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| DST > SEC Filings for DST > Form 10-K on 1-Mar-2013 | All Recent SEC Filings |
1-Mar-2013
Annual Report
The discussions set forth in this Annual Report on Form 10-K contain statements
concerning potential future events. Such forward-looking statements are based
upon assumptions by the Company's management, as of the date of this Annual
Report, including assumptions about risks and uncertainties faced by the
Company. In addition, management may make forward-looking statements orally or
in other writings, including, but not limited to, in press releases, in the
annual report and in the Company's other filings with the Securities and
Exchange Commission. Forward-looking statements include, but are not limited to,
(i) all statements, other than statements of historical fact, that address
activities, events or developments that we expect or anticipate will or may
occur in the future or that depend on future events, or (ii) statements about
our future business plans and strategy and other statements that describe the
Company's outlook, objectives, plans, intentions or goals, and any discussion of
future operating or financial performance. Whenever used, words such as "may,"
"will," "would," "should," "potential,", "strategy," "anticipates," "estimates,"
"expects," "project," "predict," "intends," "plans," "believes," "targets" and
other terms of similar meaning are intended to identify such forward-looking
statements. Forward-looking statements are uncertain and to some extent
unpredictable, and involve known and unknown risks, uncertainties, and other
important factors that could cause actual results to differ materially from
those expressed or implied in, or reasonably inferred from, such forward-looking
statements. If any of management's assumptions prove incorrect or should
unanticipated circumstances arise, the Company's actual results could materially
differ from those anticipated by such forward-looking statements. The
differences could be caused by a number of factors or combination of factors
including, but not limited to, those factors identified in Item 1A, "Risk
Factors" of this Form 10-K. Readers are strongly encouraged to consider those
factors when evaluating any forward-looking statements concerning the Company.
The Company undertakes no obligation to update any forward-looking statements in
this Annual Report on Form 10-K to reflect new information, future events or
developments, or otherwise.
DST Systems, Inc. (the "Company" or "DST") provides sophisticated information processing solutions and services. In addition to technology products and services, DST also provides integrated print and electronic statement and billing solutions. DST's data centers provide technology infrastructure support for asset management, insurance and healthcare companies around the globe. These business units are reported as two operating segments, Financial Services and Customer Communications (formerly known as the Output Solutions Segment). In addition, investments in the Company's real estate subsidiaries and affiliates, equity securities, private equity investments and certain financial interests have been aggregated into the Investments and Other Segment.
The Company's Financial Services Segment provides a variety of solutions principally to the asset management, brokerage, retirement, insurance and healthcare industries. The Company has developed a number of proprietary systems that are integrated into its solutions including the following:
º •
º Shareowner recordkeeping and distribution support systems for United
States ("U.S.") and international mutual fund companies,
broker/dealers and financial advisors,
º •
º Investment management systems offered to U.S. and international
investment managers and fund accountants,
º •
º Defined-contribution participant recordkeeping system for the U.S.
retirement plan market,
º •
º Medical and pharmacy claims administration processing systems and
services offered to providers of healthcare plans, third party
administrators, medical practice groups and pharmacy benefit managers,
and
º •
º Business process management and customer contact system offered to a
broad variety of industries.
The Financial Services Segment's revenues are derived primarily from remote or
full service transfer agency or third party administration product offerings
that utilize the Company's proprietary software applications being processed at
the Company's data centers. The Financial Services Segment's revenues are
generally based on the number of accounts/members/participants or transactions
processed. The Company's mutual fund revenues are dependent upon the number of
accounts or transactions processed. ALPS derives revenue from asset servicing
and asset distribution activities, which are generally based on a percentage of
assets for which services are provided. The Financial Services Segment's
healthcare administration processing revenues are generally earned on a
per-member, per month basis for BPO services and ASP agreements. Argus derives
revenue from pharmacy claims processing services and from investment earnings
related to client balances maintained by Argus. The Company also derives
revenues from transfer agency asset balances invested and investment earnings
related to customer cash balances maintained in Company investment accounts. The
Company also licenses its business process management ("BPM") software,
healthcare administration processing systems software, certain investment
management and, outside the U.S., certain mutual fund shareowner accounting
systems. Revenues for licensed software products are primarily comprised of:
(i) license fees; (ii) consulting and development revenues based primarily on
time and materials billings; and (iii) annual maintenance fees. The license fee
component of these revenues is not significant. The Company provides data
processing services to certain clients who utilize the Company's AWD products.
Revenues are primarily based upon data center capacity utilized, which is
significantly influenced by the volume of transactions or the number of users.
The Financial Services Segment records investment income (dividends, interest
and net gains (losses) on investment securities) within Other income, net. The
Financial Services Segment derives part of its income from its pro rata share in
the earnings (losses) of certain unconsolidated affiliates, including BFDS, IFDS
U.K. and IFDS L.P.
