-----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, C96MZD4N86OYI8lWWrer+3SilBipkgTwTpxR9zBwLrVRUuq8b2KA8NnuhPdyw+2f ir2To+VhonLZfhfLTS5hCQ== 0000950131-97-003189.txt : 19970508 0000950131-97-003189.hdr.sgml : 19970508 ACCESSION NUMBER: 0000950131-97-003189 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19970331 FILED AS OF DATE: 19970507 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: DONNELLEY R R & SONS CO CENTRAL INDEX KEY: 0000029669 STANDARD INDUSTRIAL CLASSIFICATION: COMMERCIAL PRINTING [2750] IRS NUMBER: 361004130 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-04694 FILM NUMBER: 97597581 BUSINESS ADDRESS: STREET 1: 77 W WACKER DR CITY: CHICAGO STATE: IL ZIP: 60601 BUSINESS PHONE: 3123268000 MAIL ADDRESS: STREET 1: 77 W WACKER DRIVE CITY: CHICAGO STATE: IL ZIP: 60601 10-Q 1 FORM 10-Q - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ----------- FORM 10-Q ----------- (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1997 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 1-4694 R. R. DONNELLEY & SONS COMPANY (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 36-1004130 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 77 WEST WACKER DRIVE, CHICAGO, ILLINOIS 60601 (ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE) OFFICES) REGISTRANT'S TELEPHONE NUMBER (312) 326-8000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to the filing requirements for the past 90 days. X Yes------- No -------- NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AS OF APRIL 30, 1997 146,354,054 -------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS
PAGE INDEX NUMBER(S) ----- --------- Condensed Consolidated Statements of Income (Unaudited) for the three months ended March 31, 1997 and 1996............... 3 Condensed Consolidated Balance Sheets as of March 31, 1997 (Unaudited) and December 31, 1996............................ 4 Condensed Consolidated Statements of Cash Flows (Unaudited) for the three months ended March 31, 1997 and 1996........... 5 Notes to Condensed Consolidated Financial Statements (Unaudited).................................................. 6-7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Comparison of First Quarter 1997 to First Quarter 1996........ 8-10 Changes in Financial Condition................................ 10 Other Information............................................. 11-12 Outlook....................................................... 12-13
PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS............................................ 14 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.......... 14 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................. 14
2 R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES ---------------- CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) FOR THE THREE MONTHS ENDED MARCH 31 (THOUSANDS OF DOLLARS, EXCEPT SHARE DATA)
1997 1996 ----------- ----------- Net sales............................................ $ 1,475,238 $ 1,535,412 Cost of sales........................................ 1,240,253 1,294,590 ----------- ----------- Gross profit......................................... 234,985 240,822 Selling and administrative expenses.................. 173,846 178,479 Restructuring charge................................. -- 512,548 ----------- ----------- Earnings (loss) from operations...................... 61,139 (450,205) Interest expense..................................... 22,561 25,083 Other (income) expense--net.......................... (6,910) (26,576) ----------- ----------- Earnings (loss) before income taxes.................. 45,488 (448,712) Provision (benefit) for income taxes................. 16,147 (71,794) ----------- ----------- Net income (loss).................................... $ 29,341 $ (376,918) =========== =========== Per common share: Net income (loss).................................. $ 0.20 $ (2.45) =========== =========== Cash dividends..................................... $ 0.19 $ 0.18 =========== =========== Average shares outstanding........................... 145,785,000 154,017,000 =========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements. 3 R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES ------------ CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) MARCH 31, 1997 AND DECEMBER 31, 1996 (THOUSANDS OF DOLLARS) ASSETS
1997 1996 ----------- ----------- Cash and equivalents............................. $ 59,939 $ 31,142 Receivables, less allowance for doubtful accounts of $33,153 and $24,735 at March 31, 1997 and December 31, 1996, respectively................. 1,152,302 1,324,252 Inventories...................................... 282,026 288,506 Prepaid expenses................................. 148,899 108,957 ----------- ----------- Total current assets........................... 1,643,166 1,752,857 ----------- ----------- Property, plant and equipment, at cost........... 4,320,429 4,289,101 Accumulated depreciation......................... 2,380,885 2,344,374 ----------- ----------- Net property, plant and equipment.............. 1,939,544 1,944,727 Goodwill and other intangibles--net.............. 520,122 541,319 Other noncurrent assets.......................... 646,944 610,101 ----------- ----------- Total assets................................... $ 4,749,776 $ 4,849,004 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY 1997 1996 ----------- ----------- Accounts payable................................. $ 457,679 $ 487,914 Accrued compensation............................. 142,696 131,644 Short-term debt.................................. 33,296 33,296 Current and deferred income taxes................ 34,578 56,163 Other accrued liabilities........................ 383,267 438,530 ----------- ----------- Total current liabilities...................... 1,051,516 1,147,547 ----------- ----------- Long-term debt................................... 1,417,729 1,430,671 Deferred income taxes............................ 258,772 253,850 Other noncurrent liabilities..................... 381,514 385,655 Shareholders' equity: Common stock, at stated value ($1.25 par value)........................................ 320,962 320,962 Retained earnings, net of cumulative translation adjustments of $30,884 and $26,580 at March 31, 1997 and December 31, 1996, respectively.................................. 1,481,100 1,486,215 Unearned compensation.......................... (14,058) (5,402) Reacquired common stock, at cost............... (147,759) (170,494) ----------- ----------- Total shareholders' equity................. 1,640,245 1,631,281 ----------- ----------- Total liabilities and shareholders' equity. $ 4,749,776 $ 4,849,004 =========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements. 4 R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES ------------ CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) FOR THE THREE MONTHS ENDED MARCH 31 (THOUSANDS OF DOLLARS)
1997 1996 --------- --------- Cash flows provided by (used for) operating activities: Net income (loss)...................................... $ 29,341 $(376,918) Restructuring charge, net of tax and minority interest. -- 410,912 Depreciation........................................... 81,617 91,556 Amortization........................................... 8,079 17,521 Gain on sale of assets................................. (8,173) (14,083) Net change in operating working capital................ 94,522 69,327 Net change in other assets and liabilities............. (23,907) 1,931 Other.................................................. 93 892 --------- --------- Net cash provided by operating activities................ 181,572 201,138 --------- --------- Cash flows provided by (used for) investing activities: Capital expenditures................................... (112,152) (143,862) Other investments including acquisitions, net of cash acquired.............................................. (33,914) (19,037) Dispositions of assets................................. 22,765 15,623 --------- --------- Net cash used for investing activities................... (123,301) (147,276) --------- --------- Cash flows provided by (used for) financing activities: Net decrease in borrowings............................. (12,942) (21,767) Disposition of reacquired common stock................. 12,735 6,544 Acquisition of common stock............................ (1,144) (4,537) Cash dividends on common stock......................... (27,665) (27,724) --------- --------- Net cash used for financing activities................... (29,016) (47,484) --------- --------- Effect of exchange rate changes on cash and equivalents.. (458) 2,248 --------- --------- Net increase in cash and equivalents..................... 28,797 8,626 Cash and equivalents at beginning of period.............. 31,142 33,122 --------- --------- Cash and equivalents at end of period.................... $ 59,939 $ 41,748 ========= =========
See accompanying Notes to Condensed Consolidated Financial Statements. 5 R. R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES ------------ NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Note 1. The condensed consolidated financial statements included herein are unaudited (although the balance sheet at December 31, 1996 is condensed from the audited balance sheet at that date) and have been prepared by the company to conform with the requirements applicable to this quarterly report on Form 10-Q. Certain information and disclosures, normally included in financial statements prepared in accordance with generally accepted accounting principles, have been omitted as permitted by such requirements. However, the company believes that the disclosures made are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the related notes included in the company's 1996 annual report on Form 10-K. The condensed consolidated financial statements included herein reflect, in the opinion of the company, all adjustments (which include only normal, recurring adjustments) necessary to present fairly the financial information for such periods. Certain immaterial prior year amounts have been reclassified to maintain comparability with current year classifications. Note 2. Components of the company's inventories at March 31, 1997 and December 31, 1996 were as follows:
(THOUSANDS OF DOLLARS) ----------------------- MARCH 31, DECEMBER 31, 1997 1996 --------- ------------ Raw materials and manufacturing supplies................ $141,438 $154,734 Work in process......................................... 185,307 183,248 Finished goods.......................................... 34,778 34,325 Progress billings....................................... (34,671) (40,475) LIFO reserve............................................ (44,826) (43,326) -------- -------- Total inventories................................... $282,026 $288,506 ======== ======== Note 3. The following provides supplemental cash flow information: (THOUSANDS OF DOLLARS) ----------------------- THREE MONTHS ENDED MARCH 31 ----------------------- 1997 1996 --------- ------------ Interest paid, net of capitalized interest.............. $ 7,130 $ 11,494 Income taxes paid....................................... $ 21,947 $ 10,724
6 Note 4. In the first half of 1996, the company provided for the restructuring and realignment of its gravure printing operations in North America, the repositioning of other businesses, the write-down of certain equipment and the impairment of intangible assets and investments in non-core businesses. These actions resulted in pre-tax charges of $561 million ($435 million after taxes and a minority interest benefit). Approximately $195 million of the charges related to its gravure platform realignment and approximately $233 million related to other manufacturing restructuring. Pre- tax cash outlays associated with the restructuring and realignment charges are expected to total approximately $177 million, of which $47 million was incurred through March 1997, with the remaining $130 million expected to be incurred through the first quarter of 1998. In addition, the company recognized the impairment of approximately $133 million in equipment, intangibles and investments in non-core businesses. The impairment loss was calculated based on the excess of the carrying amount of assets over the assets' fair values. The fair value of an asset is generally determined as the discounted estimates of future cash flows generated by the asset. The following table presents the components of the company's restructuring reserves along with charges against these reserves from their establishment until March 31, 1997:
WRITEDOWN OF PROPERTY AND ORIGINAL INVESTMENTS RESTRUCTURING RESTRUCTURING TO FAIR CASH RESERVES AS OF CHARGES VALUE PAYMENTS MARCH 31, 1997 ------------- ------------ -------- -------------- Restructuring loss on writedown of property, plant and equipment, and other assets.............. $250,731 $(250,731) $ -- $ -- Restructuring expenditures to reposition operations and close facilities...... 176,960 -- (47,439) 129,521 Impairment loss on intangible assets and investments............... 132,941 (132,941) -- -- -------- --------- -------- -------- Total restructuring reserves.................. $560,632 $(383,672) $(47,439) $129,521 ======== ========= ======== ========
Note 5. On November 25, 1996, a purported class action was brought against the company in federal district court in Chicago, Ill., on behalf of all current and former African-American employees, alleging that the company racially discriminated against them. The complaint seeks declaratory and injunctive relief, and asks for actual, compensatory, consequential and punitive damages in an amount not less than $500 million. Most of the specific factual assertions of the original complaint were related to the closing by the company of its Chicago, Ill., catalog production operations begun in 1993. The complaint was amended on February 7, 1997, to reflect more general claims applicable to other company locations. Plaintiffs have filed a motion seeking nationwide class certification. The company has filed a motion for partial summary judgment as to all claims relating to its Chicago catalog operations on the grounds that those claims are untimely. On December 18, 1995, a purported class action was filed against the company in federal district court in Chicago, Ill., alleging that older workers were discriminated against in selection for termination upon the closing of the Chicago catalog operations. The suit also alleges that the company violated the Employee Retirement Income Security Act (ERISA) in determining benefits payable to retiring or terminated employees. On October 8, 1996, plaintiffs filed a motion to maintain the ERISA claims as a class action on behalf of all company retirement plan participants who were eligible for early retirement benefits at the time of their termination. The company's position is that the proper ERISA class is limited to the former Chicago employees. Both cases relate at least in part to the circumstances surrounding the closure of the Chicago catalog operations. The company believes that it acted properly in the closing of the operations, has a number of valid defenses to all of the claims made and is vigorously defending its actions. However, management is unable to make a meaningful estimate of any loss which could result from an unfavorable outcome of either case. 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS COMPARISON OF FIRST QUARTER 1997 TO FIRST QUARTER 1996 ABOUT THE COMPANY R.R. Donnelley & Sons Company is a world leader in distributing, managing and reproducing print and digital information for the publishing, retailing, merchandising and information-technology markets worldwide. The company is the largest commercial printer in North America, with approximately 38,000 employees in 26 countries on five continents. The company is organized into sectors, which include the following business units and subsidiaries: Commercial Print Sector, which includes Merchandise Media (catalogs, retail advertising circulars and direct mail products) and Magazine Publishing Services (consumer and trade magazines). These businesses share common requirements in scale, equipment, services and distribution. Information Management Sector, which includes Book Publishing Services, Telecommunications (domestic directories) and Financial Services (financial printing and communications-process services). These businesses serve customers that need to reproduce and distribute information in a variety of formats globally and share requirements for speed, flexibility and integrated manufacturing. This sector also includes Information Services, which includes the 77 Capital venture-capital fund, creative design and communication services, and a variety of information services. These operations provide direct marketing, graphics-management and graphic-design services. Global Commercial Print Sector, which includes the company's directory, book, magazine and catalog operations outside North America--in Europe, Latin America and Asia. Stream International Holdings Inc. (Stream), which includes Modus Media International (software replication, documentation and kitting and assembly), Corporate Software & Technology (licensing and fulfillment, customized documentation, license administration and user training) and Stream International (technical and help-line support). The business was formed in April 1995 by a merger of the company's Global Software Services businesses with Corporate Software Inc. Approximately 80% owned by the company, it is the world's largest software manufacturer, marketer and technical support and service provider. Sales results by business unit for the first quarter of 1997 and 1996 are presented below: NET SALES BY BUSINESS UNIT
% OF % OF FIRST QUARTER ENDED MARCH 31, 1997 SALES 1996 SALES ----------------------------- -------- ----- -------- ----- Stream...................................... $421,943 29% $391,518 26% Merchandise Media........................... 278,129 19 291,439 19 Magazine Publishing Services................ 267,555 18 277,969 18 Book Publishing Services.................... 171,049 12 156,140 10 Telecommunications.......................... 136,239 9 148,614 10 Financial Services.......................... 115,279 8 88,114 6 Global Commercial Print..................... 71,039 5 82,507 5 Other....................................... 14,005 -- 99,111 6
CONSOLIDATED RESULTS OF OPERATIONS The company reported first quarter 1997 net income of $29 million, or $0.20 per share. In the previous year's first quarter the company reported a loss of $377 million, or $2.45 per share, reflecting 8 a $512 million pre-tax restructuring charge recorded in the period ($411 million after taxes and a minority interest benefit). Excluding the charge, net income for the first quarter of 1996 totaled $34 million, or $0.22 per share. First quarter 1997 net income declined 14% and earnings per share declined 9% from the comparable quarter in 1996, excluding the 1996 restructuring charge. The company's performance in the first quarter of 1997 was impacted by higher expenses associated with the continued development of the company's logistics and fulfillment businesses and the startup of a short-run, four-color book printing facility in Roanoke, Virginia (Roanoke facility) and the restructuring of the company's gravure and book printing operations. CONSOLIDATED NET SALES Net sales during the first quarter of 1997 decreased $60 million, or 4%, to approximately $1.5 billion, reflecting lower paper prices from the comparable quarter in 1996 (down approximately $50 million), and the company's deconsolidation of Metromail Corporation (Metromail) due to reduced ownership following the second quarter 1996 public offering (down $56 million). These declines were partially offset by increased demand, primarily in the Book Publishing Services and Financial Services business units and Stream. Net sales from foreign operations represented approximately $249 million, or 17% of total net sales in the first quarter, down 7% from $269 million, or 17% of total net sales in the year-earlier quarter. The decline in foreign sales principally reflects the discontinuation of magazine and catalog printing operations in the United Kingdom and the worldwide repositioning of Stream's international manufacturing operations, partially offset by revenue gains in central Europe. SUMMARY OF EXPENSE TRENDS
FIRST QUARTER ENDED MARCH 31, % INCREASE THOUSANDS OF DOLLARS 1997 1996 (DECREASE) - ----------------------------- --------- -------- ---------- Cost of materials................................. $ 693,430 $731,807 (5)% Cost of manufacturing............................. 457,127 453,706 1 Depreciation...................................... 81,617 91,556 (11) Amortization...................................... 8,079 17,521 (54) Selling and administrative........................ 173,846 178,479 (3) Net interest expense.............................. 22,561 25,083 (10)
