-----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, CcLXuDkkN6wY5jmyPUje0FXnX6/hiJEKxwNOGoUzz8xEyO4X4H2F7eDmSkawS3QQ ASv5OGpCjpVuZsDJ70LP2w== 0000740112-99-000002.txt : 19990412 0000740112-99-000002.hdr.sgml : 19990412 ACCESSION NUMBER: 0000740112-99-000002 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 DATE AS OF CHANGE: 19990408 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CONCORD EFS INC CENTRAL INDEX KEY: 0000740112 STANDARD INDUSTRIAL CLASSIFICATION: 6099 IRS NUMBER: 042462252 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 000-13848 FILM NUMBER: 99584817 BUSINESS ADDRESS: STREET 1: 2525 HORIZON LAKE DR STE 120 CITY: MEMPHIS STATE: TN ZIP: 38133 BUSINESS PHONE: 9013718000 MAIL ADDRESS: STREET 1: 2525 HORIZON LAKE DRIVE STREET 2: SUITE 120 CITY: MEMPHIS STATE: TN ZIP: 38133 FORMER COMPANY: FORMER CONFORMED NAME: CONCORD COMPUTING CORP DATE OF NAME CHANGE: 19920515 10-K405 1 ANNUAL REPORT ON FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1998 Commission file number 0-13848 CONCORD EFS, INC. (Exact name of registrant as specified in its charter) Delaware 04-2462252 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 2525 Horizon Lake Drive, Suite 120, Memphis, Tennessee 38133 (Address of principal executive offices) (Zip code) Registrant's Telephone Number, Including Area Code: (901) 371-8000 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.33 1/3 Par Value 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 has required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___. Indicate by check mark if disclosure of delinquent files pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ X ] The aggregate market value of the voting stock held by non-affiliates of the registrant on March 18, 1999 was $3,893,144,141. The number of shares of the registrant's Common Stock outstanding as of March 18, 1998 was 128,157,354. DOCUMENTS INCORPORATED BY REFERENCE PART I and PART II Portions of this Registrant's Annual Report to Stockholders for the year ended December 31, 1998, are incorporated by reference into Items 1, 5, 6, 7 and 8. PART III Portions of the Registrant's Proxy Statement for the Annual Meeting of Shareholders to be held May 20, 1999 are incorporated by reference into Items 10, 11, 12 and 13. CONCORD EFS, INC. FORM 10-K ANNUAL REPORT TABLE OF CONTENTS Item No. Page PART I 1. Business Overview 1 Subsidiaries 2 Operations by Industry Segment 2 Marketing and Customers 2 Competition 3 Supervision and Regulation 3 Employees 4 2. Properties 4 3. Legal Proceedings 5 4. Submission of Matters to a Vote of Security Holders 5 PART II 5. Market for Registrant's Common Stock and Related Stockholder Matters 5 6. Selected Financial Data 5 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 5 7A. Quantitative and Qualitative Disclosures About Market Risk 5 8. Financial Statements and Supplementary Data 5 9. Changes In and Disagreements with Accountants on Accounting and Financial Disclosures 5 PART III 10. Directors and Executive Officers of the Registrant 5 11. Executive Compensation 5 12. Security Ownership of Certain Beneficial Owners and Management 5 13. Certain Relationships and Related Transactions 5 PART IV 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 6 Signatures 7 PART I This Annual Report on Form 10-K may contain or incorporate by reference statements which may constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Prospective investors are cautioned that any such forward-looking statements are not guarantees for future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include general economic conditions, significant changes in the federal and state legal and regulatory environment, successful implementation of the Company's Year 2000 compliance project, the impact of the Company's recent acquisition of Electronic Payment Services, Inc. on its business and the market for the Company's stock and competition in the Company's markets. The Company undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time. Item 1. BUSINESS Overview Concord EFS, Inc. and its subsidiaries (the Company or Concord) provide electronic transaction authorization, processing, settlement and funds transfer services in selected markets. The Company's primary activity is Merchant Card Services, which involves the provision of integrated electronic transaction services for credit card, debit card and electronic benefits transfer ("EBT") card transactions to supermarket chains, grocery stores, convenience store merchants and other retailers. The Company believes it is one of the few fully integrated transaction processors, supplying electronic payment and verification terminals, cash dispensing machines ("ATMs"), processing services, payment settlement, depository services and transaction data compilation. In addition, the Company is one of the few companies offering full credit and debit card processing on a nationwide basis. The Company also provides electronic payment and banking facilities to a large customer base in the trucking industry for use at major truck stop chains throughout the United States. In addition to maintaining a network of over 400 ATMs at truck stops and supermarkets nationwide, the Company provides fuel purchase cards, ATM bank cards and general banking services to truck drivers. The Company offers trucking companies payroll deposit and cash forwarding services, as well as real-time data compilation with respect to fuel volume usage, fuel expenditures, vehicle and driver tracking and truck routine maintenance schedules. In addition the Company is the authorization and settlement provider for approximately 1,300 ATMs. The Company also provides check verification services to grocery and other retail merchants. Concord offers merchants a cost-effective, reliable, turnkey debit and credit card processing system. The Company is able to provide its system on a profitable basis because of its low-cost operational structure, which includes efficient marketing, volume purchasing arrangements with equipment and communications vendors, and direct membership by its subsidiary, EFS National Bank, in bank card associations (such as VISA and MasterCard) and national and regional debit card networks (such as Interlink, MAC, Explore and NYCE). In 1992, Concord entered into an agreement with the National Grocers Association, Inc. ("NGA") whereby Concord became the preferred vendor of the NGA for electronic payment services for a range of applications, including both turnkey packaged solutions and customized payment service agreements covering credit and debit card transaction processing. The agreement has enabled Concord to increase substantially its grocery store customer base. The Company believes a growing percentage of grocery transactions use credit, debit or EBT cards for payment. The Company seeks to grow its funds transfer and payment transaction processing business by providing a fully integrated range of transfer and processing services at competitive prices. The principal elements of the Company's strategy include the following: 1) The Company focuses on specific markets that historically have been under served by the transaction processing industry, seeking a diverse group of customers with low credit risk profiles. 2) The Company seeks to be a low-cost, highly reliable provider of electronic payment processing services by providing a fully integrated range of relevant services, including designing equipment solutions, selling and leasing equipment, authorizing transactions, capturing information on its own host computer, directly participating in all major credit and debit card associations and networks, and effecting settlement of payment transactions and transfer of funds. 3) The Company offers maximum technological versatility for the provisions of equipment of different manufacturers, in order to provide a tailored solution to the customer's specific needs. 4)The Company adheres to a balanced marketing approach through the use of internal marketing specialists, independent sales representatives and a number of independent sales organizations ("ISOs") in an effort to provide, at the most efficient cost, broader access to new merchant customers and portfolio acquisition opportunities nationwide. -1- Subsidiaries EFS National Bank (EFSNB), the largest subsidiary of the Company, sells credit, debit, and electronic benefits transfer (EBT) card authorization, data capture and settlement services to retailers and grocery stores. It also sells cash card and cash forwarding services to trucking companies through agreements with a network of truck stops. The services of EFSNB do not consist of material amounts of traditional banking activities (i.e., consumer and commercial loans, demand and time deposits, real estate, etc.). Therefore, the Company is not required to use the reporting format and related disclosures normally required for bank holding companies. Concord Computing Corporation's (CCC) primary activity is check authorization and POS terminal driving, servicing and maintenance for grocery store chains. It also owns and operates cash dispensing machines (ATMs) at truck stops and grocery stores nationwide. Additionally, CCC provides certain processing services for its affiliated companies. Concord Retail Services, Inc. (CRS), is a wholly-owned Delaware subsidiary. CRS provides POS terminal driving, servicing and maintenance to the Company's customers in the northeast United States. The Company incorporated Concord Equipment Sales, Inc. (CES), a wholly-owned Tennessee subsidiary, on September 5, 1991. CES purchases from manufacturers point-of-sale (POS) terminal products and communications equipment for use by the Company's customers in connection with the Company's transaction processing services. During 1997, the Company made two acquisitions that were immaterial to the financial statements. The Company purchased a federal savings bank charter in July 1997 and began operations as EFS Federal Savings Bank (EFSFSB) in August 1997 to facilitate the strategic deployment of cash dispensing machines and bank branches at selected truckstops. The Company also merged with Pay Systems of America, Inc. (PSA) in a pooling of interests on December 15, 1997. PSA is a Nashville, Tennessee based payroll processing company. During 1998, the Company acquired Digital Merchant Systems, Inc. and American Bankcard International (collectively DMS). DMS is a leading independent sales organization in the credit card industry and broadened the Company's ability to obtain new merchants and promote the continued growth of the Company. The transaction was accounted for as a pooling of interests. On November 23, 1998, the Company entered into an agreement to acquire Electronic Payment Services, Inc. (EPS) and completed the merger on February 26, 1999. EPS provides transaction processing services to financial institutions and retailers throughout the United States. EPS also owns and operates electronic data processing and data-capture networks that process transactions originating at ATMs and point-of-sale terminals. The combined results of Concord and EPS, accounted for as a pooling of interests are presented in Exhibit 99, - Supplemental Consolidated Financial Statements. These financial statements do not extend through the date of consummation. However, they will become the historical consolidated financial statements of the Company after financial statements covering the date of consummation of the business combination are issued. Operations by Industry Segment Information appearing under the caption "Note M - Operations By Industry Segment," on pages 19 and 20 of the Company's Annual Report to Stockholders for the year ended December 31, 1998 (Annual Report to Stockholders), is incorporated herein by reference. Marketing and Customers The Company markets its services and products on a nationwide basis directly and through ISOs and independent sales representatives to supermarket chains, grocery stores, convenience store merchants, other retailers, electronic funds transfer networks, financial institutions and trucking companies. Historically, the Company has grown its merchant customer base primarily through its in-house telemarketing and sales force working with independent contractor sales representatives nationwide. During 1996, the Company reorganized its sales and marketing activities relating to its Merchant Card Service business by adding marketing professionals focused upon multi-store merchants in certain specialized markets, by reducing the Company's in-house telemarketing staff, and by outsourcing a portion of its telemarketing activities to ISOs and by expanding its relationships with ISOs nationwide. The Company's strategy is to increase its in-house marketing expertise in certain specialized market areas and broaden its access to growth opportunities nationwide by utilizing the broader market penetration of ISOs. The Company believes that the most promising growth opportunities currently exist in certain small retail merchant chains in specialized markets, and in the acquisition of merchant processing portfolios developed by smaller processing service providers. The Company has had success historically in marketing through key trade association relationships, such as its relationship with the NGA, as the recommended provider of electronic services to grocers, and through agreements with other payment service providers. Management is committed to the cultivation of such trade association relationships and the development of arrangements with other service providers. -2- In 1998, the Company acquired DMS, a leading sales organization in the credit card industry. This added approximately 300 experienced sales representatives strategically located across the nation. As an integrated services provider, the Company has natural cross-selling marketing opportunities. When the Company established itself with the major truck stop chains as an authorized issuer of payment cards and processor of card transactions, the Company gained a substantial advantage in selling its card payment systems to trucking companies. The Company's established relationships with the truck stop owners also afforded an opportunity to sell the placement of ATMs at truck stops, which in turn provided a further advantage in selling the Company's integrated processing and banking services to trucking companies and truck drivers. The Company's established presence in grocery stores, grocery chains, convenience stores and other small and mid-size retailers gives it an advantage in establishing relationships with EBT providers, whose benefits are utilized largely at such retail locations. The Company, through its 1997 acquisition of PSA, began selling payroll processing services to its retail, grocery store, trucking company and truckstop merchants. Management believes the payroll processing business is a large and growing market that will grow even faster as governmental requirements for electronic filings of reports increase the accounting burden for small businesses. As these businesses outsource the payroll process, growth opportunities in this market will increase further. The Company's main sales offices are located in suburbs of Memphis, Tennessee, and Chicago, Illinois. Additional DMS sales offices are listed in Item 2 of this Form 10-K. Properties. The Company's executive officers actively participate in the Company's marketing efforts. Competition The markets for electronic payment processing, credit and debit card payment settlement, check authorization programs, fuel card and cash forwarding services, and ATM services are all highly competitive. The Company's principal competitors include major national and regional banks, local processing banks, non-bank processors and other independent service organizations, many of which have substantially greater capital, management, marketing and technological resources than those of the Company. In each of the Company's largest service types, the Company competes against other companies who have a dominant share of each market. Management estimates the three largest credit and debit card processors account for roughly 50% of the total credit and debit card sales volume. Management estimates that a single competitor accounts for well in excess of 50% of the total dollar volume of payment transaction processing for the trucking industry. Another single competitor accounts for in excess of 50% of the total dollar volume of check verifications. There can be no assurance that the Company will continue to be able to compete successfully with such competitors. In addition, the competitive pricing pressures that would result from any increase in competition could adversely affect the Company's margins and may have a material adverse effect on the Company's financial condition and results of operations. The Company competes in its markets in terms of price, quality, speed and flexibility in customizing systems to meet the particular needs of customers. The Company believes that it is one of the few fully integrated suppliers of a broad range of hardware and processing, banking and data compilation services for use in transactions at retail locations. The Company also competes with other electronic payment processing organizations for growth opportunities. The recent trend of consolidation in the banking industry in the United States has resulted in fewer opportunities for merchant portfolio acquisitions, as many small banks have been acquired by large banks, some of which are competitors with the Company in the provision of processing services. Supervision and Regulation Concord EFS, Inc. and its subsidiaries are subject to a number of federal and state laws. As a bank holding company, the Company is subject to regulation under the Bank Holding Company Act of 1956, as amended (the "Act") which is administered by the Federal Reserve Board (the "Board"). Under the Act, the Company is generally prohibited from directly engaging in any activities other than banking, managing or controlling banks, and bank-related activities. Also, the Act prohibits a bank holding company, with certain exceptions, from acquiring, directly or indirectly, ownership or control of 5% or more of the voting shares of any company which is not a bank or bank holding company. The primary exception to this prohibition involves activities which the Board determines are closely related to banking. A bank is also generally prohibited from engaging in certain tie-in arrangements with its bank holding company or affiliates with respect to the lease or sale of property, furnishing of services, or the extension of credit. The Act contains certain restrictions concerning future mergers with other bank holding companies and banks. Under the Act, a bank holding company is required to file with the Board an annual report and such additional information which the Board may require. The Board may examine the Company's and each of its subsidiaries' records, including a review of capital adequacy in relation to guidelines issued by the Board. If -3- the level of capital is deemed to be inadequate, the board may restrict the future expansion and operations of the Company. The Board possesses cease and desist powers over a bank holding company if its actions or actions of any of its subsidiaries represent unsafe or unsound practices or violations of law. Federal law also regulates transactions among the Company and its affiliates, including the amount of a banking affiliate's loans to, or investments in, non-bank affiliates and the amount of advances to third parties collateralized by securities of an affiliate. In addition, various requirements and restrictions under federal and state laws regulate the operations of the Company's banking affiliates, requiring the maintenance of reserves against deposits, limiting the nature of loans and the interest that may be charged thereon, restricting investments and other activities. The Company's bank affiliates are also limited in the amount of dividends that they may declare. Prior regulatory approval must be obtained before declaring any dividends if the amount of capital, surplus and retained earnings is below certain statutory limits. As a national bank, EFSNB operates under the rules and regulations of the Office of the Comptroller of the Currency, which is its primary regulator and is also a member of the Federal Reserve System, subject to provisions of the Federal Reserve Act. As a federal savings bank, EFSFSB operates under the rules of the Office of Thrift Supervision, which has primary regulatory and supervisory jurisdiction over EFSFSB. The Federal Deposit Insurance Corporation insures the domestic deposits of both Banks. Periodic audits and regularly scheduled reports of financial information are required by all regulatory agencies. Federal laws also regulate certain transactions among EFSNB, EFSFSB and its affiliates, including Concord EFS, Inc. The Company's EFT Services sold to financial institutions are regulated by certain State and Federal banking laws. Material changes in federal or state regulation could increase the cost to the Company of providing EFT Services, change the competitive environment or otherwise adversely affect the Company. The Company is not aware of any such change which is pending. In addition to regulation by federal and state laws and governmental agencies, the Company is subject to the rules and regulations of the various credit card and debit card associations and networks, including requirements for equity capital commensurate with processing transaction dollar volume. Employees As of December 31, 1998, the Company employed 1,102 full and part-time personnel, including 52 data processing and technical employees, 445 in operations, and 605 in sales and administration. Many of the Company's employees are highly skilled, and the Company believes its future success will depend in a large part on its ability to attract and retain such employees. The Company does have incentive agreements with the Chief Executive Officer and the President (included in Exhibit 10 to this Form 10-K), however, the Company does not have any material employment contracts with other employees. None of the Company's employees are represented by a labor union and the Company has experienced no work stoppages. The Company considers its employee relations to be excellent. Item 2. PROPERTIES The following table sets forth certain information concerning the principal facilities of the Company, all of which are leased: Approximate Area In Lease Location Square Feet Primary Uses Expiration - - ---------------- ----------- ---------------------- ----------------- Memphis, TN 43,375 Corporate Offices July 31, 2000 & EFSNB Operations Memphis, TN 6,480 EFSNB & CES Operations August 15, 2002 Elk Grove, IL 20,330 Data Processing, month to month Field Service, and CCC Operations Aurora, CO 3,072 Field Service month to month Memphis, TN 2,600 EFSFSB Branch June 30, 2003 Oakland, TN 800 EFSFSB Branch April 30, 1999 Nashville, TN 3,730 PSA Operations February 28, 2003 Northfield, IL 21,622 DMS Operations November 30, 1999 Tarrytown, NY 3,059 DMS Sales Office February 28, 2002 Addison, TX 2,204 DMS Sales Office February 28, 1999 Columbia, TN 1,810 DMS Sales Office July 1, 2000 Bradenton, FL 1,680 DMS Sales Office December 31, 1999 -4- Sarasota, FL 4,198 DMS Sales Office August 31, 1999 The Company believes all facilities are adequate. Item 3. LEGAL PROCEEDINGS The Company is a party to various routine lawsuits arising out of the conduct of its business, none of which are expected to have a material adverse effect upon the Company's financial condition or results of operations. Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted to a vote of stockholders in the fourth quarter of fiscal 1998. PART II Item 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS This information is included under the caption "Market Value For the Registrant's Common Stock and Related Stockholder Matters" on page 7 of the Company's Annual Report to Stockholders, is incorporated herein by reference. On June 30, 1998, the Company issued 4,425,000 shares of its common stock in connection with the Company's acquisition of Digital Merchant Systems of Illinois, Inc., and American Bankcard International, Inc., from Sam Buchbinder. The shares were issued to or for the benefit of Sam Buchbinder, who was the sole shareholder, Chairman of the Board and Chief Executive Officer of the entities acquired, without registration under the Securities Act of 1933 in reliance on the exemption under Section 4(2) of that Act. The Company believes Mr. Buchbinder had such knowledge and experience in financial and business matters that he was capable of evaluating the merits and risks of the investment in shares of the Company; he was afforded access to material information about the Company, and represented he was acquiring the shares for investment, subject to the obligation of the Company to file a registration statement to register resales of the shares acquired. Item 6. SELECTED FINANCIAL DATA Information included under the caption "Selected Consolidated Financial Data" on page 1 of the Annual Report to Stockholders is incorporated herein by reference. Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Information included under the captions "Management's Discussion and Analysis of Financial Condition and Results of Operations" on pages 3 to 5 of the Annual Report to Stockholders is incorporated herein by reference. Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Information appearing under the caption "Quantitative and Qualitative Disclosures About Market Risk" on page 6 of the Annual Report to Stockholders is incorporated herein by reference. Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The report of independent auditors and consolidated financial statements set forth below are included on pages 8 to 22 of the Annual Report to Stockholders, are incorporated herein by reference. Report of Independent Auditors. Consolidated Balance Sheets as of December 31, 1998 and 1997. Consolidated Statements of Income for the years ended December 31, 1998, 1997 and 1996. Consolidated Statements of Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996. Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996. Notes to Consolidated Financial Statements as of December 31, 1998. Quarterly results of operations for the years ended December 31, 1998 and 1997 on page 7 of the Annual Report to Stockholders are incorporated herein by reference. All other schedules for which provision is made in the applicable accounting regulations of the Securities & Exchange Commission are not required under the related instructions and, therefore, have been omitted. Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES None. PART III Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT See Item 13 below. -5- Item 11. EXECUTIVE COMPENSATION See Item 13 below. Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT See Item 13 below. Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information with respect to Items 10, 11, 12, and 13 is included in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held on May 20, 1999 under the captions "Election of Directors", "Executive Compensation", "Stock Options", Beneficial Ownership of Common Stock", and "Certain Transactions" and is incorporated herein by reference. PART IV Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a)(1)and (2) -- The response to this portion of Item 14 is submitted as a separate section of this report. (3) Listing of Exhibits: Exhibit Numbers 2 Agreement and Plan of Merger by and among Concord EFS, Inc., CEFT, Inc. and Electronic Payment Services, Inc., dated as of November 20, 1998. (incorporated by reference to Exhibit 2.1 of the Current Report on Form 8-K of Concord EFS, Inc. dated February 26, 1999 (Commission File 0-13848)) 3(A),4(A) Restated Certificate of Incorporation of Concord EFS, Inc., as amended. (incorporated by reference to Exhibit 4.1 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 3(B),4(B) Amended and Restated Bylaws of Concord EFS, Inc. (incorporated by reference to Exhibit 4.2 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 10.1*Concord EFS, Inc. 1993 Incentive Stock Option Plan, as amended. (incorporated by reference to Exhibit 99.1 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 10.2*Incentive Agreement, Dan M. Palmer, Chief Executive Officer of the Company 10.3*Incentive Agreement, Edward A. Labry III, President of the Company 21 List of Subsidiaries 23 Consent of Independent Auditors 23.1 Consent of Independent Auditors - Supplemental Consolidated Financial Statements 27 Financial Data Schedule 99 Supplemental Consolidated Financial Statements Report of Independent Auditors. Supplemental Consolidated Balance Sheets as of December 31, 1998 and 1997. Supplemental Consolidated Statements of Income for the years ended December 31, 1998, 1997 and 1996. Supplemental Consolidated Statements of Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996. Supplemental Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996. Notes to Supplemental Consolidated Financial Statements as of Decem- ber 31, 1998. * Denotes management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 14(c) of this report (b) Reports on Form 8-K: One report on Form 8-K was filed by the Company during the fourth quarter of fiscal year 1998. The Company filed a Form 8-K, dated November 23, 1998, to report, under Item 5 of the form, the signing of an Agreement and Plan of Merger, Dated November 23, 1998, providing for the acquisition by the Company of all of the outstanding common stock of Electronic Payment Services, Inc. Exhibits filed with the Form 8-K were the Company's Press Release dated November 23, 1998; Consolidated Financial Statements of Electronic Payment Services, Inc.; Unaudited Consolidated Selected Financial Information of Electronic Payment Services, Inc. as September 30, 1998 and for the nine months ended September 30, 1998 and 1997; and consent of independent auditors. (c) Exhibits -- The response to this portion of Item 14 is submitted as a separate section of this report. (d) Financial Statement Schedules -- No financial statement schedules are required to be filed as part of this report on Form 10-K. -6- SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has fully caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Concord EFS, Inc. By:/s/ Dan M. Palmer By:/s/Thomas J. Dowling ----------------- -------------------- Dan M. Palmer Thomas J. Dowling Chief Executive Officer Chief Financial Officer Date: March 31, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Signature Title Date - - ------------------------ ----------------------------- -------------- /s/ Dan M. Palmer Chairman of the Board and CEO March 31, 1999 Dan M. Palmer of the Company and EFS National Bank /s/ Edward A. Labry President of the Company and March 31, 1999 Edward A. Labry III EFS National Bank /s/ Richard M. Harter Director and Secretary of March 31, 1999 Richard M. Harter the Company /s/ Douglas C. Altenbern Director of the Company March 31, 1999 Douglas C. Altenbern /s/ David C. Anderson Director of the Company March 31, 1999 David C. Anderson /s/J. Richard Buchignani Director of the Company and March 31, 1999 J. Richard Buchignani EFS National Bank /s/ Joyce Kelso Director of the Company and March 31, 1999 Joyce Kelso EFS National Bank /s/ Richard P. Kiphart Director of the Company March 31, 1999 Richard P. Kiphart /s/ Jerry D. Mooney Director of the Company March 31, 1999 Jerry D. Mooney /s/Paul L. Whittington Director of the Company March 31, 1999 Paul L. Whittington /s/Thomas J. Dowling Chief Financial Officer and March 31, 1999 Thomas J. Dowling Chief Accounting Officer of the Company -7- CONCORD EFS, INC AND SUBSIDIARIES FORM 10-K LISTING OF EXHIBITS Exhibit Number Exhibit Description - - -------- ---------------------------------------------------------------------- 2 Agreement and Plan of Merger by and among Concord EFS, Inc., CEFT, Inc. and Electronic Payment Services, Inc., dated as of November 20, 1998. (incorporated by reference to Exhibit 2.1 of the Current Report on Form 8-K of Concord EFS, Inc. dated February 26, 1999 (Commission File 0-13848)) 3(A), Restated Certificate of Incorporation of Concord EFS, Inc., as 4(A) amended. (incorporated by reference to Exhibit 4.1 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 3(B), Amended and Restated Bylaws of Concord EFS, Inc. (incorporated 4(B) by reference to Exhibit 4.2 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 10.1* Concord EFS, Inc. 1993 Incentive Stock Option Plan, as amended. (incorporated by reference to Exhibit 99.1 of the Registration Statement on Form S-8 filed by Concord EFS, Inc. on March 10, 1999 (Registration No. 333-74215)) 10.2* Incentive Agreement, Dan M. Palmer, Chief Executive Officer of the Company 10.3* Incentive Agreement, Edward A. Labry III, President of the Company 21 List of Subsidiaries 23 Consent of Independent Auditors 23.1 Consent of Independent Auditors - Supplemental Consolidated Financial Statements 27 Financial Data Schedule 99 Supplemental Consolidated Financial Statements Report of Independent Auditors. Supplemental Consolidated Balance Sheets as of December 31, 1998 and 1997. Supplemental Consolidated Statements of Income for the years ended December 31, 1998, 1997 and 1996. Supplemental Consolidated Statements of Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996. Supplemental Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996. Notes to Supplemental Consolidated Financial Statements as of Decem- ber 31, 1998. EX-10.2 2 INCENTIVE AGREEMENT, DAN M. PALMER, CEO CONCORD EFS, INC. INCENTIVE AGREEMENT AGREEMENT dated as of February 26, 1998 (the "Effective Date") between Concord EFS, Inc., a Delaware corporation with its principal place of business at 2525 Horizon Lake Drive, Suite 120, Memphis, Tennessee (the "Company"), and Edward A. Labry, III (the "Executive"). 1. Employment. The Company agrees to employ the Executive as President, with all of the authority and responsibility customarily accorded such positions. The Executive agrees, while employed hereunder, to perform his duties faithfully and to the best of his ability and in accordance with criteria established by the Board of Directors. 2. Term. This Agreement shall begin as of the Effective Date and shall continue until February 25, 2003 unless terminated earlier for cause by the Company, cause to include failure to perform his duties faithfully and to the best of his ability and in accordance with criteria established by the Board of Directors. The rights, obligations and agreements of the Executive pursuant to Sections 6 and 7 hereof shall survive the termination of this Agreement for any reason. 