The Company's Customer Communications Segment helps businesses deploy customer communications while improving operational performance across critical business functions such as sales, marketing, customer service, technology, finance, operations, and compliance. By delivering information in the desired combination of print, digital and archival formats, the Segment helps its clients deliver better customer experiences at each point of interaction. The Segment's product offering combines data insights and analysis with business decision-making tools and multi-channel execution and delivery designed to help businesses acquire, grow, retain, and win back customers.
The Customer Communications' revenues are derived from presentation and delivery (either printed or digital) and archival of customer documents, and are based generally on the number of images processed and the range of customization and personalization options chosen by the client. Formatting and custom programming revenues are based on time and materials billings or on the number of images produced.
The Investments and Other Segment is comprised of the Company's real estate subsidiaries and joint ventures, investments in equity securities, private equity investments and other financial interests. The assets held by the Investments and Other Segment are primarily passive in nature.
The Investments and Other Segment's revenues are derived from rental income from Company owned and third party real estate leases. Rental income from Company owned real estate is recorded as revenue when earned, which is based on lease terms, but is eliminated in consolidation for the portion that relates to real estate leased to the Company's other consolidated subsidiaries. The Investments and Other Segment records investment income (dividends, interest and net gains (losses) on investment securities) within Other income, net. The Investments and Other Segment derives part of its income from it pro rata share in the earnings (losses) of certain unconsolidated affiliates.
Significant Events
Asset Monetizations
During the year ended December 31, 2012, DST had $485.4 million of pre-tax proceeds, consisting of $396.8 million from the sale of investments, $75.0 million in distributions from private equity funds and other investments and $13.6 million from the sale of real estate assets. After tax proceeds from these transactions were primarily used to reduce debt and to repurchase shares of DST common stock.
In addition, the Company's joint venture, IFDS Canada, sold its interest in a Canadian real estate partnership which owned the building IFDS Canada and other tenants occupy. IFDS Canada received proceeds of approximately $53.2 million, resulting in equity in earnings of $14.8 million for DST's portion of the gain on the sale.
Dividends
During 2012, DST paid two semi-annual cash dividends totaling $0.80 per share on its common stock. The Board of Directors of DST has made the decision to increase its dividend frequency from a semi-annual basis to a quarterly basis beginning in the first quarter of 2013. Future cash dividends will depend upon financial condition, earnings and other factors deemed relevant by DST's Board of Directors. On January 30, 2013, the Board of Directors of DST declared a quarterly cash dividend of $0.30 per share on its common stock payable on March 15, 2013 to shareholders of record as of February 19, 2013.
Share Repurchase Plan
During 2012, the Company spent $73.7 million to repurchase 1,250,000 shares of DST common stock in accordance with its existing share repurchase plan. On January 30, 2013, the Board of Directors of DST authorized a $250 million share repurchase plan, which replaces the Company's existing share repurchase plan, under which DST had 715,700 shares remaining as of that date. The plan, as amended, allows, but does not require, the repurchase of common stock in open market and private transactions.
Goodwill Impairment
Decreased demand resulting from current economic conditions in the U.K. economy has negatively impacted production volumes and operating revenues for DST's print / mail business. Accordingly, during the fourth quarter of 2012, DST adjusted its future outlook and related strategy with respect to the Customer Communications U.K. operations which resulted in a reduction in future expected cash flows. As a result, the Company recorded a non-cash goodwill impairment charge of $60.8 million in its Customer Communications United Kingdom reporting unit in 2012.
Acquisitions
During 2011, the Company paid $365.4 million, net of cash acquired, for the following business acquisitions: ALPS Holdings, Inc. ("ALPS"), Newkirk Products, Inc. ("Newkirk"), Lateral Group Limited ("Lateral"), Intellisource Healthcare Solutions ("Intellisource"), Finix Business Strategies, LLC, Finix Converge, LLC and Subserveo, Inc. The acquisition of ALPS for $251.9 million on October 31, 2011 represented the largest acquisition in 2011. ALPS is a provider of asset servicing and asset gathering solutions to open-end mutual funds, closed-end funds, exchange-traded funds and alternative investment funds.
On July 30, 2010, DST, through its wholly-owned U.K. subsidiary, Output U.K., acquired dsicmm Group Limited ("dsicmm") for $3.7 million in cash and the issuance of Output U.K. stock. After completion of the transaction, DST owned approximately 70.5% of Output U.K. and the remaining
29.5% was owned by a group of the former stockholders of dsicmm. DST has consolidated the financial results of the combined Output U.K. business from the closing date and reflected the 29.5% owned by former stockholders of dsicmm as a non-controlling interest. In January 2012, DST acquired the remaining shares of Output U.K. for approximately $17.7 million, making Output U.K. a wholly-owned subsidiary.
