December 31, 1999, or (4) to a Plan participant who is transferred to another CNF Company and who remains an employee through December 31, 1999. METHOD OF PAYMENT Each Plan participant is assigned an incentive participation factor as a percent of annual compensation. The incentive participation factor is indexed to specific performance goals such as revenue, profit, service, etc. Minimum and incentive factor performance goals are established separately for each Plan. Participants are not entitled to any payments under the Plan until the minimum performance goal is achieved. Incentive compensation for the assigned goals will be earned on a pro rata basis for accomplishments between the minimum level and the incentive factor goals and will continue to be earned ratably for performance over the incentive factor goal. The maximum payment that any Plan participant may receive is 200% of incentive compensation factor. In addition, for certain Plans the aggregate amount of payments to all participants is limited to the amount of a specified pool of funds. DATE OF PAYMENT The President of each CNF Company may authorize a partial payment of the estimated annual incentive compensation earned under the Plan to be made in December 1999. The final payment to participants, less any previous partial payment, is to be made on or before March 15, 2000. INCENTIVE PERFORMANCE GOALS Incentive Performance Goals are defined by each Plan but generally consist of profits equal to earnings before deducting any amounts expensed under a Company and/or qualified subsidiary incentive plans, before deducting income taxes and for some plans exclude interest income and expense. Incentive Performance Goals may also include specific levels of revenue, profit, service or other measurable factors. ANNUAL COMPENSATION Annual Compensation for incentive purposes for each Plan participant is that participant's annualized salary before any incentive or other special compensation (including long term disability insurance plan payments) as of the first pay period following the date the participant becomes eligible to participate in this Plan. The term "special compensation" used herein does not include deferred salary arrangements wherein the participant could have chosen to receive the deferred salary in the Plan year. LAWS GOVERNING PAYMENTS No payment shall be made under this Plan in an amount that is prohibited by law. AMENDMENT, SUSPENSION, AND ADMINISTRATION OF PLAN The Board of Directors of the CNF Company may at any time amend, suspend, or terminate the operation of the Plans, by thirty-day written notice to the Plan participants, and has full discretion as to the administration and interpretation of this Plan. No participant in this Plan shall at any time have any right to receive any payment under this Plan until such time, if any, as any payment is actually made. DURATION OF PLANS The Plans are for the calendar year 1999 only. EX-10 3 EX-10.32 1 Exhibit 10.32 CNF TRANSPORTATION INC. EXECUTIVE SEVERANCE PLAN CNF Transportation Inc. (the "Company") hereby adopts the CNF Transportation Inc. Executive Severance Plan for the benefit of certain executives of the Company and its subsidiaries, on the terms and conditions hereinafter stated. SECTION 1. DEFINITIONS. As hereinafter used: 1.1 "Affiliate" means an affiliate of the Company, as defined in Rule 12b-2 promulgated under Section 12 of the Exchange Act. 1.2 "Board" means the Board of Directors of the Company or any successor thereto. 1.3 "Cause" for termination by the Employer of the Eligible Employee's employment shall mean (i) the willful and continued failure by the Eligible Employee to substantially perform the Eligible Employee's duties with the Employer (other than any such failure resulting from the Eligible Employee's incapacity due to disability, including physical or mental illness or any such actual or anticipated failure after the issuance by the Eligible Employee of a notice of intent to terminate employment for Good Reason pursuant to Section 1.12 hereof) after a written demand for substantial performance is delivered to the Eligible Employee by the Company's Chief Executive Officer and General Counsel, which demand specifically identifies the manner in which such Officers believe that the Eligible Employee has not substantially performed the Eligible Employee's duties, or (ii) the willful engaging by the Eligible Employee in conduct which is demonstrably and materially injurious to the Company or its subsidiaries, monetarily or otherwise. For purposes of clauses (i) and (ii) of this definition, no act, or failure to act, on the Eligible Employee's part shall be deemed "willful" unless done, or omitted to be done, by the Eligible Employee not in good faith and without reasonable belief that the Eligible Employee's act, or failure to act, was in the best interest of the Company. In the event of a dispute concerning the application of this provision, no claim by the Company or any Employer that Cause exists shall be given effect unless the Company establishes (i) to the Plan Administrator and (ii) in the event of an arbitration to resolve the dispute, to the arbitrator, by clear and convincing evidence that Cause exists. 1.4 "Change in Control" means the occurrence of any one of the following events: (1) any "person," as such term is used in Sections 13(d) and 14(d) of the Exchange Act (other than (A) the Company or its Affiliates, (B) any trustee or other fiduciary holding securities under an employee benefit plan of the Company or its Affiliates, and (C) any corporation owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of the Common Stock), is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company (not including in the securities beneficially owned by such person any securities acquired directly from the Company or its Affiliates) representing 25% or more of the combined voting power of the Company's then outstanding voting securities; (2) the following individuals cease for any reason to constitute a majority of the number of directors then serving: individuals who, on the Effective Date, constitute the Board and any new director (other than a director whose initial assumption of office is in connection with an actual or threatened election contest, including but not limited to a consent solicitation, relating to the election of directors of the Company) whose appointment or election by the Board or nomination for election by the Company's stockholders was approved or recommended by a vote of at least two- thirds (2/3) of the directors then still in office who either were directors on the Effective Date or whose appointment, election or nomination for election was previously so approved or recommended; (3) there is consummated a merger or consolidation of the Company or any direct or indirect subsidiary of the Company with any other corporation, other than (A) a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving or parent entity) more than 50% of the combined voting power of the voting securities of the Company or such surviving or parent entity outstanding immediately afer such merger or consolidation or (B) a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no "person" (as hereinabove defined), directly or indirectly, acquired 25% or more of the combined voting power of the Company's then outstanding securities (not including in the securities beneficially owned by such person any securities acquired directly from the Company or its Affiliates); or (4) the stockholders of the Company approve a plan of complete liquidation of the Company or there is consummated an agreement for the sale or disposition by the Company of assets having an aggregate book value at the time of such sale or disposition of more than 75% of the total book value of the Company's assets on a consolidated basis (or any transaction having a similar effect), other than any such sale or disposition by the Company (including by way of spin-off or other distribution) to an entity, at least 50% of the combined voting power of the voting securities of which are owned immediately following such sale or disposition by stockholders of the Company in substantially the same proportions as their ownership of the Company immediately prior to such sale or disposition. 1.5 "Code" means the Internal Revenue Code of 1986, as it may be amended from time to time. 1.6 "Common Stock" means the common stock, par value $0.625 per share, of the Company. 1.7 "Company" means CNF Transportation Inc. or any successors thereto. 1.8 "Effective Date" means December 9, 1998. 1.9 "Eligible Employee" means an individual who, immediately prior to a Change in Control, (a) is not a party to an individual employment or severance agreement with the Company and (b) has more than 1,300 "Hay Points;" provided, however, that in the event the Company's use of the "Hay Point" system is terminated, "Eligible Employee" shall mean an individual who (x) is not a party to an individual employment or severance agreement with the Company and (y) is classified in the Company's then-existing compensation structure at or above the level that corresponds to the 1,300 "Hay Point" level under the current system. An Eligible Employee becomes a "Severed Employee" once he or she incurs a Severance. 1.10 "Employer" means the Company or any of its subsidiaries. 1.11 "Exchange Act" means the Securities Exchange Act of 1934, as amended from time to time. 1.12. "Good Reason" for termination by the Eligible Employee of the Eligible Employee's employment shall mean the occurrence (without the Eligible Employee's express written consent) after any Change in Control of any one of the following acts by the Company, or failures by the Company to act, unless such act or failure to act is corrected within 30 days of receipt by the Company of notice of the Eligible Employee's intent to terminate for Good Reason hereunder: (1) the failure of the successor company, following the Change in Control, to assume the Plan and all obligations thereunder, as of the date of such Change in Control; (2) the assignment to the Eligible Employee of any duties inconsistent with the Eligible Employee's status as an executive of the Company or a substantial adverse alteration in the nature or status of the Eligible Employee's responsibilities from those in effect immediately prior to the Change in Control; (3) a reduction by the Employer in the Eligible Employee's annual base salary or bonus opportunity, each as in effect immediately prior to the Change in Control or as the same may thereafter be increased from time to time; (4) the relocation of the Eligible Employee's principal place of employment to a location that results in an increase in the Eligible Employee's one way commute of at least 50 miles more than the Eligible Employee's one way commute immediately prior to the Change in Control, except for required travel on the Company's business to an extent substantially consistent with the Eligible Employee's business travel obligations immediately prior to the Change in Control; (5) the failure by the Company to pay to the Eligible Employee when due any portion of the Eligible Employee's current compensation; (6) the failure by the Company to continue to provide the Eligible Employee with benefits substantially similar to those enjoyed by the Eligible Employee under any of the Company's pension, savings, life insurance, medical, health and accident, or disability plans in which the Eligible Employee was participating immediately prior to the Change in Control (except for across the board changes similarly affecting all or substantially all employees of the Company and any entity in control of the Company), the taking of any other action by the Company which would directly or indirectly materially reduce any of such benefits or deprive the Eligible Employee of any material fringe benefit enjoyed by the Eligible Employee immediately prior to the Change in Control, or the failure by the Company to provide the Eligible Employee with the number of paid vacation days to which the Eligible Employee is entitled. The Eligible Employee's right to terminate the Eligible Employee's employment for Good Reason shall not be affected by the Eligible Employee's incapacity due to disability, including physical or mental illness. The Eligible Employee's continued employment shall not constitute consent to, or a waiver of rights with respect to, any act or failure to act constituting Good Reason hereunder. 1.13 "Plan" means the CNF Transportation Inc. Executive Severance Plan, as set forth herein, as it may be amended from time to time. 1.14 "Plan Administrator" means, prior to a Change in Control, the person or persons appointed from time to time by the Board and following a Change in Control, a committee consisting of three persons, at least two of whom were directors or executive officers of the Company immediately prior to the Change in Control. 1.15 "Potential Change in Control" shall be deemed to have occurred if: (1) the Company enters into an agreement, the consummation of which would result in the occurrence of a Change in Control; (2) the Company or any "person" (as defined in Section 1.4(1)) publicly announces an intention to take or to consider actions, including but not limited to proxy contests or consent solicitations, which, if consummated, would constitute a Change in Control; (3) any "person" (as defined in Section 1.4(1)) becomes the beneficial owner (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing 15% or more of either the then outstanding shares of Common Stock of the Company or the combined voting power of the Company's then outstanding securities (not including in the securities beneficially owned by such "person" any securities acquired directly from the Company or its Affiliates); or (4) the Board adopts a resolution to the effect that, for purposes of this Plan, a Potential Change in Control has occurred. 1.16 "Severance" means the termination of an Eligible Employee's employment with the Employer on or within one year immediately following the date of the Change in Control, (i) by the Employer other than for Cause, or (ii) by the Eligible Employee for Good Reason. For purposes of this Plan, an Eligible Employee's employment shall be deemed to have been terminated following a Change in Control by the Company without Cause or by the Eligible Employee with Good Reason, if (i) the Eligible Employee's employment is terminated by the Company without Cause following a Potential Change in Control but prior to a Change in Control (whether or not a Change in Control ever occurs) and such termination was at the request or direction of a "person" (as defined in Section 1.4(1)) who has entered into an agreement with the Company the consummation of which would constitute a Change in Control, (ii) the Eligible Employee terminates his employment for Good Reason following a Potential Change in Control but prior to a Change in Control (whether or not a Change in Control ever occurs) and the circumstance or event which constitutes Good Reason occurs at the request or direction of such "person"; or (iii) the Eligible Employee's employment is terminated by the Company without Cause or by the Executive for Good Reason and such termination or the circumstance or event which constitutes Good Reason is otherwise in connection with or in anticipation of a Change in Control (whether or not a Change in Control ever occurs). An Eligible Employee will not be considered to have incurred a Severance (i) if his or her employment is discontinued by reason of the Eligible Employee's death or disability, including a physical or mental condition causing such Eligible Employee's inability to substantially perform his or her duties with the Employer, including, without limitation, such condition entitling him or her to benefits under any sick pay or disability income policy or program of the Employer or (ii) by reason of the divestiture of a facility, sale of a business or business unit, or the outsourcing of a business activity with which the Eligible Employee is affiliated, notwithstanding the fact that such divestiture, sale or outsourcing constitutes, or takes place within one year following, a Change in Control, if the Eligible Employee is offered comparable employment by the successor company and such successor company agrees to assume the obligations of this Plan with respect to such Eligible Employee. 