3. Compensation. 3.1. Base Salary. As compensation for the Executive's services during the Term, the Company shall pay the Executive an annual Base Salary at the rate of $475,000 per year, payable with the same frequency as salaries paid to other senior executive officers. At least annually during the Term, the Compensation Committee of the Board of Directors (the "Committee") shall undertake an evaluation of the services of the Executive. The Committee shall consider the performance of the Executive, his contribution to the success of the Company, and other factors and shall adjust the annual Base Salary to be paid to the Executive. For continued performance at current levels, the parties expect an annual cost-of-living adjustment not to exceed 1.5 times the consumer price index change. 3.2. Incentive Compensation. For each year, commencing in 1998, the Committee will establish an incentive compensation program which will have a bonus potential of 50% of Base Salary. Payment of one-half the bonus potential will be based on the rate of increase of fully-diluted earnings per share, taking into account historic performance, changes in capitalization and market expectation. Payment of the remaining one-half of the bonus potential will be based on the achievement of performance criteria determined by the Committee after discussion with the Executive. The bonus for each year will be accrued in the year for which it has been earned. Within a reasonable period after audited operating results have been determined for each year and the Company's Compensation Committee has made its determination, payment of the incentive compensation for that year shall be made in cash, subject to applicable employment and withholding taxes, but only if the Executive is employed by the Company in good standing on the date of payment. 4. Stock Options. 4.1. Special Options. As of the date of this Agreement, the Company will grant to the Executive, as an incentive for his entering into this Agreement, an option to purchase 500,000 shares of the Company's common stock with an option price equal to $30.38 per share, the fair market value of the Company's common stock on the date of this Agreement (the "First Option"). The First Option shall vest (a) as to 250,000 shares on the earlier of (i) February 26, 2003 or (ii) the first day after the closing price of the Company's common stock (adjusted for any capital changes) has averaged $48 or higher over twenty consecutive trading days, and (b) as to the remaining 250,000 shares on February 26, 2003. On the date described in clause (a)(ii) of the preceding sentence, if earlier than February 26, 2003, the Company will grant to the Executive an option to purchase 250,000 shares with an option price equal to $48.00 per share (the "Second Option") The Second Option shall vest (c) as to 125,000 shares on the earlier of (i) February 26, 2003, or (ii) the first day after the closing price of the Company's common stock (adjusted for any capital changes) has averaged $64 or higher over twenty consecutive trading days, and (d) as to the remaining 125,000 shares on February 26, 2003. On the date described in clause (c)(ii) of the preceding sentence, if earlier than February 26, 2003, the Company will grant to the Executive an option to purchase 125,000 shares with an option price equal to $64.00 per share (the "Third Option"). The Third Option shall vest as to all its shares on February 26, 2003. Except as provided in Section 7, if the Executive's employment with the Company is terminated at any time prior to any vesting date, the unvested portions of First, Second and Third Options shall lapse without vesting. All share numbers and prices shall be adjusted for capital changes. 4.2. Regular Options. Each year during the term of this Agreement on or before the Company's annual meeting, the Company shall grant to the Executive an additional option to purchase up to 250,000 shares of the Company's common stock (adjusted for capital changes), with an option price equal to the fair market value of the Company's common stock on the date of grant ("Additional Option"). Options to purchase up to 125,000 shares each year will be based on growth in fully-diluted earnings per share, under the principles set forth in Section 3.2, and options to purchase up to 125,000 shares each year will be based on the achievement of other performance criteria determined by the Committee after discussion with the Executive. Except as provided in Section 7, the Executive shall become vested in any Additional Option in accordance with the Company's 1993 Incentive Stock Option Plan. 5. Employee Benefits. The Executive shall participate in all "employee pension benefit plans" and in all "employee welfare benefit plans" (each as defined in the Employee Retirement Income Security Act of 1974), and all other benefits plans available to any of the Company's officers, maintained by the Company, on a basis no less advantageous to the Executive than the basis on which similarly situated executives participate (collectively, "Benefits"). Without limiting the generality of the foregoing, the Executive shall be entitled to the following Benefits: 5.1. Medical Insurance. The Executive and the Executive's dependents shall be covered by medical insurance comparable in scope to the coverage afforded on the date hereof, with only such contribution by the Executive toward the cost of such insurance as may be required from time to time from other similarly situated executive employees. 5.2. Deferred Compensation. The Company and the Executive shall seek to establish a mutually satisfactory procedure permitting the Executive to defer a portion of his otherwise currently taxable compensation. 5.3. Expenses. The Company shall reimburse the Executive from time to time for the reasonable expenses incurred by the Executive in connection with the performance of his obligations hereunder, subject to compliance with reasonable documentation procedures. 5.4. Holidays and Vacations. The Executive shall be entitled to legal holidays and to annual paid vacation of up to four weeks, all in accordance with the Company's holiday and vacation policy. 6. Protective Agreements. 6.1. Not to Compete. For the period beginning on the date of this Agreement and continuing for three years after the Termination Date (except as modified pursuant to Section 7.3), the Executive shall not, directly or indirectly (including through a spouse or other family member), engage in, invest in, or enter into or participate in, at any place within North America any Competitive Business (as defined below), either as an individual for his own account, or as a partner or a joint venturer, or as an officer, director, consultant, independent contractor or holder of more than a 1% equity interest in any other person, firm, partnership, corporation, limited liability company or other business entity or as an employee, agent, consultant or salesperson for any person. For purposes of this Section 6, the term "Competitive Business" shall mean any business of electronic transmission of financial data or any other business or commercial activity that competes with or is reasonably likely to compete with or adversely affect any part or area of the Company's current or proposed business at any time throughout the entire period of the Executive's employment by the Company. 6.2. Not to Solicit or Interfere. For the period beginning on the date of this Agreement and continuing for three years after the Termination Date (except as modified pursuant to Section 7.3), the Executive shall not, directly or indirectly: (i) solicit, service, accept orders from, or otherwise have business contact with any person or entity who has, within the three-year period immediately prior to such termination of Executive's employment, been a customer of the Company; (ii) interfere with the contractual relations between the Company and any of its employees, vendors or agents; or (iii) employ or cause to be employed in any capacity, or retain or cause to be retained as a consultant, any person who was employed by the Company at any time during the one-year period ended on the date of termination of the Executive's employment. 6.3. Confidential Information. (a) The Executive recognizes and acknowledges that during the course of his employment, he may have exposure to and develop special knowledge and skills concerning certain of the Company's Confidential Information (as defined below) vital to the Company's ability to compete successfully in its business. The Executive further acknowledges that it is vital to the Company's legitimate business interests that the confidentiality of such Confidential Information be preserved, and that use or reliance on such Confidential Information by or on behalf of any other business or commercial activity in competition with the Company could result in irreparable harm to the Company. The Executive further acknowledges that the Confidential Information is a valuable, special and unique asset of the Company's business, and that the Confidential Information is and shall remain the exclusive property of the Company and nothing in this Agreement shall be construed as a grant to the Executive of any rights, title or interest in the Confidential Information. (b) Without the prior written consent of the Company, approved by its Board of Directors, the Executive shall not, at any time either during or subsequent to his employment by the Company, use any Confidential Information (as defined below) for the benefit of anyone other than the Company, or disclose any Confidential Information to any person or party; the Executive may, however, use or disclose Confidential Information as required by his obligations to the Company or as necessary or desirable (and for the benefit of the Company) in connection with the Company's business (but all such permitted uses and disclosures shall be made under circumstances and conditions reasonably appropriate to preserve the Confidential Information as the Company's confidential property). In particular, without limiting the generality of the foregoing, the Executive shall not remove any Confidential Information, however embodied, from the Company's premises, facilities or place of business, except as required in the course of employment by the Company. (c) After the term of the Executive's employment with the Company, the foregoing restrictions shall not apply to Confidential Information which the Executive can establish by competent written proof: (i) was known, other than under binder of secrecy, to the Executive prior to his employment by the Company; or (ii) was subsequently obtained by the Executive, other than under binder of secrecy, from a third party not acquiring the information under an obligation of confidentiality from the disclosing party. (d) The term "Confidential Information" includes all information which is acquired by the Executive from the Company, its other employees, its suppliers or customers, its agents or consultants, or others, during his employment by the Company, and which relates to the present or potential businesses and products of the Company, as well as any other information as may be designated by the Company as confidential. The term Confidential Information may relate, for example, to Inventions (as defined below), trade secrets, computer software, research, development, design, engineering, manufacturing, purchasing, supplier lists, customer lists, price lists, accounting, profit margins, marketing or sales volume information or strategic plans; may include information contained, for example, in drawings, models, data, specifications, reports, compilations or computer programs; and may be in the nature of unwritten knowledge or technical or manufacturing know-how; but shall not in any event include any information which becomes generally known or available to persons in the business or industry of the Company other than as a result of acts or omissions attributable to the Executive. 6.4 Specific Enforcement. The parties acknowledge that the Executive's breach of the provisions of this Section 6 could cause irreparable harm to the Company. It is agreed and acknowledged that the remedy of damages will not be adequate for the enforcement of such provisions and that such provisions may be enforced by equitable relief, including injunctive relief or specific performance, which relief shall be cumulative and in addition to any other relief to which the Company may be entitled. 6.5. Enforceability Amendment. If at any time any of the provisions of this Section 6 shall be deemed invalid or unenforceable or are prohibited by the laws of the state or place where they are to be performed or enforced, by reason of being vague or unreasonable as to duration or geographic scope or scope of activities restricted, or for any other reason, such provisions shall be considered divisible and shall become and be immediately amended to include only such restrictions and to such extent as shall be deemed to be reasonable and enforceable by the court or other body having jurisdiction over this Agreement; and the Company and the Executive agree that the provisions of this Section 6, as so amended, shall be valid and binding as though any invalid or unenforceable provision had not been included herein. 7. Change in control. Upon a Change in Control of the Company (as defined in this Section 7), the following changes shall be made in the provisions of this Agreement: 7.1. Incentive Compensation. The full bonus potential will be paid for the year in which the Change in Control occurs. 7.2. Stock Options. All stock options granted before the Change in Control pursuant to Sections 4.1 and 4.2 of this Agreement will become fully and immediately exercisable upon the Change in Control. 7.3. Protective Agreements. The period during which the protective agreements set forth in Section 6.1 and Section 6.2 may be enforced shall be reduced to the six-month period following the Change in Control. 7.4. Definition of Change in Control. For purposes of this Agreement, a "Change in Control" shall be deemed to have occurred if the conditions set forth in any one of the following paragraphs shall have been satisfied: (a) Any person is or becomes the beneficial owner as defined in Rule 13d-3 under the Securities Exchange Act of 1934 ("Exchange Act"), directly or indirectly, of securities of the Company representing fifty percent or more of the combined voting power of the Company's then outstanding voting securities; or (b) the stockholders of the Company shall have approved a plan of complete liquidation of the Company or the Company shall have sold or disposed of all or substantially all of the Company's assets (or completed a transaction having a similar effect). 8. Governing Law. This Agreement shall be deemed a contract made and performed in Tennessee and shall be governed by the laws of Tennessee. 9. Entire Agreement; Amendment. This Agreement constitutes the entire agreement of the parties and may be altered or amended or any provision hereof waived only by an agreement in writing signed by the party against whom enforcement of any alteration, amendment, or waiver is sought. No waiver by any party of any breach of this Agreement shall be considered as a waiver of any subsequent breach. 10. Binding Obligations. This Agreement shall be binding upon and inure to the benefit of the Company and its successors and assigns and the Executive and his personal representatives. 11. Assignability. Neither this Agreement nor any benefits payable to the Executive hereunder shall be assigned, pledged, anticipated, or otherwise alienated by the Executive, or subject to attachment or other legal process by any creditor of the Executive, and notwithstanding any attempted assignment, pledge, anticipation, alienation, attachment, or other legal process, any benefit payable to the Executive hereunder shall be paid only to the Executive or his estate. 12. NOTICES. All payments, notices or other communications required or permitted to be given hereunder shall be in writing and shall be personally delivered or sent be registered or certified mail, return receipt requested, postage prepaid, addressed to the parties. IN WITNESS WHEREOF, the Company, by its officer hereunto duly authorized, and the Executive have signed and sealed this Agreement as of the date first written above. CONCORD EFS, INC. By:/s/Edward A. Labry, III -------------------------------------- Edward A Labry, III President /s/Dan M. Palmer -------------------------------------- Dan M. Palmer EX-10.3 3 INCENTIVE AGREEMENT, EDWARD A. LABRY, PRESIDENT CONCORD EFS, INC. INCENTIVE AGREEMENT AGREEMENT dated as of February 26, 1998 (the "Effective Date") between Concord EFS, Inc., a Delaware corporation with its principal place of business at 2525 Horizon Lake Drive, Suite 120, Memphis, Tennessee (the "Company"), and Edward A. Labry, III (the "Executive"). 1. Employment. The Company agrees to employ the Executive as President, with all of the authority and responsibility customarily accorded such positions. The Executive agrees, while employed hereunder, to perform his duties faithfully and to the best of his ability and in accordance with criteria established by the Board of Directors. 2. Term. This Agreement shall begin as of the Effective Date and shall continue until February 25, 2003 unless terminated earlier for cause by the Company, cause to include failure to perform his duties faithfully and to the best of his ability and in accordance with criteria established by the Board of Directors. The rights, obligations and agreements of the Executive pursuant to Sections 6 and 7 hereof shall survive the termination of this Agreement for any reason. 3. Compensation. 3.1. Base Salary. As compensation for the Executive's services during the Term, the Company shall pay the Executive an annual Base Salary at the rate of $475,000 per year, payable with the same frequency as salaries paid to other senior executive officers. At least annually during the Term, the Compensation Committee of the Board of Directors (the "Committee") shall undertake an evaluation of the services of the Executive. The Committee shall consider the performance of the Executive, his contribution to the success of the Company, and other factors and shall adjust the annual Base Salary to be paid to the Executive. For continued performance at current levels, the parties expect an annual cost-of-living adjustment not to exceed 1.5 times the consumer price index change. 3.2. Incentive Compensation. For each year, commencing in 1998, the Committee will establish an incentive compensation program which will have a bonus potential of 50% of Base Salary. Payment of one-half the bonus potential will be based on the rate of increase of fully-diluted earnings per share, taking into account historic performance, changes in capitalization and market expectation. Payment of the remaining one-half of the bonus potential will be based on the achievement of performance criteria determined by the Committee after discussion with the Executive. The bonus for each year will be accrued in the year for which it has been earned. Within a reasonable period after audited operating results have been determined for each year and the Company's Compensation Committee has made its determination, payment of the incentive compensation for that year shall be made in cash, subject to applicable employment and withholding taxes, but only if the Executive is employed by the Company in good standing on the date of payment. 4. STOCK OPTIONS. 4.1. Special Options. As of the date of this Agreement, the Company will grant to the Executive, as an incentive for his entering into this Agreement, an option to purchase 500,000 shares of the Company's common stock with an option price equal to $30.38 per share, the fair market value of the Company's common stock on the date of this Agreement (the "First Option"). The First Option shall vest (a) as to 250,000 shares on the earlier of (i) February 26, 2003 or (ii) the first day after the closing price of the Company's common stock (adjusted for any capital changes) has averaged $48 or higher over twenty consecutive trading days, and (b) as to the remaining 250,000 shares on February 26, 2003. On the date described in clause (a)(ii) of the preceding sentence, if earlier than February 26, 2003, the Company will grant to the Executive an option to purchase 250,000 shares with an option price equal to $48.00 per share (the "Second Option") The Second Option shall vest (c) as to 125,000 shares on the earlier of (i) February 26, 2003, or (ii) the first day after the closing price of the Company's common stock (adjusted for any capital changes) has averaged $64 or higher over twenty consecutive trading days, and (d) as to the remaining 125,000 shares on February 26, 2003. On the date described in clause (c)(ii) of the preceding sentence, if earlier than February 26, 2003, the Company will grant to the Executive an option to purchase 125,000 shares with an option price equal to $64.00 per share (the "Third Option"). The Third Option shall vest as to all its shares on February 26, 2003. Except as provided in Section 7, if the Executive's employment with the Company is terminated at any time prior to any vesting date, the unvested portions of First, Second and Third Options shall lapse without vesting. All share numbers and prices shall be adjusted for capital changes. 4.2. Regular Options. Each year during the term of this Agreement on or before the Company's annual meeting, the Company shall grant to the Executive an additional option to purchase up to 250,000 shares of the Company's common stock (adjusted for capital changes), with an option price equal to the fair market value of the Company's common stock on the date of grant ("Additional Option"). Options to purchase up to 125,000 shares each year will be based on growth in fully-diluted earnings per share, under the principles set forth in Section 3.2, and options to purchase up to 125,000 shares each year will be based on the achievement of other performance criteria determined by the Committee after discussion with the Executive. Except as provided in Section 7, the Executive shall become vested in any Additional Option in accordance with the Company's 1993 Incentive Stock Option Plan. 5. Employee Benefits. The Executive shall participate in all "employee pension benefit plans" and in all "employee welfare benefit plans" (each as defined in the Employee Retirement Income Security Act of 1974), and all other benefits plans available to any of the Company's officers, maintained by the Company, on a basis no less advantageous to the Executive than the basis on which similarly situated executives participate (collectively, "Benefits"). Without limiting the generality of the foregoing, the Executive shall be entitled to the following Benefits: 5.1. Medical Insurance. The Executive and the Executive's dependents shall be covered by medical insurance comparable in scope to the coverage afforded on the date hereof, with only such contribution by the Executive toward the cost of such insurance as may be required from time to time from other similarly situated executive employees. 5.2. Deferred Compensation. The Company and the Executive shall seek to establish a mutually satisfactory procedure permitting the Executive to defer a portion of his otherwise currently taxable compensation. 5.3. Expenses. The Company shall reimburse the Executive from time to time for the reasonable expenses incurred by the Executive in connection with the performance of his obligations hereunder, subject to compliance with reasonable documentation procedures. 5.4. Holidays and Vacations. The Executive shall be entitled to legal holidays and to annual paid vacation of up to four weeks, all in accordance with the Company's holiday and vacation policy. 6. PROTECTIVE Agreements. 6.1. Not to Compete. For the period beginning on the date of this Agreement and continuing for three years after the Termination Date (except as modified pursuant to Section 7.3), the Executive shall not, directly or indirectly (including through a spouse or other family member), engage in, invest in, or enter into or participate in, at any place within North America any Competitive Business (as defined below), either as an individual for his own account, or as a partner or a joint venturer, or as an officer, director, consultant, independent contractor or holder of more than a 1% equity interest in any other person, firm, partnership, corporation, limited liability company or other business entity or as an employee, agent, consultant or salesperson for any person. For purposes of this Section 6, the term "Competitive Business" shall mean any business of electronic transmission of financial data or any other business or commercial activity that competes with or is reasonably likely to compete with or adversely affect any part or area of the Company's current or proposed business at any time throughout the entire period of the Executive's employment by the Company. 6.2. Not to Solicit or Interfere. For the period beginning on the date of this Agreement and continuing for three years after the Termination Date (except as modified pursuant to Section 7.3), the Executive shall not, directly or indirectly: (i) solicit, service, accept orders from, or otherwise have business contact with any person or entity who has, within the three-year period immediately prior to such termination of Executive's employment, been a customer of the Company; (ii) interfere with the contractual relations between the Company and any of its employees, vendors or agents; or (iii) employ or cause to be employed in any capacity, or retain or cause to be retained as a consultant, any person who was employed by the Company at any time during the one-year period ended on the date of termination of the Executive's employment. 6.3. Confidential Information. (a) The Executive recognizes and acknowledges that during the course of his employment, he may have exposure to and develop special knowledge and skills concerning certain of the Company's Confidential Information (as defined below) vital to the Company's ability to compete successfully in its business. The Executive further acknowledges that it is vital to the Company's legitimate business interests that the confidentiality of such Confidential Information be preserved, and that use or reliance on such Confidential Information by or on behalf of any other business or commercial activity in competition with the Company could result in irreparable harm to the Company. The Executive further acknowledges that the Confidential Information is a valuable, special and unique asset of the Company's business, and that the Confidential Information is and shall remain the exclusive property of the Company and nothing in this Agreement shall be construed as a grant to the Executive of any rights, title or interest in the Confidential Information. (b) Without the prior written consent of the Company, approved by its Board of Directors, the Executive shall not, at any time either during or subsequent to his employment by the Company, use any Confidential Information (as defined below) for the benefit of anyone other than the Company, or disclose any Confidential Information to any person or party; the Executive may, however, use or disclose Confidential Information as required by his obligations to the Company or as necessary or desirable (and for the benefit of the Company) in connection with the Company's business (but all such permitted uses and disclosures shall be made under circumstances and conditions reasonably appropriate to preserve the Confidential Information as the Company's confidential property). In particular, without limiting the generality of the foregoing, the Executive shall not remove any Confidential Information, however embodied, from the Company's premises, facilities or place of business, except as required in the course of employment by the Company. (c) After the term of the Executive's employment with the Company, the foregoing restrictions shall not apply to Confidential Information which the Executive can establish by competent written proof: (i) was known, other than under binder of secrecy, to the Executive prior to his employment by the Company; or (ii) was subsequently obtained by the Executive, other than under binder of secrecy, from a third party not acquiring the information under an obligation of confidentiality from the disclosing party. (d) The term "Confidential Information" includes all information which is acquired by the Executive from the Company, its other employees, its suppliers or customers, its agents or consultants, or others, during his employment by the Company, and which relates to the present or potential businesses and products of the Company, as well as any other information as may be designated by the Company as confidential. The term Confidential Information may relate, for example, to Inventions (as defined below), trade secrets, computer software, research, development, design, engineering, manufacturing, purchasing, supplier lists, customer lists, price lists, accounting, profit margins, marketing or sales volume information or strategic plans; may include information contained, for example, in drawings, models, data, specifications, reports, compilations or computer programs; and may be in the nature of unwritten knowledge or technical or manufacturing know-how; but shall not in any event include any information which becomes generally known or available to persons in the business or industry of the Company other than as a result of acts or omissions attributable to the Executive. 6.4 Specific Enforcement. The parties acknowledge that the Executive's breach of the provisions of this Section 6 could cause irreparable harm to the Company. It is agreed and acknowledged that the remedy of damages will not be adequate for the enforcement of such provisions and that such provisions may be enforced by equitable relief, including injunctive relief or specific performance, which relief shall be cumulative and in addition to any other relief to which the Company may be entitled. 6.5. Enforceability Amendment. If at any time any of the provisions of this Section 6 shall be deemed invalid or unenforceable or are prohibited by the laws of the state or place where they are to be performed or enforced, by reason of being vague or unreasonable as to duration or geographic scope or scope of activities restricted, or for any other reason, such provisions shall be considered divisible and shall become and be immediately amended to include only such restrictions and to such extent as shall be deemed to be reasonable and enforceable by the court or other body having jurisdiction over this Agreement; and the Company and the Executive agree that the provisions of this Section 6, as so amended, shall be valid and binding as though any invalid or unenforceable provision had not been included herein. 7. Change in control. Upon a Change in Control of the Company (as defined in this Section 7), the following changes shall be made in the provisions of this Agreement: 7.1. Incentive Compensation. The full bonus potential will be paid for the year in which the Change in Control occurs. 7.2. Stock Options. All stock options granted before the Change in Control pursuant to Sections 4.1 and 4.2 of this Agreement will become fully and immediately exercisable upon the Change in Control. 7.3. Protective Agreements. The period during which the protective agreements set forth in Section 6.1 and Section 6.2 may be enforced shall be reduced to the six-month period following the Change in Control. 7.4. Definition of Change in Control. For purposes of this Agreement, a "Change in Control" shall be deemed to have occurred if the conditions set forth in any one of the following paragraphs shall have been satisfied: (a) Any person is or becomes the beneficial owner as defined in Rule 13d-3 under the Securities Exchange Act of 1934 ("Exchange Act"), directly or indirectly, of securities of the Company representing fifty percent or more of the combined voting power of the Company's then outstanding voting securities; or (b) the stockholders of the Company shall have approved a plan of complete liquidation of the Company or the Company shall have sold or disposed of all or substantially all of the Company's assets (or completed a transaction having a similar effect). 8. Governing Law. This Agreement shall be deemed a contract made and performed in Tennessee and shall be governed by the laws of Tennessee. 9. Entire Agreement; Amendment. This Agreement constitutes the entire agreement of the parties and may be altered or amended or any provision hereof waived only by an agreement in writing signed by the party against whom enforcement of any alteration, amendment, or waiver is sought. No waiver by any party of any breach of this Agreement shall be considered as a waiver of any subsequent breach. 10. Binding Obligations. This Agreement shall be binding upon and inure to the benefit of the Company and its successors and assigns and the Executive and his personal representatives. 11. Assignability. Neither this Agreement nor any benefits payable to the Executive hereunder shall be assigned, pledged, anticipated, or otherwise alienated by the Executive, or subject to attachment or other legal process by any creditor of the Executive, and notwithstanding any attempted assignment, pledge, anticipation, alienation, attachment, or other legal process, any benefit payable to the Executive hereunder shall be paid only to the Executive or his estate. 12. NOTICES. All payments, notices or other communications required or permitted to be given hereunder shall be in writing and shall be personally delivered or sent be registered or certified mail, return receipt requested, postage prepaid, addressed to the parties. IN WITNESS WHEREOF, the Company, by its officer hereunto duly authorized, and the Executive have signed and sealed this Agreement as of the date first written above. CONCORD EFS, INC. By:/s/Dan M. Palmer -------------------------------------- Dan M. Palmer, Chief Executive Officer /s/Edward A. Labry, III -------------------------------------- Edward A. Labry, III EX-13 4 ANNUAL REPORT CONCORD EFS, INC AND SUBSIDIARIES SELECTED CONSOLIDATED FINANCIAL DATA The following selected consolidated financial data (in thousands, except per share data) should be read in conjunction with the consolidated financial statements and notes thereto appearing elsewhere herein.
