1 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q X Quarterly report pursuant to Section 13 or 15(d) of the Securities - ----- Exchange Act of 1934 For the quarterly period ended September 30, 1999 Transition report pursuant to Section 13 or 15(d) of the Securities - ----- Exchange Act of 1934 For the transition period from to ----------- ---------- Commission File Number 1-7120 ------ HARTE-HANKS, INC. ----------------- (Exact name of registrant as specified in its charter) Delaware 74-1677284 ------------------------------- ---------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 200 Concord Plaza Drive, San Antonio, Texas 78216 -------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number including area code -- 210/829-9000 ------------ Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ------- ------- Indicate the number of shares outstanding of each of the issuer's classes of common stock: $1 par value, 68,665,972 shares as of October 31, 1999.
2 2 HARTE-HANKS, INC. AND SUBSIDIARIES TABLE OF CONTENTS FORM 10-Q REPORT September 30, 1999 <TABLE> <CAPTION> Page ---- <S> <C> Part I. Financial Information Item 1. Interim Condensed Consolidated Financial Statements (Unaudited) Condensed Consolidated Balance Sheets - 3 September 30, 1999 and December 31, 1998 Consolidated Statements of Operations - 4 Three months ended September 30, 1999 and 1998 Consolidated Statements of Operations - 5 Nine months ended September 30, 1999 and 1998 Consolidated Statements of Cash Flows - 6 Nine months ended September 30, 1999 and 1998 Consolidated Statements of Stockholders' Equity - 7 Nine months ended September 30, 1999 and 1998 Notes to Interim Condensed Consolidated Financial 8 Statements Item 2. Management's Discussion and Analysis of Financial 11 Condition and Results of Operations Part II. Other Information Item 6. Exhibits and Reports on Form 8-K 18 (a) Exhibits (b) Reports on Form 8-K Signature 19 </TABLE>
3 3 Harte-Hanks, Inc. and Subsidiaries Condensed Consolidated Balance Sheets (in thousands, except per share and share amounts) - -------------------------------------------------------------------------------- (Unaudited) <TABLE> <CAPTION> September 30, December 31, 1999 1998 --------------- --------------- <S> <C> <C> Assets Current assets Cash and cash equivalents ......................... $ 124,018 $ 30,367 Short-term investments ............................ 2,395 138,874 Accounts receivable, net .......................... 135,452 127,518 Inventory ......................................... 5,762 6,485 Prepaid expenses .................................. 15,143 8,727 Current deferred income tax asset ................. 7,731 8,339 Other current assets .............................. 5,229 5,503 --------------- --------------- Total current assets ............................ 295,730 325,813 Property, plant and equipment, net .................. 102,784 92,274 Goodwill, net ....................................... 308,995 290,831 Other assets ........................................ 12,625 6,295 --------------- --------------- Total assets .................................... $ 720,134 $ 715,213 =============== =============== Liabilities and Stockholders' Equity Current liabilities Accounts payable .................................. $ 56,411 $ 56,397 Accrued payroll and related expenses .............. 22,672 23,208 Customer deposits and unearned revenue ............ 30,755 23,139 Income taxes payable .............................. 8,972 8,412 Other current liabilities ......................... 9,520 5,328 --------------- --------------- Total current liabilities ....................... 128,330 116,484 Other long term liabilities ......................... 31,241 21,638 --------------- --------------- Total liabilities ............................... 159,571 138,122 --------------- --------------- Stockholders' equity Common stock, $1 par value, 250,000,000 shares authorized. 76,316,038 and 75,789,355 shares issued at September 30, 1999 and December 31, 1998, respectively .............................. 76,316 75,789 Additional paid-in capital ........................ 196,575 189,698 Retained earnings ................................. 474,494 425,999 --------------- --------------- 747,385 691,486 Less treasury stock: 7,550,883 and 4,531,303 shares at cost at September 30, 1999 and December 31, 1998, respectively ................. (186,822) (114,395) --------------- --------------- Total stockholders' equity ...................... 560,563 577,091 --------------- --------------- Total liabilities and stockholders' equity ...... $ 720,134 $ 715,213 =============== =============== </TABLE> See Notes to Interim Condensed Consolidated Financial Statements.
4 4 Harte-Hanks, Inc. and Subsidiaries Consolidated Statements of Operations (in thousands, except per share amounts) - -------------------------------------------------------------------------------- (Unaudited) <TABLE> <CAPTION> Three Months Ended September 30, ---------------------------------- 1999 1998 --------------- --------------- <S> <C> <C> Operating revenues .................................... $ 207,632 $ 183,409 --------------- --------------- Operating expenses Payroll ............................................. 74,677 66,057 Production and distribution ......................... 75,336 68,644 Advertising, selling, general and administrative .... 18,681 15,179 Depreciation ........................................ 6,097 5,135 Goodwill amortization ............................... 2,578 1,931 --------------- --------------- 177,369 156,946 --------------- --------------- Operating income ...................................... 30,263 26,463 --------------- --------------- Other expenses (income) Interest expense .................................... 67 22 Interest income ..................................... (1,554) (2,772) Other, net .......................................... 280 139 --------------- --------------- (1,207) (2,611) --------------- --------------- Income before income taxes ............................ 31,470 29,074 Income tax expense .................................... 12,867 12,154 --------------- --------------- Net income ............................................ $ 18,603 $ 16,920 =============== =============== Basic: Earnings per common share ........................... $ 0.27 $ 0.23 =============== =============== Weighted-average common shares outstanding .......... 69,487 72,667 =============== =============== Diluted: Earnings per common share ........................... $ 0.26 $ 0.22 =============== =============== Weighted-average common and common equivalent shares outstanding ................................ 71,715 76,192 =============== =============== </TABLE> See Notes to Interim Condensed Consolidated Financial Statements.