1.17 "Severance Benefits" means, at the Company's expense, (a) the continued participation by a Severed Employee in all health and welfare benefits plans of the Company (to the extent such Severed Employee was participating in such plans prior to incurring a Severance) and (b) outplacement services determined by the Company to be suitable to the Severed Employee's position, in each case for a period of one year following such Severed Employee's Severance Date; provided, however, that benefits otherwise receivable by the Eligible Employee hereunder shall be reduced to the extent benefits of the same type are received by or made available to the Eligible Employee during the one-year period following the Eligible Employee's incurring a Severance (and any such benefits received by or made available to the Eligible Employee shall be reported to the Company by the Eligible Employee); provided, further, however, that the Company shall reimburse the Eligible Employee for the excess, if any, of the cost of such benefits to the Eligible Employee over such cost immediately prior to the Eligible Employee's incurring a Severance or, if more favorable to the Eligible Employee, immediately prior to the Change in Control. In the Severed Employee dies during the period of one year following the Severed Employee's Severance Date at a time when health and dental benefits are being provided under this Section 1.17 to the Severed Employee's dependents, the Company shall continue to provide such benefits to the dependents for the remainder of the one year period on the same basis as if the Severed Employee had survived throughout that period. 1.18 "Severance Date" means the date on or after the date of the Change in Control on which an Eligible Employee incurs a Severance. 1.19 "Severance Payment" means a payment, in lieu of any other severance payment or benefit pursuant to any other plan or agreement of the Company or any subsidiary thereof to which the Eligible Employee is otherwise entitled, of an amount equal to the sum of (a) the Severed Employee's annual base salary immediately prior to the time of Severance or, if higher, in effect immediately prior to the Change in Control and (b) the greater of (i) the Severed Employee's target bonus for the year in which the Severance occurred and (ii) the Severed Employee's actual or target bonus (whichever is greater) for the year in which the Change in Control occurred (in either case, determined as if such target bonus had been earned in full). SECTION 2. BENEFITS. 2.1 An Eligible Employee who incurs a Severance shall be entitled to receive (a) a Severance Payment and (b) Severance Benefits. 2.2 The Severance Payment shall be paid to an eligible Severed Employee in a cash lump sum, as soon as practicable following the Severance Date, but in no event later than 10 business days immediately following the expiration of the revocation period, if any, applicable to such Severed Employee's release, described in Section 2.4. 2.3 No Severed Employee shall be eligible to receive a Severance Payment or Severance Benefits under the Plan unless he or she (or, in the event of the death of the Severed Employee, the executor, personal representative or administrator of the Severed Employee's estate) first executes a written release substantially in the form attached as Exhibit A hereto. 2.4 In the event of a claim by an Eligible Employee as to the amount or timing of any distribution, such Eligible Employee shall present the reason for his or her claim in writing to the Plan Administrator. The Plan Administrator shall, within sixty (60) days after receipt of such written claim, send a written notification to the Eligible Employee as to its disposition. In the event the claim is wholly or partially denied, such written notification shall (a) state the specific reason or reasons for the denial, (b) make specific reference to pertinent Plan provisions on which the denial is based, (c) provide a description of any additional material or information necessary for the Eligible Employee to perfect the claim and an explanation of why such material or information is necessary, and (d) set forth the procedure by which the Eligible Employee may appeal the denial of his or her claim. In the event an Eligible Employee wishes to appeal the denial of his or her claim, he or she may request a review of such denial by making application in writing to the Plan Administrator within sixty (60) days after receipt of such denial. Such Eligible Employee (or his or her duly authorized legal representative) may, upon written request to the Plan Administrator, review any documents pertinent to his or her claim, and submit in writing issues and comments in support of his or her position. Within sixty (60) days after receipt of a written appeal (unless special circumstances, such as the need to hold a hearing, require an extension of time, but in no event more than one hundred twenty (120) days after such receipt), the Plan Administrator shall notify the Eligible Employee of the final decision. The final decision shall be in writing and shall include specific reasons for the decision, written in a manner calculated to be understood by the claimant, and specific references to the pertinent Plan provisions on which the decision is based. 2.5 Any further dispute or controversy arising under or in connection with this Agreement which remains after the final decision of the Plan Administrator as contemplated by Section 2.4 shall be finally settled exclusively by arbitration in Palo Alto, California, in accordance with the rules of the American Arbitration Association then in effect; provided, however, that the evidentiary standards set forth in this Agreement shall apply; and provided further, that the arbitrator shall apply the applicable provisions of ERISA, and applicable regulations adopted thereunder, in such arbitration proceeding. Judgment may be entered on the arbitrator's award in any court having jurisdiction. 2.6 The Company shall pay to the Eligible Employee all legal fees and expenses incurred by the Eligible Employee in seeking in good faith to obtain or enforce any benefit or right provided by this Agreement. Such payments shall be made within five (5) business days after delivery of the Eligible Employee's written requests for payment accompanied with such evidence of fees and expenses incurred as the Company reasonably may require. 2.7 The Company shall be entitled to withhold from amounts to be paid to the Severed Employee hereunder any federal, state or local withholding or other taxes or charges which it is from time to time required to withhold. 2.8 The Company agrees that, if the Eligible Employee's employment with the Company terminates during the one year period following a Change in Control, the Eligible Employee is not required to seek other employment or to attempt in any way to reduce any amounts payable to the Eligible Employee hereunder. Further, the amount of any payment or benefit provided for in this Agreement shall not be reduced (except as provided in Section 1.17 hereof) by any compensation earned by the Eligible Employee as the result of employment by another employer, by retirement benefits, by offset against any amount claimed to be owed by the Eligible Employee to the Company, or otherwise. SECTION 3. PLAN ADMINISTRATION. 3.1 The Plan shall be interpreted, administered and operated by the Plan Administrator, who shall have complete authority, in its sole discretion subject to the express provisions of the Plan, to interpret the Plan, to prescribe, amend and rescind rules and regulations relating to it, and to make all other determinations necessary or advisable for the administration of the Plan. 3.2 All questions of any character whatsoever arising in connection with the interpretation of the Plan or its administration or operation shall be submitted to and settled and determined by the Plan Administrator in an equitable and fair manner in accordance with the procedure for claims and appeals described in Section 2.3. Subject to the rights to arbitration provided in Section 2.5 hereof, any such settlement and determination shall be final and conclusive, and shall bind and may be relied upon by the Employer, each of the Eligible Employees and all other parties in interest. 3.3 The Plan Administrator may delegate any of its duties hereunder to such person or persons from time to time as it may designate. 3.4 The Plan Administrator is empowered, on behalf of the Plan, to engage accountants, legal counsel and such other personnel as it deems necessary or advisable to assist it in the performance of its duties under the Plan. The functions of any such persons engaged by the Plan Administrator shall be limited to the specified services and duties for which they are engaged, and such persons shall have no other duties, obligations or responsibilities under the Plan. Such persons shall exercise no discretionary authority or discretionary control respecting the management of the Plan. All reasonable expenses thereof shall be borne by the Employer. SECTION 4. PLAN MODIFICATION OR TERMINATION. The Plan may be amended or terminated by the Board or a duly appointed committee of the Board at any time; provided, however, that during the pendency of and within six (6) months following the cessation of a Potential Change in Control and within one year following a Change in Control, the Plan may not be terminated nor may any amendment be adopted which is in any manner adverse to the interests of Eligible Employees. SECTION 5. GENERAL PROVISIONS. 5.1 Except as otherwise provided herein or by law, no right or interest of any Eligible Employee under the Plan shall be assignable or transferable, in whole or in part, either directly or by operation of law or otherwise, including without limitation by execution, levy, garnishment, attachment, pledge or in any manner; no attempted assignment or transfer thereof shall be effective; and no right or interest of any Eligible Employee under the Plan shall be liable for, or subject to, any obligation or liability of such Eligible Employee. When a payment is due under this Plan to a Severed Employee who is unable to care for his or her affairs, payment may be made directly to his or her legal guardian or personal representative. 5.2 If the Company or any Affiliate is obligated pursuant to applicable law or by virtue of being a party to a contract (but not pursuant to any severance plan) to pay severance pay, a termination indemnity, notice pay or the like or if the Company or any Affiliate is obligated by law to provide advance notice of separation ("Notice Period"), then any Severance Payment hereunder shall be reduced by the amount of any such severance pay, termination indemnity, notice pay or the like, as applicable, and by the amount of any compensation received during any Notice Period. 5.3 Neither the establishment of the Plan, nor any modification thereof, nor the creation of any fund, trust or account, nor the payment of any benefits shall be construed as giving any Eligible Employee, or any person whomsoever, the right to be retained in the service of the Employer, and all Eligible Employees shall remain subject to discharge to the same extent as if the Plan had never been adopted. 5.4 If any provision of this Plan shall be held invalid or unenforceable, such invalidity or unenforceability shall not affect any other provisions hereof, and this Plan shall be construed and enforced as if such provisions had not been included. 5.5 This Plan shall be binding upon and shall inure to the benefit of and be enforceable by the Company and its successors and assigns, and by each Eligible Employee and by the personal and legal representatives, executors, administrators, successors, heirs, distributees, devisees and legatees of each Eligible Employee. If any Eligible Employee shall die while any amount would still be payable to such Eligible Employee (other than amount which, by their terms, terminate upon the death of the Eligible Employee) if the Eligible Employee had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of this Plan to the executors, personal representatives or administrators of the Eligible Employee's estate. 5.6 The headings and captions herein are provided for reference and convenience only, shall not be considered part of the Plan, and shall not be employed in the construction of the Plan. 5.7 The Plan shall not be funded. No Eligible Employee shall have any right to, or interest in, any assets of any Employer which may be applied by the Employer to the payment of benefits or other rights under this Plan. 5.8 All notices and all other communications provided for in this Plan (i) shall be in writing, (ii) shall be hand delivered, sent by overnight courier or by United States registered mail, return receipt requested and postage prepaid, addressed, in the case of the Company, to 3240 Hillview Avenue, Palo Alto, California 94304, and in the case of an Eligible Employee, to the last known address of such Eligible Employee, and (iii) shall be effective only upon actual receipt. 5.9 This Plan shall be construed and enforced according to the laws of the State of California to the extent not preempted by federal law, which shall otherwise control. CNF TRANSPORTATION INC. By: /s/Eberhard G.H. Schmoller Name: Eberhard G.H. Schmoller Title: Sr. Vice President, General Counsel & Secretary Executed: December 9, 1998 EX-12 4 EX-12A Exhibit 12(a) CNF TRANSPORTATION INC. COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES
Year Ended December 31, 1998 1997 1996 1995 1994 (dollars in thousands) Fixed Charges Interest expense $ 32,627 $ 39,553 $ 39,766 $ 33,407 $ 27,065 Capitalized interest 2,342 2,077 2,092 731 793 Dividend requirement on Series B Preferred Stock(1) 12,133 12,377 12,645 12,419 12,475 Interest component of rental expense (2) 40,750 35,607 28,521 29,210 28,776 Fixed Charges $ 87,852 $ 89,614 $ 83,024 $ 75,767 $ 69,109 Earnings: Income from continuing operations before taxes $ 250,411 $ 221,814 $ 147,132 $ 152,942 $ 165,129 Fixed charges 87,852 89,614 83,024 75,767 69,109 Capitalized interest (2,342) (2,077) (2,092) (731) (793) Preferred dividend requirements(3) (12,133) (12,377) (12,645) (12,419) (12,475) $ 323,788 $ 296,974 $ 215,419 $ 215,559 $ 220,970 Ratio 3.7x 3.3x 2.6x 2.8x 3.2x (1) Dividends on shares of the Series B cumulative convertible preferred stock are used to pay debt service on notes issued by the Company's Thrift and Stock Plan. (2) Estimate of the interest portion of lease payments. (3) Preferred stock dividend requirements included in combined fixed charges but not deducted in the determination of Income from Continuing Operations Before Income Taxes.
EX-12 5 EX-12B Exhibit 12(b) CNF TRANSPORTATION INC. COMPUTATION OF RATIOS OF EARNINGS TO COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS Year Ended December 31,
1998 1997 1996 1995 1994 (dollars in thousands) Combined Fixed Charges and Preferred Stock Dividends: Interest expense $ 32,627 $ 39,553 $ 39,766 $ 33,407 $ 27,065 Capitalized interest 2,342 2,077 2,092 731 793 Dividend requirement on Series B Preferred Stock(1) 12,133 12,377 12,645 12,419 12,475 Dividend requirement on Series C Preferred Stock (1) - - - 2,207 10,627 Dividend requirement on preferred securities of subsidiary trust 6,250 3,471 - - - Interest component of rental expense (2) 40,750 35,607 28,521 29,210 28,776 Fixed Charges $ 94,102 $ 93,085 $ 83,024 $ 77,974 $ 79,736 Earnings: Income from continuing operations before taxes $250,411 $221,814 $147,132 $152,942 $165,129 Fixed charges 94,102 93,085 83,024 77,974 79,736 Capitalized interest (2,342) (2,077) (2,092) (731) (793) Preferred dividend requirements(3) (12,133) (12,377) (12,645) (14,626) (23,102) $330,038 $300,445 $215,419 $215,559 $220,970 Ratio 3.5x 3.2x 2.6x 2.8x 2.8x (1) Dividends on shares of the Series B cumulative convertible preferred stock are used to pay debt service on notes issued by the Company's Thrift and Stock Plan. Preferred stock dividends include dividends on the Series C Conversion Preferred Stock, all of which was converted into Common Stock in March 1995. (2) Estimate of the interest portion of lease payments. (3) Preferred stock dividend requirements included in combined fixed charges but not deducted in the determination of Income from Continuing Operations Before Income Taxes.