EXPENSES Gross profit in the first quarter of 1997 declined 2% to $235 million, due to the company's reduced ownership of Metromail (down $19 million) and higher expenses associated with the continued development of the company's logistics and fulfillment businesses and the startup of the Roanoke facility. In addition, the indirect costs of restructuring activities (including the costs of transferring employees, equipment, retraining employees and moving work among plants) led to temporarily higher manufacturing costs in the company's gravure platform and in the United Kingdom during the period. These declines were partially offset by manufacturing cost improvements in most business units. Selling and administrative expenses in the first quarter of 1997 declined 3% to $174 million, due to the company's reduced ownership of Metromail (down $17 million) offset by volume-related increases primarily in the Financial Services business unit. The ratio of selling and administrative expense to net sales, at 12%, was the same in both the first quarters of 1997 and 1996. Interest expense 9 decreased approximately $3 million, due to lower average debt balances associated with improvements in operating working capital and the reduction of debt using a portion of the proceeds of the fourth quarter 1996 public offering of Donnelley Enterprise Solutions Incorporated (DESI). Other income in the first quarter 1997 decreased $20 million, primarily due to non-recurring events in the first quarter of 1996, including a $14 million gain on the sale of investments in the company's venture capital portfolio and a $12 million minority interest benefit arising from Stream's portion of the restructuring charge. These non-recurring events were offset by a $6 million gain, during the first quarter of 1997, on the sale of the company's interest in a magazine distribution venture in the United Kingdom. RESULTS OF OPERATIONS OF PRINT-RELATED BUSINESSES AND OF STREAM Print-Related Businesses Net sales for the company's print-related businesses (all consolidated business units other than Stream and excluding Metromail) decreased $34 million, or 3%, to approximately $1.1 billion, primarily reflecting lower paper prices. This decline was partially offset by increased demand primarily in the Book Publishing Services and Financial Services business units. Print-related businesses had operating income of $69 million, a 1% decline from the same quarter in 1996, excluding the 1996 restructuring charge. The decrease was attributable primarily to higher expenses associated with the continued development of the company's logistics and fulfillment businesses and the startup costs of the Roanoke facility. Stream Net sales for Stream increased $30 million, or 8%, to $422 million. Stream had an operating loss of approximately $8 million in the first quarter of both 1997 and 1996. The gain in revenues and improved margins and earnings in the 1997 first quarter were offset by an additional bad debt provision. CHANGES IN FINANCIAL CONDITION LIQUIDITY AND CAPITAL RESOURCES For the quarter, net cash flow provided by operating activities decreased $20 million to $181 million. The decline is primarily due to $19 million in restructuring-related expenditures and increases in cash expenses related to development costs and business startups, partially offset by improvements in operating working capital. Operating working capital (defined as inventories, accounts receivable and prepaid expenses, minus accounts payable, accrued compensation and other accrued liabilities, including the restructuring reserve) decreased $95 million in the first quarter of 1997 due primarily to a decrease in accounts receivable and inventory compared to a $69 million decrease during the first quarter of 1996. Management believes that the company's cash flow and borrowing capacity are sufficient to fund current operations and growth. Capital expenditures in the quarter totaled $112 million, including purchases for the new Roanoke facility and purchases related to revamping the company's gravure manufacturing platform. Full-year capital spending is expected to be between $450 million and $500 million. At March 31, 1997, the company had an unused revolving credit facility of $550 million with a number of banks. This credit facility provides support for the issuance of commercial paper and other credit needs. In addition, certain subsidiaries of the company had credit facilities with unused borrowing capacities totaling approximately $103 million at March 31, 1997. 10 OTHER INFORMATION Stream--On April 30, 1997, Stream announced that a registration statement had been filed with the Securities and Exchange Commission for a proposed initial public offering of common shares of its outsource technical support business unit. Immediately prior to the closing of the proposed offering, Stream will be reorganized such that the only business it conducts will be the outsource technical support business and will change its name to Stream International Inc. Stream's two other business units, Corporate Software & Technology and Modus Media International, will be spun off as two subsidiaries of a separate entity, the equity of which will be distributed to the current Stream stockholders. After completion of the reorganization and public offering, the company will own less than 40% of the outstanding shares of Stream International and less than a majority interest in the remaining two business units and will thereafter account for these interests using the equity method. Proceeds to the company from the completed offering will be used to pay down debt and for general corporate purposes. The planned offering of Stream International shares will be made only by means of a prospectus. Metromail--On June 19, 1996, Metromail completed an initial public offering of its common stock, resulting in the company's interest in Metromail being reduced to approximately 38% and the company changing its method of accounting for Metromail from consolidation to the equity method. Under the equity method, the company recognizes in income its proportionate share of net income of Metromail. Metromail had net sales and operating earnings of $56 million and $1 million, respectively, in the first quarter of 1996. DESI--On November 4, 1996, DESI completed an initial public offering of its common stock, resulting in the company's interest in DESI being reduced to approximately 43% and the company changing its method of accounting for DESI from consolidation to the equity method. Under the equity method, the company recognizes in income its proportionate share of net income of DESI. DESI's net sales and operating earnings were not material to the consolidated results of the company in 1996. Corporate Restructurings--On March 28, 1996, the company announced a $512 million pre-tax charge to first quarter earnings ($411 million after taxes and a minority interest benefit) to restructure and realign its gravure operations in North America, reposition other businesses, and write down certain equipment, investments in non-core businesses and intangible assets. Approximately $195 million of the charge was related to the gravure platform realignment. Approximately $189 million was related to other manufacturing restructuring, including approximately $92 million to reposition Stream's worldwide operations. Additionally, the company wrote down approximately $128 million in equipment, intangibles and investments in non-core businesses, in accordance with SFAS 121. On July 25, 1996, the company announced a $48 million pre-tax restructuring charge ($24 million after taxes and a minority interest benefit) primarily to restructure Stream's software manufacturing, printing, kitting and fulfillment operations. The restructuring reflects changes in customer demand, which is shifting from disk-based media and printed materials to CD-ROM and other forms of electronic media, packaging and delivery. Pre-tax cash outlays associated with the restructuring and realignment charges are expected to total approximately $177 million and will be incurred through the first quarter of 1998 ($47 million of this amount has been paid through March 31, 1997). The remaining $383 million relates to non-cash items, mainly the write-down of fixed assets and goodwill. Human Resources and Plant Closings--As part of the first-half 1996 restructuring discussed above, the company has discontinued catalog and magazine printing operations in the United Kingdom, closed Stream's Crawfordsville, Ind., documentation printing and diskette replication operations, consolidated a stand-alone book bindery in Scranton, Pa., and closed a book prepress operation in 11 Barbados. In addition, as part of the first-half 1996 restructuring, the company announced plans to close gravure-printing plants in Newton, N.C. and Casa Grande, Ariz. Litigation--On November 25, 1996, a purported class action was brought against the company in federal district court in Chicago, Ill., on behalf of all current and former African-American employees, alleging that the company racially discriminated against them. The complaint seeks declaratory and injunctive relief, and asks for actual, compensatory, consequential and punitive damages in an amount not less than $500 million. Most of the specific factual assertions of the original complaint were related to the closing by the company of its Chicago, Ill., catalog production operations begun in 1993. The complaint was amended on February 7, 1997, to reflect more general claims applicable to other company locations. Plaintiffs have filed a motion seeking nationwide class certification. The company has filed a motion for partial summary judgment as to all claims relating to its Chicago catalog operations on the grounds that those claims are untimely. On December 18, 1995, a purported class action was filed against the company in federal district court in Chicago, Ill., alleging that older workers were discriminated against in selection for termination upon the closing of the Chicago catalog operations. The suit also alleges that the company violated the Employee Retirement Income Security Act (ERISA) in determining benefits payable to retiring or terminated employees. On October 8, 1996, plaintiffs filed a motion to maintain the ERISA claims as a class action on behalf of all company retirement plan participants who were eligible for early retirement benefits at the time of their termination. The company's position is that the proper ERISA class is limited to the former Chicago employees. Both cases relate at least in part to the circumstances surrounding the closure of the Chicago catalog operations. The company believes that it acted properly in the closing of the operations, has a number of valid defenses to all of the claims made and is vigorously defending its actions. However, management is unable to make a meaningful estimate of any loss which could result from an unfavorable outcome of either case. Corporate-Owned Life Insurance--As part of the Health Insurance Portability and Accountability Act enacted in August 1996, the income tax deduction for interest on loans from corporate-owned life insurance (COLI) policies is being phased out and then eliminated, effective in 1999. The company has used loans from COLI to finance certain employee benefits liabilities, and the loss of the interest deduction may cause the company's effective tax rate to rise as the deduction is phased out over the next few years. Share Repurchase--The company announced and completed the repurchase of $250 million of its common stock in 1996, which was in addition to its ordinary purchase of 1.8 million shares for issuance under various employee stock plans. The number of shares outstanding at March 31, 1997, was 146 million, with an average outstanding number of shares for the quarter of 146 million. In the first quarter of 1996, the average outstanding number of shares was 154 million. OUTLOOK The commercial printing business in North America (the company's primary geographic market) is highly competitive in most product categories and geographic regions. Industry analysts consider most commercial print markets to suffer from overcapacity leading to fierce competition. Competition is largely based on price, quality and servicing the special needs of customers. The company believes that demand for most product categories should continue to improve over similar periods in 1996. This belief may be affected, however, by certain factors in the Financial Services and Telecommunications business units. Recent Federal Reserve actions relating to short- 12 term interest rates and proposed tax changes have created uncertainty in the capital markets. The uncertainty has affected transaction flow, which may impact results in the Financial Services business unit, particularly in the second half of the year. A significant customer of the Telecommunications business unit has modified its production cycle to move work that has been traditionally produced in the fourth quarter into the first quarter of next year. In the short term, this action will affect revenue and earnings comparisons in the current year. In the long term, it should create manufacturing efficiencies as the work is moved to slower production periods. In addition, the company expects higher expenses associated with the continued development of the company's logistics and fulfillment businesses, the startup of the Roanoke facility and the costs of restructuring activities, along with continued pricing pressures in some businesses, to continue to impact operating results throughout the year, particularly in the second quarter. Over the past three years, the company has adopted the principles of Economic Value Added (EVA) as its primary financial framework. The objective of this system is to put in place a system of value-based metrics that measures periodic progress toward shareholder value. The EVA framework guided many of the company's actions in the past 18 months. The company moved to improve its manufacturing efficiencies in 1996 by initiating the restructuring of its U.S. gravure printing platform; the closure of its magazine and catalog print operations in the United Kingdom; and integration of its Digital Division assets into other operations. These actions should generate sustainable cost savings in the long run. During 1997, as the restructuring continues, operating efficiency will decline temporarily due to the movement of equipment, retraining of people and movement of printing among facilities. This short-term disruption will continue to occur through 1997, but should provide tangible benefits in future years. Over time, the company believes that the application of the EVA financial framework to the company's decision-making process is likely to produce slower revenue growth, enhanced free cash flow, a stronger competitive position and improved returns on invested capital. 13 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On November 25, 1996, a purported class action was brought against the company alleging racial discrimination and seeking actual, compensatory, consequential and punitive damages in an amount not less than $500 million. On December 18, 1995, a purported class action was brought against the company alleging age discrimination in connection with the 1993 closing of the company's Chicago, Il. catalog operations, and violation of the Employee Retirement Income Security Act. These actions are described in the company's Annual Report on Form 10-K for the fiscal year ended December 31, 1996. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (a) The company held its Annual Meeting of Stockholders on March 27, 1997. (b) The following matters were voted upon at the Annual Meeting of Stockholders: 1. The election of the nominees for Directors of the Third Class, who will serve for a term to expire at the Annual Meeting of Stockholders to be held in 2000, was voted on by the stockholders. The nominees, all of whom were elected, were James R. Donnelley, Thomas S. Johnson, George A. Lorch and M. Bernard Puckett. The Inspectors of Election certified the following vote tabulations:
FOR WITHHELD NON-VOTES ----------- --------- --------- James R. Donnelley........................ 121,281,217 9,623,753 0 Thomas S. Johnson......................... 121,188,126 9,716,844 0 George A. Lorch........................... 121,169,954 9,735,016 0 M. Bernard Puckett........................ 121,238,909 9,666,061 0
2. A stockholder proposal relating to executive compensation was rejected by the stockholders. The Inspectors of Election certified the following vote tabulations:
FOR AGAINST ABSTAIN NON-VOTE --------- ----------- --------- --------- 6,729,102 113,446,600 5,824,011 4,905,257
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 3(ii)(a) By-Laws 3(ii)(b) Amendment to By-laws adopted March 10, 1997, and effective March 18, 1997 10(a) Employment Agreement between R. R. Donnelley & Sons Company and William L. Davis* 10(b) Premium-Priced Option Agreement between R. R. Donnelley & Sons Company and William L. Davis* 27 Financial Data Schedule
- -------- * Management contract or compensatory plan or arrangement (b) A current Report on Form 8-K was filed on April 30, 1997 and included Item 5, "Other Events" and Item 7, "Financial Statements, Pro Forma Financial Information and Exhibits." 14 SIGNATURE PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED THEREUNTO DULY AUTHORIZED. R. R. Donnelley & Sons Company /s/ Peter F. Murphy By __________________________________ Peter F. Murphy Corporate Controller (Authorized Officer and Chief Accounting Officer) May 7, 1997 Date __________________________ 15 EX-3.(II)(A) 2 BY-LAWS Exhibit 3(ii)(a) BY-LAWS OF R. R. DONNELLEY & SONS COMPANY ARTICLE I --------- Section 1.1. Principal Office. The principal office in the State of Delaware shall be in the City of Wilmington, County of New Castle, State of Delaware, and the name of the resident agent in charge thereof is The Corporation Trust Company. Section 1.2. Other Offices. The corporation may also have offices at such other places both within and without the State of Delaware as the Board of Directors may from time to time determine or the business of the corporation may require. ARTICLE II ---------- Meetings of Stockholders ------------------------ Section 2.1. Annual Meeting. The annual meeting of the stockholders shall be held on the fourth Thursday in March of each year for the purpose of electing Directors of the class for which the term expires on that date and for the transaction of such other business as may properly be brought before the meeting. Such meeting shall be held at eight o'clock in the morning or such other time during normal business hours as may be fixed by the Board of Directors and stated in the notice of the meeting. If the day fixed for the annual meeting shall be a legal holiday, the Board of Directors may, subject to the provisions of Article X hereof, designate another day on which such meeting shall be held. If the election of Directors shall not be held on the date designated for any annual meeting, or any adjournment thereof, the Board of Directors shall cause the election to be held at a special meeting of the stockholders as soon thereafter as conveniently may be. Except as otherwise provided by statute or the certificate of incorporation, the only business which properly shall be conducted at any annual meeting of the stockholders shall (i) have been specified in the written notice of the meeting (or any supplement thereto) given as provided in Section 2.4, (ii) be brought before the meeting by or at the direction of the Board of Directors or the officer of the corporation presiding at the meeting or (iii) have been specified in a written notice (a "Stockholder Meeting Notice") given to the corporation, in accordance with all of the following requirements, by or on behalf of any stockholder who is entitled to vote at such meeting. Each Stockholder Meeting Notice must be delivered personally to, or be mailed to and received by, the Secretary of the corporation at the principal executive offices of the corporation in the City of Chicago, State of Page 1 Illinois, not less than 60 days nor more than 90 days prior to the annual meeting; provided, however, that in the event that less than 75 days' notice or prior public disclosure of the date of the annual meeting is given or made to stockholders, notice by the stockholder to be timely must be received not later than the close of business on the tenth day following the day on which such notice of the date of the annual meeting was mailed or such public disclosure was made, whichever first occurs. Each Stockholder Meeting Notice shall set forth: (i) a description of each item of business proposed to be brought before the meeting and the reasons for conducting such business at the annual meeting; (ii) the name and record address of the stockholder proposing to bring such item of business before the meeting and the reasons for conducting such business at the annual meeting; (iii) the class and number of shares of stock held of record, owned beneficially and represented by proxy by such stockholder as of the record date for the meeting (if such date shall then have been made publicly available) and as of the date of such Stockholder Meeting Notice and (iv) all other information which would be required to be included in a proxy statement filed with the Securities and Exchange Commission if, with respect to any such item of business, such stockholder were a participant in a solicitation subject to Section 14 of the Securities Exchange Act of 1934. No business shall be brought before any annual meeting of stockholders of the corporation otherwise than as provided in this Section; provided, however, that nothing contained in this Section shall be deemed to preclude discussion by any stockholder of any business properly brought before the annual meeting. The officer of the corporation presiding at the annual meeting of stockholders shall, if the facts so warrant, determine that business was not properly brought before the meeting in