5 5 Harte-Hanks, Inc. and Subsidiaries Consolidated Statements of Operations (in thousands, except per share amounts) - -------------------------------------------------------------------------------- (Unaudited) <TABLE> <CAPTION> Nine months ended September 30, ---------------------------------- 1999 1998 --------------- --------------- <S> <C> <C> Operating revenues .................................... $ 592,793 $ 547,888 --------------- --------------- Operating expenses Payroll ............................................. 216,045 198,313 Production and distribution ......................... 217,521 207,721 Advertising, selling, general and administrative .... 49,675 48,091 Depreciation ........................................ 17,362 15,727 Goodwill amortization ............................... 7,385 5,760 --------------- --------------- 507,988 475,612 --------------- --------------- Operating income ...................................... 84,805 72,276 --------------- --------------- Other expenses (income) Interest expense .................................... 157 151 Interest income ..................................... (5,403) (11,153) Other, net .......................................... 637 1,000 --------------- --------------- (4,609) (10,002) --------------- --------------- Income before income taxes ............................ 89,414 82,278 Income tax expense .................................... 36,709 34,243 --------------- --------------- Net income ............................................ $ 52,705 $ 48,035 =============== =============== Basic: Earnings per common share ........................... $ 0.75 $ 0.66 =============== =============== Weighted-average common shares outstanding ............ 70,400 73,230 =============== =============== Diluted: Earnings per common share ........................... $ 0.73 $ 0.63 =============== =============== Weighted-average common and common equivalent shares outstanding ................................ 72,700 76,844 =============== =============== </TABLE> See Notes to Interim Condensed Consolidated Financial Statements.
6 6 Harte-Hanks, Inc. and Subsidiaries Consolidated Statements of Cash Flows (in thousands) - -------------------------------------------------------------------------------- (Unaudited) <TABLE> <CAPTION> Nine months ended September 30, ---------------------------------- 1999 1998 --------------- --------------- <S> <C> <C> Operating Activities Net income .......................................................... $ 52,705 $ 48,035 Adjustments to reconcile net income to cash provided by (used in) operating activities: Depreciation ..................................................... 17,362 15,727 Goodwill amortization ............................................ 7,385 5,760 Amortization of option-related compensation ...................... 494 441 Deferred income taxes ............................................ 7,220 1,408 Other, net ....................................................... 224 (33) Changes in operating assets and liabilities, net of acquisitions: Increase in accounts receivable, net ............................. (3,274) (3,424) Decrease in inventory ............................................ 739 2,267 Increase in prepaid expenses and other current assets ................................................ (5,762) (1,342) Increase in accounts payable ..................................... 4,237 2,797 Increase (decrease) in other accrued expenses and other liabilities ......................................... 8,266 (864) Other, net ....................................................... (2,095) 3,784 --------------- --------------- Net cash provided by continuing operations .................... 87,501 74,556 --------------- --------------- Net cash used in discontinued operating activities .................. -- (265,650) --------------- --------------- Net cash provided by (used in) operating activities .................................................. 87,501 (191,094) --------------- --------------- Investing Activities Acquisitions ........................................................ (36,051) (15,695) Purchases of property, plant and equipment .......................... (21,065) (18,982) Proceeds from sale of property, plant and equipment ................. 488 214 Proceeds from divestiture ........................................... -- 5,000 Net sales and maturities of available-for-sale short-term investments ........................ 136,479 259,765 Other ............................................................... (3,000) -- --------------- --------------- Net cash provided by investing activities .................................................. 76,851 230,302 --------------- --------------- Financing Activities Issuance of common stock ............................................ 5,916 6,180 Purchase of treasury stock .......................................... (72,473) (66,474) Issuance of treasury stock .......................................... 66 -- Dividends paid ...................................................... (4,210) (3,304) --------------- --------------- Net cash used in financing activities .................................................. (70,701) (63,598) --------------- --------------- Net increase (decrease) in cash ..................................... 93,651 (24,390) Cash and cash equivalents at beginning of year ...................... 30,367 83,675 --------------- --------------- Cash and cash equivalents at end of period .......................... $ 124,018 $ 59,285 =============== =============== </TABLE> See Notes to Interim Condensed Consolidated Financial Statements.