EX-13 6 EX-13 EXHIBIT 13 PAGE 18 Financial Review and Management Discussion The Company's total operating income in 1998 of $290.5 million exceeded 1997 results by 9.7% and was a record for the third consecutive year. The increased operating income was the result of significantly higher income from Con-Way Transportation Services, increased income from Menlo Logistics and a reduced loss from the Other segment, which consists mostly of the operations under the Priority Mail contract with the U.S. Postal Service. These improvements were partially offset by significantly lower operating income from Emery Worldwide. The Company's operating income for 1997 was a record $264.9 million, which represented a 37.9% increase over 1996. Aided by a strong economy in 1997, the increase resulted primarily from significant operating income improvements from Con-Way, Emery and Menlo, offsetting losses in the Other segment from the start-up phase of the Priority Mail operations. Total Company revenues for 1998, a record at $4.94 billion, increased 15.8% over 1997. The increase was largely due to higher revenues from Con-Way, significantly higher revenue growth from Menlo, and higher revenues from the Other segment, as a result of full operations following completion of the start-up phase of the Priority Mail contract. Partially offsetting these increases was a small decline in revenues from Emery Worldwide. Total Company revenues for 1997, previously a record at $4.27 billion, increased 16.5% over the previous record achieved in 1996. The most significant revenue increases in 1997 came from Emery, Con- Way and Menlo. Operating results for 1996 reflect the results of Consolidated Freightways Corporation (CFC) as a discontinued operation. CFC was the Company's former long-haul, less-than- truckload (LTL) carrier, which was spun off to shareholders on December 2, 1996. Con-Way Transportation Services Revenues for Con-Way in 1998 were another record at $1.68 billion, a 14.3% increase over 1997, reflecting the combined improvement from both higher tonnage levels and higher revenue per hundredweight. Total Con-Way regional carrier tonnage in 1998 increased 6.2% and LTL tonnage increased 6.6% over 1997. The volume improvements resulted from continued market share gains in previously expanded regions and growth from its premium service mix. Average revenue per hundredweight was up approximately 10% over 1997, reflecting increased joint-service business and continued success of its premium service offerings. Also as a result of increased tonnage and revenue per hundredweight, Con-Way's 1997 revenues increased 14.0% compared to 1996. Total regional carrier tonnage for 1997 was 9.3% above 1996 with LTL tonnage up 9.7%. Adding to these volume increases were higher rates, as average revenue per hundredweight was up about 5% compared to 1996. Operating income for Con-Way in 1998 increased 40.6% to $206.9 million compared with 1997, a $59.8 million improvement. Operating income throughout 1998 exceeded $50 million each quarter and was in part due to the continued expansion of more profitable premium services. As in the prior year, productivity improvements that contributed to the higher operating income included more efficient utilization of the freight system's capacity, increased load factors, freight handling efficiencies, growth from joint- service business, and some benefit from lower fuel costs. Con-Way reported a significant increase in operating income in 1997 of 45.6% above 1996. Factors contributing to this increase included higher revenues from the more profitable premium services and similar productivity improvements described for 1998. Emery Worldwide Emery revenues for 1998 decreased 2.1% from 1997 due primarily to lower domestic and international airfreight revenues, partially offset by revenue growth from other transportation services, including the Express Mail contract with the U.S. Postal Service. Total domestic revenues in 1998 were down only 2.3% from 1997 despite a sharper decline of 9.6% in domestic airfreight revenues reflecting higher revenues from other transportation services. Domestic airfreight tonnage in 1998 declined 8.2% from 1997. International airfreight revenues were down 5.0% on a tonnage decline of 0.8%. Domestic airfreight revenue per pound in 1998 was relatively unchanged from the prior year with international revenue per pound down 3.4% from 1997. Emery revenues for 1997 increased 14.3% over 1996. In 1997, international airfreight revenues increased 16.0% and domestic revenue was up 12.5%. Tonnage increases in 1997 for the same international and domestic services were 13.7% and 9.8%, respectively. PAGE 19 Domestic airfreight volume in 1998 declined primarily from decreased demand from certain industries serviced by Emery, increased ground-based competition, and implementation of Emery's yield management program designed to re-price or eliminate certain low margin business. The prior year also included approximately $30 million of revenue attributed to the two-week strike at a major parcel carrier in August 1997. International airfreight volumes in 1998 were down from 1997 due primarily to adverse economic conditions in the international markets served by Emery. Partially as a result of the lower revenue levels, and compounded by higher incremental costs of service initiatives, operating income in 1998 for Emery declined 43.6% from 1997. Service initiatives aimed at improving service levels to facilitate changes to Emery's domestic premium service mix required some incremental cost increases. These included costs from enhanced short-term airlift capacity and other freight handling processes. The impact, when combined with lower revenues, resulted in a more dramatic decrease in margins. The comparatively lower fuel costs in 1998 were essentially mitigated by fuel surcharges realized in 1997. Emery's operating income for 1997 increased to a record $114.0 million, a 45.3% increase over 1996. The improved results reflected the benefits of revenue growth, combined with limited benefits from premium service mix, the parcel carrier strike and continued cost control strategies. Emery's management strategies will focus on restoring revenue levels with emphasis on the preferred service mix, which includes higher margin guaranteed service. Programs are also in place to control costs commensurate with revenue levels that include efforts to balance short-term airlift capacity necessary to attain required service levels. Expansion plans will also focus on developing existing international business with the non-asset based operations that have lower capital requirements so costs can be adjusted more closely with changes in revenue levels. In an effort to increase the share of international business to total revenues, management will convert more agent locations to owned operations and enhance marketing efforts. Continued technology projects also play a key roll in developing the premium services in both the domestic and international markets. Menlo Logistics Menlo operating results were previously reported as a part of the Other segment, but now are reported as an independent segment following the adoption of SFAS 131, "Disclosures about Segments of an Enterprise and Related Information." Menlo revenues in 1998 of $586.8 million increased 28.7% from 1997 partially as a result of the addition of new contracts secured earlier in 1998 with several large customers. Also contributing to the revenue growth in 1998 was an increase in revenues from existing contracts entered into prior to this year. Menlo revenues in 1997 increased 26.9% over 1996. Operating income in 1998 was $19.5 million, up 13.3% from the prior year. The increased operating income was driven by revenue growth and in part by improved margins from maturing contracts. Partially offsetting the increased income from existing contracts were costs of implementing several new contracts secured in the first half of 1998. In 1997, Menlo reported a 57.3% increase in operating income to reach $17.2 million. The 1997 increase partially resulted from an increased mix of integrated solution projects that produced higher margins than in 1996. Other Operations The Other segment consists primarily of the operations under the Priority Mail contract with the U.S. Postal Service, and includes Road Systems and VantageParts. The 1998 revenue increase was due primarily to Priority Mail revenues that increased to $410.8 million from $51.6 million in 1997. The third quarter of 1998 was the first quarter in which the full system of 10 Priority Mail Processing Centers was complete and operational. The Company is seeking cost recoveries from the USPS for expenses incurred in connection with system modifications required by the USPS for the 1998 holiday operations. The claim seeks reimbursement for excess costs incurred plus profit thereon. Included in 1998 revenues were unbilled revenues for this claim filed with the USPS to recover a portion of the costs incurred in connection with modifications for holiday operations. The Priority Mail contract, which was signed in April 1997 and PAGE 20 was in its start-up phase that same year, provided revenues beginning only in the fourth quarter of 1997. The operating loss for the Other segment in 1998 was primarily due to losses incurred by the Priority Mail operations. However, the Priority Mail contract loss of $3.0 million decreased 77.0% from the prior year as the 1997 loss of $13.0 million included higher cost levels during the start-up phase of operations. The loss incurred in 1998 was primarily due to costs during completion of the start-up phase in the first quarter of 1998 and the costs of maintaining service levels and making required system modifications for the holiday season in December, 1998. The Other segment operating loss in 1997 was down $15.2 million from operating income in 1996 as a result of losses incurred during the 1997 start-up phase of the Priority Mail contract. Other Income (Expense) Other expense for 1998 was down 6.8% compared to 1997 primarily due to lower interest expense resulting from reduced interest rates following the refinancing in both 1998 and 1997 of certain debt obligations. Also contributing to the lower interest expense in 1998 were lower average short-term borrowings partially offset by dividend requirements on preferred securities of a subsidiary trust (TECONS) issued in June 1997. Other expense in 1997 decreased 4.4% from 1996 primarily as a result of lower interest expense after the repayment of short-term borrowings with proceeds from the issuance of the TECONS. Income Taxes The effective tax rate for 1998 was 44.5% compared to a rate of 45.5% for 1997 and 1996. The decline in the effective tax rate was primarily attributable to the implementation of certain tax planning strategies and fewer non-deductible items. The effective tax rate of 45.5% for 1997 and 1996 reflects comparable levels of non-deductible items and taxes incurred in other jurisdictions. Net Income The 1998 net income available to common shareholders was $130.8 million, a 15.8% increase compared with $113.0 million in 1997. The increased net income was attributable to the combination of higher operating income, lower other expenses and a lower effective tax rate. Higher operating income in 1997 contributed to net income available to common shareholders that increased 57.8% over 1996, which was adversely impacted by a $52.6 million loss from discontinued operations. Liquidity and Capital Resources During 1998, net capital and technology expenditure requirements of $303.2 million exceeded cash flow from operating activities of $266.8 million. Additionally, dividend payments used $30.3 million in cash. To fund these requirements, cash and cash equivalents declined $23.7 million and short-term borrowings increased $43.0 million. Comparing 1998 to 1997, cash flow from operations declined $21.4 million, as higher payments for current and other liabilities more than offset increased cash from net income. Receivables grew proportionately with business levels in both years, while growth in operating liabilities slowed in 1998. Cash flow from operations in 1997 increased $71.9 million over 1996 primarily due to higher net income and depreciation and amortization. Investing activities for 1998 used $54.9 million more cash than in 1997, reflecting a $25.3 million increase in capital expenditures and a $40.4 million increase in expenditures for purchased and internally developed software. The capital expenditure increase primarily came from Emery and was partially offset by lower capital expenditures for the Priority Mail operations than in 1997. The increased expenditures for software were for significant technology projects to develop operating, finance and administrative systems. Capital expenditures in 1997 increased $41.5 million compared to 1996 primarily due to expenditures required for the Priority Mail contract. Financing activities provided $37.1 million more cash in 1998 than in 1997, mostly reflecting the increase in short- term borrowings. In 1997, proceeds from the issuance of the TECONS and exercise of stock options PAGE 21 were substantially offset by the repayment of borrowings. Dividend payments were only slightly higher in 1998 than in 1997 and 1996. At December 31, 1998, the Company had borrowings of $28.0 million under its $350 million unsecured credit facility and another $15.0 million under $95 million of other uncommitted lines of credit. The $350 million facility is also available for issuance of letters of credit. Under that facility, outstanding letters of credit totaled $66.6 million at December 31, 1998, which left available capacity of $255.4 million. In addition, the Company had available capacity of $80.0 million under the other uncommitted lines of credit. Under several other unsecured facilities, $51.5 million of letters of credit were outstanding at December 31, 1998. On October 1, 1998, the Company redeemed $46 million of Series A revenue bonds used as partial financing of a sorting facility in Dayton, Ohio. These redeemed bonds, with an effective interest rate of 8% and due in October 2009, were replaced with $46 million of Series A refinancing bonds due in February 2018 with an interest rate of 5.625%. The aggregate principal amount of the Company's unsecured 91/8% Notes is repayable on August 15, 1999. The Company has the ability and intent to refinance the outstanding principal on a long-term basis. Refer to Note 4 of the Notes to Consolidated Financial Statements. The Company filed a shelf registration statement with the Securities and Exchange Commission in June 1998 that covers $250 million of debt and equity securities for future issuance with terms to be decided when and if issued. The Company's ratio of total debt to capital decreased to 36.4% at December 31, 1998, from 37.9% at December 31, 1997, primarily due to higher shareholders' equity from net income. The current ratio was 1.2 to 1 at December 31, 1998, compared to 1.3 to 1 at December 31, 1997. Cyclicality and Seasonality The Company operates in industries that are affected directly by general economic conditions and seasonal fluctuations, both of which affect demand for transportation services. In the trucking and air freight industries, for