accordance with the provisions of this Section and, if he should so determine, he should so declare to the meeting and any such business so determined to be not properly brought before the meeting shall not be transacted. (Amended 10/27/94) Section 2.2. Special Meetings. Special meetings of the stockholders, for any purpose or purposes, unless otherwise prescribed by statute or by the certificate of incorporation, may be called by the Chief Executive Officer, President, or the Chairman of the Board, and shall be called by the Secretary pursuant to a resolution duly adopted by the affirmative vote of a majority of the whole Board of Directors. Such call shall state the purposes of the proposed meeting. Business transacted at any special meeting shall be limited to the general objectives stated in the call. (Amended 12/15/88) Section 2.3. Place of Meeting. All meetings of stockholders for the election of Directors shall be held in the City of Chicago, County of Cook, State of Illinois and the Board of Directors is authorized to fix the place within the City of Chicago for the holding of such meeting. Meetings of stockholders for any other purpose may be held at such place, within or without the State of Delaware, and time as shall be stated in the notice of the meeting or in a duly executed waiver of notice thereof. (Amended 1/9/57) Page 2 Section 2.4. Notice of Meetings. Written or printed notice stating the place, day and hour of the meeting and, in case of a special meeting, the purpose or purposes for which the meeting is called, shall be delivered not less than ten nor more than fifty days before the date of the meeting, either personally or by mail, by or at the direction of the Board of Directors, the Chief Executive Officer, the Chairman of the Board or the President, to each stockholder of record entitled to vote at such meeting. If mailed, such notice shall be deemed to be delivered when deposited in the United States mail in a sealed envelope addressed to the stockholder at his address as it appears on the records of the corporation, with postage thereon prepaid. (Amended 12/15/88) Section 2.5. Closing Transfer Books or Fixing Record Date. The Board of Directors may close the stock transfer books of the corporation for a period not exceeding fifty (50) days preceding the date of any meeting of stockholders, or the date for payment of any dividend, or the date for the allotment of rights or the date when any change, or conversion or exchange of capital stock shall go into effect or for a period of not exceeding fifty (50) days in connection with obtaining the consent of stockholders for any purpose. In lieu of closing the stock transfer books as aforesaid, the Board of Directors may fix in advance a date, not exceeding fifty (50) days preceding the date of any meeting of the stockholders, or the date for payment of any dividend, or the date for the allotment of rights, or the date when any change, or conversion or exchange of capital stock shall go into effect, or a date in connection with obtaining such consent, as a record date for the determination of the stockholders entitled to notice of, and to vote at, any such meeting and any adjournment thereof, or entitled to receive payment of any such dividend, or to any such allotment of rights, or to exercise the rights in respect of any such change, conversion or exchange of capital stock, or to give such consent and in such case such stockholders and only such stockholders as shall be stockholders of record on the date so fixed shall be entitled to such notice of and to vote at, such meeting and any adjournment thereof, or to receive payments of such dividend, or to receive such allotment of rights, or to exercise such rights, or to give such consent, as the case may be notwithstanding any transfer of any stock on the books of the corporation after any such record date fixed as aforesaid. Section 2.6. Voting List. At least ten days before every election of Directors, a complete list of the stockholders entitled to vote at such election, arranged in alphabetical order with the residence of and the number of voting shares held by each, shall be prepared by the Secretary. Such list shall be open at the place where said election is to be held for ten days, to the examination of any stockholders, and shall be produced and kept at the time and place of election during the whole time thereof, and subject to the inspection of any stockholder who may be present. Section 2.7. Quorum. The holders of a majority of the stock issued and outstanding and entitled to vote thereat, present in person or represented by proxy, Page 3 shall constitute a quorum at any meeting of stockholders for the transaction of business except as otherwise provided by statute or by the certificate of incorporation. If, however, such quorum shall not be present or represented at any meeting of stockholders, the stockholders entitled to vote thereat, present in person or represented by proxy, shall have power to adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present or represented. At such adjourned meeting at which a quorum shall be present or represented any business may be transacted which might have been transacted at the meeting as originally notified. Section 2.8. Proxies. At all meetings of stockholders a stockholder may vote by proxy executed in writing by the stockholder or by his duly authorized attorney-in-fact. Such proxy shall be filed with the Secretary of the corporation before or at the time of the meeting. No proxy shall be valid after eleven months from the date of its execution, unless otherwise provided in the proxy. Section 2.9. Voting. When a quorum is present at any meeting of stockholders, the affirmative vote of the holders of a majority of the shares present in person or represented by proxy at the meeting and entitled to vote on the subject matter shall decide any question brought before such meeting, unless the question is one upon which, by express provision of the statutes, the certificate of incorporation or these by-laws, a different vote is required, in which case such express provision shall govern and control the decision of such question. Every stockholder having the right to vote shall be entitled to vote in person, or by proxy appointed by an instrument in writing subscribed by such stockholder and bearing a date not more than eleven months prior to voting, unless such instrument provides for a longer period. Every such stockholder shall have one vote for each share of stock having voting power registered in his name on the books of the corporation. Except where the transfer books of the corporation shall have been closed or a date shall have been fixed as a record date for the determination of its stockholders entitled to vote, no share of stock shall be voted on at any election for Directors which has been transferred on the books of the corporation within twenty days next preceding such election of Directors. (Amended 1/28/93) Section 2.10. Voting of Stock of Certain Holders. Shares standing in the name of another corporation, domestic or foreign, may be voted by such officer, agent or proxy as the by-laws of such corporation may prescribe or, in the absence of such provision, as the Board of Directors of such corporation may determine. Shares standing in the name of a deceased person may be voted by executor or administrator of such deceased person, either in person or by proxy. Shares standing in the name of a guardian, conservator or trustee may be voted by such fiduciary, either in person or by proxy, but no such fiduciary shall be entitled to vote shares held in such fiduciary capacity without a transfer of such shares into the name of such fiduciary. Shares standing in the name of a receiver may be voted by such receiver. A stockholder whose shares are pledged shall be entitled to vote such shares, unless in the transfer by the pledger or on the books of the corporation, Page 4 he has expressly empowered the pledgee to vote thereon, in which case only the pledgee, or his proxy, may represent the stock and vote thereon. Section 2.11. Treasury Stock. The corporation shall not vote shares of its own stock directly or indirectly; and such shares shall not be counted in determining the total number of outstanding shares. Section 2.12. Election of Directors. When a quorum is present at any meeting of stockholders, directors shall be elected by a plurality of the votes of the shares present in person or represented by proxy at such meeting of stockholders and entitled to vote on the election of directors. (New Section 10/22/92) ARTICLE III ----------- Directors --------- Section 3.1. General Powers. The property and business of the corporation shall be managed by its Board of Directors which may exercise all such powers of the corporation and do all such lawful acts and things as are not by statute or by the certificate of incorporation or by these by-laws directed or required to be exercised or done by the stockholders. (Amended 9/28/90) Without limiting the generality of the foregoing, it shall be the responsibility of the Board of Directors to establish broad objectives and the general course of the business, determine basic policies, appraise the adequacy of overall results, and generally represent and further the interests of the Company's stockholders and insure the most effective use of the Company's assets. Several examples of the responsibilities of the Board are as follows: 1. Establish broad Company objectives and basic policies and maintain overall control of the business. 2. Make necessary revisions of the by-laws (in accordance with Article X). 3. Determine dividend action (in accordance with Article VIII). 4. Authorize necessary action with respect to issuance of new securities and listing securities for trading on exchanges. 5. Fix time and place and take other necessary action with respect to stockholders meetings (in accordance with Article II). 6. Approve issuance of stock certificates to replace those lost or destroyed (in accordance with Section 7.2). Page 5 7. Fill Vacancies in the Board of Directors (in accordance with Section 3.8). 8. Elect the officers of the corporation (in accordance with Section 4.2.) and appraise their performance. 9. Determine the basic organization structure of the business. 10. Authorize any necessary action with respect to loans and pledging of assets (in accordance with Section 6.2.). 11. Designate officers authorized to buy or sell corporate investment securities. 12. Designate persons authorized to execute contracts and other documents requiring signatures of officers or specific individuals (in accordance with Section 6.1). 13. Select, or designate those authorized to select, depositaries for corporate funds and investment securities and designate check signatories and persons authorized to have access to safe deposit boxes (in accordance with Sections 6.3 and 6.4). 14. Approve proposals to convey corporate-owned land or buildings or designate those authorized to take such action. 15. Designate the person or persons authorized to appoint proxies to vote stock in subsidiary and other concerns in which the corporation has a significant interest and the person or persons authorized to determine who shall serve as Directors in representing the parent corporation in such concerns. 16. Designate stock transfer agents, registrars, and paying agents with respect to corporate securities and other special purpose agents. 17. Procure special professional services required by and for the Board. 18. Provide for issuance of an annual report to stockholders and such other reports and notices as the Board deems advisable. 19. Employ, upon recommendation of the Audit Committee (in accordance with Section 3.13), public accountants to audit the corporation's financial statements. 20. Review and approve new employee benefit plans and major revisions of employee stock incentive plans. Page 6 21. Review and approve the actions of the Executive Committee as reported in the minutes of their meetings. 22. Approve the annual operating budget. 23. Review and approve the annual capital budget. 24. Direct the manner of handling matters outside the ordinary course of business of the corporation. Section 3.2. Number, Election and Term. The number of Directors which shall constitute the whole Board shall be thirteen (13) of whom four (4) shall be Directors of the First Class, five (5) shall be Directors of the Second Class and four (4) shall be Directors of the Third Class. The term of office of each class shall be three years, with the term of one class expiring in each year, and the successors to the class of Directors whose terms shall expire shall be elected at each annual election or adjournment thereof. Each Director shall hold office until his successor shall be elected and shall qualify or until his earlier resignation or removal. Directors need not be residents of Delaware or stockholders. (Amended 9/29/95, 11/7/96, 3/18/97) Section 3.3. Meetings. The Board of Directors may hold meetings, both regular and special, either within or without the State of Delaware. Regular meetings of the Board of Directors may be held without notice at such time and such place as may from time to time be determined by the Board. Special meetings of the Board of Directors may be called by or at the request of the Chief Executive Officer, the Chairman of the Board, a Vice Chairman, President, or any two directors. (Amended 12/15/88) Section 3.4. Notice. Notice of any special meeting of the Board of Directors stating the place, date and hour of the special meeting shall be given in writing to each director, either personally, or by mail, telex, telegram or cable, addressed to the director's residence or usual place of business, not less than two days before the date of such meeting, or by such other means, whether or not in writing, and within such lesser period, as circumstances require in the reasonable judgment of the person calling the meetings. If mailed, such notice shall be deemed to be given at the time when it is deposited in the United States mail with first class postage prepaid. Notice by telegram or cable shall be deemed given when the notice is delivered to the telegraph or cable company; notice by telex shall be deemed given when the notice is transmitted by telex. Any director may waive notice of any meeting. The attendance of a director at any meeting shall constitute a waiver of notice at such meeting, except where the director attends the meeting for the express purpose of objecting to the transaction of any business because the meeting is not lawfully called or convened. Neither the business to be transacted at, nor the purpose of, any special meeting of the Board of Directors need be specified in the Page 7 notice or waiver of notice of such meeting, unless otherwise provided by statute, the Certificate of Incorporation or these By-Laws. (Amended 6/24/76) Section 3.5. Quorum. A majority of the Board of Directors shall constitute a quorum for the transaction of business at any meeting of the Board of Directors, provided, that if less than a majority of the Directors are present at said meeting, a majority of the Directors present may adjourn the meeting from time to time without further notice. (Renumbered 6/24/76) Section 3.6. Manner of Acting. The act of the majority of the Directors present at a meeting at which a quorum is present shall be the act of the Board of Directors. (Renumbered 6/24/76) Section 3.7. Use of Communications Equipment. Members of the Board of Directors, or any committee thereof, may participate in a meeting of the Board of Directors or committee by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and participation in a meeting pursuant to this section shall constitute presence in person at such meeting. (New Section 6/24/76) Section 3.8. Vacancies and Additional Directors. Any director may resign at any time upon written notice to the corporation. If any vacancy occurs in the Board of Directors caused by death, resignation, retirement, disqualification or removal from office of any Director, or otherwise, or if any new directorship is created by any increase in the authorized number of Directors, a majority of the Directors then in office, though less than a quorum may choose a successor or fill the newly created directorship; and a Director so chosen shall hold office until the next annual election at which Directors of the class to which he was chosen are elected and until his successor shall be duly elected and shall qualify or until his earlier resignation or removal. (Amended 3/26/70) Section 3.9. Compensation. Directors who are not full-time employees of the Company shall receive a stated salary and may receive options to purchase shares of the Company's stock as provided under the Company's stock plans, for their services, and, in addition thereto, shall receive a fixed fee and expenses, if any, for attendance at each regular or special meeting of the Board of Directors from time to time. Directors who are full-time employees of the Company shall not receive any compensation for their services as such; provided that nothing herein contained shall be construed to preclude any Director from serving the corporation in any other capacity and receiving compensation thereof. (Amended 3/28/91) Section 3.10. Executive Committee. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate not fewer than three nor more than seven Directors to constitute an Executive Committee. The Chairman of the Executive Committee shall be the Chief Executive Officer. The Executive Committee shall have and exercise all of the authority of the Board of Directors in Page 8 the management of the corporation, except that such Committee shall not have the power to take specific actions which have been delegated to other committees of the Board and shall not be empowered to take action with respect to: declaring dividends; issuing bonds, debentures, or the borrowing of moneys except within limits expressly approved by the Board of Directors; amending by-laws; filling vacancies and newly created directorships in the Board of Directors; removing Directors of the corporation; mergers or consolidations; the sale, lease or exchange of all or substantially all of the assets of the corporation; dissolution; or any other action requiring the approval of stockholders. The designation of such Committee and the delegation thereto of authority shall not operate to relieve the Board of Directors or any member thereof of any responsibility imposed upon it or him by law. (Amended 9/28/90, 10/26/95) Section 3.11. Finance Committee. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate not fewer than three nor more than seven Directors, a majority of whom shall not be employees of the Company, to constitute a Finance Committee, which Committee is charged with reviewing the overall financial policies of the Company and making recommendations to the Board regarding the Company's financial condition and requirements for and disposition of funds, including: capital structure, raising long-term capital, dividend policy, and material changes in the Company's financial position with respect to cash, investments, debt and accounts receivable. The Committee shall review the performance and management of the Company's Retirement Benefit Plan including the investment policy, the performance of the Investment Trustee on a regular periodic basis, the reasonableness of the actuarial assumptions in relation to investment performance, the funding status of the Plan and shall make recommendations with respect to the selection of one or more investment trustees or other investment agencies, and undertake such other studies and make such other recommendations to the Board as it may deem desirable with respect to the Investment Trust of the Retirement Benefit Plan. (Amended and Renamed 9/28/90, 10/26/95) Section 3.12. Human Resources Committee. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate not fewer than three nor more than seven Directors who are not employees of the Company, to constitute a Human Resources Committee. The Human Resources Committee shall determine the annual salary, bonus and other benefits of selected senior officers and key management employees of the Company and review, as appropriate, performance standards under compensation programs for key employees. The Human Resources Committee shall also recommend to the Board candidates for election as corporate officers. The Human Resources Committee shall recommend new employee benefit plans and changes to stock incentive plans to the Board, approve amendments to the non-stock employee benefit plans of the Company and oversee the administration of all of the Company's employee benefit plans. The Human Resources Committee Page 9 may delegate to one or more officers of the Company the power to approve any amendment of any non-stock employee benefit plan of the Company or the Donnelley Tax Credit Stock Ownership Plan which in the reasonable opinion of such officer will not materially affect the costs to the Company of, or benefits under, such plans. (Amended 7/22/93, 10/26/95, 1/25/96) Section 3.13. Audit Committee. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate not fewer than three nor more than seven Directors who are not employees of the Company to constitute an Audit Committee, which Committee shall review on behalf of the stockholders of the Company: the qualifications and services of the independent public accountants employed by the Company from time to time to audit the books of the Company, the scope of their audits, the adequacy of their audit reports, and recommendations made by them. The Committee may also make such reviews of internal financial audits and controls as the Committee considers desirable. The Audit Committee will recommend to the Board the selection of the independent public accountants. The Audit Committee shall review the Company's financial disclosure documents, management perquisites, significant developments in accounting principles and significant proposed changes in financial statements. The Audit Committee shall also review and monitor the Company's codes of conduct to guard against significant conflicts of interest and dishonest, unethical or illegal activities. The Audit Committee shall review periodically the performance of the Company's accounting and financial personnel, and shall review material litigation and regulatory proceedings and other issues relating to potentially significant corporate liability. (Amended 9/28/90, 10/26/95) Section 3.14. Nominating and Governance Committee. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate not fewer than three nor more than seven Directors to constitute a Nominating and Governance Committee, which Committee shall recommend to the Board nominees for election to the Board of Directors in connection with any meeting of stockholders at which directors are to be elected and persons for appointment to fill any Board vacancy which the Board of Directors is authorized under the By- Laws to fill. The Committee may also recommend to the Board policies or guidelines concerning criteria for Board membership, the structure and composition of Board Committees, the size and composition of the Board and the selection, tenure and retirement of Directors and matters related thereto. (Amended 9/28/90, 10/26/95, 1/25/96) Section 3.15. Other Committees. The Board of Directors, by resolution adopted by a majority of the whole Board, may designate two or more Directors to constitute committees other than the Executive Committee, Finance Committee, Human Resources Committee, Audit Committee and Nominating and Governance Page 10 Committee, which committees shall have and exercise such authority as may be provided for in the resolution creating such committee. (Amended 9/28/90, 1/25/96) Section 3.16. Honorary Directors. The Board of Directors may select from time to time, and for such periods of time as it may deem appropriate, one or more past Chairmen of the Board, Presidents or Chief Executive Officers elected a Director prior to September 28, 1990, to serve as Honorary Directors. Honorary Directors shall be entitled to receive notice of and to attend all meetings of the Board of Directors, to receive copies of all reports or other communications made to the Board of Directors, to give counsel and advice on any subject, to receive such fees and expense reimbursements as may be provided from time to time by the Board of Directors. The Board of Directors, Chief Executive Officer, Chairman of the Board or President may invite an Honorary Director to attend meetings of any committee of the Board of Directors or to undertake temporary assignments, but this shall not preclude any other arrangements, consulting or otherwise, between the corporation and an Honorary Director. The presence or absence of an Honorary Director shall not be counted for purposes or determining the existence of a quorum. Honorary Directors shall not have the right to vote on any matters voted on by the Board of Directors or any of the rights, duties, privileges, or responsibilities of Directors of the corporation. (Amended 9/28/90) Section 3.17. Nomination of Directors. Except as otherwise fixed pursuant to the certificate of incorporation relating to the rights of the holders of any one or more classes or series of Preferred Stock issued by the corporation, acting separately by class or series, to elect, under specified circumstances, directors at a meeting of stockholders, nominations for the election of directors may be made by the Board of Directors or a committee appointed by the Board of Directors pursuant to Section 3.14 or by any stockholder entitled to vote in the election of directors generally. However, any stockholder entitled to vote in the election of directors generally may nominate one or more persons for election as directors at a meeting at which directors are to be elected only if written notice of such stockholder's intent to make such nomination or nominations has been delivered personally to, or been mailed to and received by, the Secretary of the corporation at the principal executive offices of the corporation in the City of Chicago, State of Illinois, not less than 60 days nor more than 90 days prior to the meeting; provided, however, that, in the event that less than 75 days' notice or prior public disclosure of the date of the meeting is given or made to stockholders, notice by the stockholder to be timely must be so received not later than the close of business on the tenth day following the day on which such notice of the date of the meeting was mailed or such public disclosure was made, whichever first occurs. Each such notice shall set forth: (i) the name and record address of the stockholder who intends to make the nomination; (ii) the name, age, principal occupation or employment, business address and residence address of the person or persons to be nominated; (iii) the class and number of shares of stock held of record, owned beneficially and represented by proxy by such stockholder and by the person or persons to be Page 11 nominated as of the record date for the meeting (if such date shall then have been made publicly available) and of the date of such notice; (iv) a representation that the stockholder intends to appear in person or by proxy at the meeting to nominate the person or persons specified in the notice; (v) a description of all arrangements or understandings between such stockholder and each nominee and any other person or persons (naming such person or persons) pursuant to which the nomination or nominations are to be made by such stockholder; (vi) such other information regarding each nominee proposed by such stockholder as would be required to be included in a proxy statement filed pursuant to the Securities Exchange Act of 1934 and the proxy rules of the Securities and Exchange Commission; and (vii) the consent of each nominee to serve as a director of the corporation if so elected. The corporation may require any proposed nominee to furnish such other information as may reasonably be required by the corporation to determine the eligibility of such proposed nominee to serve as a director of the corporation. The officer of the corporation presiding at the annual meeting of stockholders shall, if the facts so warrant, determine that a nomination was not made in accordance with the provisions of this Section, and if he should so determine, he should so declare to the meeting and the defective nomination shall be disregarded. No person shall be eligible for election as a director of the corporation unless nominated in accordance with the procedures set forth herein. (Added 3/24/88) ARTICLE IV ---------- Officers of the Corporation --------------------------- Section 4.1. Officers and Number. The officers of the corporation shall be a Chief Executive Officer, a Chairman of the Board, one or more Vice Chairmen, a President, one or more Executive Vice Presidents, one or more Sector Presidents, one or more Business Unit Presidents, one or more Senior Vice Presidents, one or more Vice Presidents, a Secretary, a Treasurer, a Controller, a General Counsel, one or more Assistant Secretaries, one or more Assistant General Counsels, one or more Assistant Treasurers and one or more Assistant Controllers. Any two or more offices may be held by the same person except the offices of President and Secretary. The Chief Executive Officer shall be either the Chairman, a Vice Chairman or the President, as designated by the Board of Directors. The Board of Directors may elect one or more Vice Chairmen of the Board and one or more Executive Vice Presidents. The Board of Directors may elect an Honorary Director to the office of Honorary Chairman of the Board. (Amended 1/27/94) Section 4.2. Election and Term of Office. The officers of the corporation shall be elected annually by the Board of Directors at the first meeting of the Board of Directors held after each annual meeting of the stockholders. If the election of officers shall not be held at such meeting, such election shall be held as soon thereafter as conveniently may be. Vacancies may be filled or new offices created and filled at any meeting of the Board of Directors. Each officer shall hold office Page 12 until his successor shall have been duly elected and shall have qualified or until his death or until he shall resign or shall have been removed in the manner hereinafter provided. (Adopted 10/21/60) Section 4.3. Removal. Any officer elected by the Board of Directors may be removed by the Board of Directors whenever in its judgment the best interests of the corporation would be served thereby. (Amended 12/15/88) Section 4.4. Vacancies. A vacancy in any office because of death, resignation, removal, disqualification or otherwise, may be filled by the Board of Directors for the unexpired portion of the term. (Adopted 10/21/60) Section 4.5. Salaries. No officer shall be prevented from receiving a salary for his services as an officer by reason of the fact that he is also a Director of the corporation. Section 4.6. Chief Executive Officer. The Chief Executive Officer shall have overall supervision of, and responsibility for, the business, and shall direct the affairs and policies of the corporation. (Adopted 12/15/88) Section 4.7. Chairman of the Board. The Chairman of the Board shall preside at all meetings of the stockholders and Board of Directors. The Chairman of the Board shall perform such other duties and responsibilities as may be assigned to him by the Board of Directors. (Amended 9/28/90) Section 4.8. Vice Chairmen of the Board. The Vice Chairmen of the Board shall, in the absence of the Chairman of the Board (in the order prescribed by the Board), preside at all meetings of the stockholders and Board of Directors, and shall perform such other duties as may be assigned to them by the Board of Directors. (Amended 12/15/88) Section 4.9. Honorary Chairman of the Board. The Honorary Chairman of the Board shall consult with the Chief Executive Officer and other officers of the corporation, as he or they shall determine, with respect to the general policies and affairs of the corporation, and shall have such authority and perform such duties as from time to time may be prescribed by the Board of Directors or as may be granted by the Chief Executive Officer. (Renumbered 9/28/90) Section 4.10. President. Subject to the supervision and direction of the Chief Executive Officer, the President shall have responsibility for such of the operations and other functions of the corporation as may be assigned to him. The President shall perform such other duties and responsibilities as may be assigned to him by the Chief Executive Officer. In the absence of the Chairman of the Board and Vice Chairmen of the Board, the President shall preside at meetings of the stockholders and Board of Directors. (Renumbered and Amended 9/28/90) Page 13 Section 4.11. Vice Presidents. Each Vice President shall have such corporate powers, if any, as may be assigned to him from time to time by the Board of Directors, Chief Executive Officer, Chairman of the Board or the President. (Renumbered 9/28/90) Section 4.12. Senior Vice Presidents. Each Senior Vice President shall have such corporate powers, if any, as may be assigned to him by the Board of Directors, Chief Executive Officer, Chairman of the Board or the President. (Renumbered 9/28/90) Section 4.13. Sector Presidents. The Board of Directors may from time to time designate as Sector President one or more of the individuals who occupies the position of senior officer heading a Sector consisting of one or more business units and to whom one or more of the Business Unit Presidents reports. (Amended 1/27/94) Section 4.14. Business Unit Presidents. The Board of Directors may from time to time designate as Business Unit President one or more of the individuals who occupies the position of senior officer heading a business unit consisting of one or more divisions and one or more sales units and who reports to one or more of the Sector Presidents or other senior officers of the corporation. (Added 1/27/94) Section 4.15. Executive Vice Presidents. The Board of Directors may designate as an Executive Vice President the officer to whom one or more other senior officers of this corporation reports. (Amended and Renumbered 1/27/94) Section 4.16. Order of Succession. Such of the directors of the corporation as shall be designated by resolution of the Board of Directors, and in the order of such designation, shall in the absence of the Chairman of the Board perform the duties of the Chairman of the Board and shall have all of the powers and shall be subject to any restrictions imposed upon the Chairman. Such of the officers of the corporation as may be designated by resolution of the Board of Directors, and in the order of such designation, shall in the absence of the Chief Executive Officer, perform the duties of the Chief Executive Officer and when so acting shall have all the powers of and be subject to any restrictions imposed upon the Chief Executive Officer. Such of the officers of the corporation as may be designated by resolution of the Board of Directors, and in the order of such designation, shall in the absence of the President perform the duties of the President and when so acting shall have all the powers of and be subject to any restrictions imposed upon the President. (Renumbered 1/27/94) Page 14 Section 4.17. Secretary. The Secretary shall keep the minutes of all meetings of the stockholders and Board of Directors of the corporation, shall have charge of the corporate records and the corporate seal, and shall have the power to attach the seal to all instruments which shall require sealing after the same shall have been signed as authorized by the Board of Directors. (Renumbered 1/27/94) Section 4.18. Treasurer. The Treasurer shall be responsible for the receipt, custody and disbursement of all funds of the corporation in the form of both cash and securities. He may delegate the details of his office to someone in his stead, but this shall nowise relieve him of the responsibilities and liability of his office. The Treasurer shall have the power to attach the seal to all instruments which shall require sealing after the same shall have been signed as authorized by the Board of Directors. (Renumbered 1/27/94) Section 4.19. Controller. The Controller reports to the Chief Executive Officer directly or through such other management executives as the Chief Executive Officer may direct. The Controller, however, may directly submit any matter to the Board of Directors for their consideration. The Controller shall maintain adequate records of all assets, liabilities, and transactions of the corporation, and in conjunction with other officers and department heads, shall initiate and enforce measures and procedures whereby the business of the corporation shall be conducted with the maximum of safety, efficiency and economy. He shall attend that part of the meetings of the Board of Directors which is concerned with the review of the financial and operating reports of the business, except when, in the discretion of the Board, he shall be asked not to attend. (Renumbered 1/27/94) Section 4.20. General Counsel. The General Counsel shall be the chief legal officer of the corporation and have legal responsibility for all aspects of the business. The General Counsel shall have the power to attach the seal to all instruments which shall require sealing after the same shall have been signed as authorized by the Board of Directors. (Renumbered 1/27/94) Section 4.21. Assistant Treasurers. The Assistant Treasurers shall in the absence of the Treasurer perform all functions and duties of the Treasurer and in addition shall perform such functions and duties as the Treasurer may delegate, but this shall in nowise relieve the Treasurer of the responsibilities and liability of his office. (Renumbered 1/27/94) Section 4.22. Assistant Secretaries. The Assistant Secretaries shall in the absence of the Secretary perform all functions and duties of the Secretary and in addition shall assume such functions and duties as the Secretary may delegate, but this shall in nowise relieve the Secretary of the responsibilities and liability of his office. (Renumbered 1/27/94) Page 15 Section 4.23. Assistant General Counsels. The Assistant General Counsels shall in the absence of the General Counsel perform all functions and duties of the General Counsel and in addition shall assume such functions and duties as the General Counsel may delegate, but this shall in nowise relieve the General Counsel of the responsibilities and liabilities of his office. (Renumbered 1/27/94) Section 4.24. Assistant Controllers. The Assistant Controllers shall in the absence of the Controller perform all functions and duties of the Controller and in addition shall assume such functions and duties as the Controller may delegate, but this shall in nowise relieve the Controller of the responsibilities and liabilities of such office. (Renumbered 1/27/94) ARTICLE V --------- Appointed Officers ------------------ The Chief Executive Officer may appoint officials assigned to a particular Sector or other business unit as such officers of such Sector or business unit and having such titles as he shall deem appropriate. Any such officer appointed by the Chief Executive Officer may be removed by the Chief Executive Officer whenever in his judgment the best interests of the corporation would be served thereby. The term of office, compensation, powers and duties and other terms of employment of appointed officers shall be such as the Chief Executive Officer may from time to time deem proper, and the authority of such officers shall be limited to acts pertaining to the business of such Sector or business unit. (Amended 1/27/94) ARTICLE VI ---------- Contracts, Loans, Checks and Deposits ------------------------------------- Section 6.1. Contracts. The Board of Directors may authorize any officer or officers, agent or agents, to enter into any contract or execute and deliver any instrument in the name of and on behalf of the corporation, and such authority may be general or confined to specific instances. Section 6.2. Loans. No loans shall be contracted on behalf of the corporation and no evidence of indebtedness shall be issued in its name unless authorized by a resolution of the Board of Directors (or a resolution of a committee of Directors pursuant to authority conferred upon that committee). Such authority may be general or confined to specific instances. Section 6.3. Checks, etc. All checks, demands, drafts or other orders for the payment of money, notes or other evidences of indebtedness issued in the name of the corporation shall be signed by such officer or officers or such agent or agents of Page 16 the corporation, and in such manner, as may be designated by the Board of Directors or by one or more officers of the corporation named by the Board of Directors for such purpose. Section 6.4. Deposits. All funds of the corporation not otherwise employed shall be deposited from time to time to the credit of the corporation in such banks, trust companies and other depositaries as the Board of Directors may select. (Entire Article Renumbered 6/28/84) ARTICLE VII ----------- Certificates of Stock and Their Transfer ---------------------------------------- Section 7.1. Certificates of Stock. Certificates of stock of the corporation shall be in such form as may be determined by the Board of Directors, shall be numbered and shall be entered in the books of the corporation as they are issued. They shall exhibit the holder's name and number of shares and shall be signed by the Chief Executive Officer, Chairman of the Board or President or a Vice President and by the Secretary or Assistant Secretary or the Treasurer or an Assistant Treasurer. If any stock certificate is signed manually (a) by a transfer agent other than the corporation or its employee or (b) by a registrar other than the corporation or its employee, any other signature on the certificate may be a facsimile. In case any officer, transfer agent, or registrar who has signed or whose facsimile has been placed upon a certificate shall have ceased to be such officer, transfer agent or registrar before such certificate is issued, such certificate may nevertheless be issued by the corporation with the same effect as if he were such officer, transfer agent, or registrar at the date of issue. All certificates properly surrendered to the corporation for transfer shall be cancelled and no new certificates shall be issued to evidence transferred shares until the former certificate for at least a like number of shares shall have been surrendered and cancelled and the corporation reimbursed for any applicable taxes on the transfer, except that in the case of a lost, destroyed or mutilated certificate, a new one may be issued therefor upon such terms, and with such indemnification (if any) to the corporation, as the Board of Directors may prescribe specifically or in general terms or by delegation to a transfer agent for the corporation. Certificates