Percentage of Revenue Percentage ---------------------- Change Year Ended ------------- Year Ended December 31 December 31 1998 1997 ----------------------------------------------- ---------------------- Over Over 1998 1997 1996 1995 1994 1998 1997 1996 1997 1996 -------- -------- -------- -------- ------- ---- ---- ---- ---- ---- INCOME STATEMENT DATA: Revenue $375,738 $270,074 $166,700 $127,762 $96,213 100.0 100.0% 100.0% 39.1% 62.0% Cost of Operations 275,374 198,939 119,675 90,579 69,840 73.3 73.7 71.8 38.4 66.2 Selling, General and Administrative Expenses 16,559 16,664 9,724 10,913 8,312 4.4 6.2 5.8 (0.6) 71.4 Operating Income 83,805 54,471 37,301 26,270 18,061 22.3 20.2 22.4 53.9 46.0 Interest, Net 13,709 10,801 4,014 2,116 1,588 3.6 4.0 2.4 26.9 169.1 Income Taxes 33,743 23,590 14,526 10,146 6,979 9.0 8.7 8.7 43.0 62.4 Net Income 63,771 41,682 26,789 18,315 12,713 17.0 15.4 16.1 53.0 55.6 Basic Earnings Per Share* $0.65 $0.43 $0.31 $0.22 $0.16 Diluted Earnings Per Share* $0.63 $0.42 $0.30 $0.21 $0.15 Weighted Average Shares* 97,628 96,527 86,226 83,016 81,477 Adjusted Weighted Average Shares and Assumed Conversions* 100,433 99,395 89,903 86,789 83,847 BALANCE SHEET DATA: Working Capital $351,666 $207,221 $130,606 $68,212 $45,717 Total Assets 519,598 368,439 292,813 156,887 99,462 Long Term Debt, Less Current Maturities 73,000 28,329 561 978 1,371 Total Stockholders' Equity 347,135 275,556 215,148 89,544 61,935
*Earnings per share and related per share data have been restated to reflect all stock splits. Additionally, see discussion of the restatement of amounts prior to 1998 in Management's Discussion and Analysis of Financial Condition and Results of Operations and the Notes to the Consolidated Financial Statements. -1- Dear Stockholders: We are proud to report the Company's strong financial performance for another year. Revenue is up 39%; Net Income is up 53% and Diluted Earnings Per Share is up 50%. These results met management's targeted goals for the year. Due to its growth, the Company became a member of the S&P 400 Mid-Cap Index in the fourth quarter of the year. We continue to be a member of the NASDAQ 100 Index. Being a member of these indices is both prestigious for the Company and makes the stock more liquid since some funds who manage these investments must buy more of the stock as the Company grows. During June, we concluded the acquisition of Digital Merchant Systems, Inc. and affiliated companies. At the date of acquisition, Digital was one of the largest and most successful independent sales organizations in the country. This transaction was accounted for as a pooling of interests transaction. On November 23, 1998, we announced that the Company had entered into a pooling of interests transaction with Electronic Payment Services, Inc. (EPS). Commenting on the merger at the time, we stated, "We believe this merger will combine two great internal growth companies. Traditionally, Concord has been a marketing and service company focusing on growth while EPS has tremendous processing capabilities through its MAS, MAC and Buypass groups. Going forward we can broaden each of our markets by expanding into new industry segments of the transaction processing business....Combined. Concord gains many front-end certifications through EPS and EPS gains a settlement bank for a fully integrated processing solution." The acquisition was approved by your vote at a special stockholders meeting held February 18, 1999. We also received our final regulatory approvals in February and completed the merger on February 26, 1999. The acquisition adds approximately 2,500 merchant and financial institution customers, and 2.8 billion in transaction processing volume to Concord's business. With the intergration of the combined sales forces of Digital, EPS and Concord, we are able to cross sell all of the Company's products to niche industries, which we collectively serve. This puts the Company in the best position ever for continued high growth. Also, the newly acquired processing and software systems will enhance sales possibilities even more. The Company's strategic direction of products and services is set for the years to come. We will continue to implement our strategies for the future growth and return on shareholder value. On behalf of all the employees of the new consolidated Concord, we thank you for your interest and support. Very truly yours, Dan M. Palmer Edward A. Labry, Ill Chairman and CEO President -2- CONCORD EFS, INC AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's discussion and analysis of financial condition and results of operations may contain statements which may constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Section Exchange Act of 1934, as amended. Investors are cautioned that any such statements are not guarantees for future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include significant fluctuations in interest rates, inflation, economic recession, significant changes in the federal and state legal and regulatory environment, successful implementation of the Company's Year 2000 compliance project, the impact of the Company's recent acquisition of Electronic Payment Services, Inc. on its business and the market for the Company's stock and competition in the Company's markets. The Company undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future results over time. RESULTS OF OPERATIONS The results of operations of Concord EFS, Inc. and subsidiaries (the Company) discussed herein have been restated for the June 30, 1998 acquisition of Digital Merchant Systems of Illinois and American Bankcard International, Inc. (jointly referred to as DMS) but do not include the results of Electronic Payment Services, Inc., (EPS) which was acquired by the Company in a pooling of interests transaction on February 26, 1999. In connection with the acquisition of EPS, the Company expects to incur approximately $10.5 million in acquisition related expenses in the first quarter of 1999. These expenses are primarily investment banking, legal and accounting fees. Although no definite plan has been adopted, management is currently reviewing operational synergies, such as duplicate facilities, computer and communication hardware and software and other contractual relationships, including severance, that may require additional charges in the second quarter of 1999 and beyond. Management plans to complete this analysis by May 31, 1999 and will update stockholders on the progress, if available, in the Company's first quarter 1999 Form 10-Q. Calendar 1998 Compared to Calendar 1997 Revenue increased 39% in 1998 over 1997. Transaction processing revenue from Merchant Card Services, which includes credit, debit, electronic benefits transfer (EBT) and fuel card transactions increased 41% for the year. The addition of new merchants was the primary reason behind the increase in revenue. The increase in rates was a pass through of higher interchanging expenses assessed the Company from the credit card associations. A third factor that increased the Company's Merchant Card Services revenue was the widening acceptance of debit and EBT card transactions at new and existing merchants. Merchant Card Services was 89% of total revenue. ATM Services, which include transactional fees, surcharges and ATM processing fees, increased 34%. The placement of new ATMs and new ATM processing customers accounted for the increase. ATM Services was 8% of total revenue. Other Revenue, primarily check and terminal services, was 3% of total revenue and increased 7% in 1998. Net Income as a percentage of revenue increased in 1998 to 17.0% from 15.4% in the prior year. Operational costs remained consistent with the prior year as a percentage of total revenue. Increased interchange costs from credit card association increases were balanced by operating expenses such as depreciation and payroll growing at a slower rate than revenue. The primary component of the margin improvement was due to selling, general and administrative expenses decreasing from $16.7 million in 1997 to $16.6 million in 1998. A second component of the margin improvement was the combination of net interest income and income taxes. During 1998 the Company increased its allocation of municipal investment securities within the investment portfolio from 18% at year end 1997 to 41% at year end 1998. Municipal investment securities are generally tax-exempt for federal income tax purposes and have lower interest rates than taxable investment securities. Although net interest income decreased as a percentage of total revenue from 4.0% in 1997 to 3.6% in 1998, the Company's overall tax rate decreased from 36.1% in 1997 to 34.6% in 1998 due to the non-taxable interest income. Calendar 1997 Compared to Calendar 1996 Revenue increased 62% in 1997. As described in Note L in the Notes to Consolidated Financial Statements, the Company merged with DMS. The financial statements of DMS prior to January 1, 1997 were immaterial for restatement purposes. However, DMS's revenue for 1997 was approximately $30 million. Excluding DMS's 1997 revenue, total revenue increased 44% in 1997. Transaction processing revenue from Merchant Card Services, which includes credit, debit, EBT and fuel card transactions, increased 60% for the year. The addition of new merchants and DMS were the primary factors of the increase, although increasing credit and debit card usage at existing merchants, primarily the Company's -3- grocery store niche, also generated increased revenue. Merchant Card Services was 87% of the total revenue. ATM Services (8% of total revenue) increased 237%, from $6.5 million in 1996 to $21.8 million in 1997. The increase in ATM Services revenue, which includes transactional fees, surcharges and ATM processing fees, was primarily related to an increase in ATMs in which the Company is the transaction processor. During 1997, Other Revenue, primarily check and terminal services (4% of total revenue), decreased 6%. Net Income as a percentage of revenue decreased in 1997 to 15.4% from 16.1% in the prior year based upon the restatement of the 1997 financial statements for the DMS acquisition. In 1997, the restatement of DMS results provided revenue of approximately $30 million, cost of operations of approximately $26 million, selling, general and administrative expenses of approximately $8 million and a net loss of approximately $1 million. These results decreased net income as a percentage of revenue from 17.8% to 15.4%. Excluding the DMS restatement, Net Income as a percentage of revenue increased in 1997 to 17.8% from 16.1% in the prior year. Two factors that improved the percentage increase were lower selling, general and administrative expenses offset by increased operational costs for the amortization of purchased merchant contracts, and increased interest income. First, the Company has historically generated sales through senior management, commissioned telemarketing activities and outside sales representatives: however, in 1996 the Company reorganized its marketing activities to meet future growth objectives by increasing the direct marketing staff, downsizing the telemarketing staff and entering into agreements with independent sales organizations to purchase individual merchant contracts and merchant portfolios. The reduction in selling, general and administrative expenses offset by higher operational costs from the amortization of merchant contracts purchased resulted in a decrease in expenses of approximately $400,000. Secondly, interest income increased as a result of available cash being invested in securities described in the Notes to Consolidated Financial Statements. Offsetting the factors improving the percentage increase were lower margin processing and increased taxes resulting from the pretax percentage of revenue increase. A portion of the new merchants and services contributing to the increased revenue discussed above were large volume merchants. Due to competitive reasons, the Company offers these merchants lower rates and earns less per transaction. LIQUIDITY AND CAPITAL RESOURCES The Company consistently generates significant resources from operating activities. Over the past three years operating activities generated cash of $93.7, $27.7, and $80.0 million, respectively. Significant changes in accounts receivable and accounts payable result from the day of the week the calendar year end falls combined with the increases in settlement volume from one year to the next, impacting cash generated from operations. At December 31, 1996, approximately $35.1 million was received from credit card associations prior to disbursement of the funds to the Company's Merchant Card Service customers. Under a typical two day settlement cycle, these funds would have been paid to the customers prior to December 31, 1996, and cash provided (used) from operating activities would have been (44.9) million for the year ended December 31, 1996 and $62.9 million for the year ended December 31, 1997. The Company completed a secondary offering of common stock in October 1996. Proceeds from the 3.45 million shares issued were $87.7 million. $30 million was used as a capital contribution to EFS National Bank (EFSNB), a wholly-owned subsidiary of the Company, in order for it to remain in compliance with the guidelines of credit card associations as its processing transaction volume increases. It is expected that portions of this additional EFSNB equity will be utilized from time to time to acquire selected merchant payment processing portfolios from banks and other processing organizations. The balance of the net proceeds held by the Company will be available for working capital and general corporate purposes, including placing additional ATMs, the possible acquisition of transaction processing businesses and use in other subsidiaries of the Company. The Company invested the net proceeds of the offering in short- and medium-term, interest-bearing obligations described in Note B - Securities. During fiscal 1998, the Company invested approximately $94 million in securities, net of sales and maturities, and $25.3 million in capital additions. Capital additions were primarily for new computer equipment. These investing activities were funded primarily through operating activities and $45 million in proceeds from notes payable to the Federal Home Loan Bank (see Note E to Consolidated Financial Statements). Stock issued upon exercises of options under the Company's Incentive Stock Option Plan provided $3.1 million in additional capital in 1998. The disqualifying disposition of the options also reduced corporate income taxes paid by $3.6 million. Management cannot estimate the timing or amount of future cash flows from exercise of options, however, this is expected to continue to be a source of funds to the Company. The Company has unused unsecured lines of credit of $20 million with -4- financial institutions. The Company holds securities with a market value of approximately $193.2 million that are available for operating needs or as collateral to obtain short-term financing, if needed. With adequate available credit and strong cash generation, the Company is in sound financial condition and expects to fund continued growth from currently available resources. EFSNB exceeds all required capital ratios. EFFECTS OF INFLATION The Company's assets are primarily monetary, consisting of cash, assets convertible into cash, securities owned and receivables. Because of their liquidity, these assets are not significantly affected by inflation. Management believes that replacement costs of equipment, furniture and leasehold improvements will not materially affect operations. However, the rate of inflation affects the Company's expenses, such as those for employee compensation and communications, which may not be readily recoverable in the price of services offered by the Company. YEAR 2000 ISSUES The Year 2000 preparedness efforts of the Company cover both information technologies ("IT") and non-IT systems. Non-IT systems include those systems used in the daily operations of buildings and facilities. IT systems include computer hardware, software and related applications. The Company has instituted a five-phase plan to resolve the Year 2000 issue so that its IT and non-IT systems will function properly with respect to dates in the year 2000 and beyond. These five phases are: awareness, assessment, renovation, validation and implementation. Based on progress to date, the Company has substantially completed the awareness and assessment phases for all systems. The renovation, validation and implementation phases for internal and external mission critical systems and entities have been instituted concurrently and are on schedule for completion. The validation phase includes an independent review of results for all mission critical applications by the Company's internal audit staff, external auditors, and various regulatory agencies. As of December 31, 1998, the implementation phase for internal mission critical systems is substantially complete. The Company's processing systems also require testing for Year 2000 compliance with external entities, including its customers, credit and debit networks, and vendors. As of January 31, 1999, approximately 30% of the external entity certification is complete. It is estimated that external mission critical system testing will be 90% complete by March 31, 1999. The remaining 10% have been delayed at the request of select external agencies but will be complete or have contingency plans in place in anticipation of non-compliance by May 31, 1999. There is no guarantee that the systems of other companies on which the Company's systems rely will be converted in a timely manner. However, contingency plans have been created for all mission critical vendor products and services. The contingency plans will be further enhanced and expanded to include Business Resumption planning during the first two quarters of 1999 with completion to coincide with the completion of the Year 2000 project. These plans will include both the Company's internal mission critical systems and third-party exposures, based on the evaluation of progress at that time. The Company's management believes it has a plan in place to resolve the Year 2000 issue in a timely and effective manner. The entire Year 2000 project is scheduled for completion no later than June 30, 1999, well in advance of any anticipated impact on the Company. Additional testing of new or remediated systems and applications will continue as needed to ensure full Year 2000 compliance. If the Company does not complete the phases of its plan that are now underway, then its ability to process transactions for its customers could be adversely affected. The potential liability or lost revenue under this scenario could have a materially adverse effect on the Company's financial condition and results of operations. The Company has spent approximately $2.0 million in 1998 and anticipates spending an additional $663,000 to substantially complete its Year 2000 compliance project in accordance with its current schedule. These amounts exclude expenditures for normal business growth if timing of acquisition has been accelerated to facilitate short-term Year 2000 testing or compliance. To date, the Company has expensed all costs associated with its Year 2000 assessment and related application remediations. The cost of the project and the date on which the Company believes it will complete the Year 2000 remediations are based on management's best estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of certain resources and other factors. However, there can be no guarantee that these estimates will be accurate and actual results could differ materially from those anticipated. Specific factors that might cause such material differences include, but are not limited to, the availability and cost of personnel trained in this area, the ability to locate and correct all relevant application code, and similar uncertainties. -5- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The securities of the Company are subject to risk resulting from interest rate fluctuations to the extent that there is a difference between the amount of the Company's interest-bearing assets and the amount of interest-bearing liabilities that are prepaid, mature or reprice in specific periods. This risk is mitigated by the fact that approximately 75% of the market value of securities owned were funded through equity rather than debt. The principal objective of the Company's asset/liability activities is to provide maximum levels of net interest income while maintaining acceptable levels of interest rate and liquidity risk and facilitating the funding needs of the Company. The Company utilizes an interest rate sensitivity model as the primary quantitative tool in measuring the amount of interest rate risk that is present at the end of each month. The following tables (in thousands, except percentages) provide comparative information about the Company's financial instruments that are sensitive to changes in interest rates. This table presents principal cash flows and related weighted-average interest rates by expected maturity dates. Additionally, the Company has assumed its securities, described in Note B of the Notes to Consolidated Financial Statements, are similar enough to aggregate those securities for presentation purposes. If tax equivalent yields of municipal securities had been utilized, the weighted-average interest rates would have been higher.
December 31, 1998 Fair Value at 1999 2000 2001 2002 2003 Thereafter Total 12/31/98 ------- ------ ------- ------- ------- ---------- -------- ---------- December 31, 1998 Assets: Available-for-sale securities $34,705 $8,354 $15,956 $8,309 $17,624 $191,640 $276,588 $278,398 Average interest rate 6.2% 6.5% 4.8% 5.1% 4.8% 5.8% Liabilities: Long-term debt, including current portion $116 $28,000 $10,000 $35,000 $73,116 $71,652 Average interest rate 6.3% 5.9% 5.6% 5.4%
December 31, 1998 Fair Value at 1998 1999 2000 2001 2002 Thereafter Total 12/31/98 ------- ------ ------- ------- ------- ---------- -------- ---------- Assets: Available-for-sale securities $13,987 $8,014 $12,306 $7,437 $4,461 $87,968 $134,173 $134,334 Average interest rate 6.6% 6.5% 6.6% 6.6% 6.5% 6.9% Held-to-maturity securities $1,717 $4,000 $232 $7,121 $3,375 $36,063 $52,508 $53,634 Average interest rate 7.8% 6.3% 5.4% 6.6% 5.1% 6.9% Liabilities: Long-term debt, including current portion $445 $329 $28,000 $28,774 $28,666 Average interest rate 8.0% 6.3% 5.9%
-6- RECENT QUARTERLY RESULTS The following table presents an unaudited summary of quarterly results for the quarters of the calendar years 1998 and 1997. 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter ----------- ----------- ----------- ----------- (in thousands, except per share data) 1998 Revenue $76,267 $90,588 $99,715 $109,168 Operating Income 14,970 19,947 22,238 26,650 Net Income 12,160 15,014 16,709 19,888 Basic Earnings per Share $0.13 $0.15 $0.17 $0.20 Diluted Earnings per Share $0.12 $0.15 $0.17 $0.20 1997 Revenue $54,784 $63,628 $71,306 $80,355 Operating Income 9,063 12,378 14,856 18,174 Net Income 6,883 9,255 11,592 13,952 Basic Earnings per Share $0.07 $0.10 $0.12 $0.14 Diluted Earnings per Share $0.07 $0.09 $0.12 $0.14 The above quarterly results for 1998 and 1997 have been restated to include the results of Digital Merchant Systems (DMS). DMS was acquired in a pooling-of-interests transaction completed on June 30, 1998. Therefore, the above amounts for the first three quarters of 1997 and the first quarter of 1998 differ from amounts previously reported in Forms 10-Q, filed with the Securities and Exchange Commission. MARKET VALUE FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS The Company's Common Stock trades on the Nasdaq National Market tier of the Nasdaq Stock Market (NASDAQ) under the symbol "CEFT". The following table sets froth the range of high and low bid quotations per share of the Company's Common Stock through December 31, 1998, as reported by NASDAQ. High Low ------ ------ 1998 First Quarter $23.44 $13.31 Second Quarter 26.50 19.00 Third Quarter 28.25 19.38 Fourth Quarter 42.38 19.00 1997 First Quarter $19.33 $12.50 Second Quarter 17.92 10.83 Third Quarter 20.00 17.17 Fourth Quarter 21.75 14.00 As of January 18, 1999 there were approximately 15,500 stockholders. The company has never paid cash dividends. It is the present policy of the Company's Board of Directors to retain earnings to finance expansion in the foreseeable future. -7- CONCORD EFS, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS December 31 ------------------- 1998 1997 -------- -------- (in thousands) ASSETS CURRENT ASSETS Cash and cash equivalents $ 69,167 $ 63,795 Securities available-for-sale (amortized cost of $286,370 at December 31, 1998 and $140,038 at December 31, 1997) 288,180 140,199 Accounts receivable, less allowance of $917 at December 31, 1998 and $1,433 at December 31, 1997 71,009 54,166 Inventories 11,112 5,259 Prepaid expenses and other current assets 5,724 4,575 Deferred income taxes 1,674 1,190 -------- -------- TOTAL CURRENT ASSETS 446,866 269,184 SECURITIES HELD-TO-MATURITY (fair value of $53,634 at December 31, 1997) 52,508 OTHER ASSETS 27,394 14,478 PROPERTY AND EQUIPMENT 114,779 89,520 Accumulated depreciation and amortization (69,441) (57,251) -------- -------- 45,338 32,269 -------- -------- TOTAL ASSETS $519,598 $368,439 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable and other liabilities $ 84,432 $ 50,075 Accrued liabilities 9,300 10,453 Income taxes payable 1,352 990 Current maturities of long-term debt 116 445 -------- -------- TOTAL CURRENT LIABILITIES 95,200 61,963 LONG-TERM DEBT, LESS CURRENT MATURITIES 73,000 28,329 DEFERRED INCOME TAXES 4,263 2,591 STOCKHOLDERS' EQUITY Common stock, $0.33 1/3 par value; authorized 200,000 shares, issued and outstanding 97,870 shares at December 31, 1998 and 66,404 shares at December 31, 1997 32,624 22,135 Additional paid-in capital 110,161 113,912 Retained earnings 203,181 139,410 Accumulated other comprehensive income 1,169 99 -------- -------- TOTAL STOCKHOLDERS'EQUITY 347,135 275,556 -------- -------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $519,598 $368,439 ======== ======== See notes to consolidated financial statements. -8- CONCORD EFS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME For Year Ended December 31 ---------------------------- 1998 1997 1996 -------- -------- -------- (in thousands, except per share data) Revenue $375,738 $270,074 $166,700 Cost of operations 275,374 198,939 119,675 Selling, general and administrative expenses 16,559 16,664 9,724 -------- -------- -------- OPERATING INCOME 83,805 54,471 37,301 Other income (expense): Interest income 17,625 11,731 4,104 Interest expense (3,916) (930) (90) -------- -------- -------- INCOME BEFORE TAXES 97,514 65,272 41,315 Income taxes 33,743 23,590 14,526 -------- -------- -------- NET INCOME $63,771 $41,682 $26,789 ======== ======== ======== Per share data: Basic earnings per share $0.65 $0.43 $0.31 ======== ======== ======== Diluted earnings per share $0.63 $0.42 $0.30 ======== ======== ======== Weighted average shares 97,628 96,527 86,226 ======== ======== ======== Adjusted weighted average shares and assumed conversions 100,433 99,395 89,903 ======== ======== ======== See notes to consolidated financial statements. -9- CONCORD EFS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Accumulated Common Stock Additional Other ---------------- Paid-In Retained Comprehensive Shares Amount Capital Earnings Income Total ------- ------- ---------- -------- ------------- -------- (in thousands) BALANCE AT JANUARY 1, 1996 24,940 $8,313 $ 10,492 $70,939 $(200) $89,544 Exercise of stock options 1,074 358 4,496 4,854 Secondary offering of common stock 3,450 1,150 86,521 87,671 Tax benefit of disqualifying disposition of incentive stock option shares 6,586 6,586 Three for two stock splits 31,353 10,451 (10,451) Net income 26,789 26,789 Net unrealized losses on securities, net of tax (296) (296) -------- Comprehensive income 26,493 ------ ------- -------- -------- ------------- -------- BALANCE AT DECEMBER 31, 1996 60,817 20,272 97,644 97,728 (496) 215,148 Restatement for poolings of interests 4,511 1,504 4,110 5,614 ------ ------- -------- -------- ------------- -------- RESTATED BALANCE AT JANUARY 1, 1997 65,328 21,776 101,754 97,728 (496) 220,762 Exercise of stock options 1,076 359 6,300 6,659 Tax benefit of disqualifying disposition of incentive stock option shares 5,858 5,858 Net income 41,682 41,682 Net unrealized gains on securities, net of tax 595 595 -------- Comprehensive income 42,277 ------ ------- -------- -------- ------------- -------- BALANCE AT DECEMBER 31 1997 66,404 22,135 113,912 139,410 99 275,556 Exercise of stock options 413 138 2,970 3,108 Three for two stock split 31,053 10,351 (10,351) Tax benefit of disqualifying disposition of incentive stock option shares 3,630 3,630 Net income 63,771 63,771 Cumulative effect of accounting change 776 776 Net unrealized gains on securities, net of tax 294 294 -------- Comprehensive income 64,841 ------ ------- -------- -------- ------------- -------- BALANCE AT DECEMBER 31, 1998 97,870 $32,624 $110,161 $203,181 $1,169 $347,135 ====== ======= ======== ======== ============= ========