a typical year, the months of September and October usually have the highest business levels while the months of January and February usually have the lowest business levels. Operations under the Priority Mail contract peak in December primarily due to higher shipping demand related to the holiday season. Market Risk The Company's policy is to enter into derivative financial instruments only in circumstances that warrant the hedge of an underlying asset or liability against exposure to some form of market, interest rate or currency-related risk. This policy also prohibits entering into derivative instruments for trading purposes. In certain situations, the Company used derivative financial instruments to mitigate potential volatility in interest rates. At December 31, 1998, these derivatives consisted of plain vanilla interest rate swaps with high correlation to the underlying exposure such that fluctuations in the value of the derivatives offset reciprocal changes in the underlying exposure. The underlying exposure consists primarily of equipment lease obligations with variable interest rate components that are adjusted quarterly. At December 31, 1998, the Company estimates that the net payments under the swaps given a hypothetical adverse change of 10% in market interest rates would not have a material effect on the Company's consolidated financial position or results of operations. The Company may also be exposed to the effect of interest rate fluctuations on the fair value of the Company's long- term debt and capital lease obligations, as described in Notes 4 and 5 of the Notes to Consolidated Financial Statements. The change in the fair value of the Company's long-term obligations given a hypothetical 10% change in interest rates would be approximately $15 million at December 31, 1998. At December 31, 1998, the Company had not entered into any derivatives to hedge its foreign currency exchange exposure. The Company may from time to time enter into fuel purchase contracts to hedge the market exposure to fuel prices. However, no material contracts were entered into at December 31, 1998. Accounting Standards In March 1998, the American Institute of Certified Public Accountants issued Statement of Position 98-1, "Accounting for the Costs of Computer PAGE 22 Software Developed or Obtained for Internal Use" (SOP 98-1). SOP 98-1, which provides for the capitalization of the costs of internal-use software if certain criteria are met, is effective for fiscal years beginning after December 15, 1998. As provided by SOP 98-1, the Company elected to adopt the pronouncement early and has applied the new provisions prospectively as of January 1, 1998. Prior to adoption of SOP 98-1, it was the Company's policy to capitalize purchased software costs and to expense all internally developed internal-use software costs. For the year ended December 31, 1998, costs of $35.9 million were capitalized as internally developed internal-use software. In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS 133). SFAS 133 establishes accounting and reporting standards requiring that every derivative instrument be recorded in the balance sheet as either an asset or liability measured at its fair value and that changes in fair value be recognized currently in earnings unless specific hedge accounting criteria are met. Qualifying hedges allow a derivative's gains and losses to offset related results on the hedged item in the income statement. SFAS 133 is effective for fiscal years beginning after June 15, 1999. Management does not expect the adoption of SFAS 133 to have a material impact on the Company's consolidated financial position or results of operations and plans to adopt the statement in the first quarter of 2000. YEAR 2000 Renovation of all business-critical IT Systems is scheduled to be substantially complete by the end of the second quarter of 1999. Validation, which is currently in process for its systems and software applications, is scheduled for completion by the end of the third quarter of 1999. Like many other companies, an issue affecting the Company is the ability of its computer systems and software to process the year 2000 (Y2K or Year 2000). To ensure that the Company's systems are Year 2000 compliant, a team of Information Technology professionals began preparing for the Y2K issue in 1996. In 1997, the Company formed a Steering Committee composed of senior executives to address compliance issues. The Y2K team developed, and the Steering Committee approved, a Company-wide initiative to address issues associated with the Year 2000. Company management has designated the Y2K project as the highest priority of the Company's Information Technology Department. The Company's Y2K compliance efforts are focused on business- critical items. Systems and software are considered "business-critical" if a failure would either have a material adverse impact on the Company's business, financial condition or results of operations or involve a safety exposure to employees or customers. State of Readiness - The Company has identified distinct categories for its Y2K compliance efforts: (1) Information Technology (IT) Systems, (2) Non-IT Systems, and (3) IT and Non-IT Systems of third parties with which the Company has major relationships. The Company intends to fix or replace non-compliant software and systems through a process that involves taking inventory of its systems, assessing risks and impact, correcting non-compliant systems through renovation or replacement, and validating compliance through testing. The Company intends to commit the resources necessary to bring the project to scheduled completion. IT Systems - IT Systems include mainframes, mid-range computers and servers, networks and workstations, related operating systems and application software. The Company has inventoried and assessed all business-critical IT Systems. Renovation efforts are in progress or are substantially complete, depending on the system or software. The following percentages of system and software renovations were achieved as of December 31, 1998. Mainframe hardware has been fully renovated. Certain peripheral mainframe hardware is approximately 95% renovated. Mainframe operating systems and mainframe applications software are approximately 85% and 45% renovated, respectively. Mid-range computers and servers are estimated to be 55% renovated while approximately 30% of related operating systems and application software programs have been renovated. Network hardware (excluding servers) and computer workstations are approximately 90% renovated and an estimated 20% of the related operating systems and application software programs have been renovated. Non-IT Systems - Non-IT Systems include operating equipment, security systems, and other equipment that may contain microcontrollers with PAGE 23 embedded technology. Certain IT Systems may also include embedded technology. The Company has contacted all business-critical operating and support facilities to identify the extent of its embedded technology and has received responses from approximately 80% of those surveyed locations. The Company is assessing these results and, when embedded technology is determined to exist, the Company is surveying the vendor or manufacturer of the embedded technology or the affected equipment or system to identify risks related to the Year 2000. Approximately 60% of the embedded technology the Company is aware of has been confirmed as Y2K compliant. The Company's remaining systems are being assessed and, if necessary, will be replaced if determined to be non-compliant. These systems are expected to be Y2K compliant by the end of the second quarter of 1999 and to be validated by the end of the third quarter of 1999. Third Party Systems - In addition to its own IT and Non-IT Systems, the Company is also reliant upon system capabilities of third parties (including, among others, customers, vendors, domestic and international government agencies, and U.S. and international airports). The Company believes these third party risks are inherent in the industry and not specific to the Company. The Company has initiated communications with third parties with whom the Company has material business relationships to determine the extent to which the Company's systems are vulnerable to those third parties' failure to make necessary changes related to Y2K issues. The intent of these inquiries through questionnaires and interviews is to ascertain the level of readiness of the identified third parties. Essentially all of the Company's critical vendors have been contacted and approximately 95% have responded to the surveys. If a vendor is determined to be non-compliant, the Company is working to identify a Y2K-compliant vendor as a replacement. In an effort to mitigate risks related to the system capabilities of certain customers, the Company plans to provide Y2K-compliant software upgrades to its tracking and tracing software and other proprietary software utilized by its customers. The International Air Transport Association and the Air Transport Association of America are involved in global and industry-wide studies aimed at assessing the Y2K compliance status of airports and other U.S. and international government agencies. As a member of these associations, Emery Worldwide is analyzing the results of these studies as they become available. Costs to Address Y2K Compliance - Since 1996, the Company has expensed approximately $22 million on Y2K compliance and expects that approximately $18 million of additional Y2K compliance costs will be expensed through December 31, 1999. All Y2K costs have been and are expected to be funded from operations. In 1998, the Company capitalized $15.5 million of purchased software costs and $35.9 million of internally developed software costs. A portion of the capitalized software costs was for new financial and administrative systems that are Y2K compliant. These systems have replaced or are expected to replace certain non-compliant systems. Risks - While the Company believes its efforts to address the Year 2000 issue will be successful in avoiding any material adverse effect on the Company's operations or financial condition, it recognizes that failing to resolve Year 2000 issues on a timely basis would, in a most reasonably likely worst case scenario, significantly limit its ability to provide its services for a period of time, especially if such failure is coupled with a third-party failure. As a result, there can be no assurance that this matter will not have a material adverse effect on the Company. Contingency Plans - The Company is establishing a Y2K contingency plan to evaluate business disruption scenarios, coordinate the establishment of Y2K contingency plans, and identify and implement preemptive strategies. Detailed contingency plans for critical business processes are scheduled to be formulated by the end of the second quarter of 1999 and, if necessary, would undergo modification should there be any changes in the status of the Company's Y2K renovation efforts. SUBSEQUENT EVENT In January, 1999, the Company settled a lawsuit. The net proceeds to the Company from the settlement are expected to be approximately $16 million, and will be recognized as a gain in the first quarter of 1999. PAGE 24 CNF TRANSPORTATION INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS DECEMBER 31 (Dollars in thousands)
1998 1997 ASSETS Current Assets Cash and cash equivalents $ 73,897 $ 97,617 Trade accounts receivable, net of allowance (Note 1) 810,550 703,785 Other accounts receivable 51,865 32,067 Operating supplies, at lower of average cost or market 41,764 36,580 Prepaid expenses 32,741 35,682 Deferred income taxes (Note 6) 89,544 103,656 Total Current Assets 1,100,361 1,009,387 Property, Plant and Equipment, at Cost Land 114,146 109,768 Buildings and leasehold improvements 468,123 403,350 Revenue equipment 714,195 685,618 Other equipment 425,476 297,960 1,721,940 1,496,696 Accumulated depreciation and amortization (737,464) (616,854) 984,476 879,842 Other Assets Restricted funds 2,655 10,601 Deferred charges and other assets 125,972 102,005 Capitalized software, net (Note 1) 64,285 18,867 Unamortized aircraft maintenance, net (Note 1) 143,349 123,352 Goodwill (Note 1) 268,314 277,442 604,575 532,267 Total Assets $ 2,689,412 $ 2,421,496 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements
PAGE 25 CNF TRANSPORTATION INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS DECEMBER 31 (Dollars in thousands except per share data)
LIABILITIES AND SHAREHOLDERS' EQUITY 1998 1997 Current Liabilities Accounts payable $ 285,832 $ 268,064 Accrued liabilities (Note 3) 446,171 423,237 Accrued claims costs 114,880 99,848 Current maturities of long-term debt and capital leases (Notes 4 and 5) 5,259 4,875 Short-term borrowings (Note 4) 43,000 - Federal and other income taxes (Note 6) 12,340 10,114 Total Current Liabilities 907,482 806,138 Long-Term Liabilities Long-term debt and guarantees (Note 4) 356,905 362,671 Long-term obligations under capital leases (Note 5) 110,730 110,817 Accrued claims costs 58,388 55,030 Employee benefits (Note 9) 183,416 141,351 Other liabilities and deferred credits 55,268 72,428 Deferred income taxes (Note 6) 115,868 89,958 Total Liabilities 1,788,057 1,638,393 Commitments and Contingencies (Notes 4, 5 and 13) Company-Obligated Mandatorily Redeemable Preferred Securities of Subsidiary Trust Holding Solely Convertible Debentures of the Company (Note 7) 125,000 125,000 Shareholders' Equity (Note 8) Preferred stock, no par value; authorized 5,000,000 shares: Series B, 8.5% cumulative, convertible, $.01 stated value; designated 1,100,000 shares; issued 854,191 and 865,602 respectively 9 9 Additional paid-in capital, preferred stock 129,914 131,649 Deferred compensation (Note 10) (94,836) (101,819) Total Preferred Shareholders' Equity 35,087 29,839 Common stock, $.625 par value; authorized 100,000,000 shares; issued 54,797,707 and 54,370,182 shares, respectively 34,249 33,981 Additional paid-in capital, common stock 314,440 302,256 Retained earnings 584,991 473,250 Deferred compensation, restricted stock (Note 11) (4,599) (2,528) Cost of repurchased common stock (6,922,285 and 6,977,848 shares, respectively) (170,678) (172,048) 758,403 634,911 Accumulated foreign currency translation adjustments (9,140) (6,647) Minimum pension liability adjustment (7,995) - Accumulated other comprehensive loss (17,135) (6,647) Total Common Shareholders' Equity 741,268 628,264 Total Shareholders' Equity 776,355 658,103 Total Liabilities and Shareholders' Equity $ 2,689,412 $ 2,421,496 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
PAGE 26 CNF TRANSPORTATION INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED INCOME YEARS ENDED DECEMBER 31 (Dollars in thousands except per share data)