shall not be issued representing fractional shares of stock. (Amended 12/15/88) Section 7.2. Lost Certificates. The Board of Directors may direct a new certificate or certificates to be issued in place of any certificate or certificates theretofore issued by the corporation alleged to have been lost or destroyed upon the making of an affidavit of that fact by the person claiming the certificate of stock to be lost or destroyed. When authorizing such issue of a new certificate or Page 17 certificates, the Board of Directors may, in its discretion and as a condition precedent to the issuance thereof, require the owner of such lost or destroyed certificates, or his legal representative, to advertise the same in such manner as it shall require and/or to give the corporation a bond in such sum as it may direct as indemnity against any claim that may be made against the corporation with respect to the certificate alleged to have been lost or destroyed. Section 7.3. Transfers. Upon surrender to the corporation or the transfer agent of the corporation of a certificate for shares duly endorsed or accompanied by proper evidence of succession, assignment or authority to transfer, it shall be the duty of the corporation to issue a new certificate to the person entitled thereto, cancel the old certificate and record the transaction upon its books. Transfers of shares shall be made only on the books of the corporation by the registered holder thereof or by his attorney thereunto authorized by power of attorney and filed with the Secretary or transfer agent of the corporation. Section 7.4. Registered Stockholders. The corporation shall be entitled to treat the holder of record of any share or shares of stock as the holder in fact thereof and, accordingly, shall not be bound to recognize any equitable or other claim to or interest in such share or shares on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise provided by the laws of Delaware. (Entire Article Renumbered 6/28/84) ARTICLE VIII ------------ Dividends --------- Section 8.1. Declaration. Dividends upon the capital stock of the corporation, subject to the provisions of the certificate of incorporation, if any, may be declared by the Board of Directors at any regular or special meeting, pursuant to law. Dividends may be paid in cash, in property, or in shares of the capital stock, subject to the provisions of the certificate of incorporation. Section 8.2. Reserve. Before payment of any dividend, there may be set aside out of any funds of the corporation available for dividends such sum or sums as the Directors from time to time, in their absolute discretion, think proper as a reserve or reserves to meet contingencies, or for equalizing dividends, or for repairing or maintaining any property of the corporation, or such other purposes as the Directors shall think conducive to the interest of the corporation, and the Directors may modify or abolish any such reserve in the manner in which it was created. (Entire Article Renumbered 6/28/84) Page 18 ARTICLE IX ---------- Miscellaneous ------------- Section 9.1. Fiscal Year. Unless otherwise fixed by the resolution of the Board of Directors, the fiscal year of the corporation shall be the calendar year. Section 9.2. Seal. The corporate seal shall have inscribed thereon the name of the corporation and the words "Corporate Seal, Delaware." The seal may be used by causing it or a facsimile thereof to be impressed or affixed or otherwise reproduced. Section 9.3. Books. The books of the corporation may be kept (subject to any provision contained in the statutes) outside the State of Delaware at the offices of the corporation at Chicago, Illinois, or at such other place or places as may be designated from time to time by the Board of Directors. (Entire Article Renumbered 6/28/84) ARTICLE X --------- Amendment --------- These by-laws may be altered or repealed at any regular meeting of the Board of Directors or at any special meeting of the Board of Directors if notice of such alteration or repeal be contained in the notice of such special meeting, provided that no amendment of these by-laws shall conflict with the provisions of the Certificate of Incorporation, whether relating to the number of Directors which shall constitute the whole Board or the number of Directors of any class or otherwise. (Renumbered 6/28/84) Page 19 EX-3.(II)(B) 3 AMENDMENT TO BY-LAWS Exhibit 3(ii)(b) R. R. Donnelley & Sons Company Amendment to By-Laws Effective March 18, 1997 FURTHER RESOLVED, that subject to and upon the execution of the Employment Agreement by Davis and the delivery of the Employment Agreement to the Secretary of the Company, Section 3.2 of the Company's By-Laws be and hereby is amended to delete the first sentence thereof and substitute the following therefor: The number of Directors which shall constitute the whole Board shall be thirteen (13) of whom four (4) shall be Directors of the First Class, five (5) shall be Directors of the Second Class and four (4) shall be Directors of the Third Class. EX-10.(A) 4 EMPLOYMENT AGREEMENT--RRD & WILLIAM L. DAVIS EMPLOYMENT AGREEMENT -------------------- EMPLOYMENT AGREEMENT dated as of March 18, 1997 between R. R. Donnelley & Sons Company, a Delaware corporation (the "Company"), and William L. Davis (the "Executive"). WHEREAS, the Company is a world leader in distributing, managing and reproducing print and digital information for the publishing, retailing, merchandising and information technology markets worldwide; WHEREAS, the Company desires to employ the Executive to serve as Chairman of the Board and Chief Executive Officer of the Company, upon the terms and subject to the conditions set forth herein; NOW, THEREFORE, in consideration of the premises and the mutual agreements contained herein, the parties hereby agree as follows: 1. Employment. The Company hereby employs the Executive and the Executive hereby agrees to be employed by the Company upon the terms and subject to the conditions contained in this Agreement. The term of employment of the Executive by the Company pursuant to this Agreement (the "Employment Period") shall commence on the date hereof and, unless earlier terminated pursuant to Section 4, shall end on March 31, 2002; provided, however, that the term of this Agreement shall be automatically extended until March 31, 2004, unless either the Company or the Executive shall have terminated the automatic extension provisions of this sentence by giving written notice to the other party no later than September 30, 2001; and provided further, that the term of this Agreement shall in no event extend beyond March 31, 2004. 2. Position and Duties; Responsibilities. (a) Position and Duties. The Company shall employ the Executive during the Employment Period as its Chief Executive Officer. Commencing on March 28, 1997, the Company shall employ the Executive during the Employment Period as its Chairman of the Board. During the Employment Period, the Executive shall perform the duties properly assigned to him hereunder, shall devote substantially all of his business time, attention and effort to the affairs of the Company and shall use his reasonable best efforts to promote the interests of the Company. Notwithstanding the foregoing, the Executive may (i) manage his personal investments and affairs; (ii) engage in charitable, civic or community activities; and (iii) with the prior approval of the Board of Directors of the Company (the "Board"), serve as a director of any business corporation, provided that such activities or service do not materially interfere with the proper performance of his duties and responsibilities under this Agreement. (b) Responsibilities. Subject to the powers, authority and responsibilities vested in the Board and in duly constituted committees of the Board, the Executive shall have the authority -2- and responsibility for the formulation and execution of the corporate policy of the Company and shall exercise all responsibilities customarily exercised by the Chief Executive Officer and, on and after March 28, 1997, the Chairman of the Board, of a company of the size and nature of the Company. The Executive shall also perform such other duties (not inconsistent with his positions of Chairman of the Board and Chief Executive Officer) on behalf of the Company and its subsidiaries as may from time to time be authorized or directed by the Board and as are customarily performed by someone holding the position of Chairman of the Board and Chief Executive Officer. The Board has approved the Executive's continuing to serve as a director of Mallinckrodt, Inc. 3. Compensation. (a) Base Salary. During the Employment Period, the Company shall pay to the Executive a base salary at the rate of $700,000 per annum, subject to review by the Human Resources Committee of the Board no less frequently than annually for increase (such base salary, as increased from time to time, being hereinafter referred to as "Base Salary"). The Executive's Base Salary shall be paid in accordance with the Company's executive payroll policy. (b) Annual Bonus. The Executive shall be eligible to participate in the R. R. Donnelley & Sons Company Senior Management Annual Incentive Plan (the "Management Incentive Plan") and shall be granted award(s) under the Management Incentive Plan providing for an annual cash incentive bonus (the "Annual Bonus") as follows: -3- (1) As of the date of this Agreement, the Executive shall be granted an award in respect of the fiscal year ending December 31, 1997 providing for (i) a Target Award (as defined in the Management Incentive Plan) equal to 75% of Base Salary; (ii) a maximum bonus equal to two times the Target Award; (iii) a Base Annual Salary (as defined in the Management Incentive Plan) equal to $700,000, which amount shall be pro-rated as provided in the award; and (iv) such other terms and conditions as set forth in the form of award attached to this Agreement as Exhibit A; provided, however, that the Annual Bonus in respect of the fiscal year ending December 31, 1997 shall equal the greater of (x) $525,000, pro-rated by multiplying such amount by a fraction, the numerator of which is the number of days during 1997 on which the Executive is employed by the Company and the denominator of which is 365, and (y) the amount, if any, determined in accordance with the terms of the award. (2) In respect of each fiscal year of the Company commencing during the Employment Period, the Executive shall be granted an award in respect of such fiscal year providing for (i) a Target Award equal to 75% of Base Salary; (ii) a maximum bonus equal to two times the Target Award; (iii) a Base Annual Salary equal to the Executive's Base Salary as of the January 1 of such fiscal year; and (iv) such other terms and conditions as set forth in the applicable award substantially in the form attached to this Agreement as Exhibit A. The Executive shall be paid his Annual Bonus for each year no later than other senior executives are paid their annual bonuses. -4- In respect of the fiscal year ending December 31, 1997, the Executive shall also be entitled to receive not later than January 31, 1998, an amount equal to $179,507. (c) Stock Options. As of the date of this Agreement, the Executive shall be granted nonqualified stock options under the R. R. Donnelley & Sons Company 1995 Stock Incentive Plan (the "Stock Incentive Plan") as follows: (1) The Executive shall be granted an option to purchase from the Company 500,000 shares of the Company's common stock, par value $1.25 ("Common Stock"), at a purchase price per share equal to the average of the high and low prices per share of Common Stock on the date hereof, as reported in the New York Stock Exchange Composite Transactions report for the date hereof. The stock option agreement evidencing such option shall be substantially in the form attached to this Agreement as Exhibit B. (2) The Executive shall be granted a premium priced option to purchase from the Company 500,000 shares of Common Stock, at a purchase price per share equal to 150% of the average of the high and low prices per share of Common Stock on the date hereof, as reported in the New York Stock Exchange Composite Transactions report for the date hereof. The stock option agreement evidencing such option shall be substantially in the form attached to this Agreement as Exhibit C. -5- (d) Long-Term Performance Award. At such time, if any, as Long-Term Performance Awards are granted under the Stock Incentive Plan for the three-year performance period commencing on January 1, 1998, the Executive shall be granted a Long-Term Performance Award providing for an annualized target payout equal to the greater of 60% of the Executive's then current Base Salary and $420,000; provided, however, that in the event such Long-Term Performance Awards are not granted for the performance period commencing January 1, 1998, the Human Resources Committee of the Board will provide for an alternative form of equity award of equivalent value. (e) Retirement Benefit Plan. Notwithstanding any provision of the qualified R. R. Donnelley & Sons Company Retirement Benefit Plan and related non-qualified Unfunded Supplemental Benefit Plan (collectively, the "Retirement Plan") to the contrary, the Company shall pay to the Executive a pension (in the form of a single life annuity) for life of the Executive, commencing on the first day of the month coinciding with or next following his 65th birthday, in an annual amount equal to the excess of (A) the greater of (i) $907,000 and (ii) 50% of the Executive's "final average compensation," as defined below, over (B) the aggregate of (i) such pensions, if any, that as of the date of the Executive's termination of employment are accrued on behalf of the Executive and vested pursuant to the terms of the Retirement Plan and any other defined benefit pension plan of any prior employer of the Executive, plus (ii) the Executive's "primary social security benefit," as defined below. If the Executive's employment with the Company is terminated prior to the fifth anniversary of the date hereof on account of the Executive's voluntary termination as described in Section 4(f) or for cause as described in Section -6- 4(c) unless such termination occurs after a Change in Control as defined in Section 4(e) below, the amount of the pension described above shall be reduced to an amount determined by multiplying the amount thereof by a fraction, the numerator of which is the number of days of the Executive's employment by the Company and the denominator of which is 1,825. For purposes of this Agreement (x) the "final average compensation" shall mean the average of the Executive's "compensation" (as defined below) for the five consecutive years of the Executive's employment by the Company during which his "compensation" was the greatest, or if the Executive is employed by the Company for less than five years, twelve times the amount of his aggregate compensation divided by the number of months of the Executive's employment beginning on the date hereof, (y) "compensation" shall mean for any year the Executive's Base Salary and Annual Bonus for such year and (z) "primary social security benefit" shall mean twelve times the monthly amount available for the benefit of the Executive at age 65 (excluding amounts available for a spouse or dependents) as an old age insurance benefit under the provisions of Title II of the federal Social Security Act. For purposes of the preceding sentence, (i) "compensation" shall be determined on the basis of when paid to the Executive except that, in the event of a "Termination Bonus", as provided pursuant to Sections 4(a)(3), 4(b)(3) and 4(d)(3) (including Section 4(e) insofar as it incorporates Section 4(d)(3)) such "Termination Bonus" amount shall be deemed to have been received by the Executive immediately prior to his termination of employment if it is paid in respect of one of the first five years of the Employment Period and (ii) a year shall mean each 12 month period (or, in the case of a partial year, the applicable portion of such period) commencing on March 18, 1997 and on each anniversary thereof. The amount of the Executive's primary social security benefit shall be determined in good faith by the Company on the basis of -7- reasonable estimates, based on the Social Security Act as in effect on the date of the Executive's retirement or other termination of employment. The Retirement Benefit under this Section 3(e) shall include a pre-retirement spousal survivor benefit to be determined as provided in the next sentence. The time and manner of the payment of such pension (including its conversion into a form of annuity other than described above), and in the event such pension commences prior to the Executive's 65th birthday, the reduction for early commencement of such pension, and the eligibility for and amount of any survivor's benefits shall be determined under the applicable terms of the Retirement Plan, as if the pension provided herein were payable under the Retirement Plan; provided that such pension (including, if applicable, such survivor benefit) shall be determined on a basis that shall be no less favorable to the Executive (or, if applicable, his surviving spouse) than would be the case if it were determined under the Retirement Plan as in effect on the date of this Agreement; provided further that, subject to the foregoing vesting requirements as set forth in the second sentence of this Section 3(e), the Executive shall be deemed to have met the service requirements for entitlement to survivor benefits under the Retirement Plan. Any offsets for amounts attributable to pension payments (including survivor benefits) under pension plans of the Company or any prior employer shall be computed using the same assumptions as to commencement, form and frequency of payments as if such amounts were payable under the Retirement Plan. (f) Restricted Stock. As of the date of this Agreement, the Executive shall be awarded shares of Common Stock under the Stock Incentive Plan as follows: -8- (1) The Executive shall be awarded 50,947 shares of Common Stock, subject to the restrictions specified in the Restricted Stock Agreement substantially in the form attached to this Agreement as Exhibit D. (2) The Executive shall be awarded 269,291 shares of Common Stock, subject to the restrictions specified in the Restricted Stock Agreement substantially in the form attached to this Agreement as Exhibit E. (g) Cash Signing Bonuses. The Executive shall be paid cash signing bonuses as follows: (1) As of the date of this Agreement, the Company shall credit the amount of $1,812,612 (the "Signing Date Bonus") to the account of the Executive pursuant to a Deferred Cash Signing Agreement, substantially in the form of Exhibit F-1, to be entered into between the parties concurrently herewith. Such cash amount is provided to keep the Executive whole in respect of certain compensation that he will forfeit upon termination of his employment with his prior employer. The payment of such amount, including any earnings thereon, is contingent on the Executive signing this Agreement, and is not contingent on the performance of services for the Company and does not represent compensation for services rendered. Such cash account shall be credited quarterly in arrears (beginning on the last day of the calendar quarter in which this Agreement is executed by the Executive) with an amount of interest on the balance (including interest previously credited) at an annual rate equal to the then current yield obtainable on United States government bonds having a -9- maturity date of approximately five years. Payment of amounts credited to such cash account shall be made as provided in the Deferred Cash Signing Agreement. (2) On November 3, 1997, the Company shall credit the amount of $1,908,606 (the "Deferred Signing Date Bonus") to the account of the Executive pursuant to a Deferred Cash Signing Agreement substantially in the form of Exhibit F-2 to be entered into between the parties concurrently herewith. Such cash amount is provided to keep the Executive whole in respect of certain compensation that he will forfeit upon termination of his employment with his prior employer, and which would have been payable to him on November 3, 1997. The payment of such amount, including any earnings thereon, is contingent on the Executive signing this Agreement, and is not contingent on the performance of services for the Company and does not represent compensation for services rendered. Such cash account shall be credited quarterly in arrears (beginning on December 31, 1997) with an amount of interest on the balance (including interest previously credited) at an annual rate equal to the then current yield obtainable on United States government bonds having a maturity date of approximately five years. Payment of amounts credited to such cash account shall be made as provided in the Deferred Cash Signing Agreement. (h) Relocation Expenses. The Company shall pay the Executive's reasonable expenses related to the relocation of his primary residence to the Chicago metropolitan area in accordance with the Company's relocation policy in the form of Exhibit G; but with the following additions and modifications: -10- (1) The Company shall reimburse the Executive for temporary living expenses for the Executive and his family in the Chicago metropolitan area for a period not to exceed one year from the date the Executive commences employment with the Company; (2) The Company will reimburse the Executive for the expenses of no more than three trips