See notes to consolidated financial statements. -10- CONCORD EFS, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS Year Ended December 31 ---------------------------- 1998 1997 1996 -------- -------- -------- (in thousands) OPERATING ACTIVITIES Net income $ 63,771 $ 41,682 $ 26,789 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 16,220 12,202 9,140 Provision for losses on accounts receivable 1,569 1,445 817 Deferred income taxes (benefit) 609 (313) 213 Changes in operating assets and liabilities: Accounts receivable (18,412) (17,363) 24,625 Inventories (5,853) (906) 412 Other current assets (1,149) (1,630) (31) Accounts payable and other liabilities 34,357 (21,739) 10,847 Accrued liabilities 2,635 14,327 7,219 -------- -------- -------- NET CASH PROVIDED BY OPERATING ACTIVITIES 93,747 27,705 80,031 INVESTING ACTIVITIES Acquisition of property and equipment (25,259) ( 15,150) (16,069) Securities held-to-maturity: Acquisition of securities (9,630) (17,141) (57,135) Proceeds from maturity of securities 4,843 21,347 809 Securities available-for-sale: Acquisition of securities (241,314) (156,515) (36,054) Proceeds from sales of securities 104,383 48,401 Proceeds from maturity of securities 48,098 32,178 173 Merchant contracts purchased (16,946) (12,986) (3,565) Other 5,551 (732) -------- -------- -------- NET CASH USED IN INVESTING ACTIVITIES (135,825) (94,315) (112,573) FINANCING ACTIVITIES Proceeds from exercise of stock options 3,108 6,659 4,854 Proceeds from secondary offering of common stock 87,671 Proceeds from notes payable 45,000 28,000 Payments on notes payable (658) (418) (392) -------- -------- -------- NET CASH PROVIDED BY FINANCING ACTIVITIES 47,450 34,241 92,133 -------- -------- -------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 5,372 (32,369) 59,591 Cash and cash equivalents at beginning of period 63,795 96,164 36,573 -------- -------- -------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 69,167 $ 63,795 $ 96,164 ======== ======== ======== Supplemental disclosures of cash flow information: Cash paid during the period for: Interest $3,591 $692 $82 ======== ======== ======== Income taxes $29,504 $16,861 $8,036 ======== ======== ======== See notes to consolidated financial statements. -11- CONCORD EFS, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 NOTE A - SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation: The consolidated financial statements include the accounts of Concord EFS, Inc. (Parent) and its wholly-owned subsidiaries, Concord Computing Corporation (Concord), EFS National Bank (EFSNB), EFS Federal Savings Bank (EFSFSB), Concord Retail Services, Inc., Concord Equipment Sales, Inc. (formerly VMT, Inc.), Pay Systems of America, Inc. (PSA) and Digital Merchant Systems, Inc. (DMS), (collectively, the Company). The Company repurchased the minority interest in Network EFT, Inc. during 1996 and transferred its residual business and operational assets to Concord. All material intercompany balances and transactions have been eliminated in consolidation. Operations: The Company provides transaction processing, authorization and settlement services, throughout the United States. The primary components of these services are Merchant Card Services and ATM Services, comprising approximately 96% of revenues in 1998. The Company requires certain customers to provide letters of credit, surety bonds or cash deposits as collateral for outstanding accounts receivable. Cash Equivalents: The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Securities Held-to-Maturity and Available-for-Sale: Management determines the appropriate classification of debt securities at the time of purchase and re-evaluates such designation as of each balance sheet date. Debt securities are classified as held-to-maturity when the Company has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost. Debt and equity securities not classified as held-to-maturity or trading are classified as available-for-sale. Available-for-sale securities are stated at fair value, with the unrealized gains and losses, net of tax, reported as a component of accumulated other comprehensive income in stock- holders' equity. The amortized cost of debt securities classified as held-to-maturity or available-for-sale is adjusted for amortization of premiums and accretion of discounts to maturity, or in the case of mortgage-backed securities, over the estimated life of the security. Such amortization is included in interest income from investments. Interest and dividends are included in interest income from investments. Realized gains and losses, and declines in value judged to be other-than-temporary are included in net securities gains (losses). The cost of securities sold is based on the specific identification method. In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities". Although the Statement is effective for years beginning after June 15, 1999, the Company adopted the statement early on July 1, 1998. Under provisions of the Statement, the Company reclassified all securities held-to-maturity to securities available-for-sale as of July 1, 1998. The adoption of SFAS No. 133 resulted in the cumulative effect of an accounting change of $776,000 being recognized as an increase in other comprehensive income. Inventories: Inventories are stated at the lower of cost (first-in, first-out method) or market. Other Assets: Noncurrent other assets consist primarily of purchased merchant contracts recorded at cost. Purchased merchant contracts are evaluated by management for impairment at each balance sheet date through review of actual attrition and cash flows generated by the contracts in relation to the expected attrition and cash flows and the recorded amortization expense. If, upon review, actual attrition and cash flows indicate impairment of the value of the purchased merchant contracts, an impairment loss would be recognized. Amortization expense was recognized on a straight-line basis over an estimated useful life of five years through December 31, 1997. Effective January 1, 1998, the Company changed the estimated useful life of its purchased merchant contracts to six years. This change in accounting estimate is accounted for under the provisions of Accounting Principles Board (APB) Opinion No. 20, "Accounting Changes." Accordingly, the net book value of purchased merchant contracts as of January 1, 1998 is amortized over the remaining useful life of the contracts (using six years). Additionally, all purchased merchant contracts capitalized in 1998 are being amortized over a period of six years. The effect of the change in accounting estimate in 1998 was an increase to net income of approximately $583,000. The amounts shown on the balance sheet as of December 31, 1998 and December 31, 1997 are net of accumulated amortization of approximately $6.13 million and $2.10 million, respectively. -12- Property and Equipment: Property and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Use of Estimates: The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Income Taxes: The Company and its wholly-owned subsidiaries file a consolidated Federal tax return. Each subsidiary provides for income taxes using the liability method on a separate-return basis and remits to or receives from the Company amounts currently payable or receivable. Revenue Recognition: Revenue from credit card and other transaction processing activities are recorded when the service is provided, gross of interchange and network fees charged to the Company, which are recorded as a cost of operations when the transactions have been settled. Revenues from service contracts and product sales are recognized when the service is provided or the equipment is shipped. Service contracts and related sales include all revenues under system service contracts, including revenues from sales of terminal hardware when the contract included such sales. Earnings Per Share: Basic and diluted earnings per share are calculated in accordance with SFAS No. 128, "Earnings Per Share." All earnings per share amounts for all periods have been presented to conform to the Statement 128 requirements. Earnings per share, related per share data, stock options and stock option prices have been restated to reflect all stock splits through December 31, 1998. Stock-based Compensation: The Company grants options for a fixed number of shares to employees with an exercise price equal to the fair value of the shares at the date of the grant. These stock option grants are accounted for in accordance with APB Opinion No. 25, "Accounting for Stock Issued to Employees," and accordingly, the Company recognizes no compensation expense for the stock option grants. Comprehensive Income: In 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income" which established new rules for the reporting and display of comprehensive income and its components; however, the adoption of this statement in 1998 had no impact on the company's net income or stockholders' equity. SFAS No. 130 requires unrealized gains or losses on the company's available-for-sale securities to be included in accumulated other comprehensive income in stockholders' equity. Prior year financial statements have been reclassified to conform to the requirements of SFAS No. 130. -13- NOTE B - SECURITIES The following is a summary of securities available-for-sale and held-to- maturity: Gross Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value --------- ---------- ---------- --------- Securities Available-for-Sale: (in thousands) December 31, 1998 U.S. Government and agency Securities $ 29,603 $ 281 $ (74) $ 29,810 Mortgage-backed securities 130,355 395 (370) 130,380 Municipal securities 116,630 1,972 (394) 118,208 --------- ------- ------- --------- Total debt securities 276,588 2,648 (838) 278,398 Equity securities 9,782 9,782 --------- ------- ------- --------- $ 286,370 $ 2,648 $ (838) $ 288,180 ========= ======= ======= ========= December 31, 1997 U.S. Treasury securities $ 4,003 $ 2 $ $ 4,005 U.S. Government and agency Securities 41,338 (131) 41,207 Mortgage-backed securities 77,638 387 (180) 77,845 Municipal securities 11,194 87 (4) 11,277 --------- ------- ------- --------- Total debt securities 134,173 476 (315) 134,334 Equity securities 5,865 5,865 --------- ------- ------- --------- $ 140,038 $ 476 $ (315) $ 140,199 ========= ======= ======= ========= Securities Held-to-Maturity: December 31, 1997 U.S. Government and agency Securities $ 9,256 $ 60 $ $ 9,316 Mortgage-backed securities 19,818 187 20,005 Municipal securities 23,434 879 24,313 --------- ------- ------- --------- $ 52,508 $1,126 $ $ 53,634 ========= ======= ======= ========= There were no material gains or losses on securities sold during the three years ended December 31, 1998. The scheduled maturities of securities available-for-sale, excluding equity securities, at December 31, 1998, was as follows: Available-for-Sale --------------------- Amortized Fair Cost Value --------- -------- (in thousands) Due in one year or less $ 34,705 $ 34,631 Due in one to five years 50,243 51,038 Due in five to ten years 109,563 110,683 Due after ten years 82,077 82,046 -------- -------- $276,588 $278,398 ======== ======== For purposes of the maturity table, mortgage-backed securities, which are not due at a single maturity date, have been allocated over maturity groupings based on the weighted-average contractual maturities of underlying collateral. The mortgage-backed securities may mature earlier than their weighted-average contractual maturities because of principal prepayments. Expected maturities on other securities may differ from contractual maturities because the issuers of the securities may have the right to prepay obligations without prepayment penalties. Securities carried at approximately $95 million and $52 million at December 31, 1998 and December 31, 1997, respectively, were pledged to secure notes payable to the Federal Home Loan Bank. -14- NOTE C - INVENTORIES At December 31, inventories consisted of: 1998 1997 -------- -------- (in thousands) Point of sale equipment $10,173 $5,106 Repair parts 939 153 ------- ------- $11,112 $5,259 ======= ======= NOTE D - PROPERTY AND EQUIPMENT At December 31, property and equipment consisted of: 1998 1997 -------- -------- (in thousands) Computer facilities and equipment $102,091 $83,838 Office furniture and equipment 11,738 5,075 Leasehold improvements 950 607 -------- -------- $114,779 $89,520 ======== ======== Depreciation expense was $12,203,626, $10,379,081 and $8,950,374 for the years ended December 31, 1998, 1997 and 1996, respectively. Maintenance and repair expense was $1,373,963, $1,298,405 and $1,500,203 for the years ended December 31, 1998, 1997 and 1996, respectively. NOTE E - LONG-TERM DEBT AND LEASES At December 31, long-term debt consisted of: 1998 1997 -------- -------- (in thousands) Notes payable to the Federal Home Loan Bank $73,000 $28,000 Note payable to bank for ATMs 116 561 Notes payable, other 213 -------- -------- 73,116 28,774 Less current maturities (116) (445) -------- -------- $73,000 $28,329 ======== ======== The note payable to bank to purchase cash dispensing machines (ATMs) is payable through March 1, 1999 in monthly installments of $38,969 including interest at 6.25% and is secured by ATMs with a net book value of $701,034 at December 31, 1998 and $981,445 at December 31, 1997. Notes payable to the Federal Home Loan Bank are adjustable rate advances due between May 20, 2002 and September 11, 2008. Current interest rates range from 5.41% to 6.08% and are secured by securities available-for-sale with a market value of approximately $95 million and $52 million at December 31, 1998 and 1997, respectively. The Company rents office facilities under agreements classified as operating leases which expire in 1999 and 2000 and generally contain renewal options. Rental expense for operating leases amounted to $1,518,419, $821,297 and $483,632 for the years ended December 31, 1998, 1997 and 1996, respectively. Future maturities of notes payable and minimum lease payments for operating leases with initial or remaining terms in excess of one year are as follows: Notes Operating Payable Leases -------- --------- (in thousands) Year ending December 31: 1999 $ 116 $ 831 2000 606 2001 630 2002 28,000 569 2003 10,000 353 Thereafter 35,000 187 -------- --------- Total future payments $73,116 $3,176 ======== ========= -15- NOTE F - UNUSED LINES OF CREDIT At December 31, 1998 the Company had available $20 million in unsecured lines of credit with other financial institutions. The lines of credit are contractual in nature, require no compensating balances or fees, expire at various dates throughout 1999 and are subject to renewal at the discretion of the institutions. NOTE G - EMPLOYEE BENEFIT PLAN Effective January 1, 1998, the Company established the Concord EFS Savings Plan (the Plan). Employees who have reached the age of 21 and completed one year of service with the Company are eligible to participate in the Plan. The Plan provides for voluntary tax-deferred contributions by eligible employees and discretionary Company contributions. The Company's cost related to the Plan in 1998 was approximately $114,000. NOTE H - INCOME TAXES Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax liabilities and assets at December 31, are as follows: 1998 1997 -------- -------- (in thousands) Deferred tax liabilities: Property and equipment $3,622 $2,442 Securities available-for-sale 641 62 Other 87 -------- -------- Total deferred tax liabilities 4,263 2,591 -------- -------- Deferred tax assets: Bad debt allowance 248 502 Inventory 37 57 Merchant contracts purchased 1,361 488 Other 28 143 -------- -------- Total deferred tax assets 1,674 1,190 -------- -------- Net deferred tax liabilities $2,589 $1,401 ======== ======== The components of the provision (benefit) for income taxes for the three years ended December 31 are as follows: 1998 1997 1996 -------- -------- -------- (in thousands) Allocated to net income: Current Federal $32,202 $23,478 $14,221 State 932 425 92 -------- -------- -------- 33,134 23,903 14,313 -------- -------- -------- Deferred Federal 529 (320) 187 State 80 7 26 -------- -------- -------- 609 (313) 213 -------- -------- -------- $33,743 $23,590 $14,526 ======== ======== ======== Allocated to other comprehensive income: Deferred Federal $504 $281 $(138) State 75 42 (20) -------- -------- -------- $579 $323 $(158) ======== ======== ======== -16- The reconciliation of income taxes computed at the U. S. federal statutory tax rate of 35% to income tax expense for the three years ended December 31 are as follows: 1998 1997 1996 -------- -------- -------- (in thousands) Tax at statutory rate $34,130 $22,845 $14,460 State income taxes, net of federal benefit 653 281 77 Tax exempt interest income (1,175) (511) (124) Other, net 135 975 113 -------- -------- -------- $33,743 $23,590 $14,526 ======== ======== ======== Income tax benefits resulting from the disqualifying dispositions of certain employee incentive stock option shares were credited to additional paid-in capital because no compensation expense was charged to income for financial reporting purposes related to the exercise of such options. NOTE I - EARNINGS PER SHARE The following table sets forth the computation of basic and diluted earnings per share: Year Ended December 31 ---------------------------- 1998 1997 1996 -------- -------- -------- (in thousands, except per share data) Numerator: Net income $63,771 $41,682 $26,789 ======== ======== ======== Denominator: Denominator for basic earnings per share, weighted-average shares 97,628 96,527 86,226 Effect of dilutive securities, employee stock options 2,805 2,868 3,677 -------- -------- -------- Denominator for diluted earnings per share- adjusted weighted-average shares and assumed conversions 100,433 99,395 89,903 ======== ======== ======== Basic earnings per share $0.65 $0.43 $0.31 ======== ======== ======== Diluted earnings per share $0.63 $0.42 $0.30 ======== ======== ======== NOTE J - INCENTIVE STOCK OPTION PLAN The Company has an Incentive Stock Option Plan allowing for the grant of up to 13,668,750 shares of Common Stock for the benefit of the Company's key employees. Options are granted at not less than 100% of the market value on the date of the grant (110% in the case of a holder of more than 10% of the outstanding shares) and generally become exercisable within four years of the date of the grant. Information pertaining to the Incentive Stock Option Plan is summarized below, in thousands, except price per share:
Number of Weighted Weighted Shares Average Average Options Under Option Exercise Price Aggregate Price Exercisable ------------ -------------- --------------- ----------- Outstanding at January 1, 1996 6,323 $ 3.68 $23,283 2,903 Granted 1,308 13.73 ======= ===== Exercised (1,877) 2.59 Terminated (501) 4.26 ------ Outstanding at December 31, 1996 5,253 $ 6.51 $34,203 2,380 Granted 3,129 15.22 ======= ===== Exercised (1,614) 4.13 Terminated (40) 10.87 ------ Outstanding at December 31, 1997 6,728 $11.11 $74,732 1,860 Granted 2,989 20.37 ======= ===== Exercised (477) 6.52 Terminated (34) 14.60 ------ Outstanding at December 31, 1998 9,206 $14.34 $32,006 2,988 ====== ======= =====
-17- The weighted average grant date fair value of options granted during 1998, 1997 and 1996 was $6.15, $4.67 and $3.65, respectively. The following table provides additional information regarding options outstanding as of December 31, 1998:
Weighted Average Weighted Average Weighted Remaining Number of Exercise Price of Option Exercise Options Average Contractual Life of Options Options Price Range Outstanding Exercise Price Options in Years Exercisable Exercisable - - --------------- ----------- -------------- ------------------- ----------- ----------------- $ 2.73 - $ 4.79 1,162 $3.31 4.92 1,155 $ 3.30 5.93 - 13.00 1,882 9.73 6.82 1,029 9.06 15.08 - 26.13 6,162 17.83 8.66 804 15.55 ----- ----- $ 2.73 - $26.13 9,206 $14.34 7.81 2,988 $ 8.58 ===== =====
The Company has elected to follow APB No. 25 and related Interpretations in accounting for its employee stock options because, as discussed below, the alternative fair value accounting provided for under FASB Statement No. 123, "Accounting for Stock Based Compensation," requires use of option valuation models that were not developed for use in valuing employee stock options. Under APB No. 25, because the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. Pro forma information regarding net income and earnings per share is required by Statement No. 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions for 1998, 1997, and 1996, respectively: risk-free interest rates of 6.0%, 6.25%, and 6.5%, and volatility factors of the expected market price of the Company's common stock of .358, .344, and .265. Assumptions that remained constant for all years were dividend yields of 0% and a weighted average expected life of the options of three years. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma information is as follows for the years ended December 31 (in thousands, except for earnings per share): 1998 1997 1996 -------- -------- -------- Pro forma net income $56,987 $38,631 $25,883 Pro forma basic earnings per share $0.58 $0.40 $0.30 Pro forma diluted earnings per share $0.57 $0.39 $0.29 Pro forma disclosures are not likely to be representative of the effects of reported pro forma net income and earnings per share in future years as additional options may be granted in future years and the vesting of options already granted will impact the pro forma disclosures. NOTE K - EMPLOYMENT AGREEMENTS In February 1998, the Company entered into incentive agreements with its CEO and President, each for a term of five years expiring February 2003. Each agreement sets out the executive's annual base pay, provides for the establishment of an incentive compensation program under which each executive will have a bonus potential of 50% of annual base salary, and provides for grants of stock options, including regular stock options of up to 375,000 shares a year based on performance and special stock options contingent upon, or providing accelerated vesting upon, the average market price of Concord stock reaching and maintaining certain levels. The agreements contain certain non-compete provisions and change in control provisions regarding the acceleration of outstanding stock options and the payment of bonuses. -18- NOTE L - MERGERS AND ACQUISITIONS On June 30, 1998, the Company merged with Digital Merchant Systems of Illinois, Inc. and American Bankcard International, Inc. (jointly named "DMS"). DMS is a leading independent sales organization in the credit card industry. The mergers were accounted for using the pooling-of-interests method of accounting. The Company exchanged 4,425,000 shares of its common stock for all of the outstanding common stock of DMS. In accordance with pooling-of-interests accounting, no adjustments have been made to the historical carrying value of the assets and liabilities of DMS. The following table presents selected financial information, split between the Company and DMS: Year ended December 31 ---------------------- 1998 1997 -------- -------- Revenue: Concord EFS, Inc. $361,604 $240,004 DMS (1) 14,134 30,070 -------- -------- $375,738 $270,074 ======== ======== Net income: Concord EFS, Inc. $ 61,857 $ 42,746 DMS (1) 1,914 (1,064) -------- -------- $ 63,771 $ 41,682 ======== ======== (1) The 1998 amounts reflect the results of operations from January 1, 1998 through June 30, 1998. The results of operations from July 1, 1998 through December 31, 1998 are included in Concord EFS, Inc. amounts. The financial statements of DMS prior to January 1, 1997, were immaterial for restatement. NOTE M - OPERATIONS BY INDUSTRY SEGMENT In June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information, which establishes standards for reporting financial information about operating segments in annual and interim financial statements. SFAS No. 131 requires that financial information be reported on the same basis that is reported internally for evaluating segment performance and allocating resources to segments. SFAS No. 131 addresses how supplemental financial information is disclosed in annual and interim reports; therefore, its adoption in 1998 had no impact on the financial condition or operating results of the Company. Concord has two reportable segments: Merchant Card Services and ATM Services. The Company's revenues from Merchant Card Services result from processing credit card transactions using VISA, MasterCard, Discover, American Express and Diner's Club Cards. In addition, the Company processes debit card transactions for banks issuing such cards. Merchant Card Services provides electronic payment services to supermarket chains, grocery stores, convenience store merchants and other retailers. Merchant Card Services also includes trucking services providing a variety of flexible payment systems that enable drivers of trucking companies to use payment cards to purchase fuel and services and to obtain cash advances at truck stops. ATM Services include transactional fee income and surcharge revenue from ATMs owned by the Company as well as ATM transaction processing for ATMs owned by the Company's merchants. The Company evaluates performance and allocates resources based on profit or loss from operations. Items classified as "Other" include revenues not identifiable with the two reportable segments described above and costs of operations and selling, general and administrative expenses which are not allocated to the reportable segments. The accounting policies of the reportable segments are the same as those described in Note A - Significant Accounting Policies. The Company's reportable segments are business units that offer different products. The reportable segments are each managed separately because they are distinct products for different end users. No single customer of the Company accounts for a material portion of the Company's revenues. -19- Industry segment information for the years ended December 31, 1998, 1997, and 1996 is presented below: Merchant Card ATM Services Services Other Total -------- -------- -------- -------- (in thousands) Year Ended December 31, 1998: Revenue $333,652 $ 29,240 $ 12,846 $375,738 Cost of operations (162,512) (23,539) (89,323) (275,374) Selling, general & administrative expenses (16,559) (16,559) Taxes & interest, net (20,034) (20,034) -------- -------- -------- -------- Net income $171,140 $ 5,701 ($113,070) $ 63,771 ======== ======== ======== ======== Year Ended December 31, 1997: Revenue $236,262 $ 21,790 $ 12,022 $270,074 Cost of operations (107,832) (16,328) (74,779) (198,939) Selling, general & administrative expenses (16,664) (16,664) Taxes & interest, net (12,789) (12,789) -------- -------- -------- -------- Net income $128,430 $ 5,462 ($ 92,210) $ 41,682 ======== ======== ======== ======== Year Ended December 31, 1996: Revenue $147,488 $ 6,471 $ 12,741 $166,700 Cost of operations (73,652) (3,668) (42,355) (119,675) Selling, general & administrative expenses (9,724) (9,724) Taxes & interest, net (10,512) (10,512) -------- -------- -------- -------- Net income $ 73,836 $ 2,803 ($ 49,850) $ 26,789 ======== ======== ======== ======== NOTE N - COMMITMENTS AND CONTINGENCIES The Company is a party to various claims and litigation in the normal course of business, none of which is expected to have a material effect on the consolidated financial statements. NOTE O - DEBT AND DIVIDEND RESTRICTIONS In accordance with federal banking laws, certain restrictions exist regarding the ability of the banking subsidiary to transfer funds to the Parent in the form of cash dividends, loans or advances. The approval of certain regulatory authorities is required to pay dividends in excess of earnings retained in the current year plus retained net earnings for the preceding two years. As of December 31, 1998, approximately $128,521,000 of undistributed earnings of EFSNB, included in consolidated retained earnings, was available for distribution to the Parent as dividends without prior regulatory approval. Under Federal Reserve regulations, the banking subsidiary is also limited as to the amount it may loan to affiliates, including the Parent, unless such loans are collateralized by specific obligations. At December 31, 1998, the maximum amount available for transfer from EFSNB to the Parent in the form of loans approximated 6.22% of consolidated net assets. NOTE P - DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value. These fair values are provided for disclosure purposes only, and do not impact carrying values of financial statement amounts. Cash and Cash Equivalents: The carrying amounts reported in the balance sheet for cash and cash equivalents approximate those assets' fair values. Securities (Including Mortgage-backed Securities): Fair values for securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. Long-term Borrowings: The fair values of the Company's long-term borrowings are estimated using discounted cash flow analysis based on the Company's current incremental borrowing rates for similar types of borrowing arrangements. -20- Carrying Amount Fair Value --------------- ---------- (in thousands) December 31, 1998: Financial Assets: Cash and cash equivalents $ 69,167 $ 69,167 Available-for-sale securities 288,180 288,180 Financial liabilities: Notes payable 73,116 71,652 December 31, 1997: Financial Assets: Cash and cash equivalents $ 63,795 $ 63,795 Available-for-sale securities 140,199 140,199 Held-to-maturity securities 52,508 53,634 Financial liabilities: Notes payable 28,774 28,666 NOTE Q - SUBSEQUENT EVENTS On February 18, 1999, the stockholders approved an amendment to the Company's incentive stock option plan to increase the shares issuable under the plan from 13,668,750 to 25,000,000 shares. On February 18, 1999, the stockholders approved the Company's issuance of shares in connection with its acquisition of Electronic Payment Services, Inc. (EPS). The Company completed the merger with EPS on February 26, 1999 by issuing 30,064,838 shares of the Company's common stock for all of the outstanding common stock of EPS. The acquisition was accounted for using the pooling of interests method of accounting. EPS provides transaction processing services to financial institutions and retailers throughout the United States. EPS also owns and operates electronic data processing and data-capture networks that process transactions originating at ATMs and point-of-sale terminals. The following table presents unaudited pro-forma combined operating results for the Company and EPS for the years ended December 31, 1998, 1997 and 1996: 1998 1997 1996 -------- -------- -------- (in thousands, except per share data) Revenue $634,511 $490,030 $355,459 Net income 88,695 59,692 37,732 Basic earnings per share $0.69 $0.47 $0.32 Diluted earnings per share $0.67 $0.46 $0.31 In connection with the acquisition of EPS, the Company expects to incur approximately $10.5 million in acquisition related expenses in the first quarter of 1999. These expenses are primarily investment banking, legal and accounting fees. Although no definite plan has been adopted, management is currently reviewing operational synergies, such as duplicate facilities, computer and communication hardware and software and other contractual relationships, including severance, that may require additional charges in the second quarter of 1999 and beyond. Management plans to complete this analysis by May 31, 1999. -21- REPORT OF INDEPENDENT AUDITORS Board of Directors and Stockholders Concord EFS, Inc. We have audited the accompanying consolidated balance sheets of Concord EFS, Inc. and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Concord EFS, Inc. and subsidiaries as of December 31, 1998 and 1997, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. /s/Ernst & Young LLP Memphis, Tennessee February 11, 1999, except for Note Q, as to which the date is February 26, 1999 -22- CORPORATE DIRECTORY SEC Form 10-K Chairman Emeritus Copies of the Company's Annual Report Victor M. Tyler on Form 10-K as filed with The Board of Directors Securities and Exchange Commission (and their principal occupation) may be obtained without charge upon request to: Dan M. Palmer Investor Relations Chairman and Chief Executive Officer Concord EFS, Inc. Concord EFS, Inc. and 2525 Horizon Lake Drive EFS National Bank Suite 120 Memphis, Tennessee 38133 Douglas C. Altenbern* Retired Chairman and CEO of Market for Common Stock Pay Systems of America, Inc. NASDAQ National Market Ticker Symbol: CEFT David C. Anderson * Retired Executive Vice President and Annual Meeting CFO, Burlington Northern, Inc. May 14, 1998 J. Richard Buchignani, Esq. * Transfer Agent & Registrar Partner, Wyatt, Tarrant & Combs State Street Bank and Trust Company Boston, Massachusetts Richard M. Harter, Esq. * Partner, Bingham Dana LLP Corporate Counsel Bingham Dana LLP Joyce Kelso Boston, Massachusetts Retired Senior Vice President, Concord EFS, Inc. and EFS National Auditors Bank Ernst & Young LLP Memphis, Tennessee Richard P. Kiphart * Head of Corporate Finance Department Corporate Office William Blair & Company LLC 2525 Horizon Lake Drive Suite 120 Edward A. Labry III Memphis, Tennessee 38133 President, Concord EFS, Inc. 1-800-238-7675 and EFS National Bank Jerry D. Mooney * Retired President and CEO, ServiceMaster Employer Services, Inc. Paul L. Whittington * * Audit Committee Member Retired Partner Ernst & Young LLP EXECUTIVE MANAGEMENT GROUP Dan M. Palmer, Chairman and CEO, Edward A. Labry III, President, Concord EFS, Inc. and Concord EFS, Inc., EFS National Bank EFS National Bank and Concord Computing Corporation Thomas J. Dowling, Vice President Vickie Brown, Senior Vice President and Controller, Concord EFS, Inc. and Chief Operating Officer, Concord and EFS National Bank EFS, Inc. and EFS National Bank William E. Lucado, Senior Vice President, Chief Investment and Compliance Officer, Concord EFS, Inc. and EFS National Bank, and President, EFS Federal Savings Bank -23- EX-20 5 NOTICE OF ANNUAL MEETING OF STOCKHOLDERS CONCORD EFS, INC. NOTICE OF ANNUAL MEETING OF STOCKHOLDERS To Be Held on May 20, 1999 To the Stockholders of Concord EFS, Inc. Notice is hereby given that the Annual Meeting of Stockholders of Concord EFS, Inc. ("Concord" or the "Company") will be held at Colonial Country Club, 2736 Countrywood Parkway, Memphis Tennessee on May 20, 1999 beginning at 9:30 a.m. local time, for the following purposes: 1. To elect directors to serve for the ensuing year; 2. To approve the Amendment to the Certificate of Incorporation to increase the number of authorized shares of Common Stock; 3. To approve the Amendment to Concord's 1993 Incentive Stock Option Plan to permit optionees to transfer options to family members and increase options granted annually to non-employee directors. 