7 7 Harte-Hanks, Inc. and Subsidiaries Consolidated Statements of Stockholders' Equity - -------------------------------------------------------------------------------- (Unaudited) <TABLE> <CAPTION> Accumulated Additional Other Total Common Paid-In Retained Treasury Comprehensive Stockholders' In thousands Stock Capital Earnings Stock Income Equity ---------- ---------- ---------- ---------- ------------- ------------- <S> <C> <C> <C> <C> <C> <C> Balance at January 1, 1998 ........... $ 74,843 $ 177,238 $ 362,000 $ (47,267) $ (577) $ 566,237 Common stock issued - employee benefit plans .................... 162 2,908 -- -- -- 3,070 Exercise of stock options ............ 633 2,477 -- -- -- 3,110 Tax benefit of options exercised ........................ -- 2,434 -- -- -- 2,434 Dividends paid ($0.03 per share) ..... -- -- (3,304) -- -- (3,304) Net income ........................... -- -- 48,035 -- -- 48,035 Treasury stock repurchase ............ -- -- -- (66,474) -- (66,474) Change in unrealized loss on short-term investments (net of tax) ............................. -- -- -- -- 315 315 ---------- ---------- ---------- ---------- ------------- ------------- Balance at September 30, 1998 ............................. $ 75,638 $ 185,057 $ 406,731 $ (113,741) $ (262) $ 553,423 ========== ========== ========== ========== ============= ============= Balance at January 1, 1999 ........... $ 75,789 $ 189,698 $ 425,999 $ (114,395) $ -- $ 577,091 Common stock issued - employee benefit plans .................... 148 3,121 -- -- -- 3,269 Exercise of stock options ............ 379 2,268 -- -- -- 2,647 Tax benefit of options exercised ........................ -- 1,468 -- -- -- 1,468 Dividends paid ($0.04 per share) ........................... -- -- (4,210) -- -- (4,210) Net income ........................... -- -- 52,705 -- -- 52,705 Treasury stock repurchase ............ -- -- -- (72,473) -- (72,473) Treasury stock issued ................ -- 20 -- 46 -- 66 ---------- ---------- ---------- ---------- ------------- ------------- Balance at September 30, 1999 ............................. $ 76,316 $ 196,575 $ 474,494 $ (186,822) $ -- $ 560,563 ========== ========== ========== ========== ============= ============= </TABLE> See Notes to Interim Condensed Consolidated Financial Statements.
8 8 Harte-Hanks, Inc. and Subsidiaries Notes to Interim Condensed Consolidated Financial Statements (Unaudited) NOTE A - BASIS OF PRESENTATION The accompanying unaudited Interim Condensed Consolidated Financial Statements include the accounts of Harte-Hanks, Inc. and subsidiaries (the "Company"). The statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three months and nine months ended September 30, 1999 are not necessarily indicative of the results that may be expected for the year ending December 31. For further information, refer to the consolidated financial statements and footnotes included in the Company's annual report on Form 10-K for the year ended December 31, 1998. Certain prior period amounts have been reclassified for comparative purposes. NOTE B - INCOME TAXES The Company's quarterly and nine month income tax provision of $12.9 million and $36.7 million, respectively, was calculated using an effective income tax rate of approximately 40.9% and 41.1%, respectively. The Company's effective income tax rate is derived by estimating pretax income and income tax expense for the year ending December 31, 1999. The effective income tax rate calculated is higher than the federal statutory rate of 35% due to the addition of state taxes and to certain expenses recorded for financial reporting purposes (primarily goodwill amortization) which are not deductible for federal income tax purposes. NOTE C - EARNINGS PER SHARE A reconciliation of basic and diluted earnings per share is as follows: <TABLE> <CAPTION> Three Months Ended September 30, In thousands, except per share amount 1999 1998 - -------------------------------------------------------------------------------------------------------- <S> <C> <C> BASIC EPS Net Income ......................................................... $ 18,603 $ 16,920 =============== =============== Weighted-average common shares outstanding used in earnings per share computations .......................... 69,487 72,667 =============== =============== Earnings per common share .......................................... $ 0.27 $ 0.23 =============== =============== DILUTED EPS Net Income ......................................................... $ 18,603 $ 16,920 =============== =============== Shares used in earnings per share computations ..................... 71,715 76,192 =============== =============== Earnings per common share .......................................... $ 0.26 $ 0.22 =============== =============== Computation of shares used in earnings per share computations: Average outstanding common shares .................................. 69,487 72,667 Average common equivalent shares - dilutive effect of option shares ................................. 2,228 3,525 --------------- --------------- Shares used in earnings per share computations ..................... 71,715 76,192 =============== =============== </TABLE>
9 9 <TABLE> <CAPTION> Nine Months Ended Septmeber 30, In thousands, except per share amount 1999 1998 - -------------------------------------------------------------------------------------------------------- <S> <C> <C> BASIC EPS Net Income ......................................................... $ 52,705 $ 48,035 =============== =============== Weighted-average common shares outstanding used in earnings per share computations .......................... 70,400 73,230 =============== =============== Earnings per common share .......................................... $ 0.75 $ 0.66 =============== =============== DILUTED EPS Net Income ......................................................... $ 52,705 $ 48,035 =============== =============== Shares used in earnings per share computations ..................... 72,700 76,844 =============== =============== Earnings per common share .......................................... $ 0.73 $ 0.63 =============== =============== Computation of shares used in earnings per share computations: Average outstanding common shares .................................. 70,400 73,230 Average common equivalent shares - dilutive effect of option shares ................................. 2,300 3,614 --------------- --------------- Shares used in earnings per share computations ..................... 72,700 76,844 =============== =============== </TABLE> NOTE D - COMPREHENSIVE INCOME The Company's total comprehensive income for the third quarter 1999 was equal to net income, whereas comprehensive income for the third quarter 1998 was $0.3 million less than net income. Total comprehensive income for the nine months ended September 30 of 1999 was equal to net income, whereas comprehensive income was $0.3 greater than net income for the same period of 1998. NOTE E - BUSINESS SEGMENTS Harte-Hanks is a highly focused targeted media company with operations in two segments - direct marketing and shoppers. Information about the Company's operations in different industry segments: <TABLE> <CAPTION> - ---------------------------------------------------------------------------------- Three Months Ended Sept. 30, In thousands 1999 1998 - ---------------------------------------------------------------------------------- <S> <C> <C> Operating revenues Direct Marketing ....................... $ 137,639 $ 119,590 Shoppers ............................... 