for the Executive and his spouse to the Chicago metropolitan area for the purpose of finding a new home or apartment; (3) At the election of the Executive, the Company shall purchase the Executive's current primary residence at a price either (A) agreed upon by the Company and the Executive or (B) established by averaging three independent appraisals of the property; (4) The Company shall pay, or reimburse the Executive for, the cost of installing and maintaining a suitable home security system in the Executive's new primary residence in the Chicago metropolitan area; and (5) The Company shall reimburse the Executive for all taxes payable by the Executive because of relocation-related payments by the Company, including tax reimbursement payments. (i) Other Benefits. During the Employment Period, the Executive shall be entitled to participate in the Company's employee benefit plans generally available to senior executives of -11- the Company (all such benefits being hereinafter referred to as the "Employee Benefits"). As part of that entitlement, the Executive shall be entitled to take time off for vacation or illness in accordance with the Company's policy for senior executives and to receive all other fringe benefits as are from time to time made generally available to senior executives of the Company. Attached as Exhibit H is a summary description of certain other employee benefits to be provided for the Executive, including certain special adjustments made specifically for the Executive. (j) Expense Reimbursement. During the Employment Period, the Company shall reimburse the Executive for all proper expenses incurred by him in the performance of his duties hereunder in accordance with the Company's policies and procedures. (k) Split Dollar Insurance. The Company shall use its reasonable best efforts to cause the transfer to the Company of the split dollar life insurance policy under which the Executive is a beneficiary and as to which Executive's prior employer is the holder; provided, however, that the Company shall not be required to pay more than 110% of the cash value of such policy in order to effect such transfer. After such transfer, the Company shall continue to pay all premiums due on that policy during the Employment Period and shall reimburse the Executive for any taxes payable by the Executive because of the payment by the Company of such premiums and any such tax reimbursement payments. (l) Incentive Plans. The Executive shall be entitled to participate in the ongoing long-term incentive programs of the Company on the basis as other senior-level executives of the Company. In the event of any inconsistency between (i) this Agreement or any restricted stock, -12- stock option, annual bonus, long-term performance or other compensation agreement or award made to the Executive pursuant to it and (ii) the Management Incentive Plan, the Stock Incentive Plan or any similar or successor plan(s) adopted by the Company, then any such plan(s) shall be deemed amended to conform to the provisions of this Agreement and of any such agreement or award. (m) Grantor Trust. The Company shall establish a grantor trust in form and substance satisfactory to the Executive into which the Company shall, within 30 days of the earlier of the date of the Executive's termination of employment or the date of a Change in Control (as defined herein), deposit the amount of the Company's retirement benefit obligation under Section 3(e) above which is then unfunded. The Company shall from time to time make additional deposits to the grantor trust such that the amount of assets held therein with respect to the retirement benefit obligation shall equal the then present value of the unfunded obligation. The establishment of the grantor trust and deposit of amounts therein shall not affect the obligation of the Company to provide the retirement benefit described in Section 3(e) and, to the extent not paid by the Company, such amounts shall be paid from the grantor trust. 4. Termination. (a) Death. Upon the death of the Executive, the Employment Period shall automatically terminate and the Executive's estate or his beneficiaries, as the case may be, shall be entitled to: (1) Base Salary through and including the Executive's date of death; -13- (2) any Annual Bonus and any other incentive award earned but not yet paid for any fiscal year of the Company ended on or prior to the Executive's date of death; (3) a bonus (the "Termination Bonus") equal to the product of (x) the Executive's Annual Bonus for the fiscal year ended immediately preceding such termination, multiplied by (y) a fraction, the numerator of which is the number of days during the then current fiscal year in which the Executive was employed by the Company and the denominator of which is 365; provided, however, that in the event of termination during the fiscal year ending December 31, 1997, the Termination Bonus shall equal the product of (x) $525,000, multiplied by (y) a fraction, the numerator of which is the number of days during 1997 in which the Executive is employed by the Company and the denominator of which is 365; (4) the compensation, if any, that is or becomes payable in accordance with the terms and conditions of any stock option agreements and restricted stock awards; (5) any pension survivor benefit that may become due pursuant to Section 3(e) above; (6) amounts earned, accrued or owing to the Executive but not yet paid under Sections 3(g), 3(h), 3(i) and 3(j) above; and (7) other or additional compensation and benefits in accordance with applicable plans, programs and arrangements of the Company. -14- (b) Disability. Either party may terminate the Executive's employment under this Agreement upon 30 days written notice to the other party due to the Executive's Disability as defined in the last paragraph of this Section 4(b). Upon such termination, the Executive shall be entitled to: (1) Base Salary through and including the effective date of the Executive's termination of employment; (2) any Annual Bonus and any other incentive award earned but not yet paid for any fiscal year of the Company ended on or prior to the effective date of the Executive's termination of employment; (3) a Termination Bonus determined in accordance with Section 4(a)(3); (4) an amount equal to the sum of 60% of Base Salary, at the annual rate in effect at termination of his employment, for a period ending with the end of the month in which he becomes 65, less the amount of any disability benefits provided to the Executive by the Company (other than benefits attributable to the Executive's own contributions) under any disability plan; (5) the compensation, if any, that is or becomes payable in accordance with the terms and conditions of any stock option agreements and restricted stock awards; -15- (6) any pension benefit that may become due pursuant to Section 3(e) above, offset by any payment in respect of the same period made pursuant to Section 4(b)(4) above; (7) any amounts earned, accrued or owing to the Executive but not yet paid under Sections 3(g), 3(h), 3(i) and 3(j); (8) continued accrual of credited service for the purpose of the pension benefit provided under Section 3(e) above during the period of the Executive's Disability or, if sooner, until the earlier of the Executive's election to commence receiving his pension under Section 3(e) above or his attainment of age 65; (9) continued full participation in medical, dental, hospitalization and life insurance coverage and in all other employee plans and programs in which he was participating on the date of termination of his employment due to Disability until he attains age 65; and (10) other or additional benefits in accordance with applicable plans, programs and arrangements of the Company. If the Executive is precluded from continuing full participation in any employee benefit plan or program as provided in clause (9) above, he shall be provided the after-tax economic equivalent of the benefits provided under the plan or program in which he is unable to participate. The economic equivalent of any benefit foregone shall be deemed to be the lowest -16- cost that would be incurred by the Executive in obtaining such benefit himself on an individual basis. Payment of such after-tax equivalent shall be made quarterly in advance. For purposes of the Agreement, Disability shall mean the Executive's inability to substantially perform his duties and responsibilities under this Agreement for a period of 180 consecutive days as determined by an approved medical doctor. For this purpose an approved medical doctor shall mean a medical doctor selected by the Company and the Executive. If the parties cannot agree on a medical doctor, each party shall select a medical doctor and the two doctors shall select a third who shall be the approved medical doctor for this purpose. (c) Cause. (1) The Company may, at its option, terminate the Executive's employment under this Agreement for Cause (as hereinafter defined). A termination for Cause shall not take effect until and unless the Company complies with this Section 4(c)(1). The Executive shall be given written notice by the Board of the intention to terminate his employment hereunder for Cause (the "Cause Notice"). The Cause Notice shall state the particular action(s) or inaction(s) giving rise to termination for Cause and shall be given within 30 days of the Board learning of such action(s) or inaction(s). The Executive shall have 10 days after the Cause Notice is given to cure the particular action(s) or inaction(s), to the extent a cure is possible. If the Executive so effects a cure, the Cause Notice shall be deemed rescinded and of no force or effect. If he fails to effect a cure, the Executive shall then be entitled to a hearing before the Board. Such hearing shall be held within 20 days of his receiving such notice, provided he requests a hearing within 10 days of receiving the notice. If, within 5 days following such hearing, the Board gives written notice to the Executive confirming that, in its judgment, based on a vote so finding -17- supported by at least 3/4 of the members of the Board, Cause for terminating him on the basis set forth in the original notice exists, he shall thereupon be terminated for Cause. (2) As used in this Agreement, the term "Cause" shall mean any one or more of the following: (i) the Executive engages in conduct that constitutes willful gross neglect or willful gross misconduct in carrying out his duties under this Agreement, resulting, in either case, in material economic harm to the Company or substantial damage to the Company's reputation, unless the Executive believed in good faith that such act or nonact was in or not contrary to the best interests of the Company; or (ii) the Executive is convicted of a felony involving moral turpitude, fraud or embezzlement. (3) The exercise of the right of the Company to terminate the Executive's employment pursuant to this Section 4(c) shall not abrogate the rights or remedies of the Company in respect of the breach giving rise to such termination. (4) If the Company terminates the Executive's employment for Cause, he shall be entitled to: -18- (i) Base Salary through and including the effective date of the Executive's termination of employment; (ii) any Annual Bonus and any other incentive award earned but not yet paid for any fiscal year of the Company ended on or prior to the effective date of the Executive's termination of employment; (iii) any pension benefit that may become due pursuant to Section 3(e) above; (iv) any amounts earned, accrued or owing to the Executive but not yet paid under Sections 3(g), 3(h), 3(i) and 3(j) above; (v) the compensation, if any, that is or becomes payable in accordance with the terms and conditions of any stock option agreements and restricted stock awards; and (vi) other compensation and benefits, if any, in accordance with applicable plans, programs and arrangements of the Company. (5) Notwithstanding anything to the contrary contained in this Agreement, if, following a termination of the Executive's employment for Cause, an arbitrator appointed pursuant to Section 13, or a court of competent jurisdiction, in a final determination, determines -19- that the Executive was not guilty of the conduct that formed the basis for the termination, the Executive shall be entitled to the payments and the economic equivalent of the benefits he would have received had his employment been terminated by the Company without Cause. (d) Termination Without Cause or for Good Reason. If the Company terminates the employment of the Executive hereunder for any reason other than a reason set forth in subsections (a), (b) or (c) of this Section 4, or if the Executive terminates his employment hereunder for Good Reason (as defined herein), the Executive shall be entitled to: (1) Base Salary through and including the effective date of the Executive's termination of employment; (2) any Annual Bonus and any other incentive award earned but not yet paid for any fiscal year of the Company ended on or prior to the effective date of the Executive's termination of employment; (3) a Termination Bonus determined in accordance with Section 4(a)(3); (4) a lump sum payment equaling 250% of the sum of the Executive's annual Base Salary and annual bonus Target Award as of the date of his termination; -20- (5) the compensation, if any, that is or becomes payable in accordance with the terms and conditions of any stock option agreements and restricted stock awards and Long-Term Performance Awards; (6) any pension benefit that may become due pursuant to Section 3(e) above; (7) continued accrual of credited service for the purpose of the pension benefit provided under Section 3(e) above during the 30 month period (the "Severance Period") in respect of which the lump-sum severance payment described in Section 4(d)(4) above is made; (8) any amounts earned, accrued or owing to the Executive but not yet paid under Sections 3(g), 3(h), 3(i) and 3(j) above; (9) continued full participation in all medical, dental, hospitalization and life insurance coverage and in other employee benefit plans or programs in which he was participating on the date of the termination of his employment until the earlier of: (i) the end of the Severance Period; and (ii) the date, or dates, he receives equivalent coverage and benefits under the plans and programs of a subsequent employer (such coverages and benefits to be determined on a coverage-by-coverage, or benefit-by-benefit, basis); -21- provided that (x) if the Executive is precluded from continuing full participation in any employee benefit plan or program as provided in this clause (9) of this Section 4(d), he shall be provided with the after-tax economic equivalent of the benefits provided under the plan or program in which he is unable to participate for the period specified in this clause (9) of this Section 4(d), (y) the economic equivalent of any benefit foregone shall be deemed to be the lowest cost that would be incurred by the Executive in obtaining such benefit himself on an individual basis, and (z) payment of such after-tax economic equivalent shall be made quarterly in advance; and (10) other or additional compensation and benefits in accordance with applicable plans, programs and arrangements of the Company. For purposes of this Section 4(d), a termination for Good Reason shall mean a termination of the Executive's employment at his initiative following the occurrence, without the Executive's written consent, of one or more of the following events (except in consequence of a prior termination in accordance with this Section 4); (i) a reduction in the Executive's then current Base Salary; a reduction in the target award opportunity under the Management Incentive Plan, or successor plan, or under any long term incentive plan; a termination or material reduction of any employee benefit or perquisite enjoyed by him (other than as part of an across-the-board reduction in any employee benefit or perquisite applicable to all executive officers of the Company); or a failure by the Company to pay the Executive any amount of Base Salary, incentive -22- compensation or other compensation or any material benefit amount due him by the Company within seven (7) days of the date such amount is due; (ii) the failure to elect or reelect the Executive to any of the positions described in Section 2 above, or the removal of him from any such position; (iii) a material diminution in the Executive's duties as set forth in Section 2 above, or the assignment to the Executive of duties or responsibilities that are materially inconsistent with such duties or which materially impair the Executive's ability to function as the Chairman and Chief Executive Officer of the Company; (iv) the failure to continue the Executive's participation in any incentive compensation plan unless a plan providing a substantially similar opportunity is substituted; (v) the relocation of the Company's principal office, or the Executive's own office as assigned to him by the Company, to a location more than 25 miles from Chicago, Illinois; or (vi) the failure of the Company to obtain the assumption in writing of its obligation to perform this Agreement by any successor to all or substantially all of the assets of the Company within 15 days after a merger, consolidation, sale or similar transaction. -23- (e) Termination of Employment and Vesting Following a Change in Control. If, following a Change in Control, the Executive's employment is terminated without Cause or he terminates his employment for Good Reason, the Executive shall be entitled to the payments and benefits provided in Section 4(d) above, provided that the lump sum payment pursuant to Section 4(d)(4) shall equal 300% of the sum of the Executive's annual Base Salary and annual bonus Target Award as of the date of his termination. Also, immediately following a Change in Control, all stock options, restricted stock awards, long term incentive awards and other amounts, entitlements and benefits in which he is not yet vested shall become fully vested. For purposes of this Agreement, "Change in Control" shall mean the occurrence of any one of the following events: (i) any Person (as defined below) is or becomes the Beneficial Owner within the meaning of Rule 13d-3 under the Securities and Exchange Act of 1934, as amended (the "Exchange Act"), directly or indirectly, of securities of the Company representing 50% or more of the combined voting power of the Company's then outstanding securities; or (ii) during any period of two (2) consecutive years (not including any period prior to the execution of this Agreement), individuals who at the beginning of such period constitute the Board and any new director (other than a director designated by a Person who has entered into an agreement with the Company to effect a transaction described in clause (i), (iii) or (iv) of this paragraph) whose election by the Board or -24- nomination for election by the Company's stockholders was approved by a vote of at least two-thirds (2/3) of the directors then still in office who either were directors at the beginning of the period or whose election or nomination for election was previously so approved, cease for any reason to constitute a majority thereof; or (iii) the stockholders of the Company approve a merger or consolidation 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 entity), in combination with the ownership of any trustee or other fiduciary holding securities under an employee benefit plan of the Company, more than 50% of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after 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 acquires 50% or more of the combined voting power of the Company's then outstanding securities; or (iv) the stockholders of the Company approve a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company's assets or business. For purposes of this Section 4(e) "Person" shall have the meaning given in Section 3(a)(9) of the Exchange Act, as modified and used in Sections 13(d) and 14(d) thereof; provided, -25- however, that a Person shall not include (I) the Company or any of its Subsidiaries, (II) a trustee or other fiduciary holding securities under an employee benefit plan of the Company, (III) an underwriter temporarily holding securities pursuant to an offering of such securities or (IV) a corporation owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of stock of the Company. For purposes of this paragraph a Subsidiary shall include any corporation, partnership or other entity, at least a majority of the outstanding voting shares or controlling interest of which is at the time directly or indirectly owned or controlled (either alone or through Subsidiaries or together with Subsidiaries) by the Company or another Subsidiary. The Executive's employment shall be deemed to have been terminated following a Change in Control by the Company without Cause or by the Executive with Good Reason if the Executive's employment is terminated prior to a Change in Control without Cause at the direction of a Person who has entered into an agreement with the Company the consummation of which will constitute a Change in Control or if the Executive terminates his employment with Good Reason prior to a Change in Control if the circumstance or event which constitutes Good Reason occurs at the direction of such Person. (f) Voluntary Termination. In the event of a termination of employment by the Executive on his own initiative other than a termination due to death or Disability or for Good