Debt activities
In 2012, the Company amended its revolving credit facility to enable the Company to use proceeds from asset dispositions to repurchase shares or pay dividends. Additionally, in 2012, the Company renewed its accounts receivable securitization program resulting in a new maturity date of May 16, 2013.
During 2011, the Company amended its revolving syndicated bank facility. The amendment extended the maturity date to July 1, 2015 and lowered the interest rate spreads and facility fees to reflect then-current market conditions. In addition, the aggregate commitments under the facility were increased from $600 million to $630 million. The Company also entered into a $125 million unsecured term loan credit facility in 2011 to partially fund the acquisition of ALPS.
Off-Balance Sheet Arrangements
An off-balance sheet arrangement is any transaction, agreement or other
contractual arrangement involving an unconsolidated entity under which a company
has (1) made guarantees, (2) a retained or a contingent interest in transferred
assets, (3) an obligation under derivative instruments classified as equity, or
(4) any obligation arising out of a material variable interest in an
unconsolidated entity that provides financing, liquidity, market risk or credit
risk support to the company, or that engages in leasing, hedging or research and
development arrangements with the company.
The Company believes that its guarantee arrangements will not have a material current or future effect on its financial condition, changes in financial condition, revenues or expenses, capital expenditures, capital resources, liquidity or results of operations. These arrangements are described in Note 15 to the consolidated financial statements included in Item 8 of this report.
In January 2009, the Company entered an interest rate swap with a bank to fix the interest rate on its syndicated real estate credit agreement at approximately 4.49% (includes 1.75% applicable margin rate) beginning January 2010. This interest rate swap qualifies as a derivative instrument.
The Company's interest rate swap is a cash flow hedge of future interest payments under the Company's real estate credit agreement and uses a pay-fixed, receive-variable, forward starting interest rate swap. The Company's risk management objective and strategy for undertaking this hedge is to eliminate the variability of interest cash flows related to the Company's floating-rate real estate credit agreement. Changes in the cash flows of the interest rate swap are expected to offset the changes in cash flows attributable to fluctuations in the one-month LIBOR benchmark interest rate. The derivative instrument is a receive-variable, pay 2.74% fixed, forward starting interest rate swap with an effective date of January 4, 2010 and a maturity date of September 16, 2013. Effectiveness of the hedge relationship is assessed on a quarterly basis both prospectively and retrospectively using the "cumulative dollar offset" method, in which the cumulative changes in the value of the hedging instrument are directly compared with the cumulative change in the fair value or cash flows of the hedged item. A dollar offset ratio of between 0.80 and 1.25 is required in order to qualify for hedge accounting treatment. At inception of the hedge, the cumulative dollar offset ratio is 1.00 since the terms of the perfect hypothetical swap match those of the actual swap. The derivative accounting guidance indicates that hedge effectiveness occurs only if the cumulative gain or loss on the derivative hedging instrument exceeds the cumulative change in the expected future cash flows of the hedged transaction. At December 31, 2012, the fair value of the Company's pay-fixed, receive-variable, forward starting interest
rate swap was a liability of $2.3 million, which is included in other non-current liabilities in the Consolidated Balance Sheet. The Company determined there was no ineffectiveness during the years ended December 31, 2012 and 2011, which resulted in the changes in fair value of this swap being recorded in other comprehensive income.
Accounting and reporting guidance for derivative instruments, including certain derivative instruments embedded in other contracts and hedging activities requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value, and that the changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designated as part of a hedge transaction and, if it is, the type of hedge transaction.
In addition, the Company has $90.1 million of convertible senior debentures outstanding at December 31, 2012. The debentures are convertible under specified circumstances into shares of the Company's common stock.
New Authoritative Accounting Guidance
Comprehensive Income
On January 1, 2012, DST adopted an accounting standard that modifies the presentation of comprehensive income in the financial statements. The standard requires an entity to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The Company elected the latter presentation option upon adopting this accounting standard. This standard eliminates the current option to report other comprehensive income and its components in the statement of changes in equity. The adoption of this guidance did not have a significant effect on the consolidated financial statements.
Testing Goodwill for Impairment
On January 1, 2012, DST adopted an accounting standard related to testing for goodwill impairment. The guidance permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. The adoption of this guidance did not have a significant effect on the consolidated financial statements.
Fair Value Measurement and Disclosure
On January 1, 2012, DST adopted an accounting standard related to fair value measurements and disclosure requirements. The guidance is intended to improve the comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and International Financial Reporting Standards. The adoption of this guidance did not have a significant effect on the consolidated financial statements.