69,993 63,819 --------------- --------------- Total operating revenues ........... $ 207,632 $ 183,409 =============== =============== Operating income Direct Marketing ....................... $ 18,898 $ 16,721 Shoppers ............................... 13,223 11,707 Corporate Activities ................... (1,858) (1,965) --------------- --------------- Total operating income ............. $ 30,263 $ 26,463 =============== =============== Income before income taxes Operating income ....................... $ 30,263 $ 26,463 Interest expense ....................... (67) (22) Interest income ........................ 1,554 2,772 Other, net ............................. (280) (139) --------------- --------------- Total income before income taxes ... $ 31,470 $ 29,074 =============== =============== </TABLE>
10 10 <TABLE> <CAPTION> - ----------------------------------------------------------------------------------- Nine months ended Sept. 30, In thousands 1999 1998 - ----------------------------------------------------------------------------------- <S> <C> <C> Operating revenues Direct Marketing ........................ $ 391,558 $ 355,582 Shoppers ................................ 201,235 192,306 --------------- --------------- Total operating revenues ............ $ 592,793 $ 547,888 =============== =============== Operating income Direct Marketing ........................ $ 54,706 $ 47,361 Shoppers ................................ 35,766 31,470 Corporate Activities .................... (5,667) (6,555) --------------- --------------- Total operating income .............. $ 84,805 $ 72,276 =============== =============== Income before income taxes Operating income ........................ $ 84,805 $ 72,276 Interest expense ........................ (157) (151) Interest income ......................... 5,403 11,153 Other, net .............................. (637) (1,000) --------------- --------------- Total income before income taxes .... $ 89,414 $ 82,278 =============== =============== </TABLE>
11 11 2. Management's Discussion and Analysis of Financial Condition and Results of Operations RESULTS OF OPERATIONS Operating results were as follows: <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED In thousands SEPT. 30, 1999 SEPT. 30, 1998 CHANGE SEPT. 30, 1999 SEPT. 30, 1998 CHANGE - ------------ -------------- -------------- ------ -------------- -------------- ------ <S> <C> <C> <C> <C> <C> <C> Revenues $ 207,632 $ 183,409 13.2% $ 592,793 $ 547,888 8.2% Operating expenses 177,369 156,946 13.0% 507,988 475,612 6.8% -------------- -------------- -------------- -------------- Operating income $ 30,263 $ 26,463 14.4% $ 84,805 $ 72,276 17.3% ============== ============== ============== ============== Net income $ 18,603 $ 16,920 9.9% $ 52,705 $ 48,035 9.7% ============== ============== ============== ============== Diluted earnings per share $ 0.26 $ 0.22 18.2% $ 0.73 $ 0.63 15.9% ============== ============== ============== ============== </TABLE> Consolidated revenues grew 13.2% to $207.6 million and operating income grew 14.4% to $30.3 million in the third quarter of 1999 when compared to the third quarter of 1998. The Company's overall growth resulted from increased business with both new and existing customers and from the sale of new products and services. Overall operating expenses compared to 1998 increased 13.0% to $177.4 million. Net income grew 9.9% to $18.6 million, or 26 cents per share, compared to 22 cents per share on a diluted basis. The net income growth resulted from the growth in operating income offset by a decrease of $1.2 million in interest income. DIRECT MARKETING Direct marketing operating results were as follows: <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED In thousands SEPT. 30, 1999 SEPT. 30, 1998 CHANGE SEPT. 30, 1999 SEPT. 30, 1998 CHANGE - ------------ -------------- -------------- ------ -------------- -------------- ------ <S> <C> <C> <C> <C> <C> <C> Revenues $ 137,639 $ 119,590 15.1% $ 391,558 $ 355,582 10.1% Operating expenses 118,741 102,869 15.4% 336,852 308,221 9.3% -------------- -------------- -------------- -------------- Operating income $ 18,898 $ 16,721 13.0% $ 54,706 $ 47,361 15.5% ============== ============== ============== ============== </TABLE> Direct marketing revenues increased $18.0 million, or 15.1%, in the third quarter of 1999 compared to 1998. Revenue increases were lead by response management and marketing services which both had strong growth, followed by database marketing which experienced good growth except for softness in the healthcare and managed care markets. The traditional growth oriented business-to-business activities of response management had good growth. Response management revenues increased due to increased consulting and internet business with existing customers and new customer gains. The high technology, government/not-for-profit, mutual funds and non-bank finance industry sectors contributed significantly to overall response management revenue growth. Marketing services revenues, led by its targeted mail operations, increased due to increased product sales as well as new product sales to new and existing customers, primarily in the government/not-for-profit, non-bank finance and retail industries. The November 1998 acquisition of Printing Management Systems, Inc. (PMSI) and the May 1999 acquisition of Direct Marketing Associates, Inc. (DMA) also contributed to the marketing services revenue increase. Database marketing revenues increased primarily due to growth in database processing. The retail, pharmaceutical and insurance industries provided the largest revenue increase for database marketing, partially offset by softness in the healthcare/managed care industries. While the fourth quarter is not expected to be as strong as the third because of the healthcare and managed