1998 1997 1996 REVENUES $ 4,941,490 $ 4,266,801 $ 3,662,183 Costs and Expenses Operating expenses 3,878,640 3,333,721 2,918,682 Selling, general and administrative expenses 627,637 557,117 463,930 Depreciation 144,695 111,096 87,423 4,650,972 4,001,934 3,470,035 OPERATING INCOME 290,518 264,867 192,148 Other Income (Expense) Investment income 327 1,378 52 Interest expense (32,627) (39,553) (39,766) Dividend requirement on preferred securities of subsidiary trust (Note 7) (6,250) (3,471) - Miscellaneous, net (1,557) (1,407) (5,302) (40,107) (43,053) (45,016) Income from continuing operations before income tax 250,411 221,814 147,132 Income taxes (Note 6) 111,433 100,925 66,951 INCOME FROM CONTINUING OPERATIONS 138,978 120,889 80,181 Loss from discontinued operations, net of income tax benefits (Note 2) - - (36,386) Loss from discontinuance, net of income tax benefits - - (16,247) - - (52,633) Net income 138,978 120,889 27,548 Preferred stock dividends 8,169 7,886 8,592 NET INCOME AVAILABLE TO COMMON SHAREHOLDERS $ 130,809 $ 113,003 $ 18,956 Average Shares Outstanding (Note 1) Basic 47,659,745 46,236,688 44,041,159 Diluted 55,514,318 53,077,468 49,531,101 Earnings Per Share (Note 1) Basic Income from continuing operations $ 2.74 $ 2.44 $ 1.63 Loss from discontinued operations - - (0.83) Loss from discontinuance - - (0.37) Net income $ 2.74 $ 2.44 $ 0.43 Diluted Income from continuing operations $ 2.45 $ 2.19 $ 1.48 Loss from discontinued operations - - (0.73) Loss from discontinuance - - (0.33) Net income $ 2.45 $ 2.19 $ 0.42 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
PAGE 27 CNF TRANSPORTATION INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED CASH FLOWS YEARS ENDED DECEMBER 31 (Dollars in thousands)
1998 1997 1996 Cash and Cash Equivalents, Beginning of Year $ 97,617 $ 82,094 $ 59,787 Operating Activities Net income 138,978 120,889 27,548 Adjustments to reconcile net income to net cash provided by operating activities: Discontinued operations - - 52,633 Depreciation and amortization 163,382 123,391 95,746 Increase (decrease) in deferred income taxes 40,022 31,840 (6,705) Amortization of deferred compensation 9,764 7,132 6,403 Losses (gains) from property disposals, net (1,309) 927 (1,577) Changes in assets and liabilities: Receivables (126,563) (144,193) (30,006) Prepaid expenses 2,941 (4,433) (2,933) Accounts payable 17,768 57,663 27,308 Accrued liabilities 30,584 52,582 36,074 Accrued incentive compensation (7,650) 21,158 9,366 Accrued claims costs 18,390 9,626 11,616 Income taxes 2,226 17,564 18,040 Employee benefits 34,070 25,881 (14,565) Deferred charges and credits (40,937) (25,783) (16,552) Other (14,873) (6,034) 3,893 Net Cash Provided by Operating Activities 266,793 288,210 216,289 Investing Activities Capital expenditures (267,668) (242,343) (200,835) Software expenditures (51,415) (11,022) (10,815) Proceeds from sales of property 15,836 5,043 7,689 Net Cash Used by Investing Activities (303,247) (248,322) (203,961) Financing Activities Proceeds from issuance of long-term debt 46,000 1,997 - Repayment of long-term debt and capital lease obligations (51,469) (4,020) (2,436) Proceeds from (repayment of) net short-term borrowings 43,000 (155,000) 105,000 Proceeds from issuance of subsidiary preferred securities, net of costs of issuance - 121,431 - Proceeds from exercise of stock options 5,483 41,500 1,887 Payments of common dividends (19,068) (18,497) (17,604) Payments of preferred dividends (11,212) (11,776) (11,935) Net Cash Provided (Used) by Financing Activities 12,734 (24,365) 74,912 Net Cash Provided (Used) by Continuing Operations (23,720) 15,523 87,240 Net Cash Used by Discontinued Operations - - (64,933) Increase (Decrease) in Cash and Cash Equivalents (23,720) 15,523 22,307 Cash and Cash Equivalents, End of Year $ 73,897 $ 97,617 $ 82,094 Supplemental Disclosure Cash paid for income taxes, net of refunds $ 67,955 $ 38,568 $ 13,822 Cash paid for interest, net of amounts capitalized 33,141 47,948 36,047 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
PAGE 28 CNF TRANSPORTATION INC. AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED SHAREHOLDERS' EQUITY (Dollars in thousands except per share data)
Preferred Stock Series B Common Stock Additional Number of Number of Paid-in Deferred Shares Amount Shares Amount Capital Compensation Balance, December 31, 1995 954,412 $ 10 51,451,490 $ 32,157 $ 384,852 $ (114,896) Net income - - - - - - Other comprehensive income: Foreign currency translation adjustment - - - - - - Comprehensive income - - - - - - Exercise of stock options including tax benefits of $1,565 - - 138,027 86 3,778 - Issuance of restricted stock - - 6,310 4 158 (162) Recognition of deferred compensation - - - - - 6,403 Repurchased common stock issued for conversion of preferred stock (79,221) (1) - - (12,801) - Common dividends declared ($.40 per share) - - - - - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $3,696 - - - - - - Distribution of investment in CFC (Note 2) - - - - - - Balance, December 31, 1996 875,191 9 51,595,827 32,247 375,987 (108,655) Net income - - - - - - Other comprehensive loss: Foreign currency translation adjustment - - - - - - Comprehensive income - - - - - - Exercise of stock options including tax benefits of $16,612 - - 2,688,824 1,681 56,431 - Issuance of restricted stock - - 85,531 53 2,771 (2,824) Recognition of deferred compensation - - - - - 7,132 Repurchased common stock issued for conversion of preferred stock (9,589) - - - (1,284) - Common dividends declared ($.40 per share) - - - - - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $3,389 - - - - - - Balance, December 31, 1997 865,602 9 54,370,182 33,981 433,905 (104,347) Net income - - - - - - Other comprehensive loss: Foreign currency translation adjustment - - - - - - Minimum pension liability adjustment (Note 9) - - - - - - Comprehensive income - - - - - - Exercise of stock options including tax benefits of $2,576 - - 321,079 201 7,858 - Issuance of restricted stock, net of forfeitures - - 106,446 67 3,935 (4,852) Issuance of employee stock awards - - - - 13 - Recognition of deferred compensation - - - - - 9,764 Repurchased common stock issued for conversion of preferred stock (11,411) - - (1,357) - Common dividends declared ($.40 per share) - - - - - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $2,982 - - - - - - Balance, December 31, 1998 854,191 $ 9 54,797,707 $ 34,249 $ 444,354 $ (99,435) The accompanying Notes to Consolidated Financial Statements are an integral part of these statements.
PAGE 29
Cost of Accumulated Repurchased Other Retained Common Comprehensive Comprehensive Earnings Stock Income (Loss) Income Balance, December 31, 1995 $ 608,399 $ (186,134) $ (2,028) Net income 27,548 - - $ 27,548 Other comprehensive income: Foreign currency translation adjustment - - 736 736 Comprehensive income - - - $ 28,284 Exercise of stock options including tax benefits of $1,565 - - - Issuance of restricted stock - - - Recognition of deferred compensation - - - Repurchased common stock issued for conversion of preferred stock - 12,802 - Common dividends declared ($.40 per share) (17,604) - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $3,696 (8,592) - - Distribution of investment in CFC (Note 2) (231,007) - 4,571 Balance, December 31, 1996 378,744 (173,332) 3,279 Net income 120,889 - - $ 120,889 Other comprehensive loss: Foreign currency translation adjustment - - (9,926) (9,926) Comprehensive income - - - $ 110,963 Exercise of stock options including tax benefits of $16,612 - - - Issuance of restricted stock - - - Recognition of deferred compensation - - - Repurchased common stock issued for conversion of preferred stock - 1,284 - Common dividends declared ($.40 per share) (18,497) - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $3,389 (7,886) - - Balance, December 31, 1997 473,250 (172,048) (6,647) Net income 138,978 - - $ 138,978 Other comprehensive loss: Foreign currency translation adjustment - - (2,493) (2,493) Minimum pension liability adjustment (Note 9) - - (7,995) (7,995) Comprehensive income - - - $ 128,490 Exercise of stock options including tax benefits of $2,576 - - - Issuance of restricted stock, net of forfeitures - - - Issuance of employee stock awards - 13 - Recognition of deferred compensation - - - Repurchased common stock issued for conversion of preferred stock - 1,357 - Common dividends declared ($.40 per share) (19,068) - - Series B, Preferred dividends ($12.93 per share) net of tax benefits of $2,982 (8,169) - - Balance, December 31, 1998 $ 584,991 $ (170,678) $ (17,135)
PAGE 30 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Principal Accounting Policies Basis of Presentation and Principles of Consolidation: The consolidated financial statements include the accounts of CNF Transportation Inc. (the Company or CNF) and its wholly owned subsidiaries. On December 2, 1996, the Company (formerly Consolidated Freightways, Inc.) completed the spin- off of Consolidated Freightways Corporation (CFC) as described in Note 2. CFC has been reflected as discontinued operations in the consolidated financial statements and, unless otherwise stated, is excluded from the accompanying notes. The continuing operations of the Company encompass four business segments: Con-Way Transportation Services, Emery Worldwide, Menlo Logistics, and Other. Con-Way provides regional one- and two-day LTL freight trucking and full- service truckload freight delivery throughout the U.S., Canada and Mexico, and expedited and guaranteed ground transportation. In 1998, Con-Way introduced integrated supply chain services to provide logistics solutions to targeted customers. Emery provides expedited and deferred domestic and international air cargo services, ocean delivery, and customs brokerage. Domestically, Emery relies primarily on its dedicated aircraft and ground fleet to provide its services. Internationally, Emery acts principally as a freight forwarder. Menlo is a full-service contract logistics company that specializes in developing and managing complex distribution networks. The Other operations consist primarily of the Priority Mail contract with the U.S. Postal Service, and include Road Systems, a trailer manufacturer, and VantageParts, a wholesale distributor of truck parts and supplies. Recognition of Revenues: Transportation freight charges are recognized as revenue when freight is received for shipment. The estimated costs of performing the total transportation service are then accrued. This revenue recognition method does not result in a material difference from in-transit or completed service methods of recognition. Revenue from long-term contracts is recognized in accordance with contractual terms as services are provided. Under certain long-term contracts, there are provisions for price re-determinations that give rise to unbilled revenue. Unbilled revenue representing contract change orders or claims is included in revenue only when the amounts are determinable and realization is probable. When adjustments in contract revenue are determined, any changes from prior estimates are reflected in earnings in the current period. The amount of unbilled revenue recognized at December 31, 1998 was approximately $11 million. Cash Equivalents: Short-term interest-bearing instruments with maturities of three months or less at the date of purchase are considered cash equivalents. Trade Accounts Receivable, Net: Trade accounts receivable are net of allowances of $21,098,000 and $20,155,000 at December 31, 1998 and 1997, respectively. Property, Plant and Equipment: Property, plant and equipment are depreciated on a straight-line basis over their estimated useful lives, which are generally 25 years for buildings and improvements, 10 years or less for aircraft, 5 to 10 years for tractor and trailer equipment and 3 to 10 years for most other equipment. Leasehold improvements are amortized over the shorter of the terms of the respective leases or the useful lives of the assets. Expenditures for equipment maintenance and repairs, except for aircraft, are charged to operating expenses as incurred; betterments are capitalized. Gains (losses) on sales of equipment are recorded in operating expenses. The costs to perform required maintenance inspections of engines and aircraft frames for leased and owned aircraft are capitalized and amortized to expense over the shorter of the period until the next scheduled maintenance or the remaining term of the lease agreement. Accordingly, the PAGE 31 Company has recorded unamortized maintenance of $198,973,000 and $180,198,000 at December 31, 1998 and 1997, respectively. Under certain of the Company's aircraft lease agreements, the Company is expected to return the aircraft with a stipulated number of hours remaining on the aircraft and engines until the next scheduled maintenance. The Company has recorded $55,624,000 and $56,846,000 at December 31, 1998 and 1997, respectively, to accrue for this obligation and any estimated unusable maintenance at the date of lease return or other disposal. The net amount, which represents the difference between maintenance performed currently and that required or remaining at the expiration of the lease or other disposal, is classified as Unamortized Aircraft Maintenance, net, in the Consolidated Balance Sheets. Capitalized Software: Capitalized Software, net, consists of costs to purchase and develop software. In March 1998, the American Institute of Certified Public Accountants issued Statement of Position 98-1 "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" (SOP 98-1). SOP 98-1, which provides for the capitalization of the costs of internal-use software if certain criteria are met, is effective for fiscal years beginning after December 15, 1998. As provided by SOP 98-1, the Company elected to adopt the pronouncement early and has applied the new provisions prospectively as of January 1, 1998. Prior to adoption of SOP 98-1, it was the Company's policy to capitalize purchased software costs and to expense all internally developed internal-use software costs. For the year ended December 31, 1998, costs of $35.9 million ($0.42 per share basic and $0.36 per share diluted) were capitalized as internally developed internal-use software and are included in Capitalized Software, net, in the Consolidated Balance Sheets. Amortization of capitalized software is computed on an item-by-item basis over a period of 3 to 7 years, depending on the life of the software. Goodwill: Goodwill, net, which represents the costs in excess of net assets of businesses acquired, is capitalized and amortized on a straight-line basis up to a 40-year period. Impairment is periodically reviewed based on a comparison of estimated, undiscounted cash flows from the underlying segment to the related investment. In the event goodwill is not considered recoverable, an amount equal to the excess of carrying amount of goodwill less the estimated discounted cash flows from the segment will be charged against goodwill with a corresponding expense to the income statement. Based on this review, management does not believe goodwill is impaired. Accumulated amortization at December 31, 1998 and 1997 was $95,194,000 and $86,053,000, respectively. Income Taxes: The Company follows the liability method of accounting for income taxes. Accrued Claims Costs: The Company provides for the uninsured costs of medical, casualty, liability, vehicular, cargo and workers' compensation claims. Such costs are estimated each year based on historical claims and unfiled claims relating to operations conducted through December 31. The actual costs may vary from estimates based on trends of losses for filed claims and claims estimated to be incurred but not filed. The long-term portion of accrued claims costs relate primarily to workers' compensation and vehicular claims that are payable over several years. Foreign Currency Translation: Adjustments resulting from translating foreign functional currency financial statements into U.S. dollars are included in the Foreign Currency Translation Adjustment in the Statements of Consolidated Shareholders' Equity. Earnings Per Share: Basic and diluted earnings per share (EPS) are calculated in accordance with SFAS 128, "Earnings Per Share." Basic EPS is computed by dividing reported Net Income Available to Common PAGE 32 Shareholders by the weighted- average shares outstanding. Diluted EPS from continuing operations is calculated as follows: (Dollars in thousands except per share data) 1998 1997 1996 Earnings: Net income available to common shareholders $130,809 $113,003 $71,589 Add-backs: Dividends on Series B preferred stock, net of replacement funding 1,274 1,231 1,769 Dividends on preferred securities of subsidiary trust, net of tax 3,816 2,118 - $135,899 $116,352 $73,358 Shares: Weighted-average shares outstanding 47,659,745 46,236,688 44,041,159 Stock option and restricted stock dilution 708,042 1,029,415 1,021,417 Series B preferred stock 4,021,531 4,075,254 4,468,525 Preferred securities of subsidiary trust 3,125,000 1,736,111 - 55,514,318 53,077,468 49,531,101 Diluted earnings per share $2.45 $2.19 $1.48 Estimates: Management makes estimates and assumptions when preparing the financial statements in conformity with generally accepted accounting principles. These estimates and assumptions affect the amounts reported in the accompanying financial statements and notes thereto. Actual results could differ from those estimates. Reclassification: Certain amounts in prior years' financial statements have been reclassified to conform to the current year presentation. 