Reason, the Executive shall have the same entitlements as provided in Section 4(c) above for a termination for Cause. A voluntary termination under this Section 4(f) shall be effective upon 30 days prior written notice to the Company and shall not be deemed a breach of this Agreement. -26- (g) Computation of Amounts Due. For purposes of determining payments, benefits and other compensation due to the Executive under this Section 4, any reduction in Base Salary, annual bonus Target Award, benefits, or other compensation that would constitute Good Reason for termination shall be disregarded. (h) Payment Following a Change in Control Under Section 280G of the Internal Revenue Code. In the event that the aggregate of all payments or benefits made or provided to, or that may be made or provided to, the Executive under this Agreement and under all other plans, programs and arrangements of the Company (the "Aggregate Payment") is determined to constitute a Parachute Payment, as such term is defined in Section 280G(b)(2) of the Internal Revenue Code, the Company shall pay to the Executive prior to the time any excise tax imposed by Section 4999 of the Internal Revenue Code ("Excise Tax") is payable with respect to such Aggregate Payment, an additional amount which, after the imposition of all income and excise taxes thereon, is equal to the Excise Tax on the Aggregate Payment. The determination of whether the Aggregate Payment constitutes a Parachute Payment and, if so, the amount to be paid to the Executive and the time of payment pursuant to this Section 4(h) shall be made by an independent auditor (the "Auditor") jointly selected by the Company and the Executive and paid by the Company. The Auditor shall be a nationally recognized United States public accounting firm which has not, during the two years preceding the date of its selection, acted in any way on behalf of the Company or any affiliate thereof. If the Executive and the Company cannot agree on the firm to serve as the Auditor, then the Executive and the Company shall each select one accounting firm and those two firms shall jointly select the accounting firm to serve as the Auditor. Notwithstanding the foregoing, in the event that the amount of the Executive's Excise -27- Tax liability is subsequently determined to be greater than the Excise Tax liability with respect to which an initial payment to the Executive under this Section 4(h) has been made, the Company shall pay to the Executive an additional amount with respect to such additional Excise Tax (and any interest and penalties thereon) at the time and in the amount determined by the Auditor. The Executive and the Company shall cooperate with each other in connection with any proceeding or claim relating to the existence or amount of liability for Excise Tax, and all expenses relating to any such proceeding or claim (including all attorneys' fees and other expenses incurred by the Executive in connection therewith) shall be paid by the Company promptly upon notice of demand from the Executive. (i) Unused Vacation. Upon any termination of his employment, the Executive shall be entitled to a lump sum payment in respect of accrued but unused vacation days at his then current Base Salary rate. (j) No Mitigation; No Offset. In the event of any termination of employment under this Section 4, the Executive shall be under no obligation to seek other employment and there shall be no offset against amounts due the Executive under this Agreement on account of any remuneration attributable to any subsequent employment that he may obtain except as specifically provided in this Section 4 or any claims the Company may have against him. (k) Nature and Timing of Payments. Any amounts due under this Section 4 are in the nature of severance payments considered to be reasonable by the Company and are not in the -28- nature of a penalty. Such amounts shall be paid as promptly as possible following determination of the amount due. 5. Federal and State Withholding. The Company shall be entitled to deduct from the amounts payable to the Executive pursuant to this Agreement the amount of all required federal, state, local or other withholding taxes in accordance with the Executive's Form W-4 on file with the Company, and all applicable federal employment taxes. 6. Noncompetition; Nonsolicitation. (a) The Executive acknowledges that in the course of his employment with the Company pursuant to this Agreement he will become familiar with trade secrets and customer lists of, and other confidential information concerning, the Company and its subsidiaries, affiliates and clients and that his services have been and will be of special, unique and extraordinary value to the Company. (b) The Executive agrees that during the Employment Period and for a period of two years thereafter (the "Noncompetition Period") he shall not in any manner, directly or indirectly, through any person, firm, corporation or enterprise, alone or as a member of a partnership or as an officer, director, stockholder, investor or employee of or advisor or consultant to any person, firm, corporation or enterprise or otherwise, engage or be engaged, or assist any other person, firm, corporation or enterprise in engaging or being engaged, in any Competitive Activity. A Competitive Activity shall mean a business that (i) is being conducted by the Company or any subsidiary at the time in question and (ii) was being conducted at the date of the termination of the Executive's employment, provided that Competitive Activities shall not -29- include any business that (x) is not in the business of distributing, managing and reproducing print and digital information for the publishing, retailing, merchandising or information technology markets or (y) contributes less than 5% of the Company's revenues on a consolidated basis for the fiscal year in question. Notwithstanding anything to the contrary in this Section 6(b), an activity shall not be deemed to be a Competitive Activity (A) solely as a result of the Executive being employed by or otherwise associated with a business of which a unit is in competition with the Company or any subsidiary but as to which unit he does not have direct or indirect responsibilities for the products or product lines involved or (B) if the activity contributes less than 5% of the revenues for the fiscal year in question of the business by which the Executive is employed or with which he is otherwise associated. (c) The Executive further agrees that during the Noncompetition Period he shall not (i) in any manner, directly or indirectly, induce or attempt to induce any employee of or advisor or consultant to the Company or any of its subsidiaries or affiliates to terminate or abandon his or her or its employment or relationship for any purpose whatsoever, or (ii) in connection with any business to which Section 6(b) applies, call on, service, solicit or otherwise do business with any customer of the Company or any of its subsidiaries or affiliates; provided, however, that the restriction contained in clause (i) of this Section 6(c) shall not apply to, or interfere with, the proper performance by the Executive of his duties pursuant to Section 2 of this Agreement. (d) Nothing in this Section 6 shall prohibit the Executive from being (i) a stockholder in a mutual fund or a diversified investment company or (ii) a passive owner of not -30- more than two percent of the outstanding common stock, capital stock and equity of any firm, corporation or enterprise so long as the Executive has no active participation in the business of such firm, corporation or enterprise. (e) If, at any time of enforcement of this Section 6, a court or an arbitrator holds that the restrictions stated herein are unreasonable under circumstances then existing, the parties hereto agree that the maximum period, scope or geographical area reasonable under such circumstances shall be substituted for the stated period, scope or area and that the court shall be allowed to revise the restrictions contained herein to cover the maximum period, scope and area permitted by law. 7. Confidentiality. The Executive shall not, at any time during the Employment Period or thereafter, make use of or disclose, directly or indirectly, to any person any (i) trade secret or other confidential or secret information of the Company or of any of its subsidiaries, affiliates or customers or (ii) other technical, business, proprietary or financial information of the Company or of any of its subsidiaries, affiliates or customers not available to the public generally or the competitors of the Company or the competitors of any of its subsidiaries or affiliates, in each case that the Executive obtained as a result of his employment by the Company or any of its subsidiaries ("Confidential Information"), except to the extent that such Confidential Information (a) is used by the Executive during the Employment Period in the proper performance of his duties pursuant to this Agreement, (b) is disclosed by the Executive to his legal counsel in connection with legal services performed by such counsel for the Executive, provided that such disclosure is made on a confidential basis, (c) becomes a matter of public -31- record or is published in a newspaper, magazine or other periodical available to the general public, or has otherwise become generally known in the markets in which the Company does business and to which the Confidential Information relates, other than as a result of any act or omission of the Executive outside the proper performance of his duties pursuant to this Agreement, or (d) is required to be disclosed by any law, regulation or order of any court or regulatory commission, department or agency. Promptly following the termination of the Employment Period, the Executive shall surrender to the Company all records, memoranda, notes, plans, reports, computer tapes and software and other documents and data which constitute Confidential Information which he may then possess or have under his control (together with all copies thereof); provided, however, that the Executive may retain personal diaries and notes and copies of such documents as are necessary for the preparation of his federal or state income tax returns. 8. Inventions. The Executive hereby assigns to the Company his entire right, title and interest in and to all discoveries and improvements, patentable or otherwise, trade secrets and ideas, writings and copyrightable material, which may be conceived by the Executive or developed or acquired by him during the Employment Period, which may pertain directly or indirectly to the business of the Company or any of its subsidiaries or affiliates. The Executive agrees to disclose fully all such developments to the Company upon its request, which disclosure shall be made in writing promptly following any such request. The Executive shall, upon the Company's request, execute, acknowledge and deliver to the Company all instruments and do all other acts which are necessary or desirable to enable the Company or any of its subsidiaries or affiliates to file and prosecute applications for, and to acquire, maintain and enforce, all patents, trademarks and copyrights in all countries. -32- 9. Enforcement. The parties hereto agree that the Company and its subsidiaries or affiliates may be damaged irreparably in the event that any provision of Sections 6, 7 or 8 of this Agreement were not performed in accordance with its terms or were otherwise breached and that money damages could be an inadequate remedy for any such nonperformance or breach. Accordingly, the Company and its successors or assigns shall be entitled, in addition to other rights and remedies existing in their favor, to seek an injunction or injunctions to prevent any breach or threatened breach of any of such provisions and to enforce such provisions specifically (without posting a bond or other security). Each of the parties agrees that he or it will submit himself or itself to the personal jurisdiction of the courts of the State of Illinois in any action by the other party to enforce an arbitration award against him or it or to obtain interim injunctive or other relief pending an arbitration decision. 10. Indemnification. (a) The Company agrees that (i) if the Executive is made a party, or is threatened to be made a party, to any Proceeding by reason of the fact that he is or was a director, officer, employee, agent, manager, consultant or representative of the Company or is or was serving at the request of the Company as a director, officer, member, employee, agent, manager, consultant or representative of another person, or (ii) if any Claim is made, or is threatened to be made, that arises out of or relates to the Executive's service in any of the foregoing capacities, then the Executive shall promptly be indemnified and held harmless by the Company to the fullest extent permitted or authorized by the Company's certificate of incorporation, bylaws, Board resolutions or, if greater, by the laws of the State of Delaware, against any and all costs, expenses, liabilities and losses (including, without limitation, reasonable attorney's fees, judgments, interest, expenses of investigation, fines, ERISA excise taxes or -33- penalties and amounts paid or to be paid in settlement) incurred or suffered by the Executive in connection therewith, and such indemnification shall continue as to the Executive even if he has ceased to be a director, member, employee, agent, manager, consultant or representative of the Company or other person, and shall inure to the benefit of the Executive's successors and assigns. The Company shall advance to the Executive all costs and expenses incurred by him in connection with any such Proceeding or Claim within 15 days of receiving written notice requesting such an advance. Such notice shall include an undertaking by the Executive to repay the amount of such advance if he is ultimately and conclusively determined not to be entitled to indemnification against such costs or expenses. As used in this Agreement, "Claim" shall mean any claim, demand, request, investigation, dispute, controversy, threat, discovery request, or request for testimony or information, and "Proceeding" shall mean any action, suit, arbitration, investigation or proceeding, whether civil, criminal, administrative or other. (b) Neither the failure of the Company (including its Board, independent legal counsel or stockholders) to have made a determination in connection with any request for payment or advancement under Section 10(a) that the Executive has satisfied any applicable standard of conduct, nor a determination by the Company (including its Board, independent legal counsel or stockholders) that the Executive has not met any applicable standard of conduct, shall create a presumption that the Executive has not met an applicable standard of conduct. (c) The Company shall at all times during the Employment Period and for four years thereafter keep in place directors and officers' liability insurance policy covering the Executive to the extent that the Company provides such coverage for other senior executives. -34- 11. Representations. (a) The Company represents and warrants that (i) the execution of this Agreement has been duly authorized by the Company, including action of the Board and the Human Resources Committee; (ii) the execution, delivery and performance of this Agreement by the Company does not and will not violate any law, regulation, order, judgment or decree or any agreement, plan or corporate governance document of the Company and (iii) upon the execution and delivery of this Agreement by the Executive, this Agreement shall be the valid and binding obligation of the Company, enforceable in accordance with its terms, except to the extent enforceability may be limited by applicable bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally and by the effect of general principles of equity (regardless of whether enforceability is considered in a proceeding in equity or at law). (b) The Executive represents and warrants to the Company that (a) the execution, delivery and performance of this Agreement by the Executive does not and will not violate any law, regulation, order, judgment or decree or any agreement to which the Executive is a party or by which he is bound, (b) the Executive is not a party to or bound by any employment agreement, noncompetition agreement or confidentiality agreement with any other person or entity that would interfere with this Agreement or his performance of services hereunder, and (c) upon the execution and delivery of this Agreement by the Company, this Agreement shall be the valid and binding obligation of the Executive, enforceable in accordance with its terms, except to the extent enforceability may be limited by applicable bankruptcy, insolvency or similar laws affecting the enforcement of creditors' rights generally and by the effect of general principles of equity (regardless of whether enforceability is considered in a proceeding in equity or at law). -35- 12. Survival. Except as otherwise expressly set forth in this Agreement, the respective rights and obligations of the parties hereunder shall survive any termination of the Executive's employment. 13. Alternative Dispute Resolution. (a) Mediation. Neither party shall initiate arbitration or other legal proceedings (except for any claim under Section 6, 7 or 8 of this Agreement) against the other party, or, in the case of the Company, any of its directors, officers, employees, agents or representatives, relating in any way to this Agreement, the breach of this Agreement, or otherwise, until 30 days after the party against whom the claim is made ("Respondent") receives written notice from the claiming party of the specific nature of any purported claim and the amount of any purported damages. The Executive and the Company further agree that if Respondent submits the claiming party's claim to the CPR Institute for Dispute Resolution, 680 Fifth Avenue, New York, New York 10019, for nonbinding mediation prior to the expiration of such 30 day period, the claiming party may not institute arbitration or other legal proceeding against Respondent until the earlier of: (i) the completion of nonbinding mediation efforts; or (ii) 90 days after the date on which Respondent received written notice of the claimant's claim. The mediation shall be conducted in Chicago, Illinois or such other location to which the parties may agree. The Company agrees to promptly pay all costs of mediation, including without limitation, all legal fees and expenses incurred by the Executive. (b) Arbitration. Any dispute or controversy between the Company and the Executive, whether arising out of or relating to this Agreement, the breach of this Agreement, or otherwise, shall be settled by arbitration administered by the American Arbitration Association -36- ("AAA") in accordance with its Commercial Arbitration Rules then in effect and judgment on the award rendered by the arbitrator may be entered in any court having jurisdiction thereof. Any arbitration shall be held before a single arbitrator who shall be selected by the mutual agreement of the Company and the Executive, unless the parties are unable to agree to an arbitrator, in which case, the arbitrator will be selected under the procedures of the AAA. The arbitrator shall have the authority to award any remedy or relief that a court of competent jurisdiction could order or grant, including, without limitation, the issuance of an injunction. However, either party may, without inconsistency with this arbitration provision, apply to any court having jurisdiction over such dispute or controversy and seek interim provisional, injunctive or other equitable relief until the arbitration award is rendered or the controversy is otherwise resolved. Except as necessary in court proceedings to enforce this arbitration provision or an award rendered hereunder, or to obtain interim relief, neither a party nor an arbitrator may disclose the existence, content or results of any arbitration hereunder without the prior written consent of the Company and the Executive. The Company and the Executive acknowledge that this Agreement evidences a transaction involving interstate commerce. Notwithstanding any choice of law provision included in this Agreement, the United States Federal Arbitration Act shall govern the interpretation and enforcement of this arbitration provision. The arbitration proceeding shall be conducted in Chicago, Illinois or such other location to which the parties may agree. 14. Reimbursement of Legal Expenses. If any contest or dispute shall arise involving the Executive's employment with the Company, including any contest or dispute relating to (a) this Agreement, (b) termination of the Executive's employment with the Company or (c) the failure or refusal of the Company to perform fully in accordance with the terms hereof, the -37- Company shall promptly reimburse the Executive, on a current basis, for all costs and expenses (including, without limitation, attorneys' fees) relating to any such contest or dispute. Pending the final and conclusive resolution of any such contest or dispute, the Company shall continue prompt payment of all amounts due the Executive under this Agreement (or any amendment thereof) and prompt provision of all benefits to which the Executive or his successors and assigns are entitled. The Company shall reimburse the Executive for all legal expenses incurred by him in connection with his employment arrangements with the Company including the preparation of this Agreement. 