12 12 care softness, and some concern for Y2K related delays, we do expect to report good revenue growth as the quarter will benefit from the ZD Market Intelligence acquisition that closed October 1, 1999. Operating expenses increased $15.9 million, or 15.4%, in the third quarter of 1999 compared to 1998. Payroll costs increased $7.3 million due to expanded hiring to support future revenue growth. Also contributing to the increased operating expenses were additional production costs of $5.6 million due to increased volumes. General and administrative expense increased $1.4 million due to increased reserve for bad debt and professional services fees. Depreciation and amortization expense increased $1.5 million due to goodwill associated with acquisitions and higher levels of capital investment to support growth. Operating expenses were also impacted by the acquisitions noted above. Direct marketing revenues increased $36.0 million, or 10.1%, in the first nine months of 1999 compared to the first nine months of 1998. Response management and marketing services experienced good revenue growth, while database marketing experienced softness in the first nine months of 1999, partially due to a strong first half of 1998. Overall, revenue growth resulted from increased business with both new and existing customers, particularly in services provided to the retail, high tech, government/not-for-profit and pharmaceutical industries. Operating expenses rose $28.6 million, or 9.3%, in the first nine months of 1999 compared to the first nine months of 1998. Payroll costs increased $18.6 million due to expanded hiring to support revenue growth. In addition, production costs increased $7.8 million due to increased volumes. General and administrative expense decreased $1.1 million primarily due to decreased reserve for bad debt. Depreciation and amortization expense increased $3.3 million due to goodwill associated with acquisitions and higher levels of capital investment to support growth. The acquisitions mentioned above also contributed to the increased operating expenses. SHOPPERS Shopper operating results were as follows: <TABLE> <CAPTION> THREE MONTHS ENDED NINE MONTHS ENDED In thousands SEPT. 30, 1999 SEPT. 30, 1998 CHANGE SEPT. 30, 1999 SEPT. 30, 1998 CHANGE - ------------ -------------- -------------- ------ -------------- -------------- ------ <S> <C> <C> <C> <C> <C> <C> Revenues $ 69,993 $ 63,819 9.7% $ 201,235 $ 192,306 4.6% Operating expenses 56,770 52,112 8.9% 165,469 160,836 2.9% -------------- -------------- -------------- -------------- Operating income $ 13,223 $ 11,707 12.9% $ 35,766 $ 31,470 13.7% ============== ============== ============== ============== </TABLE> Shopper revenues increased $6.2 million, or 9.7%, in the third quarter of 1999 compared to 1998. Revenue increases were the result of improved sales in established markets as well as new year-over-year geographic expansions into new neighborhoods, in both Northern and Southern California. From a product-line perspective, Shoppers had growth in both its in-book products, primarily employment and core sales, and its distribution products, primarily 4-color glossy flyers. In the quarter, Shoppers experienced softness in its real-estate and personals advertising segments. Operating expenses increased $4.7 million, or 8.9%, in the third quarter of 1999 compared to 1998. The increase in operating expenses was primarily due to increases in payroll costs of $1.5 million, increases in postage of $1.1 million due to increased volumes, and increased reserve for bad debt of $0.8 million. Shopper revenues increased $8.9 million, or 4.6%, in the first nine months of 1999 compared to the first nine months of 1998. Excluding the effects of three small shopper publications which were sold in April 1998, revenue increases were the result of improved sales in established markets as well as new year-over-year geographic expansions into new neighborhoods, in both Northern and Southern California. From a product-line perspective, Shoppers had growth in both its in-book products, primarily employment and core sales, and its distribution
13 13 products, primarily 4-color glossy flyers and pre-printed inserts. In the first nine months of 1999, Shoppers experienced slowdown in its real-estate and personals advertising segments. Operating expenses increased $4.6 million, or 2.9%, in the first nine months of 1999 compared to the first nine months of 1998. Excluding the divestiture mentioned above, the increase in operating expenses was primarily due to increases in payroll costs of $2.5 million, additional production costs of $2.6 million, and increased postage of $2.7 million due to increased volumes. Other Income and Expense The Company realized a loss of approximately $0.4 million in the first quarter 1998 on the sale of equity securities that were held in its investment portfolio. In the third quarter of 1998, the Company recognized income of approximately $0.6 million for an insurance settlement. This income was partially offset by approximately $0.5 million of non-operating costs. Interest Expense/Interest Income Interest income decreased $1.2 million in the third quarter of 1999 and $5.8 million in the first nine months of 1999 over the same periods in 1998. The decrease in the first nine months of 1999 over the same period in 1998 was due to larger cash and investment balances in the first quarter of 1998 since divestiture related tax payments were not made until the end of the first quarter in 1998. Income Taxes The Company's income tax expense increased $0.7 million in the third quarter of 1999 and $2.5 million in the first nine months of 1999 compared to the same periods in 1998. This increase was due primarily to the higher pre-tax income levels. The effective tax rate was 40.9% for the third quarter of 1999 and 41.1% for the first nine months of 1999 compared to 41.8% and 41.6%, respectively, for the same periods of 1998. Liquidity and Capital Resources Cash provided by operating activities of continuing operations for the nine months ended September 30, 1999 was $87.5 million. Net cash used by discontinued operations in 1998 of $265.7 million relates to the payment of income taxes on the 1997 sale of discontinued operations. Net cash inflows from investing activities were $76.9 million for the first nine months of 1999 compared to net cash inflows of $230.3 million for the first nine months of 1998. The cash inflows from investing activities in 1999 and 1998 were primarily attributable to sales and maturities of marketable securities totaling $136.5 million and $259.8 million, respectively. The proceeds from the sales and maturities of marketable securities in 1998 were used to help fund the Company's tax payments made in the first quarter of 1998. Net cash outflows from financing activities were $70.7 million in 1999 compared to net cash outflows of $63.6 million in 1998. The cash outflow from financing activities in 1999 and 1998 are attributable primarily to the repurchase of treasury stock of $72.5 million and $66.5 million in the first nine months of 1999 and 1998, respectively. Capital resources are also available from and provided through the Company's two unsecured credit facilities. All borrowings under the $100 million revolving 364-Day Credit Agreement are to be repaid by November 3, 2000 unless the Company requests and is granted a 364-day extension. All borrowings under the $100 million revolving Three-Year Credit Agreement are to be repaid by November 4, 2002. Management believes that its credit facilities, together with cash provided from operating activities, will be sufficient to fund operations and anticipated capital service needs for the foreseeable future. The effective date of both credit facilities is November 4, 1999.