The Company's discussion and analysis of its financial condition, results of operations and cash flows are based upon its consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. The Company bases its estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
The Company believes the following critical accounting policies affect its more significant judgments and estimates used in the preparation of its consolidated financial statements: revenue recognition; software capitalization and amortization; depreciation of fixed assets; valuation of long-lived and intangible assets and goodwill; accounting for investments; and accounting for income taxes.
Use of estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Revenue recognition
The Company recognizes revenue when it is realized or realizable and it is earned. The majority of the Company's revenues are computer processing and services revenues and are recognized upon completion of the services provided. Software license fees, maintenance fees and other ancillary fees are recognized as services are provided or delivered and all customer obligations have been met. The Company generally does not have customer obligations that extend beyond one year. Revenue from equipment sales is recognized as equipment is shipped. Revenue from operating leases is recognized monthly as the rent accrues. Billing for services in advance of performance is recorded as deferred revenue. Allowances for billing adjustments and doubtful account expense are estimated as revenues are recognized and are recorded as reductions in revenues, and the annual amounts are immaterial to the Company's consolidated financial statements.
The Company recognizes revenue when the following criteria are met:
1) persuasive evidence of an arrangement exists; 2) delivery has occurred or
services have been rendered; 3) the sales price is fixed or determinable; and
4) collectability is reasonably assured. If there is a customer acceptance
provision in a contract or if there is uncertainty about customer acceptance,
the associated revenue is deferred until the Company has evidence of customer
acceptance.
Revenue arrangements with multiple deliverables are evaluated to determine if the deliverables (items) can be divided into more than one unit of accounting. An item can generally be considered a separate unit of accounting if all of the following criteria are met: 1) the delivered item(s) has value to the customer on a standalone basis; 2) there is objective and reliable evidence of the fair value of the undelivered item(s); and 3) if the arrangement includes a general right of return relative to the delivered item(s), delivery or performance of the undelivered item(s) is considered probable and substantially in the control of the Company. Once separate units of accounting are determined, the arrangement consideration should be allocated at the inception of the arrangement to all deliverables using the relative selling price method. Relative selling price is obtained from sources such as vendor-specific objective evidence ("VSOE"), which is based on the separate selling price for that or a similar item or from third-party evidence ("TPE") such as how competitors have priced similar items. If such evidence is unavailable, the Company uses its best estimate of the selling price ("BESP"), which includes various internal factors such as our pricing strategy and market factors. It is not common for the Company to use TPE and BESP as VSOE can be established for the majority of DST's client arrangements.
Software license revenues are recognized at the time the contract is signed, the software is delivered and no future software obligations exist. Deferral of software license revenue results from delayed payment provisions, disproportionate discounts between the license and other services or the inability to unbundle certain services.
The Company recognizes revenues for maintenance services ratably over the contract term, after collectability has been reasonably assured.
The Company derives over 90% of its revenues as a result of providing processing and services under contracts. The majority of the amount is billed on a monthly basis generally with thirty-day collection terms. Revenues are recognized for monthly processing and services upon performance of the services. In the event a portion of the Company's revenues are due 12 months or more from the invoice date, the Company accounts for the revenue as not being fixed and determinable. In these cases, the revenue is recognized as it becomes due.
The Company's standard business practice is to bill monthly for development, consulting and training services on a time and materials basis. In some cases the Company bills a fixed fee for development and consulting services. For fixed fee arrangements, the Company recognizes revenue on a "proportionate performance" basis.
The Company derives less than 10% of its revenues from licensing products. The Company licenses its asset management products and its AWD (BPM) product generally to non-mutual fund customers and international customers, its healthcare administration processing software solutions to domestic customers and its customer billing software solution products to international and domestic customers. Perpetual software license revenues are recognized at the time the contract is signed, the software is delivered and no future software obligations exist. Deferral of software license revenue billed results from delayed payment provisions, disproportionate discounts between the license and other services or the inability to unbundle certain services. Term software license revenues are recognized ratably over the term of the license agreement.
The Company has entered into various agreements with related parties, principally unconsolidated affiliates, to utilize the Company's data processing facilities and computer software systems. The Company believes that the terms of its contracts with related parties are fair to the Company and are no less favorable than those obtained from unaffiliated parties.
The Company assesses collection based on a variety of factors, including past collection history with the customer and the credit-worthiness of the customer. The Company generally does not request collateral from its customers. If it is determined that collection of revenues is not reasonably assured, revenue is deferred and is recognized at the time it becomes reasonably assured, which is generally upon receipt of cash. Allowances for billing adjustments are determined as revenues are recognized and are recorded as reductions in revenues. Doubtful account expense for the Company is immaterial.
Software capitalization and amortization
The Company makes substantial investments in software to enhance the functionality and facilitate the delivery of its processing and services as well as its sale of licensed products. Purchased software is recorded at cost and is amortized on a straight-line basis over the estimated economic lives of three to . . .
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