2. Business Divestitures On December 2, 1996, the Company completed a tax-free distribution (the Spin-off) to the Company's shareholders of all the outstanding shares of CFC. CFC was the Company's former long-haul, LTL segment, comprising CF MotorFreight, a domestic LTL motor carrier and its Canadian operations. The Company's shareholders received one share of CFC common stock for every two shares of the Company's common stock owned on November 15, 1996. The accompanying consolidated financial statements have been restated to report the discontinued operations of CFC separately from continuing operations of the Company. CFC revenues from discontinued operations totaled $1.98 billion for the year ended December 31, 1996. A loss from discontinued operations of $36.4 million for the year ended December 31, 1996 is reported net of income tax benefits of $11.9 million. The Company incurred costs in connection with the Spin-off, including legal and advisory fees, costs of relocating administrative, data processing and other operating locations, severance, and other transaction costs. These costs are reported net of $7.0 million of income tax benefits in the Statements of Consolidated Income as Loss from Discontinuance in 1996. 3. Accrued Liabilities Accrued liabilities consisted of the following as of December 31: (Dollars in thousands) 1998 1997 Other accrued liabilities $163,227 $169,572 Holiday and vacation pay 59,237 52,263 Purchased transportation 33,616 40,732 Taxes other than income taxes 56,840 36,794 Wages and salaries 40,550 28,173 Estimated revenue adjustments 39,799 34,637 Interest 18,315 18,829 Incentive compensation 34,587 42,237 Total accrued liabilities $446,171 $423,237 PAGE 33 4. Debt and Guarantees As of December 31, long-term debt and guarantees consisted of the following: (Dollars in thousands) 1998 1997 91/8% Notes due 1999 (interest payable semi-annually) $117,705 $117,705 7.35% Notes due 2005 (interest payable semi-annually) 100,000 100,000 6.14% Industrial Revenue Bonds due 2014 (interest payable quarterly) 4,800 4,800 TASP Notes guaranteed, 8.42% to 9.04% due through 2009 (interest payable semi-annually) 139,600 143,800 Other debt - 1,179 362,105 367,484 Less current maturities (5,200) (4,813) Total long-term debt and guarantees $356,905 $362,671 The Company has a $350 million unsecured credit facility to provide for letter of credit and working capital needs. Borrowings under the agreement, which expires in 2001, bear interest at a rate based upon select indices plus a margin dependent on the Company's credit rating. The agreement contains various restrictive covenants that limit the incurrence of additional indebtedness and require the Company to maintain minimum amounts of net worth and fixed charge coverage. At December 31, 1998, the Company had $28.0 million of short-term borrowings and $66.6 million of letters of credit outstanding under this agreement. Under $95.0 million of other uncommitted lines of credit, the Company had $15.0 million of short-term borrowings at December 31, 1998. The weighted-average interest rate of short-term borrowings outstanding at December 31, 1998 was 7.1%. There were no short-term borrowings at December 31, 1997. The 91/8% Notes due in 1999 and the 7.35% Notes due in 2005 contain certain covenants limiting the incurrence of additional liens. The aggregate principal amount of the Company's unsecured 91/8% Notes is repayable on August 15, 1999. The Company has the ability to refinance the outstanding principal on a long- term basis and it is therefore included in Long-term Debt and Guarantees in the Consolidated Balance Sheet as of December 31, 1998. The Company guarantees the restructured and non-restructured notes issued by the Company's Thrift and Stock Plan. Holders of both the restructured and non-restructured notes have the right to require the Company to purchase the notes, in whole or in part, on July 1, 1999. The Company has the ability to refinance the outstanding principal of $139.6 million on a long-term basis and it is therefore included in Long-term Debt and Guarantees in the Consolidated Balance Sheet as of December 31, 1998. Of the $139.6 million TASP Notes, $110.5 million are subject to redemption at the option of the holders should a certain designated event occur or ratings by both Moody's and S&P of senior unsecured indebtedness decline below investment grade. The remaining $29.1 million of the notes contain financial covenants including a common dividend restriction equal to $10.0 million plus one-half of the Company's earnings since inception of the agreement. The Company's consolidated interest expense as presented on the Statements of Consolidated Income is net of interest capitalized of $2,342,000 in 1998, $2,077,000 in 1997 and $2,092,000 in 1996. The aggregate annual maturities and sinking fund requirements of Long-Term Debt and Guarantees for the next five years ending December 31 are $122,905,000 in 1999, $6,400,000 in 2000, $7,500,000 in 2001, $8,700,000 in 2002, and $10,100,000 in 2003. 5. Leases The Company and its subsidiaries are obligated under various non-cancelable leases. The principal capital lease covers a sorting facility in Dayton, Ohio (the Hub). The Hub is financed by City of Dayton, Ohio revenue bonds. On October 1, 1998, the Company redeemed $46 million of the Series A revenue bonds. These redeemed bonds, with an effective interest rate of 8% and due in October 2009, were replaced with $46 million of Series A refinancing bonds due in February 2018 with an interest rate of PAGE 34 5.625%. The remaining $62 million are due in 2009 and bear rates of interest between 6.05% and 6.20%, and have various call provisions. Included in property, plant and equipment is $36,136,000 of equipment and leasehold improvements, net, related to the Hub. Future minimum lease payments under all leases with initial or remaining non-cancelable lease terms in excess of one year, at December 31, 1998, are as follows: (Dollars in thousands) Year ending December 31: Capital Leases Operating Leases 1999 $6,819 $182,738 2000 6,819 133,464 2001 6,819 89,817 2002 6,819 60,705 2003 6,819 40,940 Thereafter (through 2018) 173,046 72,125 Total minimum lease payments 207,141 $579,789 Amount representing interest (96,352) Present value of minimum lease payments 110,789 Current maturities of obligations under capital leases (59) Long-term obligations under capital leases $110,730 Certain operating leases contain financial covenants equal to or less restrictive than covenants on debt. Certain operating leases also contain provisions that allow the Company to extend the leases for various renewal periods. Rental expense for operating leases is comprised of the following: (Dollars in thousands) 1998 1997 1996 Minimum rentals $232,008 $203,521 $178,781 Sublease rentals (4,001) (5,087) (2,355) Amortization of deferred gains (4,012) (4,487) (4,487) $223,995 $193,947 $171,939 6. Income Taxes The components of pretax income and income taxes are as follows: (Dollars in thousands) 1998 1997 1996 Pretax income U.S. corporations $240,838 $206,055 $137,918 Foreign corporations 9,573 15,759 9,214 Total pretax income $250,411 $221,814 $147,132 Income taxes Current U.S. federal $59,429 $49,187 $57,397 State and local 7,829 12,109 6,430 Foreign 4,153 7,789 5,762 71,411 69,085 69,589 Deferred U.S. federal 37,284 31,162 (2,903) State and local 2,738 678 265 40,022 31,840 (2,638) Total income taxes $111,433 $100,925 $ 66,951 PAGE 35 The components of deferred tax assets and liabilities at December 31, relate to the following: (Dollars in thousands) 1998 1997 Deferred tax assets Reserves for accrued claims costs $44,400 $39,969 Reserves for post retirement health benefits 39,452 34,732 Other reserves not currently deductible 45,904 62,217 Reserves for employee benefits 66,916 49,118 196,672 186,036 Deferred tax liabilities Depreciation and amortization 194,691 159,912 Unearned revenue 4,601 2,853 Other 23,704 9,573 222,996 172,338 Net deferred tax asset (liability) $(26,324) $13,698 Deferred tax assets and liabilities in the Consolidated Balance Sheets are classified based on the related asset or liability creating the deferred tax. Deferred taxes not related to a specific asset or liability are classified based on the estimated period of reversal. Although realization is not assured, management believes it more likely than not that all deferred tax assets will be realized. Income taxes vary from the amounts calculated by applying the U.S. statutory income tax rate to the pretax income as set forth in the following reconciliation: 1998 1997 1996 U.S. statutory tax rate 35.0% 35.0% 35.0% State income taxes (net of federal income tax benefit) 3.8 4.3 4.4 Foreign taxes in excess of U.S. statutory rate .9 1.0 1.7 Non-deductible operating expenses 1.1 1.2 1.8 Amortization of goodwill 1.2 1.4 2.2 Foreign tax credits, net (1.6) (1.1) - Other, net 4.1 3.7 0.4 Effective income tax rate 44.5% 45.5% 45.5% The cumulative undistributed earnings of the Company's foreign subsidiaries (approximately $25.2 million at December 31, 1998), which if remitted are subject to withholding tax, have been reinvested indefinitely in the respective foreign subsidiaries' operations unless it becomes advantageous for tax or foreign exchange reasons to remit these earnings. Therefore, no withholding or U.S. taxes have been provided. The amount of withholding tax that would be payable on remittance of the undistributed earnings would approximate $2.5 million. The Company is currently under examination by the Internal Revenue Service (IRS) for tax years 1987 through 1996. Except for the effect, if any, of the items discussed in the paragraph below, it is the opinion of management that any adjustments related to the examination for these years would not have a material impact on the Company's financial position or results of operations. In addition, as part of the Spin-off, the Company and CFC entered into a tax sharing agreement which provides a mechanism for the allocation of any additional tax liability and related interest that arise due to adjustments from the IRS for years prior to the Spin- off. PAGE 36 The IRS has proposed a substantial adjustment for tax years 1987 through 1990 based on the IRS' position that certain aircraft maintenance costs should have been capitalized rather than expensed for federal income tax purposes. In addition, the Company believes it is likely that the IRS will propose an additional adjustment, based on the same IRS position with respect to aircraft maintenance costs, for subsequent tax years. The Company believes that its practice of expensing these types of maintenance costs is consistent with industry practice. However, if this issue is determined adversely to the Company, there can be no assurance that the Company will not have to pay substantial additional tax. The Company is unable to predict the ultimate outcome of this matter and intends to vigorously contest the proposed adjustment. There can be no assurance, however, that this matter will not have a material adverse effect on the Company. 7. Preferred Securities of Subsidiary Trust On June 11, 1997, CNF Trust I (the Trust), a Delaware business trust wholly owned by the Company, issued 2,500,000 of its $2.50 Term Convertible Securities, Series A (TECONS) to the public for gross proceeds of $125 million. The combined proceeds from the issuance of the TECONS and the issuance to the Company of the common securities of the Trust were invested by the Trust in $128.9 million aggregate principal amount of 5% convertible subordinated debentures due June 1, 2012 (the Debentures) issued by the Company. The Debentures are the sole assets of the Trust. Holders of the TECONS are entitled to receive cumulative cash distributions at an annual rate of $2.50 per TECONS (equivalent to a rate of 5% per annum of the stated liquidation amount of $50 per TECONS). The Company has guaranteed, on a subordinated basis, distributions and other payments due on the TECONS, to the extent the Trust has funds available therefor and subject to certain other limitations (the "Guarantee"). The Guarantee, when taken together with the obligations of the Company under the Debentures, the Indenture pursuant to which the Debentures were issued, and the Amended and Restated Declaration of Trust of the Trust [including its obligations to pay costs, fees, expenses, debts and other obligations of the Trust (other than with respect to the TECONS and the common securities of the Trust)], provide a full and unconditional guarantee of amounts due on the TECONS. The Debentures are redeemable for cash, at the option of the Company, in whole or in part, on or after June 1, 2000 at a price equal to 103.125% of the principal amount, declining annually to par if redeemed on or after June 1, 2005, plus accrued and unpaid interest. In certain circumstances relating to federal income tax matters, the Debentures may be redeemed by the Company at 100% of the principal plus accrued and unpaid interest. Upon any redemption of the Debentures, a like aggregate liquidation amount of TECONS will be redeemed. The TECONS do not have a stated maturity date, although they are subject to mandatory redemption upon maturity of the Debentures on June 1, 2012, or upon earlier redemption. Each TECONS is convertible at any time prior to the close of business on June 1, 2012 at the option of the holder into shares of the Company's common stock at a conversion rate of 1.25 shares of the Company's common stock for each TECONS, subject to adjustment in certain circumstances. 