14 14 Recent Developments On October 1, 1999, the Company completed the previously announced acquisition of ZD Market Intelligence (ZDMI), a unit of Ziff-Davis Inc., for $101 million cash. The Company utilized its existing cash and cash equivalents at September 30, 1999 to fund this acquisition. ZDMI is a leading provider of database products and solutions to the high-tech and communications industries in the United States, Canada and Europe. On November 3, 1999, the Company's board of directors authorized an increase of four million shares in the Company's stock repurchase program, representing approximately 6% of its outstanding shares. As of such date, the Company is authorized to repurchase an aggregate 5.0 million shares of its common stock under the amended stock repurchase program. Factors That May Affect Future Results and Financial Condition From time to time, in both written reports and oral statements by senior management, the Company may express its expectations regarding its future performance. These "forward-looking statements" are inherently uncertain, and investors should realize that events could turn out to be other than what senior management expected. Set forth below are some key factors which could adversely affect the Company's future performance, including its revenues, net income and earnings per share; however, the risks described below are not the only ones the Company faces. Additional risks and uncertainties that are not presently known, or that the Company currently considers immaterial, could also impair the Company's business operations. Legislation -- There could be a material adverse impact on the Company's direct marketing business due to the enactment of legislation or industry regulations arising from public concern over consumer privacy issues. Restrictions or prohibitions could be placed upon the collection and use of information that is currently legally available. Data Suppliers -- The Company could suffer a material adverse effect if owners of the data the Company uses were to withdraw the data. Data providers could withdraw their data if there is a competitive reason to do so or if legislation is passed restricting the use of the data. Acquisitions -- In recent years the Company has made a number of acquisitions in its direct marketing and shopper businesses, and it expects to pursue additional acquisition opportunities. Acquisition activities, even if not consummated, require substantial amounts of management time and can distract from normal operations. In addition, there can be no assurance that the synergies and other objectives sought in acquisitions will be achieved. Competition -- Direct marketing is a rapidly evolving business, subject to periodic technological advancements, high turnover of customer personnel who make buying decisions, and changing customer needs and preferences. Consequently, the Company's direct marketing business faces competition in each of its three sectors -- response management/teleservices, database marketing, and marketing services. The Company's shopper business competes for advertising, as well as for readers, with other print and electronic media. Competition comes from local and regional newspapers, magazines, radio, broadcast and cable television, shoppers and other communications media that operate in the Company's markets. The extent and nature of such competition are, in large part, determined by the location and demographics of the markets targeted by a particular advertiser, and the number of media alternatives in those markets. Failure to continually
15 15 improve the Company's current processes and to develop new products and services could result in loss of the Company's customers to current or future competitors. In addition, failure to gain market acceptance of new products and services could adversely affect the Company's growth. Qualified Personnel -- Competition for qualified technical and other personnel is intense, and the Company periodically is required to pay premium wages to attract and retain personnel. There can be no assurance that the Company will be able to continue to hire and retain sufficient qualified management, technical, sales and other personnel necessary to conduct operations successfully, particularly if the planned growth of the Company's business occurs. Postal Rates -- The Company's shoppers are delivered by standard mail, and postage is the second largest expense, behind payroll, in the Company's shopper business. The present standard postage rates went into effect in January 1999. Postal rates also influence the demand for the Company's direct marketing services even though the cost of mailings is borne by the Company's customers and is not directly reflected in the Company's revenues or expenses. Postal increases could force direct mailers to mail fewer pieces and to target their prospects more carefully. This sort of response by direct mailers could affect the Company by decreasing the amount of processing services purchased. Economic Conditions -- Changes in national economic conditions can affect levels of advertising expenditures generally, and such changes can affect each of the Company's businesses. Revenues from the Company's shopper business are dependent to a large extent on local advertising expenditures in the markets in which they operate. Such expenditures are substantially affected by the strength of the local economies in those markets. Direct marketing revenues are dependent on national and international economics. Year 2000 Issue -- The Year 2000 Issue is a result of computer programs being written using two digits rather than four to define the applicable year. Accordingly, computer systems that rely on two digits to define an applicable year may recognize a date using "00" as the year 1900, rather than the Year 2000 (the "Year 2000 Issue"). This could result in a system failure or miscalculations causing disruptions of operations, including, but not limited to, a temporary inability to process or transmit data or engage in normal business activities. The Company relies on computer hardware, information technology ("IT Systems") and non-information technology systems ("Non-IT Systems") to operate its business. IT Systems are used in the creation and delivery of the Company's products and services, as well as, the Company's internal operations such as billing and accounting. IT Systems include systems which use information provided by third-party data suppliers to update the Company's databases. The Company also relies on Non-IT Systems (primarily consisting of embedded technology), such as microprocessors in tape drives, printing and inserting equipment, and elevators, and on utilities, such as telecommunications and power. The Company defined Year 2000 Compliant to mean that a process will continue to run in the same manner when dealing with dates on or after January 1, 2000, as it did before January 1, 2000. The Company conducted a comprehensive review of its IT Systems and Non-IT Systems to identify those that could be affected by the Year 2000 Issue, and developed a remediation plan to resolve the issue. The most important areas of focus of the Company's Year 2000 remediation plan were the Company's products and services (including its databases, software that manipulates these databases and software provided to customers); business operation support systems (billing, ordering, tracking systems, payroll and technical infrastructure (such as LANs, mail systems and websites)); and suppliers, facilities and equipment. The Company utilized both internal and external resources to correct or reprogram, and test the systems for the Year 2000 compliance.