4. To transact such other business as may properly come before the annual meeting and any adjournments thereof. The Board of Directors has fixed the close of business on March 18, 1999 as the record date for determination of the stockholders entitled to notice of and to vote at the Annual Meeting. The By-Laws of the Company require that the holders of a majority of all stock issued, outstanding and entitled to vote be present in person or represented by proxy at the meeting in order to constitute a quorum. By Order of the Board of Directors Richard M. Harter Secretary April 9, 1999 WHETHER OR NOT YOU PLAN TO ATTEND THIS MEETING, PLEASE SIGN AND RETURN THE ENCLOSED PROXY. No postage is required if mailed in the United States. CONCORD EFS, INC. PROXY STATEMENT April 9, 1999 This Proxy Statement is furnished in connection with the solicitation by the Board of Directors of Concord EFS, Inc. ("Concord" or the "Company") of proxies for use at the Annual Meeting of Stockholders to be held on May 20, 1999 and any adjournments thereof. Shares as to which proxies have been executed will be voted as specified in the proxies. A proxy may be revoked at any time by notice in writing received by the Secretary of the Company before it is voted. A majority in interest of the outstanding shares represented at the meeting in person or by proxy shall constitute a quorum for the transaction of business. Votes withheld from any nominee, abstentions and broker "non-votes" are counted as present or represented for purposes of determining the presence or absence of a quorum for the meeting. A "non-vote" occurs when a nominee holding shares for a beneficial owner votes on one proposal, but does not vote on another proposal because the nominee does not have discretionary voting power and has not received instructions from the beneficial owner. Abstentions are included in the number of shares present or represented and voting on each matter. Broker "non-votes" are not so included. BENEFICIAL OWNERSHIP OF COMMON STOCK The Company's only issued and outstanding class of voting securities is its Common Stock, par value $0.33 1/3 per share. Each stockholder of record on March 18, 1999 is entitled to one vote for each share registered in such stockholder's name. As of that date, the Company's Common Stock was held by approximately 15,800 stockholders. The following table sets forth, as of March 18, 1998, the ownership of the Company's Common Stock by each person who is known by the Company to own beneficially more than 5% of the Company's outstanding Common Stock, by each director who owns shares and by all directors and officers of the Company as a group. Percent of Shares Outstanding Beneficial Owner (1) Owned Shares (2) - - ---------------------------------- ---------- ----------- Dan M. Palmer (3), Chairman 2,300,622 1.8% Edward A. Labry III (4), Director 1,838,234 1.4% Joyce Kelso (5), Director 260,398 0.2% Richard P. Kiphart (5), Director 3,678,355 2.9% Richard M. Harter (6), Director 86,366 0.1% Jerry D. Mooney (6), Director 41,916 0.0% David C. Anderson (6), Director 21,759 0.0% J. Richard Buchignani (6), Director 21,825 0.0% Paul Whittington (6), Director 19,228 0.0% Douglas C. Altenbern, Director 12,000 0.0% All officers, directors and nominees as a group (10 persons) (7) 8,280,703 6.3% William Blair & Company, LLC (8) 13,189,581 10.3% 222 West Adams Street Chicago, IL 60606 AMVESCAPP PLC and Subsidiaries (9) 7,439,355 5.8% 11 Devonshire Square London EC2M 4YR England (1) The address of each beneficial owner that is also a director is the same as the Company's. (2) Percentage ownership is based on 128,157,354 shares issued and outstanding, plus the number of shares subject to options exercisable within 60 days from the record date by the person or the aggregation of persons for which such percentage ownership is being determined. (3) Shares owned are unexercised stock options. (4) Shares owned include 1,835,156 shares covered by unexercised stock options. (5) Shares owned include 4,500 shares covered by unexercised stock options. (6) Shares owned include 14,166 shares covered by unexercised stock options. (7) Shares owned include 4,215,608 shares covered by unexercised stock options. (8) Based on a Schedule 13G dated as of March 16, 1999, filed by William Blair & Company, LLP ("Blair"). Includes 1,794,903 shares as to which Blair has sole voting power and 13,189,581 shares as to which Blair has sole dispositive power. Blair disclaims beneficial ownership as to 11,394,678 of such shares. (9) Based on a Schedule 13G dated as of February 10, 1999, filed by AMVESCAP PLC and Subsidiaries. ELECTION OF DIRECTORS Ten directors are to be elected to hold office until the next annual meeting of stockholders and until their successors are elected and qualified. Unless a proxy is executed to withhold authority for the election of any or all of the directors, then the persons named in the proxy will vote the shares represented by the proxy for the election of the following ten nominees. If the proxy indicates that the stockholder wishes to withhold a vote from one or more nominees for director, such instruction will be followed by the persons named in the proxy. All ten of the nominees are now members of the Board of Directors. The Board of Directors has no reason to believe that any of the nominees will be unable to serve. In the event that any nominee should not be available, the persons named in the proxies will vote for the others and may vote for a substitute for such nominee. An affirmative vote of a majority of the Company's Common Stock represented in person or by proxy at the meeting is necessary for the election of the individuals named below. Recommended Vote The Board of Directors recommends that you vote "FOR" the election of these ten individuals as directors. The following table lists the name of each proposed nominee; his/her age; his/her business experience during at least the past five years, including principal offices with the Company or a subsidiary of the Company; and the year since which he/she has served as a director of the Company. There are no family relationships among the nominees. Office With the Company, Business Nominees and Ages Experience and Year First Elected Director - - -------------------------- ---------------------------------------------------- Dan M. Palmer (56) Mr. Palmer became Chairman of the Board in February 1991. Mr. Palmer has been Chief Executive Officer of the Company since August 1989, and a Director of the Company since May 1987. Mr. Palmer has been the Chief Executive Officer of EFS National Bank (formerly EFS, Inc.) since its inception in 1982. He joined Union Planters National Bank in June 1982 and founded the EFS operations within the bank. He continued as President and Chief Executive Officer of EFS when it was acquired by Concord in March 1985. Joyce Kelso (57) Mrs. Kelso has been a Director since May 1991. She was Vice President in charge of Customer Service when EFS began operations. In August 1990, she was elected Senior Vice President of the Company. January 1, 1995, Mrs. Kelso semi-retired and on January 1, 1997, she became fully retired. Edward A. Labry III (36) Mr. Labry joined EFS in 1984. He was made Director of Marketing in March 1987 and Vice President of Sales in February 1988. In August 1990, he was elected to Chief Marketing Officer of the Company. In February 1991, he was elected Senior Vice President of the Company. He became President of the Company in October 1994, and President of EFS National Bank in December 1994. Richard M. Harter (62)* Mr. Harter has been the Company's Secretary and a Director since the Company's formation. He is a partner of Bingham Dana LLP, legal counsel to the Company. Jerry D. Mooney (46)* + Mr. Mooney has been a Director of the Company since August 1992. Since August 1997, he has been President and CEO of ServiceMaster Employer Services, Inc. Prior to then he was President of Healthcare New Business Initiatives and formerly served as Chairman, President and CEO of Service- Master Diversified Health Services, Inc. (formerly VHA Long Term Care) since 1981. David C. Anderson (56)* + Mr. Anderson has been a Director of the Company since August 1992. Mr. Anderson was Senior Vice President and Chief Financial Officer with Federal Express in Memphis, Tennessee for seven years and Executive Vice President and Chief Financial Officer at Burlington Northern in Fort Worth, Texas for three years prior to his retirement in 1995. Richard Buchignani (50)* Mr. Buchignani has been a Director of the Company since August 1992. He is a partner in the Memphis, Tennessee office of the law firm of Wyatt, Tarrant & Combs, who also serves as local counsel to the Company. Mr. Buchignani has been affiliated with the law firm since 1995 when most of the members of his firm of 18 years joined Wyatt, Tarrant & Combs. Paul L. Whittington (63)* + Mr. Whittington has been a Director of the Company since May 1993. Mr. Whittington had been the Managing Partner of the Memphis, Tennessee and Jackson, Mississippi offices of Ernst & Young from 1988 until his retirement in 1991. Since 1979, he had been the partner in charge of consulting at various Ernst & Young offices. Richard P. Kiphart (56)* Mr. Kiphart has been a Director of the Company since March 1997. In 1972 he became a General Partner of William Blair & Company, LLC. He served as head of Equity Trading from 1972 to 1980. He joined the Corporate Finance Department in 1980, and was made head of that department in January 1995. Douglas C. Altenbern (61)* Mr. Altenbern has been a Director of the Company since February 1998. Mr. Altenbern served as Vice Chairman of First Financial Management Corporation until 1989, at which time he resigned to found Argosy Network Corporation, of which he served as Chairman and CEO. In 1992 he sold his interest in Argosy and in 1993 founded Pay Systems of America, of which he served as Chairman and CEO through December 1996. He currently is a private investor and serves as a Director on the Boards of The Bradford Funds, Inc., OPTS, Inc., Interlogics, Inc. CSM, Inc. and Equitas. * Member of the Board's Audit Committee. + Member of the Board's Compensation Committee. Compensation of Directors Compensation of Directors The Company currently pays to each non-employee director of the Company an annual fee of $8,000 plus $2,000 for each meeting attended plus $1,000 for each telephone meeting attended. There are normally four meetings per year. In addition, non-employee directors are granted options to purchase 4,500 shares of the Company's common stock at market value on the date of the annual meeting of stockholders. Directors are reimbursed for expenses incurred in attending meetings of the Board of Directors. Two of the ten nominees are employees of the Company and are not separately compensated for serving as directors. Executive Compensation The following summary compensation table is intended to provide a comprehensive overview of the Company's executive pay practices. It includes the cash compensation paid or accrued by the Company and its subsidiaries for services in all capacities during the fiscal year ended December 31, 1998, to or on behalf of each of the Company's named executives. Named executives include the Chief Executive Officer and the President of the Company. Summary Compensation Table Annual Compensation Long-Term Compensation Name and Salary Bonus Principal Position Year ($) ($) Options Awarded* - - ------------------------ ---- -------- ------- ---------------------- Dan M. Palmer 1998 466,538 331,250 1,125,000 Chairman of the Board 1997 427,392 262,000 1,200,000 Chief Executive Officer 1996 425,000 125,000 356,250 of the Company and EFS National Bank Edward A. Labry III 1998 466,538 331,250 1,125,000 President of the Company 1997 417,777 262,000 1,200,000 and EFS National Bank 1996 392,308 125,000 356,250 * Options awarded have been restated to reflect all stock splits. Stock Options The following tables present the following types of information for options granted to the Company's named executives under the Company's 1993 Incentive Stock Option Plan. Table I - options granted and the potential realizable value of such options, and Table II - options exercised in the latest fiscal year and the number of unexercised options held. Table I Options Granted in 1998
Individual Grants ---------------------------------------------- Potential Realizable % 0f Total Value at Assumed Options Annual Rates of Stock Granted to Exercise Price Appreciation Options Employees in price Expiration for Option Term Name Granted 1998 ($/Share) Date 5% ($) 10% ($) - - ------------------- ---------- ------------ ---------- ---------- ----------- ----------- Dan M. Palmer 1,125,000 37.5% $20.25 2/26/2008 14,327,006 36,307,445 Edward A. Labry III 1,125,000 37.5% $20.25 2/26/2008 14,327,006 36,307,445
Table II Options Exercised in 1998 and 1998 Year End Option Values Value of Number of Unexercised Shares Acquired Value ($) Unexercised In-the-Money Name on Exercise (#) Realized(1) Options(#) Options($)(2) - - ------------------- --------------- ----------- ----------- ------------- Dan M. Palmer -0- -0- 1,385,623(E) 48,153,680(E) 2,286,563(U) 57,246,231(U) Edward A. Labry III -0- -0- 932,813(E) 30,489,419(E) 2,273,906(U) 56,784,892(U) (1) Values are calculated by subtracting the exercise price from the fair market value of the stock as of the exercise date. (2) Values are calculated by subtracting the exercise price from the fair market value of the stock on December 31, 1998. (E) Exercisable at December 31, 1998. (U) Unexercisable at December 31, 1998. Committees; Attendance The Board of Directors held four regular meetings during the fiscal year ended December 31, 1998. Each of the directors attended at least 75% of the total number of meetings of the Board. The Audit Committee, consisting of Messrs. Anderson, Buchignani, Harter, Mooney, Whittington and Kiphart met twice during the fiscal year ended December 31, 1997. The Audit Committee reviewed the results of the audit conducted by outside auditors and management's response to the management letter prepared by outside auditors. The Audit Committee also monitored the Company's compliance with the Year 2000 computer issues. The Board of Directors has no Nominating Committee. Compensation Committee Report on Executive Compensation Committee Composition The Board of Directors has a Compensation Committee of Messrs. Anderson, Mooney and Whittington (the "Committee"), who are not employees of the Company or any of its affiliates and have never been employees of the Company or any of its affiliates. General Policy It is the policy of the Committee to establish base salaries, award bonuses and grant stock options to executive officers in such amounts as will assure the continued availability to the Company of the services of the executives and will recognize the contributions made by the executives to the success of the Company's business and the growth over time in the market capitalization of the Company. To achieve these goals, the Committee establishes base salaries at levels which it believes to be below the mid-point for comparable executives in companies of comparable size and scope. The Committee then awards cash bonuses reflecting individual performance during the year for which the awards are made. For executives other than the Chief Executive Officer and President, the Committee receives bonus award recommendations from the Chief Executive Officer. The Committee grants stock options to senior and middle management executives of the Company and its affiliates at levels which it believes to be higher than average for comparable companies in order to give the executives significant incentive to improve the revenue of the Company and its market capitalization. Section 162(m) of the Internal Revenue Code limits the tax deduction to $1 million for compensation paid to certain executives of public companies. The Committee has considered these requirements and believes that the Company's 1993 Incentive Stock Option Plan meets the requirement that it be "performance based" and, therefore, exempt from the limitations on deductibility. Historically, the combined salaries and bonuses of the Company's executive officers have been well under the $1 million limit. The Committee's present intention to comply with Section 162(m) unless the Committee feels that required changes would not be in the best interest of the Company or its stockholders. Specific Arrangements for CEO and President During 1998, Concord entered into five-year incentive agreements with its Chief Executive Officer and with its President. Each incentive agreement provides for base salary of $550,000 with annual reviews, for a bonus opportunity equal to 50% of base salary with growth in earnings per share being a significant factor in awarding the bonuses and for option grants of 375,000 shares per year. In addition, each incentive agreement provided for a one-time option grant for 750,000 shares with a "reload" feature: after the stock market price reaches $32 per share for a stated period, a new option for 375,000 shares will be granted at $32; and after the stock market price reaches $42.67, a new option for 187,500 shares will be granted at $42.67. The first of these milestones has already been reached. The Chief Executive Officer and President's base salary, cash bonus and option grants were established by the Committee based upon its members' own experience in their companies and in other companies which they serve as directors or advisors. In addition, the Committee received advice from a compensation consulting firm in setting compensation levels for executive officers. In setting the base salary, bonus and option grants for 1998 for the Chief Executive Officer and President, the Committee considered the 39% increase in revenues and the 50% increase in diluted earnings per share in 1998 over 1997. Additionally, the Committee noted that for the preceding three years the Company's revenue growth averaged approximately 44% per year, that its market capitalization growth averaged approximately 71% per year and that these individuals were responsible for past growth and uniquely situated to contribute to the future growth of the Company. David C. Anderson Jerry D. Mooney Paul L. Whittington Five Year Cumulative Stockholder Return Below is a performance table which compares the Company's cumulative total stockholder return during the previous five years with the NASDAQ stock market, and the NASDAQ financial stocks (the Company's peer group). NASDAQ NASDAQ Date Concord EFS, Inc. Stock Market Financial Stocks - - -------- ----------------- ------------ ---------------- 12/31/93 100.00 100.00 100.00 12/31/94 169.49 97.75 100.24 12/31/95 429.66 138.26 145.98 12/31/96 646.40 170.01 187.13 12/31/97 569.17 208.58 285.87 12/31/98 1,454.57 293.21 276.58 AMEND CERTIFICATE OF INCORPORATION TO INCREASE NUMBER OF AUTHORIZED SHARES OF COMMON STOCK The Company's authorized capital stock consists of 200,000,000 shares of Common Stock, $0.33 1/3 par value. The Board of Directors finds advisable that the Company's Certificate of Incorporation be amended to increase the number of authorized shares of Common Stock to 500,000,000 shares, $0.33 1/3 par value. The holders of Common Stock are not entitled to preemptive rights to purchase Common Stock of the Company. The authorized shares of Common Stock can be issued without stockholder approval upon such terms and in consideration of such amounts as the Board of Directors determines is in the best interest of the Company. The Board in the past has issued stock to effect stock splits, to fulfill the exercise of stock options and to make acquisitions. It has no current plans to issue any of the authorized shares of Common Stock. Dilutive Effect of Issuance of Additional Shares The authorization of additional shares of Common Stock pursuant to this proposal will have no dilutive effect upon the proportionate voting power of the present stockholders of the Company. However, issuance of additional shares could have a substantial dilutive effect on present stockholders. Anti-takeover Effect The issuance of additional shares of Common Stock by the Company may also make it more difficult to obtain stockholder approval of various actions, such as a merger or other corporate combination. The proposed increase in the number of authorized shares of Common Stock could enable the Board of Directors to render more difficult an attempt by another person or entity to obtain control of the Company, though the Board of Directors has no present intention of issuing additional shares for such purpose and no present knowledge of any takeover efforts by any person or entity. Recommended Vote An affirmative vote of a majority of the Company's outstanding Common Stock is necessary to adopt the amendment to the Company's Certificate of Incorporation to increase the number of authorized shares of Common Stock to 500,000,000 shares. The Board of Directors recommends that you vote "FOR" the proposal. AMENDMENT TO THE 1993 INCENTIVE STOCK OPTION PLAN Concord's Board has adopted, subject to stockholder approval, an amendment to Concord's 1993 Incentive Stock Option Plan (the "Plan") to permit optionees to transfer options to specified family members or trusts or other entities exclusively for the benefit of family members and to increase the options to be granted annually to non-employee directors from 4,500 shares to 6,000 shares or, if the director shall have waived his/her basic cash director fee for the ensuing year, 7,250 shares. The restated Plan is attached as Exhibit I. Purpose of the Plan The purpose of the Plan is to encourage ownership of Concord Common Stock by employees and directors and to provide additional incentive for them to promote the success of the Concord's business. Administration of the Plan The Plan is administered by the Committee. The Committee consists exclusively of non-employee directors. Subject to the provisions of the Plan, the Committee has discretion to determine which employees shall be granted options, the time of grant, the number of shares subject to each option, the exercise price of each option and all other relevant terms of the grants. The Committee also has broad discretion to construe and interpret the Plan and to adopt rules and regulations thereunder. Eligibility to Participate in Plan; Annual Grant Awards may be granted under the Plan to employees of Concord and its subsidiaries. Non-employee directors now automatically receive each year options to purchase 4,500 shares of Concord Common Stock. As amended, the annual grant for each director will be 6,000 shares of Concord Common Stock or, if a director shall have waived his/her right to receive the $8,000 cash director fee for the ensuing year, 7,250 shares of Concord Common Stock. Shares Subject to the Plan The shares issued under the Plan are shares of Concord Common Stock, which may be authorized but unissued shares or shares held by Concord in its treasury. Up to 25,000,000 shares may be issued under the Plan, subject to adjustment for stock dividends, stock splits or other changes in Concord's capitalization. In the event that any option expires or terminates for any reason without being exercised in full, the shares not purchased will be available for subsequent grants under the Plan. Stock Options Granted Under the Plan Options will normally be incentive options within the meaning of Section 422 of the Internal Revenue Code. During any calendar year, the aggregate fair market value of incentive stock options (determined as of the dates of grant) held by an employee which first become exercisable in that year may not exceed $100,000. To the extent that any option exceeds this limit, it will be a nonstatutory option. No person may be granted in any year options to purchase more than 1,500,000 shares. No stock option may be exercised more than 10 years after it is granted or, for any option granted to a "Major Shareholder" (as defined below), more than five years after the date of grant. The exercise price under each option shall be not less than 100% of the fair market value of Concord Common Stock on the date of grant, except for options granted to a Major Shareholder, the exercise price for which shall be not less than 110% of fair market value. "Major Shareholder" means a person beneficially owning stock with voting power over 10% of the combined voting power of all classes of stock of the Company. Payment for shares of Concord Common Stock purchased upon exercise of any option must be made in full by (a) cash or check, (b) by delivery of shares of Concord Common Stock with a current fair market value equal to the option purchase price, or (c) by irrevocable instructions to a brokerage firm to sell a sufficient number of shares to generate the option price and minimum applicable withholding taxes. Options have historically not been transferable except by will or the laws of descent and distribution. The Plan as amended permits optionees to transfer options to family members and trusts and other entities exclusively for family members. Family members include children, grandchildren, parents, grandparents spouses and siblings, including in each instance adoptive relationships, step relationships and in-law relationships. If a "change in control" (as defined in the Plan) occurs, all options will become fully exercisable. If an optionee ceases to be an employee of Concord or any subsidiary other than by reason of death, options other than director options may, to the extent exercisable at the time of termination of employment, be exercised any time within three months after the date of termination, unless terminated earlier by their terms. If a director ceases to be associated with Concord, director options may, to the extent exercisable at the time of termination, be exercised any time within five years after the date of termination, unless terminated earlier by their terms. In the case of death of the employee, options may, to the extent exercisable at the date of death, be exercised any time within one year after the date of death, unless terminated earlier by their terms. Amendments to the Plan The Committee may terminate or amend the Plan at any time, provided that no such action shall adversely affect or impair the rights of any optionee under any outstanding option without such optionee's consent. The Committee may not, without the approval of the holders of Concord Common Stock, amend the Plan in any manner that: (i) increases the maximum number of shares that may be issued under the Plan (except for adjustments by reason of stock splits and like changes), (ii) changes the class of persons eligible to participate in the Plan or (iii) extends the period during which options may be granted or exercised. Federal Income Tax Consequences of Grants and Exercises Under the Plan Neither the granting nor the exercise of an incentive stock option will be a taxable event for the optionee or for Concord. If an optionee holds shares of stock purchased pursuant to the exercise of an incentive option for at least two years after the date the option was granted and at least one year after the exercise of the option, the subsequent sale of the shares will give rise to a long-term capital gain or loss to the optionee, and no deduction will be available to Concord. If the optionee sells the shares within two years after the date an incentive option is granted or within one year after the exercise of an option, the optionee will recognize ordinary income in an amount equal to the difference between the fair market value at the exercise date and the option exercise price, and Concord will be entitled to an equivalent deduction. The granting of a nonstatutory option is not a taxable event. If an optionee exercises a nonstatutory option, the optionee will, on exercise, recognize ordinary income equal to the amount by which the fair market value of the shares purchased on the exercise date exceeds the exercise price, and a sale of the shares so acquired will give rise to a capital gain equal to the difference between the fair market value of the shares on the sale and exercise dates. Some optionees who exercise incentive options may also be subject to a minimum tax in the year of exercise on the difference between the fair market value at the exercise date and the exercise price. Where already-owned shares are used to exercise a stock option, special rules will apply in determining the tax basis of the shares received upon exercise. Payments of Withholding Taxes Concord may require persons exercising an option to report to Concord any disposition of shares so purchased prior to the expiration of certain holding periods. To the extent that such disposition imposes upon Concord any withholding tax requirements, or any withholding is required to secure for Concord an otherwise available tax deduction, Concord may require that such optionee pay such amounts to Concord. Federal Gift and Estate Tax Consequences of Option Transfers The transfer of an option to a family member is a gift and will generate a federal gift tax except to the extent excluded by the annual exclusion of $10,000 per donor to any donee or the lifetime exclusion per donor of $650,000 in 1999, increasing gradually to $1 million in 2006. The value of the option would be calculated at the time of gift using an analysis such as the Black-Scholes analysis. The transferred option will lapse or terminate at the same time in the hands of the donee as it would have lapsed or terminated if it had not been transferred. Expiration of the Plan No awards may be granted under the Plan after February 16, 2003. Recommendation of the Board An affirmative vote of a majority of the shares voting on the matter is necessary to approve the amendment. Concord's Board of Directors has unanimously approved the proposed amendments to the Plan to permit transferability of options to specified family members and trusts and other entities for the exclusive benefit of family members and to increase the number of options granted annually to directors and recommends that Concord's stockholders vote "FOR" the proposed amendment. OTHER MATTERS The Board of Directors knows of no matters which are likely to be presented for action at the Annual Meeting other than the proposals specifically set forth in the Notice and referred to herein. If any other matter properly comes before the Annual Meeting for action, it is intended that the persons named in the accompanying proxy and acting thereunder will vote or refrain from voting in accordance with their best judgment pursuant to the discretionary authority conferred by the proxy. CERTAIN TRANSACTIONS Bingham Dana LLP serves as legal counsel to the Company. Richard M. Harter, Secretary and Director of the Company, is a partner of that firm. Wyatt, Tarrant and Combs also serves as legal counsel to the Company. J. Richard Buchignani, Director of the Company, is a partner of that firm. INFORMATION CONCERNING AUDITORS Representatives of Ernst & Young LLP are expected to be at the Annual Meeting and will have an opportunity to make a statement if they desire to do so. Such representatives are also expected to be available to respond to appropriate questions. STOCKHOLDERS PROPOSALS Stockholder proposals to be submitted for vote at the 2000 Annual Meeting must be delivered to the Company on or before December 10, 1999. EXPENSES OF SOLICITATION Solicitations of proxies by mail is expected to commence on April 9, 1999, and the cost thereof will be borne by the Company. Copies of solicitation materials will also be furnished to brokerage firms, fiduciaries and custodians to forward to their principals, and the Company will reimburse them for their reasonable expenses. By Order of the Board of Directors Richard M. Harter Secretary ANNUAL REPORT ON FORM 10-K The Company will deliver without charge to each of its stockholders, upon their written request, a copy of the Company's most recent annual report on Form 10-K and any information contained in any subsequent reports filed with The Securities and Exchange Commission. Request for such information should be directed to Investor Relations, Concord EFS, Inc., 2525 Horizon Lake Drive, Suite 120, Memphis, Tennessee 38133. Exhibit I CONCORD EFS, INC. 1993 INCENTIVE STOCK OPTION PLAN (Second 1999 Restatement) 1. Definitions. As used in this 1993 Incentive Stock Option Plan of Concord EFS, Inc., the following terms shall have the following meanings: 1.1 Awarded Options means all options other than Formula Options. 