15. Beneficiaries/References. The Executive shall be entitled, to the fullest extent permitted by law, to select and to change a beneficiary or beneficiaries to receive any compensation or benefit hereunder following the Executive's death, by giving written notice to the Company. In the event of the Executive's death or a judicial determination of his incompetence, references in this Agreement to the Executive shall be deemed, where appropriate, to refer to his beneficiary, estate or other legal representative. 16. Notices. All notices and other communications required or permitted hereunder shall be in writing and shall be deemed given (a) when delivered personally or (b), provided that a written acknowledgment of receipt is obtained for any overnight courier delivery, two days after delivery by overnight courier to the following addresses of the other party hereto (or such other address for such party as shall be specified by notice given pursuant to this Section) or (c) sent by facsimile to the following facsimile numbers of the other party hereto (or such other facsimile number for such party as shall be specified by notice given pursuant to this Section), -38- with the confirmatory copy delivered by overnight courier to the addresses of such party pursuant to this Section: If to the Company, to: R. R. Donnelley & Sons Company 77 West Wacker Drive Chicago, Illinois 60601-1696 Attention: Corporate Secretary Facsimile No.: (312) 326-7156 If to the Executive, to: William L. Davis (at his most recent home address and/or facsimile number on file with the Company) 17. Severability. Whenever possible, each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement is held to be invalid, illegal or unenforceable in any respect under applicable law or rule in any jurisdiction, such invalidity, illegality or unenforceability shall not affect the validity, legality or enforceability of any other provision of this Agreement or the validity, legality or enforceability of such provision in any other jurisdiction, but this Agreement -39- shall be reformed, construed and enforced in such jurisdiction as if such invalid, illegal or unenforceable provision had never been contained herein. 18. Entire Agreement. This Agreement (which includes the agreements referenced herein), constitutes the entire agreement and understanding between the parties with respect to the subject matter hereof and supersedes and preempts any prior understandings, agreements or representations by or between the parties, written or oral, which may have related in any manner to the subject matter hereof. 19. Successors and Assigns. This Agreement shall be binding upon and inure to the benefit of the parties and their respective successors and assigns. No rights or obligations of the Company under this Agreement may be assigned or transferred by the Company except that such rights or obligations may be assigned or transferred pursuant to a merger or consolidation in which the Company is not the continuing entity, or the sale or liquidation of all or substantially all of the assets of the Company, provided that the assignee or transferee is the successor to all or substantially all of the assets of the Company and such assignee or transferee expressly assumes all the liabilities, obligations and duties of the Company as contained in this Agreement. In connection with any transfer or assignment of its rights, duties, or obligations under this Agreement, the Company shall use its reasonable best efforts to cause such assignee or transferee to expressly assume the liabilities, obligations and duties of the Company hereunder. No rights, obligations or duties of the Executive under this Agreement may be assigned or transferred other than his rights to compensation and benefits, which may be transferred only by will or operation of law, except as otherwise expressly provided in this Agreement. -40- 20. Headings. The headings of the Sections contained in this Agreement are for convenience only and shall not be deemed to control or affect the meaning or construction of any provision of this Agreement. 21. Governing Law. This Agreement shall be governed by and construed and enforced in accordance with the internal laws of the State of Illinois without regard to principles of conflict of laws. 22. Amendment and Waiver. The provisions of this Agreement may be amended or waived only by the written agreement of the Company and the Executive, and no course of conduct or failure or delay in enforcing the provisions of this Agreement shall affect the validity, binding effect or enforceability of this Agreement. 23. Counterparts. This Agreement may be executed in two counterparts, each of which shall be deemed to be an original and both of which together shall constitute one and the same instrument. -41- IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the date first written above. R. R. DONNELLEY & SONS COMPANY By: /s/ John M. Richman ---------------------------------- Name: John M. Richman Title: Acting Chairman and CEO /s/ William L. Davis ---------------------------------- Name: William L. Davis -42- EX-10.(B) 5 PREMIUM PRICED OPTION AGREEMENT--RRD & DAVIS Exhibit 10(b) R. R. DONNELLEY & SONS COMPANY STOCK OPTION AGREEMENT ---------------------- (Premium Option) R. R. Donnelley & Sons Company, a Delaware corporation (herein called the "Company"), acting pursuant to the provisions of its 1995 Stock Incentive Plan, which was approved by the stockholders on March 23, 1995 (herein called the "Plan"), hereby grants to William L. Davis (herein called "Optionee"), as of March 18, 1997 (herein called the "Option Date"), an option (herein called the "Option") to purchase from the Company 500,000 shares of common stock of the Company, par value $1.25 per share (herein called "Common Stock"), at a price of $45.1875 per share (the "Exercise Price"), to be exercisable during the term commencing on the date hereof and ending on March 17, 2007 (herein called the "Option Term"), but only upon the following terms and conditions: 1. The Option may be exercised, in whole or in part, from time to time, during the Option Term only in accordance with the following conditions and limitations: (a) Except as provided in Section 5 hereof, Optionee must, at any time the Option becomes exercisable and at any time the Option is exercised, have been continuously in the employment of the Company since the date hereof. Leave of absence for periods and purposes conforming to the personnel policies of the Company and approved by the Committee administering the Plan shall not be deemed terminations of employment or interruptions of continuous service. (b) Subject to Section 5 hereof, the Option shall become exercisable as follows: (1) In the event the Current Market Value (as hereinafter defined) of the Common Stock equals or exceeds the Exercise Price on each trading day for any period of 10 consecutive trading days during the six-year period commencing on the date hereof and ending on March 17, 2003, the Option shall become exercisable with respect to all of the shares of Common Stock subject to the Option upon the later of March 18, 2000 and 11:59 p.m. on the date upon which such condition is satisfied. "Current Market Value" of the Common Stock on a specified trading date shall be determined by reference to the average of the high and low transaction prices in trading of the Common Stock on such date as reported in the New York Stock Exchange-Composite Transactions. (2) Notwithstanding the foregoing subsection (b) (1), if, while the Option is outstanding and unexercisable, a Change in Control (as defined in Section 4(e) of Optionee's Employment Agreement with the Company, dated as of March 18, 1997 (the "Employment Agreement")) occurs, the Option shall be fully and immediately exercisable with respect to all of the shares of Common Stock subject to such portion of the Option and shall continue to be exercisable for the full Option Term. -2- (c) Notwithstanding any other provision in this Agreement, if, while the Option is outstanding, a Change in Control occurs, then, during the period beginning on the date on which the Change in Control occurs and ending at 11:59 p.m. on the 60th day thereafter, the Optionee may, in his discretion, elect to (i) cancel the portion of the Option that Optionee then holds and (ii) receive, as of the date of the Change in Control, an option (a "Replacement Option") to purchase from the Company, at a price of $30.125 per share, the number of shares of Common Stock (rounded up to the nearest whole share) determined by multiplying (A) all of the number of shares of Common Stock subject to the portion of the Option that Optionee holds as of the date that Optionee's election to receive the Replacement Option is received by the Company in accordance with Section 14 by (B) .466 (four hundred sixty-six thousandths). The agreement evidencing the Replacement Option shall be in the form of Exhibit A to this Agreement. (d) No fractional shares may be purchased at any time. (e) If the Option is not exercisable on or prior to March 17, 2003, the Option shall be cancelled as of 11:59 p.m. on March 17, 2003. 2. Subject to the limitations herein set forth, the Option may be exercised by delivery of written notice to the Company specifying the number of shares of Common -3- Stock to be purchased and accompanied by payment in full (or arrangement made for such payment to the Company's satisfaction) of the Exercise Price multiplied by the number of shares of Common Stock to be purchased (the "Aggregate Exercise Price"). No shares of Common Stock may be purchased under the Option unless Optionee, or in the event of Optionee's death, Optionee's executor, administrator or personal representative or Optionee's beneficiary designated pursuant to the Beneficiary Designation Form attached hereto as Exhibit B (herein called a "Beneficiary") shall pay to the Company such amount as the Company is required under applicable federal, state, local or other tax laws to withhold and pay over to governmental taxing authorities by reason of the purchase of shares of Common Stock pursuant to the Option. The Aggregate Exercise Price and any federal, state, local and other taxes required to be withheld in connection with such exercise may be paid (i) in cash, (ii) by delivering previously owned whole shares of Common Stock (which Optionee has held for at least six months prior to the delivery of such shares or which Optionee purchased on the open market and for which Optionee has good title, free and clear of all liens and encumbrances) having a Fair Market Value (as hereinafter defined) equal to the Aggregate Exercise Price and such amount of tax, (iii) with respect to taxes only, by authorizing the Company to withhold whole shares of Common Stock which would otherwise be delivered having a Fair Market Value equal to such amount of tax, or (iv) in a combination thereof. Payment of the Aggregate Exercise Price and such tax, or any part thereof, in previously owned shares of Common Stock shall not be effective unless Optionee delivers one or more stock certificates -4- (or otherwise delivers shares of Common Stock to the reasonable satisfaction of the Company) representing shares having a Fair Market Value on the date of exercise equal to or in excess of the Aggregate Exercise Price and such tax, or applicable portion thereof, accompanied by such endorsements, signature guarantees or other documents or assurances as may reasonably be required to effect the transfer to the Company of such number of shares. If Optionee delivers a certificate or certificates (or otherwise delivers shares of Common Stock to the reasonable satisfaction of the Company) representing shares in excess of the number required to cover the Aggregate Exercise Price and such tax, a certificate (or other reasonably satisfactory evidence of ownership) representing such excess number of shares will be issued and redelivered to Optionee. For purposes of this Agreement, the "Fair Market Value" of the Common Stock on a specified date shall be as determined on a reasonable basis by the Committee administering the Plan by reference to the price of the Common Stock on such date as reported in the New York Stock Exchange-Composite Transactions, or, if no trading in the Common Stock occurred on such date, then on the next preceding date when such trading occurred. 3. Upon exercise of the Option in whole or in part pursuant to Section 2 hereof, the Company shall deliver or cause to be delivered a certificate (or other reasonably satisfactory evidence of ownership) representing the number of shares specified against payment therefor and shall pay all original issue or transfer taxes and all other fees and expenses incident to such delivery. -5- 4. Optionee shall be entitled to the privileges of ownership with respect to shares subject to the Option only with respect to shares purchased upon exercise of all or part of the Option and as to which Optionee becomes a stockholder of record. 5. If Optionee's employment with the Company is terminated by death, by Disability, by the Company without Cause, by Optionee for Good Reason, by retirement on or after age 65 or by retirement on or after age 55 with the Company's consent (which consent shall not be unreasonably withheld), this Option shall immediately become exercisable and vested in full and shall continue to be exercisable for the full Option Term. If Optionee's employment with the Company is terminated for any reason not referred to in the previous sentence, then no portion of the Option may be exercised more than 90 days after such termination except as otherwise provided in Section 1(b)(2). As used in this Agreement, the terms "Cause," "Good Reason" and "Disability" shall have the meaning set forth in the Employment Agreement. 6. The Option may not be transferred by Optionee other than (i) by will, the laws of descent and distribution or pursuant to the beneficiary designation procedures approved by the Company or (ii) as otherwise set forth in an amendment to this Agreement. During Optionee's lifetime, the Option is exercisable only by Optionee or Optionee's guardian, personal representative or similar person. Except as permitted by the foregoing, the Option may not be sold, transferred, assigned, pledged, hypothecated, encumbered or otherwise disposed of (whether by operation of law or otherwise) or be subject to execution, -6- attachment or similar process. Upon any attempt to so sell, transfer, assign, pledge, hypothecate, encumber or otherwise dispose of the Option, the Option and all rights hereunder shall immediately become null and void. 7. In the event of any stock split, stock dividend, recapitalization, reorganization, merger, consolidation, combination, exchange of shares, liquidation, spin-off or other similar change in capitalization or event, or any distribution to holders of Common Stock other than a regular cash dividend, the number and class of securities subject to the Option and the Exercise Price shall be appropriately adjusted by the Committee without an increase in the Aggregate Exercise Price, other than an increase resulting from rounding, so as to prevent dilution of the economic opportunity and value represented by the Option. Notwithstanding the preceding sentence, in the event of any merger, consolidation or other transaction (i) in which the Company is not the surviving entity or the Company becomes a subsidiary of another entity and (ii) following which the surviving entity or its parent, or, if the Company survives as a subsidiary of another entity, then such other entity or its parent, has publicly-traded equity securities issued and outstanding, the Company shall use its reasonable best efforts to provide that the Option shall (at the election of Optionee) be replaced in whole or in part by a new option that (x) is exercisable for publicly-traded equity securities of the surviving entity (or of the parent of the surviving entity or of the parent of the Company as the case may be) and (y) provides terms, conditions and an after-tax economic opportunity (including, without limitation, an aggregate spread value) no less favorable than did the Option prior to such transaction. If any adjustment would result in a fractional security being subject -7- to the Option, the Company shall pay Optionee, in connection with the first exercise of the Option, in whole or in part, occurring after such adjustment, an amount in cash determined by multiplying (i) the fraction of such security (rounded to the nearest hundredth) by (ii) the excess, if any, of (A) the Fair Market Value of the Common Stock on the exercise date over (B) the exercise price of the Option. The decision of the Committee regarding the amount and timing of any adjustment pursuant to this Section 7 shall be final, binding and conclusive. 8. For purposes of this Agreement, employment by the Company shall be deemed to include employment by a corporation which is a majority-owned subsidiary of the Company, employment by an entity (for example, a partnership) which is, directly or indirectly, wholly-owned by the Company and employment by any corporation which succeeds to the obligations of the Company hereunder pursuant to Section 7 hereof or Section 19 of the Employment Agreement. 9. The Option is subject to the condition that if the listing, registration or qualification of the shares subject to the Option on any securities exchange or under any state or federal law, or if the assent or approval of any regulatory body shall be necessary as a condition of, or in connection with, the granting of the Option or the delivery or purchase of shares thereunder, the Option may not be exercised in whole or in part unless and until such listing, registration, qualification, consent or approval shall have been effected or obtained. The Company agrees to use its best efforts to obtain any such requisite listing, registration, qualification, consent or approval. -8- 10. The Committee administering the Plan, as from time to time constituted, shall have the right to determine any questions which arise in connection with this Agreement or the Option, subject to Section 13 of the Employment Agreement. This Agreement and the Option are subject to the provisions of the Plan and of the Employment Agreement and shall be interpreted in accordance therewith. 11. This Agreement shall not be construed as an employment contract and does not give Optionee any right to continued employment by the Company or any affiliate of the Company, and the fact that the termination of Optionee's employment occurs during the Option Term shall in no way be construed as giving Optionee the right to continue in the Company's or any such affiliate's employ. 12. The Option shall not be treated as an incentive stock option within the meaning of Section 422 of the Code. 13. This Agreement shall be binding upon and shall inure to the benefit of any successor or successors of the Company and any person or persons who shall acquire any rights in the Option. 14. Any notice, including a Beneficiary Designation Form, a notice of exercise of the Option and a notice of election to receive the Replacement Option, required to be given hereunder to the Company shall be addressed to the Company at its office at 77 West -9- Wacker Drive, Chicago, Illinois 60601-1696, attention of the Vice President, Compensation and Benefits, and any notice required to be given hereunder to Optionee shall be addressed to Optionee at Optionee's residence address as shown in the Company's records, subject to the right of the Company or Optionee hereafter to designate in writing to the other some other address. Any such notice to the Company shall be deemed to have been duly given on the day that such notice is received by the Vice President, Compensation and Benefits. Any such notice shall be (i) delivered to the Vice President, Compensation and Benefits by personal delivery, facsimile, United States mail or by express courier service and (ii) deemed to be received upon personal delivery, upon confirmation of receipt of facsimile transmission or upon receipt by the Vice President, Compensation and Benefits if by United States mail or express courier service; provided, however, that if any notice is not received during regular business hours, it shall be deemed to be received on the next succeeding business day of the Company. 15. The Option, this Agreement, and all determinations made and actions taken pursuant hereto and thereto, to the extent not governed by the laws of the United States, shall be governed by the laws of the State of Delaware and construed in accordance therewith without giving effect to principles of conflicts of laws. -10- IN WITNESS WHEREOF, R. R. Donnelley & Sons Company has caused this instrument to be executed as of the day and year first above written. R. R. DONNELLEY & SONS COMPANY By: /s/ John M. Richman ------------------------------------ Name: John M. Richman Title: Acting Chairman and CEO The terms and conditions of the foregoing Stock Option Agreement are hereby accepted by the undersigned this 18th day of March, 1997 /s/ William L. Davis - -------------------------------- Name: William L. Davis -11- EX-27 6 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS DEC-31-1997 JAN-01-1997 MAR-31-1997 59,939 0 1,185,455 33,153 282,026 1,643,166 4,320,429 2,380,885 4,749,776 1,051,516 1,417,729 0 0 320,962 1,319,283 4,749,776 1,475,238 1,475,238 1,240,253 1,414,099 (6,910) 0 22,561 45,488 16,147 29,341 0 0 0 29,341 0.20 0.20
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