16 16 The Company's compliance objectives included products and services the Company provided to customers in the past and will provide to customers in the future; all internal operating software systems and equipment; and the services, products, equipment and systems the Company obtained and will obtain in the future from outside vendors. The Company's first objective was to remediate all products and services the Company has, or will provide, to customers. This included informing customers of their need to make their applications Year 2000 compliant to provide or accept associated files for services provided by the Company. This objective was deemed the top priority and was initiated in late 1997. In early 1998, the Company initiated action to remediate all internal business operation support systems, and the associated equipment these systems operate on. As part of this process, the Company developed a standard Year 2000 compliance certification memorandum which was sent to all vendors who had or were currently providing products or services to the Company, revised customer standard contract language to include a Year 2000 statement, and instituted a review process for formally responding to customer inquiries on the Company's Year 2000 compliance plans and status. The Company contacted its critical suppliers and other entities to determine the extent to which the Company's interface systems were vulnerable to those third parties' failure to remediate their own Year 2000 Issues. While the Company has not been informed of any material risks associated with these entities, there is no guarantee that the systems of these critical suppliers or other entities on which the Company relies, will be timely converted and will not have an adverse effect on the Company's systems or operations. In addition to the above, the Company formed a Year 2000 Compliance Council in June 1998 which monitored the status of compliance efforts to ensure that compliance issues were consistently addressed. The Company's Year 2000 remediation plan consisted of four key phases: Inventory/Assessment, Repair/Replacement, Testing and Compliance/Internal Certification. As related to the Company's products and services, the Company is 100%, 100%, 100% and 100% completed, respectively. With regards to business operation support systems, the Company is 100%, 100%, 100%, and 99% completed, respectively. Finally, suppliers, facilities and equipment are 100%, 100%, 100%, 99% completed, respectively. The Company completed its high priority reprogramming efforts as of March 31, 1999, and has performed extensive testing efforts through September 30, 1999. Some final items will be completed in the fourth quarter, mostly consisting of low priority items such as phone and voicemail system updates; however, the Company can provide no assurance in this regard. Several recent acquisitions are also being reviewed to insure that Year 2000 issues are properly addressed on a timely basis. The Company has spent $4.04 million of cost incurred to date related to the Year 2000 Issue. The total remaining cost of the Year 2000 project is presently estimated at $0.37 million. The cost of the project and the date on which the Company believed it would complete the Year 2000 modifications were based on management's best estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of certain resources. At this time, based on the status of the project, we believe these estimates have been achieved and actual results should not differ materially from those stated above. Through the Company's Year 2000 review efforts, we believe that all critical areas are ready to operate in the Year 2000 and beyond. It has been our goal to manage this date change successfully without adverse effect on our employees and our customers. There can be no guarantee that the Company will not experience disruptions in its operations, including among other things, a temporary inability to fulfill customer direct marketing requests (such as sales leads and personalized mailings), process financial transactions, or engage in similar normal business activities. In addition, disruptions in the economy generally resulting from the Year 2000 Issue could also materially adversely affect the Company. The Company could be subject to litigation for computer systems failures, equipment shutdowns or failure to properly date business records. The amount of potential liability and lost revenue cannot be reasonably estimated.
17 17 Contingency plans have been developed for the Company except for recent acquisitions. Contingency plans cover products and services, as well as business operation support systems. These contingency plans include the identification of alternate providers in case primary providers cannot meet delivery requirements, and provide specific 100-year interval windowing techniques to customers in the event their applications cannot be made Year 2000 compliant.
18 18 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibits. See index to Exhibits on Page 20. (b) No Form 8-K has been filed during the three months ended September 30, 1999.