1.2 Change in Corporate Control means the date on which any individual, corporation, partnership or other person or entity (together with its "Affiliates" and "Associates," as defined in Rule 12b-2 under the Securities Exchange Act of 1934) "beneficially owns" (as defined in Rule 13d- 3 under the Securities Exchange Act of 1934) in the aggregate 20% or more of the outstanding shares of capi- tal stock of the Company entitled to vote generally in the election of directors of the Company. 1.3 Code means the Internal Revenue Code of 1986, as amended. 1.4 Committee means the Compensation Committee of the Company's Board of Directors, consisting exclusively of directors who at the relevant time are "outside directors" within the meaning of ss.162(m) of the Code. 1.5 Company means Concord EFS, Inc., a Delaware corporation. 1.6 Fair Market Value means the value of a share of Stock of the Company on any date as determined by the Board. 1.7 Family Member means a child, stepchild, grandchild, parent, grandparent, spouse, sibling, child-in-law, parent-in-law, or sibling-in-law, including adoptive relationships. 1.8 Formula Grant means a grant of options pursuant to Section 11. 1.9 Formula Grant Date shall have the meaning specified in Section 11. 1.10 Formula Options means options granted pursuant to Section 11. 1.11 Grant Date means the date on which an Option is granted, as specified in Section 7. 1.12 Major Shareholder means a person who, within the meaning of Section 422(b)(6) of the Code, is deemed to own stock possessing more than 10% of the total combined voting power of all classes of stock of the Company (or of its parent or subsidiary corporations). 1.13 Option means an option to purchase shares of the Stock granted under the Plan. 1.14 Option Agreement means an agreement between the Company and an Optionee, setting forth the terms and conditions of an Option. 1.15 Option Period means the period from the date of the grant of an Option to the date when the Option expires as stated in the terms of the Option Agreement. 1.16 Option Price means the price paid by an Optionee for an Option under this Plan. 1.17 Option Share means any share of Stock of the Company transferred to an Optionee upon exercise of an Option pursuant to this Plan. 1.18 Optionee means a person eligible to receive an Option, as provided in Section 6, to whom an Option shall have been granted under the Plan. 1.19 Plan means this 1993 Incentive Stock Option Plan of the Company. 1.20 Related Corporation means a Parent Corporation or a Subsidiary Corporation, each as defined in Section 424 of the Code. 1.21 Stock means common stock, $0.33 1/3 par value, of the Company. 1.22 Vested Shares, as of any date, means those shares of stock available at that date for purchase by exercise of a Formula Option pursuant to Section 11. 2. Purpose. This 1993 Incentive Stock Option Plan is intended to encourage ownership of the Stock by key employees and directors of the Company and its Related Corporations and to provide additional incentive for them to promote the success of the Company's business. The Plan is intended to be an incentive stock option plan within the meaning of Section 422 of the Code. 3. Term of the Plan. Options under the Plan may be granted not later than February 16, 2003. 4. Stock Subject to the Plan. At no time shall the number of shares of the Stock then outstanding which are attributable to the exercise of Options granted under the Plan, plus the number of shares then issuable upon exercise of outstanding options granted under the Plan exceed 25,000,000 shares, subject, however, to the provisions of Section 16 of the Plan. No Optionee may be granted in any year Options to purchase more than 1,500,000 shares of Stock, subject to adjustment pursuant to Section 16. Shares to be issued upon the exercise of Options granted under the Plan may be either authorized but unissued shares or shares held by the Company in its treasury. If any Option expires or terminates for any reason without having been exercised in full, the shares not purchased thereunder shall again be available for Options thereafter to be granted. 5. Administration. The Plan shall be administered by the Committee. Subject to the provisions of the Plan (including, without limitation, the provisions of Sections 11 and 20), the Committee shall have complete authority, in its discretion, to make the following determinations with respect to each Awarded Option to be granted by the Company: (a) the key employee to receive the Awarded Option; (b) the time of granting the Awarded Option; (c) the number of shares subject thereto; (d) the Option Price; (e) the Option period; and (f) the transferability of Options other than Incentive Options under Code Section 422. . In making such determinations, the Committee may take into account the nature of the services rendered by the respective employees, their present and potential contributions to the success of the Company and its subsidiaries, and such other factors as the Committee in its discretion shall deem relevant. Subject to the provisions of the Plan, the Committee shall also have complete authority to interpret the Plan, to prescribe, amend and rescind rules and regulations relating to it, to determine the terms and provisions of the respective Option Agreements (which need not be identical) other than Option Agreements for Formula Options, and to make all other determinations necessary or advisable for the administration of the Plan. The Committee's determinations on the matters referred to in this Section 5 shall be conclusive. 6. Eligibility. An Awarded Option may be granted only to a key employee of one or more of the Company and its subsidiaries. A director of one or more of the Company and its subsidiaries who is not also an employee of one or more of the Company and its subsidiaries shall not be eligible to receive Awarded Options but shall receive Formula Options pursuant to Section 11. A Major Shareholder shall be eligible to receive an Awarded Option only if the Option Price is at least 110% of the Fair Market Value on the Grant Date and only if the Awarded Option expires, to the extent not theretofore exercised, on the fifth anniversary of the Grant Date. 7. Time of Granting Awarded Options. The granting of an Awarded Option shall take place at the time specified by the Committee. Only if expressly so provided by the Committee, shall the Grant Date be the date on which an Option Agreement shall have been duly executed and delivered by the Company and the Optionee. 8. Awarded Option Price. The Option Price under each Awarded Option shall be not less than 100% of the Fair Market Value of the Stock on the Grant Date except that the Option Price under an Awarded Option granted to a Major Shareholder must be not less than 110% of the Fair Market Value. 9. Awarded Option Period. No Awarded Option may be exercised later than the tenth anniversary of the Grant Date, or for an Awarded Option granted to a Major Shareholder, the fifth anniversary of the Grant Date. An Awarded Option may become exercisable in such installments, cumulative or non-cumulative, as the Committee may determine. 10. Maximum Size of Awarded Option as Incentive Option. To the extent that the aggregate Fair Market Value of Stock for which an Awarded Option becomes exercisable by an Optionee for the first time in any calendar year exceeds $100,000, the Awarded Option shall be treated as a nonstatutory option, and not an incentive option under Section 422 of the Code. For purposes of this Section 10, all Awarded Options granted to an Optionee by the Company shall be considered in the order in which they were granted, and the Fair Market Value shall be determined as of the Grant Dates. 1. Formula Grants of Options to Certain Directors. (a) Directors Elected or Re-Elected at Annual Stockholders Meeting, Special Meeting in Lieu of Annual Meeting or at Other Times. Each individual who is not an employee of the Company or any subsidiary of the Company, and who is elected or re-elected to the Board of Directors during the term of the Plan (whether elected at an annual or special stockholders' meeting or by action of the Board of Directors) shall be granted, on the date of such meeting or other appointment (as used in or with reference to this Section 11(a), a "Formula Grant Date"), a nonstatutory Stock Option to purchase 6,000 shares of Stock, or, if a Director shall have waived his/her basic cash director fee for the year then beginning, 7,250 shares of stock, each subject to adjustment pursuant to Section 16. (b) Terms of Formula Options. Each Formula Option granted to an Optionee under this Section 18 shall (i) have an exercise price equal to 100% of the Fair Market Value of the Stock on the applicable Formula Grant Date, and (ii) become exercisable for Vested Shares on the second anniversary of the Formula Grant Date if the Optionee remains a director of the Company on that date. No Formula Option granted pursuant to this Section 11 is intended to qualify as an incentive stock option within the meaning of Section 422 of the Code. The Formula Grants shall be evidenced by Option Agreements. The Option Agreements shall contain provisions consistent with this Section 11 and shall contain identical terms and conditions, except as otherwise required by this Section 11. (c) Option Period. The Option Period for any Formula Option granted pursuant to this Section 11 shall be ten years from the date of grant. 12. Exercise of Option. An Option may be exercised only by giving written notice, in the manner provided in Section 21 hereof, specifying the number of shares as to which the Option is being exercised, accompanied by (a) full payment for such shares in the form of (X) a check or bank draft payable to the order of the Company, (Y) certificates representing shares of the Stock with a current Fair Market Value equal to the Option Price of the shares to be purchased, or (Z) irrevocable instructions to a brokerage firm to sell a sufficient number of the Option Shares to generate the full exercise price plus all applicable withholding taxes and to pay over to the Company such proceeds of sale, and (b) such additional amount in one or more of the foregoing forms as the Company may reasonably require to permit the Company to comply with applicable withholding tax requirements. Receipt by the Company of such notice and payment shall constitute the exercise of the Option or a part thereof. Within 20 days thereafter, the Company shall deliver or cause to be delivered to the Optionee a certificate or certificates for the number of shares then being purchased by him. Such shares shall be fully paid and nonassessable. If any law or applicable regulation of the Securities and Exchange Commission or other public regulatory authority shall require the Company or the Optionee to register or qualify under the Securities Act of 1933, as amended, any similar federal statute then in force or any state law regulating the sale of securities, any Option Shares with respect to which notice of intent to exercise shall have been delivered to the Company or to take any other action in connection with such shares, the delivery of the certificate or certificates for such shares shall be postponed until completion of the necessary action, which the Company shall take in good faith and without delay. All such action shall be taken by the Company at its own expense. Upon each exercise of the Option, the Optionee may be required to give a representation in form satisfactory to counsel for the Company that he or she is acquiring shares purchased pursuant to such exercise for investment and not with a view to distribution and that he or she will make no transfers of the shares in violation of the Securities Act of 1933, as amended, and the regulations of the Securities and Exchange Commission thereunder. The Company may, at its discretion, make a notation on any certificate delivered upon exercise of the Option to the effect that the shares represented by the certificate may not be transferred except after receipt by the Company of an opinion of counsel satisfactory to it to the effect that such transfer will not violate such Act and such regulations, and may issue "stop transfer" instructions to its transfer agent, if any, and make a "stop transfer" notation on its books, as appropriate. Notwithstanding the foregoing, the Company may release the Optionee from the investment representation if the shares of the Stock subject to the Option have been registered with the Securities and Exchange Commission under such Act. 13. Notice of Disposition of Stock Prior to Expiration of Specified Holding Period. The Company may require that the person exercising an Option give a written representation to the Company, satisfactory in form and substance to its counsel and upon which the Company may reasonably rely, that he or she will report to the Company any disposition of shares purchased upon exercise prior to the expiration of the holding periods specified by Section 422(a)(1) of the Code. If and to the extent that the disposition imposes upon the Company federal, state, local or other withholding tax requirements, or any such withholding is required to secure for the Company an otherwise available tax deduction, the Company shall have the right to require that the person making the disposition remit to the Company an amount sufficient to satisfy those requirements. 14. Transferability of Options. Incentive Options under Code Section 422 shall not be transferable, otherwise than by will or the laws of descent and distribution, and may be exercised during the life of the Optionee only by the Optionee. Any Other Option, including a Formula Option, may be transferred by the Optionee to a Family Member or a trust for one or more Family Members or an entity exclusively owned by Family Members unless the Option Agreement specified that the Option covered thereby may not be transferred. 15. Termination of Employment or Service. With respect to Awarded Options, in the event that the Optionee's employment is terminated for any reason other than death or the Optionee's employer is no longer the Company or a Related Corporation, the Awarded Option, to the extent exercisable at termination, may be exercised by the Optionee at any time within three months after termination unless terminated earlier by its terms. If termination results from the death of the Optionee, the Awarded Option, to the extent exercisable at the date of death, may be exercised by the person to whom the Awarded Option is transferred by will or the applicable laws of descent and distribution, at any time within one year after the date of death, unless terminated earlier by its terms. Military or sick leave shall not be deemed a termination of employment provided that it does not exceed the longer of 90 days or the period during which the absent employee's re-employment rights are guaranteed by statute or by contract. With respect to Formula Options, in the event that the Optionee's service is terminated for any reason, the Formula Option, to the extent exercisable at termination, may be exercised at any time within five years after the termination of service, unless terminated earlier by its terms. 16. Adjustment of Number of Shares. Each Option Agreement shall provide that in the event of any stock dividend payable in the Stock or any split-up or contraction in the number of shares of the Stock occurring after the date of the Agreement and prior to the exercise in full of the Option, the number of shares subject to such Agreement shall be proportionately adjusted and the price to be paid for each share subject to the Option shall be proportionately adjusted. Each such Agreement shall also provide that in case of any reclassification or change of outstanding shares of the Stock or in case of any consolidation or merger of the Company with or into another company or in the case of any sale or conveyance to another company or entity of the property of the Company as a whole or substantially as a whole, shares of Stock or other securities shall be delivered equivalent in kind and value to those shares or other securities an Optionee would have received if the Option had been exercised in full prior to such reclassification, change, consolidation, merger, sale or conveyance and no disposition had subsequently been made. Each Agreement shall further provide that upon dissolution or liquidation of the Company, the Option shall terminate, but the Optionee (if at the time in the employ of the Company or any of its subsidiaries) shall have the right, immediately prior to such dissolution or liquidation, to exercise the Option to the extent not theretofore exercised. No fraction of a share shall be purchasable or deliverable upon exercise, but in the event any adjustment hereunder of the number of shares covered by the Option shall cause such number to include a fraction of a share, such fraction shall be adjusted to the nearest smaller whole number of shares. In the event of changes in the outstanding Stock by reason of any stock dividend, split-up, contraction, reclassification, or change of outstanding shares of the Stock of the nature contemplated by this Section 15, the number of shares of the Stock available for the purpose of the Plan as stated in Section 4 shall be correspondingly adjusted and the maximum number of shares available for any one Option as stated in Section 4 and the number of shares to be granted to each director as stated in Section 11 shall be correspondingly adjusted. 17. Change in Corporate Control. Upon a Change in Corporate Control, each outstanding Option shall immediately become fully exercisable, and a registration statement under the Securities Act of 1933, as amended, with respect to shares covered by all outstanding Options, whether to be issued by the Company or by any successor corporation, shall be effective at all times during which the Options may be exercised and, to facilitate resale of the shares, during the twelve months after the last exercise of the Options. 18. Reservation of Stock. The Company shall at all times during the term of the Option reserve and keep available such number of shares of the Stock as will be sufficient to satisfy the requirements of this Plan and shall pay all fees and expenses necessarily incurred by the Company in connection therewith. 19. Limitation of Rights in the Option Shares. The Optionee shall not be deemed for any purpose to be a stockholder of the Company with respect to any of the Option Shares except to the extent that the Option shall have been exercised with respect thereto and, in addition, a certificate shall have been issued therefor and delivered to the Optionee. 20. Termination and Amendment of the Plan. The Committee may at any time terminate the Plan or make such amendment to the Plan as it shall deem advisable, provided that, except as provided in Section 15, the Committee may not, without the approval by the holders of a majority of the Stock, change the classes of persons eligible to receive Options, increase the maximum number of shares available for option under the Plan or extend the period during which Options may be granted or exercised. Notwithstanding the preceding sentence, the provision of Sections 1, 5 and 6, insofar as they relate to Formula Options, and Section 11 shall not be amended more often than once every six months, other than to comport with changes in the Code and regulations thereunder. No termination or amendment of the Plan may, without the consent of the Optionee to whom any Option shall theretofore have been granted, adversely affect the rights of such Optionee under such Option. 21. Notices. Any communication or notice required or permitted to be given under the Plan shall be in writing, and mailed by registered or certified mail or delivered in hand, if to the Company, to its Treasurer at Concord EFS, Inc., 2525 Horizon Lake Drive, Suite 120, Memphis, Tennessee 38133 and, if to the Optionee, to the address as the Optionee shall last have furnished to the communicating party. EXHIBIT 2 - PROXY CARD CONCORD EFS, INC. 2525 Horizon Lake Drive, Suite 120 Memphis, Tennessee 38133 THIS PROXY IS SOLICITEED ON BEHALF OF THE BOARD OF DIRECTORS The undersigned hereby appoints Dan M. Palmer and Thomas J. Dowling or either of them as Proxies, each with the power to appoint his substitute, and hereby authorizes them to represent and to vote as designated below, all the shares of Common Stock of Concord EFS, Inc. (Concord) held by the undersigned on March 18, 1999, at the Annual Meeting of Stockholders to be held on Thursday, May 2, 1999 at Colonial Country Club, 2735 Countrywood Parkway, Memphis, Tennessee beginning at 9:30 a.m. local time, or any adjournment thereof. WHETHER OR NOT YOU PLAN TO ATTEND THIS MEETING, PLEASE SIGN AND RETURN THIS PROXY. - - -------------------------------------------------------------------------------- PLEASE VOTE, DATE AND SIGN ON REVERSE AND RETURN PROMPTLY IN THE ENCLOSED ENVLELOPE. - - -------------------------------------------------------------------------------- - - -------------------------------------------------------------------------------- Please sign exactly as your name(s) appear(s) hereon. When shares are held by joint tenants, both should sign. When signing as attorney, executor, administrator, trustee or guardian, please give full title, as such. If a corporation, please sign in full corporate name by president or other authorized officer. If a partnership, please sign in partnership name by authorized person and state title. - - -------------------------------------------------------------------------------- [X] PLEASE MARK VOTES AS IN THIS EXAMPLE This proxy, when properly executed will be voted in the manner directed by the undersigned stockholder. If no direction is made, this proxy will be voted FOR the actions described in Item Nos. 1, 2, and 3. In their direction, the Proxies are authorized to vote upon such other business as may properly come before the Annual Meeting or any adjournment thereof 1. To elect directors to serve for the ensuing year. For all With- For All Nominees hold Except Douglas C. Altenbern Richard P. Kiphart [ ] [ ] [ ] David C. Anderson Edward A. Labry J. Richard Buchignani Jerry D. Mooney Richard M. Harter Dan M. Palmer Joyce Kelso Paul L. Whittington NOTE: If you do not wish your shares voted "For" a particular nominee mark the "For All Except" box and strike a line through the nominee(s) name(s). Your shares will be voted "For" the remaining nominee(s). For Against Abstain 2. To approve the Amendment to the Certificate [ ] [ ] [ ] of Incorporation to increase the number of authorized shares of Common Stock. For Against Abstain 3. To approve the Amendment to Concord's 1993 [ ] [ ] [ ] Incentive Stock Option Plan to permit optionees to transfer options to family members and increase options granted annually to non-employee directors. 4. To transact such other business as may properly come before the annual meeting and any adjournments thereof. CONCORD EFS, INC. Mark box at right if an address change or comment has been noted on the reverse side of this card. [ ] CONTROL NUMBER: RECORD DATE SHARES: Please be sure to sign and date this Proxy. Date: ----------------------- - - ----------------------------------------- -------------------------------------- Stockholder sign here Co-Owner sign here DETACH CARD DETACH CARD EX-21 6 LISTING OF SUBSIDIARIES EXHIBIT 21 CONCORD EFS, INC. LISTING OF SUBSIDIARIES Jurisdiction of Company Organization Ownership ----------------------------- ---------------------------- --------- EFS National Bank National Bank Charter 100% EFS Federal Savings Bank Federal Savings Bank Charter 100% Concord Computing Corp. Delaware 100% Concord Retail Services, Inc. Delaware 100% Concord Equipment Sales Tennessee 100% Pay Systems of America, Inc. Tennessee 100% Digital Merchant Systems of Illinois, Inc. Illinois 100% American Bankcard Intl Illinois 100% EX-23 7 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23 CONCORD EFS, INC. CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in this Annual Report (Form 10-K) of Concord EFS, Inc. of our report dated February 11, 1999, except for Note Q, as to which the date is February 26, 1999, included in the 1998 Annual Report to Stockholders of Concord EFS, Inc. We also consent to the incorporation by reference in the Registration Statement (Form S-8 No. 33-60871) pertaining to the Concord EFS, Inc. 1993 Incentive Stock Option Plan, in the Registration Statement (Form S-3 No. 333-62069) and related Prospectus of Concord EFS, Inc. for the registration of 4,554,342 shares of Concord EFS, Inc. common stock, in the Registration Statement (Form S-8 No.333-74213) pertaining to the Electronic Payment Services, Inc. 1995 Stock Option Plan, as amended, for the registration of 2,244,795 shares of Concord EFS, Inc. common stock, and in the Registration Statement (Form S-8 No. 333-74215) pertaining to the Concord EFS, Inc. 1993 Incentive Stock Option Plan, as amended, for the registration of 11,331,250 shares of Concord EFS, Inc. common stock, of our report dated February 11, 1999, except for Note Q, as to which the date is February 26, 1999, with respect to the consolidated financial statements of Concord EFS, Inc. and subsidiaries incorporated by reference in this Annual Report (Form 10-K) for the year ended December 31, 1998. /s/ Ernst & Young LLP Memphis Tennessee March 26, 1999 EX-23.1 8 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23.1 CONCORD EFS, INC. CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statement (Form S-8 No. 33-60871) pertaining to the Concord EFS, Inc. 1993 Incentive Stock Option Plan, in the Registration Statement (Form S-3 No. 333-62069) and related Prospectus of Concord EFS, Inc. for the registration of 4,554,342 shares of Concord EFS, Inc. common stock, in the Registration Statement (Form S-8 No.333-74213) pertaining to the Electronic Payment Services, Inc. 1995 Stock Option Plan, as amended, for the registration of 2,244,795 shares of Concord EFS, Inc. common stock, and in the Registration Statement (Form S-8 No. 333-74215) pertaining to the Concord EFS, Inc. 1993 Incentive Stock Option Plan, as amended, for the registration of 11,331,250 shares of Concord EFS, Inc. common stock, of our report dated February 26, 1999, with respect to the supplemental consolidated financial statements of Concord EFS, Inc. and subsidiaries included as Exhibit 99 in this Annual Report (Form 10-K) for the year ended December 31, 1998. /s/ Ernst & Young LLP Memphis, Tennessee March 26, 1999 EX-27 9 FINANCIAL DATA SCHEDULE
5 1000 YEAR YEAR DEC-31-1998 DEC-31-1997 DEC-31-1998 DEC-31-1997 69167 63795 288180 192707 71926 54166 917 1433 11112 5259 446866 269184 114779 89520 69441 57251 519598 368439 95200 61963 0 0 0 0 0 0 32624 22135 110161 113912 519598 368439 375738 270074 375738 270074 275374 198939 291933 215603 0 0 164 1445 3916 930 66336 66336 33743 23590 63771 41682 0 0 0 0 0 0 63771 41682 0.65 0.43 0.63 0.42
EX-99 10 SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS Concord EFS, Inc. and Subsidiaries Supplemental Selected Consolidated Financial Data The following table presents supplemental selected consolidated financial data (in thousands, except per share data) for the Company for each of the five years in the period ended December 31, 1998. The consolidated selected financial data for the Company has been restated for all periods presented to reflect the business combination of Concord EFS, Inc. and Electronic Payment Services, Inc. on February 26, 1999, which was accounted for as a pooling of interests. Net income per share has been restated for all periods presented to reflect all stock splits through December 31, 1998, as well as to conform to the requirements of Financial Accounting Standards Board ("FASB") Statement No. 128, "Earnings Per Share." This financial data is derived in part from, and should be read in conjunction with, the Supplemental Consolidated Financial Statements and the related notes thereto contained elsewhere in this report.