8. Shareholders' Equity Series B Preferred Stock - In 1989, the Board of Directors designated a series of 1,100,000 preferred shares as Series B Cumulative Convertible Preferred Stock, $.01 stated value, which is held by the CNF Thrift and Stock Plan (TASP). The Series B preferred stock is convertible into common stock, as described in Note 10, at the rate of 4.71 shares for each share of preferred stock subject to antidilution adjustments in certain circumstances. Holders of the Series B preferred stock are entitled to vote with the common stock and are entitled to a number of votes in such circumstances equal to the product of (a) 1.3 multiplied by (b) the number of shares of common stock into which the Series B preferred stock is convertible on the record date of such vote. Holders of the Series B preferred stock are also entitled to vote separately as a class on certain other matters. The TASP trustee is required to vote the allocated shares based upon instructions from the participants; unallocated shares are voted in proportion to the voting instructions received from the participants with allocated shares. PAGE 37 Comprehensive Income - In 1998, the Company adopted SFAS 130, "Reporting Comprehensive Income." which requires companies to report a measure of all changes in equity except those resulting from investment by owners and distribution to owners, in a financial statement for the period in which they are recognized. The Company has elected to disclose Comprehensive Income in the Statements of Consolidated Shareholders' Equity. Prior years have been restated to conform to the requirements of SFAS 130. 9. Employee Benefit Plans In 1998, the Company adopted SFAS 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits." SFAS 132 supercedes the disclosure requirements of SFAS 87, "Employers' Accounting for Pensions" and SFAS 106, "Employers Accounting for Postretirement Benefits Other than Pensions." SFAS 132 only addresses disclosure and does not address measurement or recognition. Disclosures for the prior year have been restated. Pension Plans The Company has a non-contributory defined benefit pension plan (the Plan) covering non-contractual employees in the United States. The Company's annual pension provision and contributions are based on an independent actuarial computation. Although it is the Company's funding policy to contribute the minimum required tax-deductible contribution for the year, it may increase its contribution above the minimum if appropriate to its tax and cash position and the Plan's funded status. Benefits under the Plan are based on a career average final five-year pay formula. Approximately 94% of the Plan assets are invested in publicly traded stocks and bonds. The remainder is invested in temporary cash investments, real estate funds and investment capital funds. The following sets forth the change in funded status and the determination of the accrued benefit cost included in Employee Benefits in the Consolidated Balance Sheets at December 31: (Dollars in thousands) 1998 1997 Change in benefit obligation: Projected benefit obligation at beginning of year $330,658 $252,090 Service cost - benefits earned during the year 30,497 23,664 Interest cost on projected benefit obligation 25,338 21,818 Actuarial loss 10,712 39,192 Benefits paid (6,338) (6,106) Projected benefit obligation at end of year 390,867 330,658 Change in plan assets: Fair value of plan assets at beginning of year 312,818 271,669 Actual return on plan assets 46,136 46,577 Transfers from defined contribution plan 1,934 678 Benefits paid (6,338) (6,106) Fair value of plan assets at end of year 354,550 312,818 Funded status (36,317) (17,840) Unrecognized actuarial gain (26,745) (18,772) Unrecognized prior service costs 7,816 9,000 Unrecognized net asset at transition (5,646) (6,775) Accrued benefit cost $(60,892) $(34,387) Weighted-average assumptions as of December 31: Discount rate 7.00% 7.25% Expected long-term rate of return on assets 9.50% 9.50% Rate of compensation increase 5.00% 5.00% PAGE 38 Net pension cost includes the following: (Dollars in thousands) 1998 1997 1996 Service cost - benefits earned during the year $ 30,497 $ 23,664 $ 22,544 Interest cost on projected benefit obligation 25,338 21,818 18,214 Expected return on plan assets (29,386) (25,511) (20,465) Net amortization and deferral 56 (200) (88) Net pension cost $ 26,505 $ 19,771 $ 20,205 The Company also has a supplemental retirement program that provides additional benefits for compensation excluded from the basic Plan. The annual provision for these programs is based on independent actuarial computations using assumptions consistent with the Plan. At December 31, 1998 and 1997, the accrued benefit cost was $14,174,000 and $11,915,000, respectively, and the net periodic pension cost was $4,036,000 in 1998, $2,462,000 in 1997 and $2,274,000 in 1996. Also included in Employee Benefits in the Balance Sheet at December 31, 1998, was the minimum pension liability for the unfunded supplemental program. The non-cash adjustment for the minimum pension liability of $10,370,000 was offset by an intangible asset of $2,375,000 and a $7,995,000 reduction of comprehensive income. Post Retirement Plans - The Company has a retiree health plan that provides benefits to all non-contractual employees at least 55 years of age with 10 years or more of service. The retiree health plan limits benefits for participants who were not eligible to retire before January 1, 1993, to a defined dollar amount based on age and years of service and does not provide employer-subsidized retiree health care benefits for employees hired on or after January 1, 1993. The following sets forth the change in accumulated benefit obligation and the determination of the accrued benefit cost included in Employee Benefits in the Consolidated Balance Sheets at December 31: (Dollars in thousands) 1998 1997 Change in benefit obligation: Accumulated benefit obligation at beginning of year $79,898 $71,704 Service cost - benefits earned during the year 2,228 2,043 Interest cost on accumulated benefit obligation 6,046 5,697 Benefit payments (3,966) (3,752) Actuarial loss 5,741 4,206 Accumulated benefit obligation at end of year 89,947 79,898 Unrecognized net actuarial gain 2,177 7,918 Unrecognized prior service benefit 389 444 Accrued benefit cost $92,513 $88,260 Assumptions as of December 31: Weighted-average discount rate 7.00% 7.25% Average health care cost trend rate First year 5.5% 6.5% Declining to (Year 1999) 5.5% 5.5% Net periodic post retirement benefit cost includes the following: (Dollars in thousands) 1998 1997 1996 Service cost - benefits earned during the year $2,228 $2,043 $2,422 Interest cost on accumulated benefit obligation 6,046 5,697 5,256 Net amortization and deferral (55) (244) (131) Net periodic post retirement benefit cost $8,219 $7,496 $7,547 PAGE 39 A one-percentage-point change in assumed health care cost trend rates would change the aggregate service and interest cost by $210,000 and the accumulated benefit obligation by approximately $3,200,000. Other Compensation Plans - The Company and each of its subsidiaries have adopted various plans relating to the achievement of specific goals to provide incentive compensation for designated employees. Total compensation earned by salaried participants of those plans was $34,929,000, $51,900,000 and $23,210,000 in 1998, 1997 and 1996, respectively, and by hourly participants was $36,500,000, $38,100,000 and $12,200,000 in 1998, 1997 and 1996, respectively. 10. Thrift and Stock Plan The Company sponsors the CNF Thrift and Stock Plan (TASP), a voluntary defined contribution plan with a leveraged ESOP feature, for non-contractual U.S. employees. In 1989, the TASP borrowed $150,000,000 to purchase 986,259 shares of the Company's Series B Cumulative Convertible Preferred Stock. This stock is only issuable to the TASP trustee. The TASP satisfies the Company's contribution requirement by matching up to 50% of the first 3% percent of a participant's basic compensation. Company contributions to the TASP were $10,491,000 in 1998, $9,921,000 in 1997 and $8,589,000 in 1996, in the form of common and preferred stock. The Series B Preferred Stock earns a dividend of $12.93 per share and is used to repay the TASP debt. Any shortfall is paid in cash by the Company. Dividends on these preferred shares are deductible for income tax purposes and, accordingly, are reflected net of their tax benefits in the Statements of Consolidated Income. Allocation of preferred stock to participants' accounts is based upon the ratio of the current year's principal and interest payments to the total TASP debt. Since the Company guarantees the debt, it is reflected in Long-term Debt and Guarantees in the Consolidated Balance Sheets. The TASP guarantees are reduced as principal is paid. Each share of preferred stock is convertible into common stock, upon an employee ceasing participation in the plan, at a rate generally equal to that number of shares of common stock that could be purchased for $152.10, but not less than the minimum conversion rate of 4.71 shares of common stock for each share of Series B preferred stock. Deferred compensation expense is recognized as the preferred shares are allocated to participants and is equivalent to the cost of the preferred shares allocated and the TASP interest expense for the year, reduced by the dividends paid to the TASP. During 1998, 1997 and 1996, $6,983,000, $6,649,000 and $6,250,000, respectively, of deferred compensation expense was recognized. At December 31, 1998, the TASP owned 854,191 shares of Series B preferred stock, of which 236,247 shares have been allocated to employees. At December 31, 1998, the Company has reserved, authorized and unissued common stock adequate to satisfy the conversion feature of the Series B preferred stock. 11. Stock-Based Compensation Stock Options - Officers and non-employee directors have been granted options under the Company's stock option plans to purchase common stock of the Company at prices equal to the market value of the stock on the date of grant. Options granted prior to June 30, 1998 generally are exercisable one year from the date of grant. Stock option grants awarded subsequent to June 30, 1998 vest ratably over four years following the grant date. The options generally expire 10 years from the dates of grant. The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." Had compensation cost for the Company's stock-based compensation plans been determined in accordance with SFAS 123, "Accounting for Stock-Based Compensation," pro forma net income from continuing operations as reported net of preferred dividends would have been $123.6 million, $109.3 million, and $68.6 million for the years 1998, 1997 and 1996, respectively. Diluted earnings per share would have been $2.32, $2.12 and $1.42 per share for the years 1998, 1997 and 1996, respectively. These pro forma effects of applying SFAS 123 are not indicative of future amounts. The weighted-average grant-date fair value of options granted in 1998, 1997 and 1996 was PAGE 40 $17.22, $12.28 and $8.54 per share, respectively. The following assumptions were used with the Black-Scholes options pricing model to calculate the option values: risk free, weighted-average rate, 4.8%-5.9%; expected life, 5.9 years; dividend yield, 1.1%; and volatility, 45.0%. The following is a summary of stock option data: Number of Wtd. Avg. Options Exercise Price Outstanding at December 31, 1995 3,758,195 $19.11 Granted 537,500 21.53 Exercised (138,027) 14.30 Expired or canceled (24,319) 27.10 Adjustment for Spin-off 773,139 - Outstanding at December 31, 1996 4,906,488 16.46 Granted 492,500 32.47 Exercised (2,688,824) 15.42 Expired or canceled (122,566) 26.77 Outstanding at December 31, 1997 2,587,598 20.12 Granted 711,350 38.29 Exercised (321,079) 17.07 Expired or canceled (46,850) 38.24 Outstanding at December 31, 1998 2,931,019 $24.60 Options exercisable as of December 31: 1998 2,194,975 $20.66 1997 2,051,347 17.35 1996 4,366,040 16.26 The following is a summary of the stock options outstanding and exercisable at December 31, 1998: Outstanding Options Exercisable Options Range of Number Remaining Wtd. Avg. Number Wtd. Avg. Exercise of Life in Exercise of Exercise Prices Options Years Price Options Price $11.08-$16.26 624,244 4.1 $13.55 565,033 $13.30 18.05- 22.75 1,166,775 6.5 19.38 1,166,775 19.38 29.63- 43.63 1,140,000 9.3 35.98 463,167 32.88 Restricted Stock: Under terms of the Company's stock-based compensation plans, shares of the Company's common stock are awarded to executive officers and, to a lesser extent, directors. Restrictions on the shares generally expire one- third per year dependent on the achievement of certain market prices of the Company's common stock. Shares are valued at the market price of the Company's common stock at the date of award. The following table summarizes information about restricted stock awards for the years ended December 31: 1998 1997 1996 Wtd. Wtd. Wtd. Avg. Avg. Avg. Fair Fair Fair Shares Value Shares Value Shares Value Awarded 112,113 $38.51 85,531 $33.02 6,310 $25.67 Forfeited 5,667 34.41 - - - - Total compensation expense recognized for restricted stock in 1998, 1997 and 1996 was $2,781,000, $483,000, and $153,000, respectively. At December 31, 1998, the Company had 1,084,500 common shares available for the grant of stock options, restricted stock, or other stock-based incentive compensation. PAGE 41 12. Financial Instruments The Company has several interest rate swap agreements, including certain swaps entered into in 1998. These agreements, which expire through 2005, effectively convert $156.3 million of variable rate lease obligations to fixed rate obligations. Interest rate differentials to be paid or received are recognized over the life of each agreement as adjustments to operating expense. The Company is exposed to credit loss on the interest rate swaps, but the Company does not anticipate any loss due to the creditworthiness of its swap counter parties. The fair values of the interest rate swaps, as presented below, reflect the estimated amounts that the Company would receive or pay to terminate the contracts at the reported date. The following table presents the carrying amounts and estimated fair values of the Company's financial instruments at December 31: (Dollars in thousands) 1998 1997 Carrying Fair Carrying Fair Amount Value Amount Value Receivable (payable) for interest rate swaps $ - $ 700 $ - $ (900) Short-term borrowings 43,000 43,000 - - Long-term debt 362,105 385,000 367,484 396,000 13. Contingencies and Other Commitments In connection with the Spin-off, the Company agreed to indemnify certain states, insurance companies and sureties against the failure of CFC to pay certain worker's compensation and public liability claims that were pending as of September 30, 1996. In some cases, these indemnities are supported by letters of credit under which the Company is liable to the issuing bank and by bonds issued by surety companies. In order to secure CFC's obligation to reimburse and indemnify the Company against liability with respect to these claims, CFC has provided the Company with approximately $13.5 million of letters of credit and $22.0 million of real property collateral. In addition to letters of credit outstanding under its $350 million unsecured credit facility, the Company at December 31, 1998 had $51.5 million of letters of credit outstanding under several other unsecured letter of credit facilities. The Company has entered into an agreement to provide CFC with certain information systems, data processing and other administrative services and will administer CFC's retirement and benefits plans. The agreement has a three-year term, which expires December 2, 1999, although CFC may terminate any or all services with six months notice. The Company may terminate all services other than the telecommunications and data processing services at any time, with six months notice. Services performed by the Company under the agreement shall be paid by CFC on an arm's-length negotiated basis. The Internal Revenue Service (the IRS) has proposed adjustments that would require Emery Worldwide to pay substantial additional aviation excise taxes for the period from January 1, 1990 through September 30, 1995. The Company has filed protests contesting these proposed adjustments and is engaged in discussions with the administrative conference division (Appeals Office) of the IRS. The Company believes that there is legal authority to support the manner in which it has calculated and paid the aviation excise taxes and, accordingly, the Company intends to continue to vigorously challenge the proposed adjustments. Nevertheless, the Company is unable to predict the ultimate outcome of this matter. As a result, there can be no assurance that the Company will not have to pay a substantial amount of additional aviation excise taxes for the 1990 through 1995 tax period. In addition, it is possible that the IRS may seek to increase the amount of the aviation excise tax payable by Emery Worldwide for periods subsequent to September 30, 1995. As a result, there can be no assurance that this matter will not have a material adverse effect on the Company. The Company has received notices from the Environmental Protection Agency and others that it has been identified as a potentially responsible party (PRP) under the Comprehensive Environmental Response Compensation and Liability Act (CERCLA) or other Federal and state environmental statutes at several hazardous waste sites. Under CERCLA, PRPs are jointly and severally liable for all site remediation and expenses. After PAGE 42 investigating the Company's involvement at such sites, the Company has either agreed to de minimis settlements or, based upon cost studies performed by independent third parties, believes its obligations with respect to such sites would not have a material adverse effect on the Company's financial position or results of operations. In addition to the matters discussed above, the Company and its subsidiaries are defendants in various lawsuits incidental to their businesses. It is the opinion of management that the ultimate outcome of these actions will not have a material impact on the Company's financial position or results of operations. 14. Subsequent Event In January 1999, the Company settled a lawsuit. The net proceeds to the Company from the settlement are expected to be approximately $16 million and will be recognized as a gain in the first quarter of 1999. 15. Segment Reporting In the fourth quarter of 1998, the Company adopted SFAS 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS 131 changes the method of disclosing segment information to the manner in which the Company's chief operating decision maker organizes the components for making operating decisions, assessing performance and allocating resources. The Company has organized the segments based on the type of transportation services provided, which are described in Note 1. As required by SFAS 131, all prior years' segment data has been restated. The Company accounts for its segments under the same policies as described in the principal accounting policies footnote. Intersegment revenues and related earnings have been eliminated to reconcile to consolidated revenue and operating income. Management evaluates segment performance primarily based on revenue and operating income; therefore, other items included in pretax income, consisting primarily of interest income or expense, are not reported in segment results. Operating income is net of all corporate expenses, which are allocated based on measurable services provided each segment or for general corporate expenses allocated on a revenue and capital basis. Identifiable corporate assets consist primarily of deferred charges and other assets, property and equipment and deferred taxes. Certain corporate assets that are used to provide shared data processing and other administrative services are not allocated to individual segments. For geographic information, revenues are allocated between the United States and international, depending on whether the shipments are between locations within the United States or between locations where one or both are outside the United States. Long-lived assets outside the United States were immaterial for all periods presented. Geographic Information (Dollars in thousands) 1998 1997 1996 Revenues United States $3,963,862 $3,275,173 $2,805,135 Canada 154,899 158,884 134,484 North America 4,118,761 3,434,057 2,939,619 International 822,729 832,744 722,564 Total $4,941,490 $4,266,801 $3,662,183 PAGE 43
OPERATING SEGMENTS Adjustments, Con-Way Eliminations Transportation Emery Menlo (Dollars in thousands) Consolidated and the Parent Services Worldwide Logistics Other Year Ended December 31, 1998 Revenues $ 4,941,490 $ (103,292) $1,710,345 $2,232,815 $ 598,750 $502,872 Inter-company eliminations - 103,292 (26,354) (29,341) (11,915) (35,682) Net revenues 4,941,490 - 1,683,991 2,203,474 586,835 467,190 Operating income (loss) 290,518 - 206,945 64,299 19,459 (185) Depreciation and amortization 163,382 6,601 77,269 55,025 6,138 18,349 Capital expenditures 267,668 6,052 102,290 101,935 7,115 50,276 Identifiable assets 2,689,412 196,980 825,615 1,278,228 125,728 262,861 Year Ended December 31, 1997 (a) Revenues 4,266,801 (100,712) 1,480,364 2,278,755 473,379 135,015 Inter-company eliminations - 100,712 (7,176) (29,161) (17,487) (46,888) Net revenues 4,266,801 - 1,473,188 2,249,594 455,892 88,127 Operating income (loss) 264,867 - 147,155 113,963 17,178 (13,429) Depreciation and amortization 123,391 6,262 65,560 45,483 4,331 1,755 Capital expenditures 242,343 2,896 109,328 58,795 11,504 59,820 Identifiable assets 2,421,496 166,840 736,449 1,320,411 171,144 26,652 Year Ended December 31, 1996 (a) Revenues 3,662,183 (209,696) 1,430,629 1,982,238 372,100 86,912 Inter-company eliminations - 209,696 (138,547) (14,180) (12,723) (44,246) Net revenues 3,662,183 - 1,292,082 1,968,058 359,377 42,666 Operating income 192,148 - 101,049 78,415 10,918 1,766 Depreciation and amortization 95,746 2,746 52,707 37,288 2,402 603 Capital expenditures 200,835 434 146,377 46,939 3,427 3,658 Identifiable assets 2,081,866 172,969 687,821 1,137,631 59,491 23,954 (a) Prior years have been retated for the adoption of SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information."
PAGE 44 16. Quarterly Financial Data (Unaudited) (Dollars in thousands except per share data)
March 31 June 30 September 30 December 31 1998 - Quarter Ended Revenues $1,089,866 $1,199,654 $1,282,510 $1,369,460 Operating income 44,805 84,003 89,043 72,667(a) Income before income taxes 34,077 74,533 79,227 62,574 Income taxes 15,164 33,167 35,257 27,845 Net income 18,913 41,366 43,970 34,729 Net income available to common shareholders 16,906 39,326 41,939 32,638 Per share: Basic earnings 0.36 0.83 0.88 0.68 Diluted earnings 0.33 0.73 0.78 0.61 Market price range $34.81-$49.94 $35.00-$44.50 $26.81-$47.94 $21.63-$38.94 Common dividends paid 0.10 0.10 0.10 0.10 March 31 June 30 September 30 December 31 1997 - Quarter Ended Revenues $ 942,628 $1,002,563 $1,127,362 $1,194,248 Operating income 50,367 66,867 81,847 65,786(b) Income before income taxes 40,172 55,027 72,743 53,872 Income taxes 18,228 25,038 33,098 24,561 Net income 21,944 29,989 39,645 29,311 Net income available to common shareholders 20,005 28,018 37,694 27,286 Per share: Basic earnings 0.44 0.61 0.81 0.58 Diluted earnings 0.40 0.55 0.70 0.51 Market price range $20.25-$28.13 $26.38-$36.38 $32.13-$45.38 $37.06-$50.88 Common dividends paid 0.10 0.10 0.10 0.10 (a) Includes $5.1 million of income ($.06 per share basic and $.05 per share diluted) for the recovery of a portion of costs charged in 1997 from the discontinuance of the rail container service and certain other unusual items. (b) Includes $5.0 million charge ($.06 per share basic and $.05 per share diluted) for costs related to the discontinuance of the rail container service.
PAGE 45 Management Report on Responsibility for Financial Reporting The management of CNF Transportation Inc. has prepared the accompanying financial statements and is responsible for their integrity. The statements were prepared in accordance with generally accepted accounting principles, after giving consideration to materiality, and are based on management's best estimates and judgments. The other financial information in the annual report is consistent with the financial statements. Management has established and maintains a system of internal control. Limitations exist in any control structure based on the recognition that the cost of such system should not exceed the benefits derived. Management believes its control system provides reasonable assurance as to the integrity and reliability of the financial statements, the protection of assets from unauthorized use or disposition, and the prevention and detection of fraudulent financial reporting. The system of internal control is documented by written policies and procedures that are communicated to employees. The Company's internal audit staff independently assesses the adequacy and the effectiveness of the internal controls which are also tested by the Company's independent public accountants. The Board of Directors, through its audit committee consisting of five independent directors, is responsible for engaging the independent accountants and assuring that management fulfills its responsibilities in the preparation of the financial statements. The Company's financial statements have been audited by Arthur Andersen LLP, independent public accountants. Both the internal auditors and Arthur Andersen LLP have access to the audit committee without the presence of management to discuss internal accounting controls, auditing and financial reporting matters. /s/Gregory L. Quesnel Gregory L. Quesnel President and Chief Executive Officer /s/Chutta Ratnathicam Chutta Ratnathicam Senior Vice President and Chief Financial Officer /s/Gary D. Taliaferro Gary D. Taliaferro Controller Report of Independent Public Accountants To the Shareholders and Board of Directors of CNF Transportation Inc. We have audited the accompanying consolidated balance sheets of CNF Transportation Inc. (a Delaware Corporation) and subsidiaries as of December 31, 1998 and 1997, and the related statements of consolidated income, cash flows and shareholders' equity for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CNF Transportation Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. As explained in Note 1 to the consolidated financial statements, effective January 1, 1998, the Company changed its method of accounting for the costs of internal use software to reflect the adoption of Statement of Position 98- 1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." /s/Arthur Andersen LLP San Francisco, California January 22, 1999 PAGE 46 CNF Transportation Inc. Five Year Financial Summary
(Dollars in thousands except per share data) 1998 1997 1996 1995 1994 SUMMARY OF OPERATIONS Revenues (a) $ 4,941,490 $ 4,266,801 $ 3,662,183 $ 3,290,077 $ 2,799,935 Con-Way Transportation Services 1,683,991 1,473,188 1,292,082 1,152,164 1,018,544 Emery Worldwide 2,203,474 2,249,594 1,968,058 1,766,301 1,567,854 Menlo Logistics 586,835 455,892 359,377 287,652 167,655 Other 467,190 88,127 42,666 83,960 45,882 Operating income (loss) (a) 290,518 264,867 192,148 186,687 189,977 Con-Way Transportation Services 206,945 147,155 101,049 96,573 111,220 Emery Worldwide 64,299 113,963 78,415 81,734 77,616 Menlo Logistics 19,459 17,178 10,918 6,325 (1,909) Other (185) (13,429) 1,766 2,055 3,050 Interest expense 32,627 39,553 39,766 33,407 27,065 Net income from continuing operations before income taxes 250,411 221,814 147,132 152,942 165,129 Income taxes 111,433 100,925 66,951 66,723 69,304 Income from continuing operations (b) 130,809 113,003 71,589 75,420 76,762 Loss from discontinued operations (c) - - (52,633) (28,854) (37,442) Net Income available to common shareholders 130,809 113,003 18,956 46,566 35,710 (d) PER SHARE Net income from continuing operations, basic $ 2.74 $ 2.44 $ 1.63 $ 1.79 $ 2.12 (d) Loss from discontinued operations: (c) - - (1.20) (0.68) (1.03)(d) Net income available to common shareholders, basic 2.74 2.44 0.43 1.11 1.09 (d) Net income from continuing operations, diluted 2.45 2.19 1.48 1.64 1.81 Dividends paid on common stock 0.40 0.40 0.40 0.40 - Common shareholders' equity 15.48 13.26 10.86 15.76 14.58 STATISTICS Total Assets $2,689,412 $ 2,421,496 $ 2,081,866 $ 2,084,958 $ 1,833,742 Long-term obligations 467,635 473,488 477,201 480,410 382,757 Capital expenditures 267,668 242,343 200,835 167,253 149,808 Effective income tax rate 44.5% 45.5% 45.5% 43.6% 42.0% Basic average shares 47,659,745 46,236,688 44,041,159 42,067,842 36,183,020 Market price range $21.63-$49.94 $20.25-$50.88 $17.25-$29.38 $20.25-$27.88 $18.00-$29.25 Number of shareholders 9,870 15,560 16,090 15,980 16,015 Number of regular full-time employees 33,700 26,300 25,100 21,400 18,500 (a) Prior years have been restated for the adoption of SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." (b) Includes preferred stock dividends. (c) Reflects the results of CFC as described in Note 2 of the Notes to the Consolidated Financial Statements. (d) Continuing operations include $3.6 million extraordinary charge ($.10 per share basic and $.07 per share diluted), and discontinued operations $1.9 million ($.05 per share basic and $.04 per share diluted), net of related tax benefits, for the write-off of intrastate operating rights.
EX-21 7 EXHIBIT 21 CNF TRANSPORTATION INC. SIGNIFICANT SUBSIDIARIES OF THE COMPANY December 31, 1998 The Company and its significant subsidiaries were: State, Percent of Province or Stock Owned Country of Parent and Significant Subsidiaries by Company Incorporation CNF Transportation Inc. Delaware Significant Subsidiaries of CNF Transportation Inc. Con-Way Transportation Services, Inc. 100 Delaware Con-Way Truckload Services, Inc. 100 Delaware Emery Air Freight Corporation 100 Delaware Emery Worldwide Airlines, Inc. 100 Nevada Menlo Logistics, Inc. 100 California Road Systems, Inc. 100 California EX-27 8
5 1000 YEAR DEC-31-1998 DEC-31-1998 73897 0 831648 (21098) 41764 1100361 1721940 (737464) 2689412 907482 467635 125000 129923 348689 314878 2689412 0 4941490 0 4650972 40107 0 32627 250411 111433 138978 0 0 0 130809 2.74 2.45
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