19 19 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. HARTE-HANKS, INC. November 12, 1999 /s/ Jacques D. Kerrest ----------------- ----------------------------------- Date Jacques D. Kerrest Senior Vice President, Finance and Chief Financial Officer
20 20 <TABLE> <CAPTION> Exhibit No. Description of Exhibit Page No. - ------- ---------------------- -------- <S> <C> <C> 2(a) Certificate of Ownership and Merger (filed as Exhibit 2(a) to the Company's Registration Statement No. 33-69202 and incorporated by reference herein). 2(b) Agreement and Plan of Merger dated as of February 4, 1996 among Harte-Hanks Communications, Inc., HHD Acquisition Corp. and DiMark, Inc. (filed as Appendix A to the Company's Registration Statement No. 333-02047 and incorporated by reference herein). 2(c) Agreement and Plan of Merger and Reorganization, dated as of May 16, 1997, by and between The E.W. Scripps Company and Harte-Hanks Communications, Inc. (filed as Exhibit 2.1 to the Company's Form 8-K dated May 22, 1997 and incorporated by reference herein). 2(d) Acquisition Agreement, dated as of May 16, 1997, by and between The E.W. Scripps Company and Harte-Hanks Communications, Inc. (filed as Exhibit 2.2 to the Company's Form 8-K dated May 22, 1997 and incorporated by reference herein). 2(e) Stock Purchase Agreement dated as of July 26, 1997 between ABC, Inc. and Harte-Hanks Communications, Inc. (filed as Exhibit 2(e) to the Company's Form 10-Q for the nine months ended September 30, 1997 and incorporated by reference herein). 3(a) Amended and Restated Certificate of Incorporation (filed as Exhibit 3(a) to the Company's Form 10-K for the year ended December 31, 1993 and incorporated by reference herein). 3(b) Amended and Restated Bylaws (filed as Exhibit 3(b) to the Company's Registration Statement No. 33-69202 and incorporated by reference herein). 3(c) Amendment dated April 30, 1996 to Amended and Restated Certificate of Incorporation (filed as Exhibit 3(c) to the Company's Form 10-Q for the nine months ended September 30, 1996 and incorporated by reference herein). 3(d) Amendment dated May 5, 1998 to Amended and Restated Certificate of Incorporation (filed as Exhibit 3(d) to the Company's Form 10-Q for the six months ended June 30, 1998 and incorporated by reference herein). 3(e) Amended and Restated Certificate of Incorporation as amended through May 5, 1998 (filed as Exhibit 3(e) to the Company's Form 10-Q for the six months ended June 30, 1998 and incorporated by reference herein). *4(a) 364-Day Credit Agreement dated as of November 4, 1999 between Harte-Hanks, Inc. and the Lenders named therein [$100 million]. 23 *4(b) Three-Year Credit Agreement dated as of November 4, 1999 between Harte-Hanks, Inc. and the Lenders named therein [$100 million]. 92 </TABLE>
21 21 <TABLE> <CAPTION> Exhibit No. Description of Exhibit Page No. - ------- ---------------------- -------- <S> <C> <C> 4(c) Other long term debt instruments are not being filed pursuant to Section (b)(4)(iii) of Item 601 of Regulation S-K. Copies of such instruments will be furnished to the Commission upon request. 10(a) 1984 Stock Option Plan (filed as Exhibit 10(d) to the Company's Form 10-K for the year ended December 31, 1984 and incorporated herein by reference). 10(b) Registration Rights Agreement dated as of September 11, 1984 among HHC Holding Inc. and its stockholders (filed as Exhibit 10(b) to the Company's Form 10-K for the year ended December 31, 1993 and incorporated by reference herein). 10(c) Severance Agreement between Harte-Hanks Communications, Inc. and Larry Franklin, dated as of July 23, 1993 (filed as Exhibit 10(f) to the Company's Registration Statement No. 33-69202 and incorporated by reference herein). 10(d) Form of Severance Agreement between Harte-Hanks Communications, Inc. and certain Executive Officers of the Company, dated as of July 7 or December 28,1997 (filed as Exhibit 10(f) to the Company's Form 10-K for the year ended December 31, 1997 and incorporated by reference herein). 10(e) Harte-Hanks, Inc. Restoration Pension Plan (filed as Exhibit 10(j) to the Company's Registration Statement No. 33-69202 and incorporated by reference herein). 10(f) Harte-Hanks Communications, Inc. 1996 Incentive Compensation Plan (filed as Exhibit 10(p) to the Company's Form 10-Q for the nine months ended September 30, 1996 and incorporated by reference herein). 10(g) Harte-Hanks, Inc. Amended and Restated 1991 Stock Option Plan (filed as Exhibit 10(g) to the Company's Form 10-Q for the six months ended June 30, 1998 and incorporated by reference herein). 10(h) Harte-Hanks, Inc. 1998 Director Stock Plan (filed as Exhibit 10(h) to the Company's Form 10-Q for the six months ended June 30, 1998 and incorporated by reference herein). 10(i) Harte-Hanks, Inc. Deferred Compensation Plan (filed as Exhibit 10(i) to the Company's Form 10-K for the year ended December 31, 1998 and incorporate by reference herein). 10(j) Amendment to Harte-Hanks, Inc. Restoration Pension Plan (filed as Exhibit 10(j) to the Company's Form 10-K for the year ended December 31, 1998 and incorporate by reference herein). *11 Statement Regarding Computation of Net Income (Loss) Per Common Share. 160 *21 Subsidiaries of the Company. 161 </TABLE>
22 22 <TABLE> <CAPTION> Exhibit No. Description of Exhibit Page No. - ------- ---------------------- -------- <S> <C> <C> *27 Financial Data Schedule. 162 </TABLE> - --------------------- *Filed herewith