Percentage of Revenue Percentage ------------------------- Change Year Ended --------------- Year Ended December 31 December 31 1998 1997 -------------------------------------------------------- ------------------------- Over Over 1998 1997 1996 1995 1994 1998 1997 1996 1997 1996 -------- -------- -------- -------- -------- ------ ------ ------ ------ ------ Income Statement Data: Revenue $634,511 $490,030 $355,459 $295,552 $258,125 100% 100% 100% 29.4% 37.9% Cost of Operations 446,515 340,770 241,273 197,394 184,958 70.0 69.6 67.9 31.0 41.2 Selling, General and Administrative Expenses 51,185 50,008 42,811 47,907 32,036 8.1 10.2 12.0 2.4 16.8 Operating Income 136,811 99,252 71,375 50,251 41,131 21.5 20.2 20.1 37.8 39.1 Interest Income (Expense), Net 3,703 (1,789) (10,296) (13,766) (16,983) 0.6 (0.4) (2.9) 307.0 82.6 Income Taxes 51,819 37,771 23,347 15,627 9,680 8.2 7.7 6.6 37.2 61.8 Net Income 88,695 59,692 37,732 20,858 14,468 14.0 12.2 10.6 48.6 58.2 Basic Earnings Per Share $0.69 $0.47 $0.32 $0.18 $0.13 Diluted Earnings Per Share $0.67 $0.46 $0.31 $0.18 $0.13 Weighted Average Shares 127,693 126,592 116,291 113,081 111,542 Adjusted Weighted Average Shares and Assumed Conversions 131,947 129,937 120,189 116,854 113,912 Balance Sheet Data: Working Capital $285,826 $148,987 $ 69,860 $ 32,911 $(33,519) Total Assets 784,118 619,196 554,462 396,144 314,366 Long Term Debt, Less Current Maturities 173,000 153,329 150,561 175,978 201,371 Total Stockholders' Equity (Deficiency) 360,535 260,544 182,126 45,339 (73,450)
-1- Concord EFS, Inc. and Subsidiaries Supplemental Management's Discussion and Analysis of Financial Condition and Results of Operations The following Supplemental Management's Discussion and Analysis of Financial Condition and Results of Operations, Supplemental Consolidated Financial Statements and related Notes to Supplemental Consolidated Financial Statements reflect the business combination of Concord EFS, Inc. and Electronic Payment Services, Inc. on February 26, 1999. The combination was accounted for as a pooling of interests. Supplemental Management's Discussion and Analysis of Financial Condition and Results of Operations may contain statements which may constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Investors are cautioned that any such statements are not guarantees for future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Important factors currently known to management that could cause actual results to differ materially from those in forward-looking statements include significant fluctuations in interest rates, inflation, economic recession, significant changes in the federal and state legal and regulatory environment, successful implementation of the Company's Year 2000 compliance project, the impact of the Company's recent acquisition of Electronic Payment Services, Inc. on its business and the market for the Company's stock and competition in the Company's markets. The Company undertakes no obligation to update or revise forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future results over time. Results of Operations In connection with the acquisition of EPS, the Company expects to incur approximately $10.5 million in acquisition related expenses in the first quarter of 1999. These expenses are primarily investment banking, legal and accounting fees. Although no definite plan has been adopted, management is currently reviewing operational synergies, such as duplicate facilities, computer and communication hardware and software and other contractual relationships including severance that may require additional charges in the second quarter of 1999 and beyond. Management plans to complete this analysis by May 31, 1999 and will update stockholders on the progress, if available, in the Company's first quarter 1999 Form 10-Q. Calendar 1998 Compared to Calendar 1997 Revenue increased 29% in 1998. Transaction processing revenue from Merchant Card Services, which includes credit, debit, electronic benefits transfer (EBT) and fuel card transactions increased 36% for the year. The addition of new merchants increased transactional volumes and related revenue. Higher credit card transaction processing rates also contributed to the increase in revenue. The increase in rates was a pass through of higher interchange expenses assessed the Company from the credit card associations. The widening acceptance of debit and EBT card transactions at new and existing merchants also contributed to the increase in revenue. Merchant Card Services was 67% of total revenue. ATM Services, which include transactional fees, surcharges and ATM processing fees, increased 19%. The placement of new ATMs, new ATM processing customers and increases in transactional volumes accounted for the increase. ATM Services was 31% of total revenue. Other revenue, primarily Check and Terminal Services, was 2% of total revenue and increased 7% in 1998. Net income as a percentage of revenue increased in 1998 to 14.0% from 12.2% in the prior year. Cost of operations increased in 1998 to 70.0% of revenue compared to 69.6% in the prior year. Operational cost increases were due to the blended growth of several costs at varying rates. Interchange costs from credit card association increases, Year 2000 compliance and development expenses were balanced by other operating expenses such as depreciation and payroll growing at a slower rate than revenue. The primary component of the margin improvement was due to selling, general and administrative expenses increasing only $1.2 million or 2%, from $50.0 million in 1997 to $51.2 million in 1998. As a result of slower growth rate in these expenses, selling, general and administrative expenses were 8.1% of revenue in 1998 versus 10.2% in 1997. A second component of the margin improvement was the combination of net interest income (expense) and income taxes. During 1998 the Company increased its allocation of municipal investment securities within the investment portfolio from 18% at year end 1997 to 41% at year end 1998. Municipal investment securities are generally tax-exempt for federal income tax purposes and have lower interest rates than taxable investment securities. While the total debt increased $19.3 million in 1998 to $198.1 from $178.8 in 1997, $45 million in new debt was used to purchase higher yielding investment securities while existing higher rate debt was paid down by $25 million. As a result of these factors, net interest income (expense) increased as a percentage of total -2- revenue to 0.6% in 1998 from (0.4%) in 1997, and the Company's overall tax rate decreased from 38.8% in 1997 to 36.9% in 1998 due to the non-taxable interest income. Calendar 1997 Compared to Calendar 1996 Revenue increased 38% in 1997. As described in Note L in the Notes to Consolidated Financial Statements, the Company merged with Digital Merchant Systems of Illinois, Inc. and American Bankcard International, Inc. (DMS). The financial statements of DMS prior to 1997 were immaterial for restatement purposes. However, DMS's revenue for 1997 was approximately $30 million. Excluding DMS's 1997 revenue, total revenue increased 36% in 1997. Transaction processing revenue from Merchant Card Services, which includes credit, debit, electronic benefits transfer (EBT) and fuel card transactions, increased 50% for the year. The addition of new merchants, increased transactional volumes and the DMS acquisition were the primary factors of the increase. Increased credit and debit card usage at existing merchants, primarily the Company's grocery store niche, also contributed to the increase. Merchant Card Services was 63% of total revenue. ATM Services was 34% of total revenue and increased 23% in 1997 over 1996. The increase in ATM Services revenue, which includes transactional fees, surcharges and ATM processing fees, was a result of an increase in ATMs for which the Company is the transaction processor. Growth in billable ATM transactions also contributed to the revenue increase. During 1997, other revenue, primarily check and terminal services, which was 3% of total revenue, decreased 6%. Net Income as a percentage of revenue increased in 1997 to 12.2% from 10.6% in the prior year including the restatement of the 1997 financial statements for the DMS acquisition. In 1997, the restatement of DMS results provided revenue of approximately $30 million, cost of operations of approximately $26 million, selling, general and administrative expenses of approximately $8 million and a net loss of approximately $1 million. Excluding the DMS results, operating costs remained relatively flat at 68.5% of revenue in 1997 compared to 67.9% in 1996, while selling, general and administrative expenses decreased from 12.0% in 1996 to 9.1% in 1997. Selling, general and administrative expenses, excluding DMS, were $42.0 million in 1997 compared to $42.8 million in 1996 as the company grew its transaction processing business while decreasing these expenses. This was the primary factor for net income as a percentage of revenue increasing to 13.3% in 1997 versus 10.6% in 1996, excluding the results of DMS. Liquidity and Capital Resources The Company consistently generates significant resources from operating activities. Over the past three years operating activities generated cash of $167.6, $79.6, and $139.4 million, respectively. Significant changes in accounts receivable and accounts payable result from the day of the week the calendar year end falls combined with the increases in settlement volume from one year to the next, impacting cash generated from operations. At December 31, 1996, approximately $35.1 million was received from credit card associations prior to disbursement of the funds to the Company's Merchant Card Service customers. Under a typical two day settlement cycle, these funds would have been paid to the customers prior to December 31, 1997, and cash provided (used) from operating activities would have been ($104.5) million for the year ended December 31, 1996 and $114.7 million for the year ended December 31, 1997. The Company completed a secondary offering of common stock in October 1996. Proceeds from the 3.45 million shares issued were $87.7 million. $30 million was used as a capital contribution to EFS National Bank (EFSNB), a wholly-owned subsidiary of the Company, in order for it to remain in compliance with the guidelines of credit card associations as its processing transaction volume increases. It is expected that portions of this additional EFSNB equity will be utilized from time to time to acquire selected merchant payment processing portfolios from banks and other processing organizations. The balance of the net proceeds held by the Company will be available for working capital and general corporate purposes, including placing additional ATMs, the possible acquisition of transaction processing businesses and use in other subsidiaries of the Company. The Company invested the net proceeds of the offering in short- and medium-term, interest-bearing obligations described in Note B - Securities. During fiscal 1998, the Company invested approximately $94 million in securities, net of sales and maturities, and $65.2 million in capital additions. Capital additions were primarily for new computer equipment. These investing activities were funded primarily through operating activities and $45 million in proceeds from notes payable to the Federal Home Loan Bank (see notes to Consolidated Financial Statements). Stock issued upon exercises of options under the Company's Incentive Stock Option Plan provided $6.6 million in additional capital in 1998. The disqualifying disposition of the options also reduced corporate income taxes paid by $3.6 million. Management cannot estimate the timing or amount of future cash flows from exercise of options, however, this is expected to continue to be a source of funds to the Company. -3- The Company has available credit of $95 million with financial institutions. As of December 31, 1998 and 1997, $21 million and $29 million, respectively, were outstanding on these lines of credit. The Company holds securities with a market value of approximately $193.2 million that are available for operating needs or as collateral to obtain short-term financing, if needed. With adequate available credit and strong cash generation, the Company is in sound financial condition and expects to fund continued growth from currently available resources. EFSNB exceeds all required capital ratios. Effects of Inflation The Company's assets are primarily monetary, consisting of cash, assets convertible into cash, securities owned and receivables. Because of their liquidity, these assets are not significantly affected by inflation. Management believes that replacement costs of equipment, furniture and leasehold improvements will not materially affect operations. However, the rate of inflation affects the Company's expenses, such as those for employee compensation and communications, which may not be readily recoverable in the price of services offered by the Company. Year 2000 Issues Concord EFS, Inc. The Year 2000 preparedness efforts of Concord cover both information technologies ("IT") and non-IT systems. Non-IT systems include those systems used in the daily operations of buildings and facilities. IT systems include computer hardware, software and related applications. Concord has instituted a five-phase plan to resolve the Year 2000 issue so that its IT and non-IT systems will function properly with respect to dates in the year 2000 and beyond. These five phases are: awareness, assessment, renovation, validation and implementation. Based on progress to date, Concord has substantially completed the awareness and assessment phases for all systems. The renovation, validation and implementation phases for internal and external mission critical systems and entities have been instituted concurrently and are on schedule for completion. The validation phase includes an independent review of results for all mission critical applications by Concord's internal audit staff and various regulatory agencies. As of December 31, 1998, the implementation phase for internal mission critical systems is substantially complete. Concord's processing systems also require testing for Year 2000 compliance with external entities, including its customers, credit and debit networks, and vendors. As of January 31, 1999, approximately 30% of the external entity certification is complete. It is estimated that external mission critical system testing will be 90% complete by March 31, 1999. The remaining 10% have been delayed at the request of select external agencies but will be complete or have contingency plans in place in anticipation of potential non-compliance by May 31, 1999. There is no guarantee that the systems of other companies on which Concord's systems rely will be converted in a timely manner. However, contingency plans have been created for all mission critical vendor products and services. The contingency plans will be further enhanced and expanded to include Business Resumption planning during the first two quarters of 1999 with completion to coincide with the completion of the Year 2000 project. These plans will include both Concord's internal mission critical systems and third-party exposures, based on the evaluation of progress at that time. Concord's management believes it has a plan in place to resolve the Year 2000 issue in a timely and effective manner. The entire Year 2000 project is scheduled for completion no later than June 30, 1999, well in advance of any anticipated impact on Concord. Additional testing of new or remediated systems and applications will continue as needed to ensure full Year 2000 compliance. If Concord does not complete the phases of its plan that are now underway, then its ability to process transactions for its customers could be adversely affected. The potential liability or lost revenue under this scenario could have a materially adverse effect on the Company's financial condition and results of operations. Concord has spent approximately $2.0 million in 1998 and anticipates spending an additional $663,000 to substantially complete its Year 2000 compliance project in accordance with its current schedule. These amounts exclude expenditures for normal business growth if timing of acquisition has been accelerated to facilitate short-term Year 2000 testing or compliance. To date, Concord has expensed all costs associated with its Year 2000 assessment and related application remediations. The cost of the project and the date on which Concord believes it will complete the Year 2000 remediations are based on management's best estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of certain resources and other factors. However, there can be no guarantee that these estimates will be accurate and actual results could differ materially from those anticipated. Specific factors that might cause such -4- material differences include, but are not limited to, the availability and cost of personnel trained in this area, the ability to locate and correct all relevant application code, and similar uncertainties. Electronic Payment Services, Inc. The Year 2000 preparedness efforts of EPS cover both IT systems and non-IT systems. Non-IT systems are embedded systems, such as micro-controllers in lighting, heating/ventilation/air-conditioning, security, elevator, fire, uninterrupted power-supply and other infrastructure systems. IT systems include computer hardware and software and related systems. EPS has instituted a five-phase plan to resolve the Year 2000 issue so that its IT and non-IT systems will function properly with respect to dates in the year 2000 and thereafter. These five phases are: awareness, assessment, renovation, validation and implementation. Based on progress to date, EPS has substantially completed the awareness phase and the assessment phase for all systems, as well as the renovation phase and validation phase for each of its mission critical systems. The validation phase includes an independent review of results for all mission critical systems by EPS's internal audit staff. As of January 31, 1999, approximately 95% of the implementation phase for mission critical systems had been completed. It is anticipated that all mission critical systems will be implemented by March 3, 1999. EPS's management believes that it has a plan in place to resolve the Year 2000 issue in a timely and effective manner. If EPS does not complete the phases of its plan that are now underway, then its ability to process transactions for its customers could be adversely affected. The potential liability or lost revenue under this scenario could have a material adverse effect on the Company's financial condition and results of operations. EPS's processing systems also require testing for Year 2000 compliance with external entities including its customers, credit and debit networks, and suppliers. As of January 31, 1999, approximately 35% of this customer and network certification was complete. EPS has initiated formal communications with all of its mission critical suppliers to determine the extent to which EPS's interface systems are vulnerable to those third parties' failure to remediate their own Year 2000 issues. Responses have been received from all of these mission critical suppliers, with approximately 78% reporting current Year 2000 compliance. It is estimated that third-party certification testing will be substantially complete by June 30, 1999. The entire Year 2000 project is estimated to be completed no later than September 30, 1999, which is prior to any anticipated impact on EPS. It is anticipated that additional testing will take place after this date to insure continued Year 2000 compliance. There is no guarantee that the systems of other companies on which EPS's systems rely will be converted in a timely manner. However, contingency plans have been created for all mission critical vendor products and services. The contingency plans will be further enhanced and expanded during the first quarter of 1999, for both EPS's systems and third-party exposures, based on an evaluation of progress at that time. EPS has spent approximately $4.4 million in 1998 and anticipates spending an additional $3.5 million to substantially complete its Year 2000 compliance program in accordance with its current schedule. These amounts exclude hardware expenditures needed for normal business growth if timing of acquisition has been accelerated to facilitate short-term Year 2000 testing. To date, EPS has expensed all costs associated with its Year 2000 assessment and related modifications of its software. The costs and timing of this project are based on management's best estimates, which were derived using numerous assumptions of future events. There are no guarantees that these assumptions will provide to be correct, and therefore actual results might differ materially from those anticipated. Specific factors that might cause such material differences include, but are not limited to, dependencies on third parties to complete their Year 2000 readiness and schedule joint testing, and the availability and cost of appropriately trained personnel. Quantitative and Qualitative Disclosures About Market Risk The securities of the Company are subject to risk resulting from interest rate fluctuations to the extent that there is a difference between the amount of the Company's interest-bearing assets and the amount of interest-bearing liabilities that are prepaid, mature or reprice in specific periods. This risk is mitigated by the fact that approximately 75% of the market value of securities owned were funded through equity rather than debt. The principal objective of the Company's asset/liability activities is to provide maximum levels of net interest income while maintaining acceptable levels of interest rate and liquidity risk and facilitating the funding needs of the Company. The Company utilizes an interest rate sensitivity model as the primary quantitative tool in measuring the amount of interest rate risk that is present at the end of each month. The following tables provide comparative information about the company's financial instruments that are sensitive to changes in interest rates. This -5- table presents principal cash flows and related weighted-average interest rates by expected maturity dates. Additionally, the Company has assumed its securities, described in Note B of the Notes to Supplemental Consolidated Financial Statements, are similar enough to aggregate those securities for presentation purposes. If tax equivalent yields of municipal securities had been utilized, the weighted-average interest rates would have been higher. December 31, 1998
Fair Value at 1999 2000 2001 2002 2003 Thereafter Total 12/31/98 -------- -------- -------- -------- -------- ---------- --------- ---------- (in thousands) Assets: Available-for-sale securities $34,705 $8,354 $15,956 $ 8,309 $17,624 $191,640 $276,588 $278,398 Average interest rate 6.2% 6.5% 4.8% 5.1% 4.8% 5.8% Liabilities: Short-term borrowings $21,000 $ 21,000 $ 21,000 Average interest rate 5.8% Long-term debt, including current portion $25,116 $25,000 $25,000 $53,000 $35,000 $ 35,000 $198,116 $196,652 Average interest rate 6.4% 6.4% 6.4% 6.1% 6.2% 5.4%
December 31, 1997
Fair Value at 1999 2000 2001 2002 2003 Thereafter Total 12/31/98 -------- -------- -------- -------- -------- ---------- --------- ---------- (in thousands) Assets: Available-for-sale securities $13,987 $8,014 $12,306 $7,437 $4,461 $87,968 $134,173 $134,334 Average interest rate 6.6% 6.5% 6.6% 6.6% 6.5% 6.9% Held-to-maturity securities $ 1,717 $4,000 $ 232 $7,121 $3,375 $36,063 $ 52,508 $ 53,634 Average interest rate 7.8% 6.3% 5.4% 6.6% 5.1% 6.9% Liabilities: Short-term borrowings $29,000 $ 29,000 $ 29,000 Average interest rate 5.8% Long-term debt, including current portion $25,445 $25,329 $25,000 $25,000 $53,000 $25,000 $178,774 $178,666 Average interest rate 6.4% 6.4% 6.4% 6.4% 6.1% 6.4%
Recent Quarterly Results The following table presents an unaudited summary of quarterly results for the quarters of the calendar years 1998 and 1997.
1st Quarter 2nd Quarter 3rd Quarter 4th Quarter ----------- ----------- ----------- ----------- (in thousands, except per share data) 1998 Revenue $134,666 $155,258 $167,555 $177,032 Operating Income 26,537 33,421 36,946 39,907 Net Income 17,349 21,331 23,765 26,250 Basic Earnings per share .14 .17 .19 .21 Diluted Earnings per share .13 .16 .18 .20 1997 Revenue $104,143 $117,256 $128,826 $139,805 Operating Income 17,228 23,205 27,225 31,594 Net Income 9,533 13,405 16,820 19,934 Basic Earnings per share .08 .11 .13 .16 Diluted Earnings per share .07 .10 .13 .15
The quarterly information reported previously on Form 10-Q for the quarters indicated above have been restated to reflect mergers accounted for as poolings of interests, including the retroactive effect of the merger with EPS on February 26, 1999. -6- Market Value For The Registrant's Common Stock and Related Stockholder Matters The Company's Common Stock trades on the Nasdaq National Market tier of the Nasdaq Stock Market (NASDAQ) under the symbol "CEFT". The following table sets froth the range of high and low bid quotations per share of the Company's Common Stock through December 31, 1998, as reported by NASDAQ. High Low -------------- ------------- 1998 First Quarter $23.44 $13.31 Second Quarter 26.50 19.00 Third Quarter 28.25 19.38 Fourth Quarter 42.38 19.00 1997 First Quarter $19.33 $12.50 Second Quarter 17.92 10.83 Third Quarter 20.00 17.17 Fourth Quarter 21.75 14.00 As of January 18, 1999 there were approximately 15,500 stockholders. The company has never paid cash dividends. It is the present policy of the Company's Board of Directors to retain earnings to finance expansion in the foreseeable future. -7- Concord EFS, Inc. and Subsidiaries Supplemental Consolidated Balance Sheets
December 31 1998 1997 ------------------------- (in thousands) Assets Current assets Cash and cash equivalents $ 82,029 $ 82,592 Securities available-for-sale (amortized cost of $286,370 at December 31, 1998 and $140,038 at December 31, 1997) 288,180 140,199 Accounts receivable, less allowance of $2,324 at December 31, 1998 and $3,340 at December 31, 1997 106,662 82,467 Inventories 11,396 5,898 Prepaid expenses and other current assets 7,863 5,984 Deferred income taxes 5,977 4,600 ----------- ----------- Total current assets 502,107 321,740 Securities held-to-maturity (fair value of $53,634 at December 31, 1997) 52,508 Other assets 23,615 27,656 Property and equipment 302,937 240,954 Accumulated depreciation and amortization (148,447) (114,438) ----------- ----------- 154,490 126,516 ----------- ----------- Intangible assets 146,712 122,982 Accumulated amortization (42,806) (32,206) ----------- ----------- 103,906 90,776 ----------- ----------- Total assets $784,118 $619,196 =========== =========== Liabilities and stockholders' equity Current liabilities Accounts payable and other liabilities $112,376 $ 70,403 Accrued liabilities 47,641 38,489 Income taxes payable 10,148 9,416 Short-term borrowings 21,000 29,000 Current maturities of long-term debt 25,116 25,445 ----------- ----------- Total current liabilities 216,281 172,753 ----------- ----------- Long-term debt, less current maturities 173,000 153,329 Deferred income taxes 21,336 17,860 Other liabilities 12,966 14,710 Stockholders' equity Common stock, $0.33 1/3 par value; authorized 200,000 shares, Issued and outstanding 127,935 shares at December 31, 1998 and 86,447 shares at December 31, 1997 42,646 28,816 Additional paid-in capital 55,018 58,622 Retained earnings 261,702 173,007 Accumulated other comprehensive income 1,169 99 ----------- ----------- Total stockholders' equity 360,535 260,544 ----------- ----------- Total liabilities and stockholders' equity $784,118 $619,196 =========== ===========
See notes to supplemental consolidated financial statements. -8- Concord EFS, Inc. and Subsidiaries Supplemental Consolidated Statements of Income
For Year Ended December 31 -------------------------------------- 1998 1997 1996 ---------- ---------- ---------- (in thousands, except per share data) Revenue $634,511 $490,030 $355,459 Cost of operations 446,515 340,770 241,273 Selling, general and administrative expenses 51,185 50,008 42,811 ---------- ---------- ---------- Operating income 136,811 99,252 71,375 Other income (expense): Interest income 18,379 12,287 4,468 Interest expense (14,676) (14,076) (14,764) ---------- ---------- ---------- Income before taxes 140,514 97,463 61,079 Income taxes 51,819 37,771 23,347 ---------- ---------- ---------- Net income $ 88,695 $ 59,692 $ 37,732 ========== ========== ========== Per share data: Basic earnings per share $0.69 $0.47 $0.32 ========== ========== ========== Diluted earnings per share $0.67 $0.46 $0.31 ========== ========== ========== Weighted average shares 127,693 126,592 116,291 ========== ========== ========== Adjusted weighted average shares and assumed conversions 131,947 129,937 120,189 ========== ========== ==========
See notes to supplemental consolidated financial statements. -9- Concord EFS, Inc. and Subsidiaries Supplemental Consolidated Statements of Stockholders' Equity
Accumulated Additional Other Common Stock Paid-In Retained Comprehensive ------------------------ Shares Amount Capital Earnings Income Total ----------- ------------ ------------- ------------ ------------------ ------------ (in thousands) Balance at January 1, 1996 33,848 $11,282 $(41,326) $75,583 $ (200) $ 45,339 Exercise of stock options 1,074 358 4,496 4,854 Secondary offering of common stock 3,450 1,150 86,761 87,911 Tax benefit of disqualifying disposition of incentive stock option shares 6,586 6,586 Three for two stock splits 42,488 14,163 (14,163) Net income 37,732 37,732 Net unrealized losses on securities, net of tax (296) (296) ------------ Comprehensive income 37,436 ----------- ------------ ------------- ------------ ------------------ ------------ Balance at December 31, 1996 80,860 26,953 42,354 113,315 (496) 182,126 Restatement for poolings of interests 4,511 1,504 4,110 5,614 ----------- ------------ ------------- ------------ ------------------ ------------ Restated balance at January 1, 1997 85,371 28,457 46,464 113,315 (496) 187,740 Exercise of stock options 1,076 359 6,300 6,659 Tax benefit of disqualifying disposition of incentive stock option shares 5,858 5,858 Net income 59,692 59,692 Net unrealized gains on securities, net of tax 595 595 ------------ Comprehensive income 60,287 ----------- ------------ ------------- ------------ ------------------ ------------ Balance at December 31 1997 86,447 28,816 58,622 173,007 99 260,544 Exercise of stock options 413 138 6,458 6,596 Three for two stock split 41,075 13,692 (13,692) Tax benefit of disqualifying disposition of incentive stock option shares 3,630 3,630 Net income 88,695 88,695 Cumulative effect of accounting change 776 776 Net unrealized gains on securities, net of tax 294 294 ------------ Comprehensive income 89,765 ----------- ------------ ------------- ------------ ------------------ ------------ Balance at December 31, 1998 127,935 $42,646 $55,018 $261,702 $1,169 $360,535 =========== ============ ============= ============ ================== ============
See notes to supplemental consolidated financial statements. -10- Concord EFS, Inc. and Subsidiaries Supplemental Consolidated Statements of Cash Flows
Year ended December 31 --------------------------------------- 1998 1997 1996 ------------ ------------- ------------ (in thousands) Operating activities Net income $ 88,695 $ 59,692 $ 37,732 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 55,390 41,566 34,827 Provision for losses on accounts receivable 3,654 1,445 817 Deferred income taxes (benefit) 1,520 (7,330) 6,896 Changes in operating assets and liabilities: Accounts receivable (27,849) (17,489) 25,581 Inventories (5,498) (291) 161 Other current assets (1,879) (1,024) (342) Accounts payable and other liabilities 41,973 (22,425) 20,084 Accrued liabilities 13,310 25,414 13,636 Other liabilities (1,744) - - ---------- ---------- --------- Net cash provided by operating activities 167,572 79,558 139,392 Investing activities Acquisition of property and equipment (65,205) (44,042) (47,727) Securities held-to-maturity: Acquisition of securities (9,630) (17,141) (57,135) Proceeds from maturity of securities 4,843 21,347 809 Securities available-for-sale: Acquisition of securities (241,314) (156,515) (36,054) Proceeds from sales of securities 104,383 48,401 - Proceeds from maturity of securities 48,098 32,178 173 Merchant contracts purchased (16,946) (12,986) (3,565) Acquisition of business (6,000) - - Proceeds from licensing agreement - 25,000 - Other (4,302) (2,406) (13,464) ---------- ---------- --------- Net cash used in investing activities (186,073) (106,164) (156,963) Financing activities Proceeds from exercise of stock options 6,596 6,659 4,854 Proceeds from secondary offering of common stock 87,911 Proceeds from notes payable 45,000 28,000 - Borrowing (repayment) under credit agreement (net) (8,000) (21,000) 15,000 Payments on notes payable (25,658) (25,418) (25,392) ---------- ---------- --------- Net cash provided by (used in) financing activities 17,938 (11,759) 82,373 ---------- ---------- --------- Net (decrease) increase in cash and cash equivalents (563) (38,365) 64,802 Cash and cash equivalents at beginning of period 82,592 120,957 56,155 ---------- ---------- --------- Cash and cash equivalents at end of period $ 82,029 $ 82,592 $120,957 ========== ========== ========= Supplemental disclosures of cash flow information: Cash paid during the period for: Interest $ 14,346 $ 13,725 $ 14,768 ========== ========== ========= Income taxes $ 46,346 $ 32,940 $ 9,326 ========== ========== =========
See notes to supplemental consolidated financial statements. -11- Concord EFS, Inc. and Subsidiaries Notes to Supplemental Consolidated Financial Statements December 31, 1998 Note A - Significant Accounting Policies Principles of Consolidation: The supplemental consolidated financial statements include the accounts of Concord EFS, Inc. (Parent) and its wholly-owned subsidiaries, Concord Computing Corporation (Concord), EFS National Bank (EFSNB), EFS Federal Savings Bank (EFSFSB), Concord Retail Services, Inc., Concord Equipment Sales, Inc. (formerly VMT, Inc.), Pay Systems of America, Inc. (PSA), Digital Merchant Systems, Inc. (DMS), and Electronic Payment Services, Inc. (EPS), (collectively, the Company). The Company repurchased the minority interest in Network EFT, Inc. during 1996 and transferred its residual business and operational assets to Concord. All material intercompany balances and transactions have been eliminated in consolidation. Basis of Presentation: These supplemental consolidated financial statements give retroactive effect to the merger of the Parent and EPS on February 26, 1999, which has been accounted for using the pooling of interests method as described in Note L to the supplemental consolidated financial statements. Generally accepted accounting principles proscribe giving effect to a consummated business combination accounted for by the pooling of interests method in financial statements that do not include the date of consummation. These financial statements do not extend through the date of consummation. However, they will become the historical consolidated financial statements of the Company after financial statements covering the date of consummation of the business combination are issued. Operations: The Company provides transaction processing, authorization and settlement services, throughout the United States. The primary components of these services are Merchant Card Services and ATM Services, comprising approximately 98% of revenues in 1998. The Company requires certain customers to provide letters of credit, surety bonds or cash deposits as collateral for outstanding accounts receivable. Cash Equivalents: The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Securities Held-to-Maturity and Available-for-Sale: Management determines the appropriate classification of debt securities at the time of purchase and re-evaluates such designation as of each balance sheet date. Debt securities are classified as held-to-maturity when the Company has the positive intent and ability to hold the securities to maturity. Held-to-maturity securities are stated at amortized cost. Debt and equity securities not classified as held-to-maturity or trading are classified as available-for-sale. Available-for-sale securities are stated at fair value, with the unrealized gains and losses, net of tax, reported as a component of accumulated other comprehensive income in stockholders' equity. The amortized cost of debt securities classified as held-to-maturity or available-for-sale is adjusted for amortization of premiums and accretion of discounts to maturity, or in the case of mortgage-backed securities, over the estimated life of the security. Such amortization is included in interest income from investments. Interest and dividends are included in interest income from investments. Realized gains and losses, and declines in value judged to be other-than-temporary are included in net securities gains (losses). The cost of securities sold is based on the specific identification method. In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities". Although the Statement is effective for years beginning after June 15, 1999, the Company adopted the statement early on July 1, 1998. Under provisions of the Statement, the Company reclassified all securities held-to-maturity to securities available-for-sale as of July 1, 1998. The adoption of SFAS No. 133 resulted in the cumulative effect of an accounting change of $776,000 being recognized as an increase in other comprehensive income. Inventories: Inventories are stated at the lower of cost (first-in, first-out method) or market. Other Assets: Included in other assets at December 31, 1998 and 1997 are approximately $3,888,000 and $6,021,000, respectively, of payments made to customers under the Company's conversion assistance program. These payments, which were primarily for promotional sign replacements and card reissuance, were made to customers converting to the MAC network and are being amortized over five years. Amortization expense associated with these assets was approximately $3,105,000, $3,037,000 and $2,907,000 for the years ended December 31, 1998, 1997 and 1996, respectively. -12- During 1994, after technological feasibility was established, the Company began capitalizing software development costs incurred in connection with the planned introduction of a stored value electronic payment card. The Company capitalized approximately $667,000 and $11,584,000 in 1997 and 1996, respectively, related to the development of the stored value card. On July 25, 1997, the Company entered into an agreement with an unrelated third party whereby the Company granted perpetual licensing rights to the technology to the third party in exchange for $25,000,000. The agreement further grants the third party exclusive rights to the technology for a period of four years. The proceeds received from the licensing agreement have been deferred and are being earned over the exclusivity period of the agreement. The development costs capitalized are being amortized over the same period. Property and Equipment: Property and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Intangible Assets: Intangible assets consist of the following at December 31: 1998 1997 ----------- ----------- (in thousands) Goodwill $ 82,071 $ 82,071 Purchased merchant contracts 33,497 15,865 Customer lists and other 31,144 25,046 ----------- ----------- $146,712 $122,982 =========== =========== Goodwill and amounts assigned to the customer lists are being amortized by the straight-line method over 15-25 years. Agreements not to compete are amortized over the life of the agreements. Purchased merchant contracts are recorded at cost and are evaluated by management for impairment at each balance sheet date through review of actual attrition and cash flows generated by the contracts in relation to the expected attrition and cash flows and the recorded amortization expense. If, upon review, actual attrition and cash flows indicate impairment of the value of the purchased merchant contracts, an impairment loss would be recognized. Amortization expense was recognized on a straight-line basis over an estimated useful life of five years through December 31, 1997. Effective January 1, 1998, the Company changed the estimated useful life of its purchased merchant contracts to six years. This change in accounting estimate is accounted for under the provisions of Accounting Principles Board (APB) Opinion No. 20, "Accounting Changes." Accordingly, the net book value of purchased merchant contracts as of January 1, 1998 is amortized over the remaining useful life of the contracts (using six years). Additionally, all purchased merchant contracts capitalized in 1998 are being amortized over a period of six years. The effect of the change in accounting estimate in 1998 was an increase to net income of approximately $583,000. On July 20, 1998, the Company acquired the terminal driving business of a certain entity. The acquisition was accounted for under the purchase method; accordingly, results of operations from this business have been included in the supplemental consolidated statements of income since the date of acquisition. The total cost of the acquisition was approximately $6 million and substantially all of the purchase price was allocated to customer lists based upon the fair value of the assets acquired. The customer lists are being amortized by the straight-line method over 15 years. Use of Estimates: The preparation of the supplemental consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Income Taxes: The Company and its wholly-owned subsidiaries file a consolidated Federal tax return. Each subsidiary provides for income taxes using the liability method on a separate-return basis and remits to or receives from the Company amounts currently payable or receivable. Revenue Recognition: Revenue from credit card and other transaction processing activities are recorded when the service is provided, gross of interchange and network fees charged to the Company, which are recorded as a cost of operations when the transactions have been settled. Revenues from service contracts and product sales are recognized when the service is provided or the equipment is shipped. Service contracts and related sales include all revenues under system service contracts, including revenues from sales of terminal hardware when the contract included such sales. -13- Earnings Per Share: Basic and diluted earnings per share are calculated in accordance with SFAS No. 128, "Earnings Per Share." All earnings per share amounts for all periods have been presented to conform to the Statement 128 requirements. Earnings per share, related per share data, stock options and stock option prices have been restated to reflect all stock splits through December 31, 1998. Stock-based Compensation: The Company grants options for a fixed number of shares to employees with an exercise price equal to the fair value of the shares at the date of the grant. These stock option grants are accounted for in accordance with APB Opinion No. 25, "Accounting for Stock Issued to Employees," and accordingly, the Company recognizes no compensation expense for the stock option grants. Comprehensive Income: In 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income" which established new rules for the reporting and display of comprehensive income and its components; however, the adoption of this statement in 1998 had no impact on the company's net income or stockholders' equity. SFAS No. 130 requires unrealized gains or losses on the company's available-for-sale securities, to be included in accumulated other comprehensive income in stockholders' equity. Prior year financial statements have been reclassified to conform to the requirements of SFAS No. 130. Note B - Securities The following is a summary of securities available-for-sale and held-to-maturity:
Gross Gross Estimated Amortized Unrealized Unrealized Fair Cost Gains Losses Value -------------- -------------- -------------- -------------- (in thousands) Securities Available-for-sale December 31, 1998 U.S. Government and agency Securities $ 29,603 $ 281 $ (74) $ 29,810 Mortgage-backed securities 130,355 395 (370) 130,380 Municipal securities 116,630 1,972 (394) 118,208 -------------- -------------- -------------- -------------- Total debt securities 276,588 2,648 (838) 278,398 Equity securities 9,782 9,782 ============== ============== ============== ============== $286,370 $ 2,648 $ (838) $288,180 ============== ============== ============== ============== December 31, 1997 U.S. Treasury securities $ 4,003 $ 2 $ $ 4,005 U.S. Government and agency Securities 41,338 (131) 41,207 Mortgage-backed securities 77,638 387 (180) 77,845 Municipal securities 11,194 87 (4) 11,277 -------------- -------------- -------------- -------------- Total debt securities 134,173 476 (315) 134,334 Equity securities 5,865 5,865 -------------- -------------- -------------- -------------- $140,038 $ 476 $ (315) $140,199 ============== ============== ============== ============== Securities Held-to-Maturity: December 31, 1997 U.S. Government and agency Securities $ 9,256 $ 60 $ $ 9,316 Mortgage-backed securities 19,818 187 20,005 Municipal securities 23,434 879 24,313 -------------- -------------- -------------- -------------- $ 52,508 $ 1,126 $ $ 53,634 ============== ============== ============== ==============
There were no material gains or losses on securities sold during the three years ended December 31, 1998. -14- The scheduled maturities of securities available-for-sale, excluding equity securities, at December 31, 1998, was as follows: Available-for-Sale ------------------------- Amortized Fair Cost Value ------------------------- (in thousands) Due in one year or less $ 34,705 $ 34,631 Due in one to five years 50,243 51,038 Due in five to ten years 109,563 110,683 Due after ten years 82,077 82,046 ---------- ----------- $276,588 $278,398 ========== =========== For purposes of the maturity table, mortgage-backed securities, which are not due at a single maturity date, have been allocated over maturity groupings based on the weighted-average contractual maturities of underlying collateral. The mortgage-backed securities may mature earlier than their weighted-average contractual maturities because of principal prepayments. Expected maturities on other securities may differ from contractual maturities because the issuers of the securities may have the right to prepay obligations without prepayment penalties. Securities carried at approximately $95 million and $52 million at December 31, 1998 and December 31, 1997, respectively, were pledged to secure notes payable to the Federal Home Loan Bank. Note C - Inventories At December 31, inventories consisted of: 1998 1997 --------- -------- (in thousands) Point of sale equipment $10,457 $5,745 Repair parts 939 153 --------- -------- $11,396 $5,898 ========= ======== Note D - Property and Equipment At December 31, property and equipment consisted of: 1998 1997 --------- ---------- (in thousands) Land $ 1,050 $ 1,050 Building & improvements 15,101 14,591 Computer facilities and equipment 254,378 199,833 Office furniture and equipment 21,855 16,582 Leasehold improvements 10,553 8,898 ---------- ---------- $302,937 $240,954 ========== ========== Depreciation expense was approximately $39.1 million, $33.5 million and $28.4 million for the years ended December 31, 1998, 1997 and 1996, respectively. Note E - Short-Term Borrowings The Company maintains a credit agreement with a third-party bank which provides for short-term borrowings through March 1999 of up to $75 million. Borrowings under the agreement are unsecured and bear interest at variable rates. Borrowings of $21 million and $29 million, which approximated fair value, were outstanding under the agreement at December 31, 1998 and 1997, respectively. Average borrowings under this agreement during 1998 were $29.4 million at an effective interest rate of 5.81%. During 1997, average borrowings were approximately $41.3 million at an effective interest rate of 5.84% and, during 1996, average borrowings were approximately $39.9 million at an effective interest rate of 5.82%. The agreement requires the Company to maintain certain financial ratios and to comply with certain covenants as defined, including limitations as to debt to be incurred and prepayments on the Company's long-term debt. -15- The Company also has available $20 million in unsecured lines of credit with other financial institutions, which expire on various dates throughout 1999. No amounts were outstanding on these lines at December 31, 1998 or 1997. Note F - Long-Term Debt and Leases At December 31, long-term debt consisted of: 1998 1997 ---------- ---------- (in thousands) Notes payable to the Federal Home Loan Bank $ 73,000 $ 28,000 Note payable to bank for ATMs 116 561 Note payable to stockholder 125,000 150,213 ---------- ---------- 198,116 178,774 Less current maturities (25,116) (25,445) ---------- ---------- $173,000 $153,329 ========== ========== Notes payable to the Federal Home Loan Bank are adjustable rate advances due between May 20, 2002 and September 11, 2008. Current interest rates range from 5.41% to 6.08% and are secured by securities available-for-sale with a market value of approximately $95 million and $52 million at December 31, 1998 and 1997, respectively. The note payable to bank to purchase cash dispensing machines (ATMs) is payable through March 1, 1999 in monthly installments of $38,969 including interest at 6.25% and is secured by ATMs with a net book value of $701,034 at December 31, 1998 and $981,445 at December 31, 1997. Note payable to stockholder represents an unsecured promissory note payable due in equal quarterly installments through 2003, which bears interest at 6.40%. Annual maturities of the note are $25 million per year through 2003. The Company rents office facilities and equipment under noncancelable operating leases expiring at various dates through 2005. Rental expense for operating leases amounted to approximately $5.1 million, $4.8 million and $5.1 million for the years ended December 31, 1998, 1997 and 1996, respectively. On May 22, 1998, the Company entered into a $15 million operating lease agreement replacing the remainder of the original subrental agreement on EPS's headquarters. The terms for the operating lease provide for initial seven-year term through 2005 with an option to renew for two additional five year terms. Future maturities of notes payable and minimum lease payments for operating leases with initial or remaining terms in excess of one year are as follows: Notes Operating Payable Leases ---------- --------- (in thousands) Year ending December 31: 1999 $ 25,116 $ 4,994 2000 25,000 3,642 2001 25,000 2,879 2002 53,000 2,400 2003 35,000 1,969 Thereafter 35,000 1,632 ---------- --------- Total future payments $198,116 $17,516 ========== ========= Note G - Employee Benefit Plans Effective March 1, 1998, the Company established the Concord EFS Savings Plan (the Plan). Employees who have reached the age of 21 and completed one year of service with the Company are eligible to participate in the Plan. The Plan provides for voluntary tax-deferred contributions by eligible employees and discretionary Company contributions. The Company's cost related to the Plan in 1998 was approximately $114,000. The Electronic Payment Services, Inc. Retirement Savings Plan (the EPS Plan) covers substantially all employees of EPS. Under the terms of the EPS Plan, each qualified employee receives a company retirement contribution of 2% of compensation as defined, based upon employment status at December 31 of the plan year. In addition, the EPS Plan includes a Section 401(k) savings feature wherein EPS will match employee contributions up to 4.5% of compensation as defined, and additionally, contains a discretionary profit-sharing contribution of up to 1.5% of compensation as defined. Total 1998, 1997 and 1996 expenses under the EPS Plan were approximately $3,685,000, $3,095,000 and $2,687,000, respectively. -16- Note H - Income Taxes Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax liabilities and assets at December 31, are as follows: 1998 1997 --------- --------- (in thousands) Deferred tax liabilities: Property and equipment $ 3,976 $ 6,113 Intangibles 4,460 4,923 Securities available-for-sale 641 62 Capitalization of research & development costs 13,994 8,619 Other 1,284 1,132 --------- --------- Total deferred tax liabilities 24,355 20,849 --------- --------- Deferred tax assets: Net operating loss carryforward $2,003 $2,626 Nondeductible reserves 5,311 3,762 Bad debt allowance 248 502 Inventory 37 57 Merchant contracts purchased 1,361 488 Other 36 154 --------- --------- Total deferred tax assets 8,996 7,589 --------- --------- Net deferred tax liabilities $15,359 $13,260 ========= ========= The components of the provision (benefit) for income taxes for the three years ended December 31 are as follows: 1998 1997 1996 ---------- --------- --------- (in thousands) Allocated to net income: Current Federal $ 47,622 $41,005 $15,706 State 2,677 4,096 745 ---------- --------- --------- 50,299 45,101 16,451 Deferred Federal 435 (6,297) 6,797 State 1,085 (1,033) 99 ---------- --------- --------- 1,520 (7,330) 6,896 ---------- --------- --------- $ 51,819 $37,771 $23,347 ========== ========= ========= Allocated to other comprehensive income: Deferred Federal $ 504 $ 281 $ (138) State 75 42 (20) ---------- --------- --------- $ 579 $ 323 $ (158) ========== ========= ========= The reconciliation of income taxes computed at the U. S. federal statutory tax rate of 35% to income tax expense for the three years ended December 31 are as follows: 1998 1997 1996 ---------- ---------- ---------- (in thousands) Tax at statutory rate $ 49,180 $ 34,112 $ 21,378 State income taxes, net of federal benefit 2,461 1,989 538 Nondeductible amortization of goodwill 1,076 1,031 1,042 Tax exempt interest income (1,175) (511) (124) Other, net 277 1,150 513 ---------- ---------- ---------- $ 51,819 $ 37,771 $ 23,347 ========== ========== ========== -17- Income tax benefits resulting from the disqualifying dispositions of certain employee incentive stock option shares were credited to additional paid-in capital because no compensation expense was charged to income for financial reporting purposes related to the exercise of such options. The Company has federal and state net operating loss carryforwards that expire on various dates through 2006 and are subject to annual limitations. Note I - Earnings Per Share The following table sets forth the computation of basic and diluted earnings per share: Year Ended December 31 1998 1997 1996 ---------- ---------- ---------- (in thousands, except per share data) Numerator: Net income $ 88,695 $ 59,692 $ 37,732 ========== ========== ========== Denominator: Denominator for basic earnings per share, weighted-average shares 127,693 126,592 116,291 Effect of dilutive securities, employee stock options 4,254 3,345 3,898 ---------- ---------- ---------- Denominator for diluted earnings per share - adjusted weighted-average shares and assumed conversions 131,947 129,937 120,189 ========== ========== ========== Basic earnings per share $0.69 $0.47 $0.32 ========== ========== ========== Diluted earnings per share $0.67 $0.46 $0.31 ========== ========== ========== Note J - Incentive Stock Option Plans The Concord EFS, Inc. 1993 Incentive Stock Option Plan, as amended, (the Concord Plan) allows for the grant of up to 13,668,750 shares of Common Stock for the benefit of the Company's key employees. Options are granted at not less than 100% of the market value on the date of the grant (110% in the case of a holder of more than 10% of the outstanding shares) and generally become exercisable within four years of the date of the grant. Information pertaining to the Concord Plan is summarized below, in thousands, except price per share:
Number of Weighted Weighted Shares Average Average Options Under Option Exercise Price Aggregate Price Exercisable ------------ -------------- --------------- ----------- Outstanding at January 1, 1996 6,323 $ 3.68 $ 23,283 2,903 ========== ======= Granted 1,308 13.73 Exercised (1,877) 2.59 Terminated (501) 4.26 ------- Outstanding at December 31, 1996 5,253 6.51 $ 34,203 2,380 ========== ======= Granted 3,129 15.22 Exercised (1,614) 4.13 Terminated (40) 10.87 ------- Outstanding at December 31, 1997 6,728 11.11 $ 74,732 1,860 ========== ======= Granted 2,989 20.37 Exercised (477) 6.52 Terminated (34) 14.60 ------- 9,206 $14.34 $132,006 2,988 ======= ========== =======
The weighted average grant date fair value of options granted during 1998, 1997 and 1996 was $6.15, $4.67 and $3.65, respectively. -18- The following table provides additional information regarding options outstanding as of December 31, 1998:
Weighted Average Weighted Weighted Remaining Number of Average Option Exercise Options Average Contractual Life Options Exercise Price Price Range Outstanding Exercise of Options in Exercisable of Options Price Years Exercisable - - ------------------- ----------- --------- ------------------ ----------- --------------- $ 2.73 -$ 4.79 1,162 $ 3.31 4.92 1,155 $ 3.30 5.93 - 13.00 1,882 9.73 6.82 1,029 9.06 15.08 - 26.13 6,162 17.83 8.66 804 15.55 $ 2.73 -$ 26.13 9,206 $ 14.34 7.81 2,988 $ 8.58
In 1995, EPS adopted the Electronic Payment Services, Inc. 1995 Stock Option Plan, as amended, (the EPS Plan). In connection with the merger of EPS with the Parent as discussed in Note L, all outstanding options in the EPS Plan accelerated and vested in November 1998. The total amount of option shares (after conversion to Concord EFS, Inc.shares) at December 31, 1998 was 2,244,795, at a weighted average exercise price of $8.48. The Company has elected to follow APB No. 25 and related Interpretations in accounting for its employee stock options because, as discussed below, the alternative fair value accounting provided for under SFAS No. 123, "Accounting for Stock Based Compensation," requires use of option valuation models that were not developed for use in valuing employee stock options. Under APB No. 25, because the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. Pro forma information regarding net income and earnings per share is required by SFAS No. 123, and has been determined as if the Company had accounted for its employee stock options under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions for 1998, 1997, and 1996, respectively: risk-free interest rates of 6.0%, 6.25%, and 6.5%, and volatility factors of the expected market price of the Company's common stock of .358, .344, and .265. Assumptions that remained constant for all years were dividend yields of 0% and a weighted average expected life of the options of three years. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma information is as follows for the years ended December 31 (in thousands, except for earnings per share): 1998 1997 1996 --------- --------- --------- Pro forma net income $77,327 $55,137 $36,647 Pro forma basic earnings per share $0.61 $0.44 $0.32 Pro forma diluted earnings per share $0.59 $0.42 $0.30 Pro forma disclosures are not likely to be representative of the effects of reported pro forma net income and earnings per share in future years as additional options may be granted in future years and the vesting of options already granted will impact the pro forma disclosures. On February 18, 1999, the shareholders approved an amendment to the Concord Plan to increase the shares issuable under the plan from 13,668,750 to 25,000,000 shares. Note K - Employment Agreements In February 1998, the Company entered into incentive agreements with its CEO and President, each for a term of five years expiring February 2003. Each agreement sets out the executive's annual base pay, provides for the establishment of an incentive compensation program under which each executive will have a bonus potential of 50% of annual base salary, and provides for grants of stock -19- options, including regular stock options of up to 375,000 shares a year based on performance and special stock options contingent upon, or providing accelerated vesting upon, the average market price of Concord stock reaching and maintaining certain levels. The agreements contain certain non-compete provisions and change in control provisions regarding the acceleration of outstanding stock options and the payment of bonuses. Employment agreements are also in effect for the President and Chief Executive Officer of EPS and four of his direct reports. The agreements have no fixed term but are terminable at any time with a fixed amount of severance to be paid only in the event of termination or removal without cause (or with "good cause" in the case of the President and Chief Executive Officer). Note L - Mergers and Acquisitions On June 30, 1998, the Company merged with Digital Merchant Systems of Illinois, Inc. and American Bankcard International, Inc. (jointly named DMS). DMS is a leading independent sales organization in the credit card industry. The mergers were accounted for using the pooling of interests method of accounting. The Company exchanged 4,425,000 shares of its common stock for all of the outstanding common stock of DMS. In accordance with pooling of interests accounting, no adjustments have been made to the historical carrying value of the assets and liabilities of DMS. The following table presents selected financial information, split between the Company, EPS and DMS: Year ended December 31 1998 1997 ---------- ---------- Revenue: Concord EFS, Inc. $361,604 $240,004 EPS 258,773 219,956 DMS(1) 14,134 30,070 ---------- ---------- $634,511 $490,030 ========== ========== Net income: Concord EFS, Inc. $ 61,857 $ 42,746 EPS 24,924 18,010 DMS(1) 1,914 (1,064) ---------- ---------- $ 88,695 $ 59,692 ========== ========== (1)The 1998 amounts reflect the results of operations from January 1, 1998 through June 30, 1998. The results of operations from July 1, 1998 through December 31, 1998 are included in Concord EFS, Inc. amounts. The financial statements of DMS prior to January 1, 1997, were immaterial for restatement. On February 18, 1999, the shareholders approved the Company's issuance of shares in connection with its acquisition of EPS. The Company completed the merger with EPS on February 26, 1999 by issuing 30,064,838 shares of the Company's common stock for all of the outstanding common stock of EPS. The acquisition was accounted for using the pooling of interests method of accounting. The supplemental consolidated financial statements present financial information restated for all years presented. EPS provides transaction processing services to financial institutions, and retailers throughout the United States. EPS also owns and operates electronic data processing and data-capture networks that process transactions originating at ATMs and point-of-sale terminals. In connection with the acquisition of EPS, the Company expects to incur approximately $10.5 million in acquisition related expenses in the first quarter of 1999. These expenses are primarily investment banking, legal and accounting fees. Although no definite plan has been adopted, management is currently reviewing operational synergies, such as duplicate facilities, computer and communication hardware and software and other contractual relationships including severance that may require additional charges in the second quarter of 1999 and beyond. Management plans to complete this analysis by May 31, 1999. Note M - Operations By Industry Segment In June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information," which establishes standards for reporting financial information about operating segments in annual and interim financial statements. SFAS No. 131 requires that financial information be reported on the same basis that is reported internally for evaluating segment performance and allocating resources to segments. SFAS No. 131 addresses how supplemental financial information is disclosed in annual and interim reports; therefore, its adoption in 1998 had no impact on the financial condition or operating results of the Company. Concord has two reportable segments: Merchant Card Services and ATM Services. -20- The Company's revenue from Merchant Card Services results from processing credit card transactions using VISA, MasterCard, Discover, American Express and Diner's Club Cards. In addition, the Company processes debit card transactions for banks issuing such cards. Merchant Card Services provides electronic payment services to supermarket chains, grocery stores, convenience store merchants and other retailers. Merchant Card Services also includes trucking services providing a variety of flexible payment systems that enable drivers of trucking companies to use payment cards to purchase fuel and services and to obtain cash advances at truck stops. ATM Services include transactional fee income and surcharge revenue from ATMs owned by the Company as well as ATM transaction processing for ATMs owned by the Company's merchants. The Company evaluates performance and allocates resources based on profit or loss from operations. Items classified as "Other" include revenue not identifiable with the two reportable segments described above and costs of operations and selling, general and administrative expenses which are not allocated to the reportable segments. The accounting policies of the reportable segments are the same as those described in Note A Significant Accounting Policies. The Company's reportable segments are business units that offer different products. The reportable segments are each managed separately because they are distinct products for different end users. No single customer of the Company accounts for a material portion of the Company's revenues. Industry segment information for the years ended December 31, 1998, 1997, and 1996 is presented below:
Merchant Card Services ATM Services Other Total ------------- ------------- ------------- ------------- (in thousands) Year ended December 31, 1998 Revenue $423,267 $198,398 $ 12,846 $634,511 Cost of operations (231,616) (118,968) (95,931) (446,515) Selling, general, & administrative (51,185) (51,185) expenses Taxes & interest, net (48,116) (48,116) ------------- ------------- ------------- ------------- Net income $191,651 $ 79,430 $(182,386) $ 88,695 ============= ============= ============= ============= Year ended December 31, 1997 Revenue $311,167 $166,841 $ 12,022 $490,030 Cost of operations (164,366) (95,311) (81,093) (340,770) Selling, general, & administrative (50,008) (50,008) expenses Taxes & interest, net (39,560) (39,560) ------------- ------------- ------------- ------------- Net income $146,801 $ 71,530 $(158,639) $ 59,692 ============= ============= ============= ============= Year ended December 31, 1996 Revenue $207,211 $135,507 $ 12,741 $355,459 Cost of operations (121,183) (71,423) (48,667) (241,273) Selling, general, & administrative (42,811) (42,811) expenses Taxes & interest, net (33,643) (33,643) ------------- ------------- ------------- ------------- Net income $ 86,028 $ 64,084 $(112,380) $ 37,732 ============= ============= ============= =============
-21- Note N - Commitments and Contingencies The Company is a party to various claims and litigation in the normal course of business, none of which is expected to have a material effect on the supplemental consolidated financial statements. Note O - Debt and Dividend Restrictions In accordance with federal banking laws, certain restrictions exist regarding the ability of the banking subsidiary to transfer funds to the Parent in the form of cash dividends, loans or advances. The approval of certain regulatory authorities is required to pay dividends in excess of earnings retained in the current year plus retained net earnings for the preceding two years. As of December 31, 1998, approximately $128,521,000 of undistributed earnings of EFSNB, included in consolidated retained earnings, was available for distribution to the Parent as dividends without prior regulatory approval. Under Federal Reserve regulations, the banking subsidiary is also limited as to the amount it may loan to affiliates, including the Parent, unless such loans are collateralized by specific obligations. At December 31, 1998, the maximum amount available for transfer from EFSNB to the Parent in the form of loans approximated 5.99% of consolidated net assets. Note P - Related Party Transactions The former stockholders of EPS are also customers of the Company and services are billed to them at rates comparable to nonrelated customers. Approximately 10%, 11%, and 14% of revenues were billed to these stockholders during 1998, 1997 and 1996, respectively. Note Q - Disclosures About Fair Value of Financial Instruments The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value. These fair values are provided for disclosure purposes only, and do not impact carrying values of financial statement amounts. Cash and Cash Equivalents: The carrying amounts reported in the balance sheet for cash and cash equivalents approximate those assets' fair values. Securities (Including Mortgage-backed Securities): Fair values for securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. Long-term Borrowings: The fair values of the Company's long-term borrowings are estimated using discounted cash flow analyses based on the Company's current incremental borrowing rates for similar types of borrowing arrangements. Carrying Amount Fair Value ------------------- ------------------ December 31, 1998 Financial Assets: Cash and cash equivalents $ 82,029 $ 82,029 Available-for-sale securities 288,180 288,180 Financial liabilities: Notes payable 198,116 196,652 December 31, 1997 Financial Assets: Cash and cash equivalents $ 82,592 $ 82,592 Available-for-sale securities 140,199 140,199 Held-to-maturity securities 52,508 53,634 Financial liabilities: Notes payable 178,774 178,666 -22- Concord EFS, Inc. and Subsidiaries Report of Independent Auditors Board of Directors and Stockholders Concord EFS, Inc. We have audited the accompanying supplemental consolidated balance sheets of Concord EFS, Inc. and subsidiaries (formed as a result of the consolidation of Concord EFS, Inc. and Electronic Payment Services, Inc.) as of December 31, 1998 and 1997, and the related supplemental consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1998. The supplemental consolidated financial statements give retroactive effect to the merger of Concord EFS, Inc. and Electronic Payment Services, Inc. on February 26, 1999, which has been accounted for using the pooling of interests method as described in the notes to the supplemental consolidated financial statements. These supplemental consolidated financial statements are the responsibility of the management of Concord EFS, Inc. Our responsibility is to express an opinion on these supplemental financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the supplemental financial statements referred to above present fairly, in all material respects, the consolidated financial position of Concord EFS, Inc. and subsidiaries as of December 31, 1998 and 1997, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, after giving retroactive effect to the merger with Electronic Payment Services, Inc., as described in the notes to the supplemental consolidated financial statements, in conformity with generally accepted accounting principles. /s/Ernst & Young LLP Memphis, Tennessee February 26, 1999 -23- -----END PRIVACY-ENHANCED MESSAGE-----