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NCR > SEC Filings for NCR > Form 10-Q on 1-Aug-2014All Recent SEC Filings

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Form 10-Q for NCR CORP


1-Aug-2014

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (MD&A)

Overview
The following were the significant events for the second quarter of 2014, each of which is discussed more fully in later sections of this MD&A:
Revenue increased approximately 8% from the prior year period; and

We continued to experience significant growth in software-related revenue (which we measure by combining software license and maintenance revenue, software as a service (SaaS) revenue and professional services revenue associated with software delivery).

We have established a focused and consistent business strategy targeted at revenue growth, gross margin expansion, improved customer loyalty and employee engagement. To execute this strategy, we incorporate three key imperatives that align with our financial objectives for 2014 and beyond: deliver disruptive innovation; focus on migrating to higher margin software and recurring services revenue; and more fully enable our sales force with a consultative selling model that better leverages the innovation we are bringing to the market.

Our strategy, which we continued to pursue in the second quarter of 2014, is summarized in more detail below:
Gain profitable share - We have been working to shift our business model to focus on growth of higher margin software and services revenue, including focusing our research and development efforts, changing and educating our sales force and executing transformative acquisitions in each of our core lines of business. At the same time, we are continuing our effort to optimize our investments in demand creation to increase NCR's market share in areas with the greatest potential for profitable growth, which include opportunities in self-service technologies with our core financial services, retail, and hospitality customers. We have focused on expanding our presence in our core industries, while seeking additional growth by:

         penetrating market adjacencies in single and multi-channel self-service
          segments;


         expanding and strengthening our geographic presence and sales coverage
          across customer tiers through use of the indirect channel; and


         leveraging NCR Services and consumables solutions to grow our share of
          customer revenue, improve customer retention, and deliver increased
          value to our customers.


   Expand into emerging growth industry segments - We are focused on broadening
    the scope of our self-service solutions from our existing customers to expand
    these solution offerings to customers in emerging industry-vertical markets
    including telecommunications and technology, travel and small business. We
    expect to grow our business in these industries through integrated service
    offerings in addition to targeted acquisitions and strategic partnerships.


   Build the lowest cost structure in our industry - We strive to increase the
    efficiency and effectiveness of our core functions and the productivity of
    our employees through our continuous improvement initiatives.


   Enhance our global service capability - We continue to identify and execute
    various initiatives to enhance our global service capability. We also focus
    on improving our service positioning, increasing customer service attach
    rates for our products and improving profitability in our services business.
    Our service capability can provide us a competitive advantage in winning
    customers, and it provides NCR with an attractive and stable revenue source.


   Innovation of our people - We are committed to solution innovation across all
    customer industries. Our focus on innovation has been enabled by closer
    collaboration between NCR Services and our lines of business, and the
    movement of our software development and professional services resources
    directly into our various lines of business. We also have placed
    responsibility for hardware engineering in our Integrated Supply Chain
    organization, which is responsible for procuring the parts for, and
    manufacturing, our hardware products. Innovation is also driven through
    investments in training and developing our employees by taking advantage of
    our world-class training centers. We expect that these steps and investments
    will accelerate the delivery of innovative solutions focused on the needs of
    our customers and changes in consumer behavior.


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Enhancing the customer experience - We are committed to providing a customer experience to drive loyalty, focusing on product and software solutions based on the needs of our customers, a sales force enabled with the consultative selling model to better leverage the innovative solutions we are bringing to market, and sales and support service teams focused on delivery and customer interactions. We continue to rely on the Customer Loyalty Survey, among other metrics, to measure our current state and set a course for our future state where we aim to continuously improve with solution innovations as well as through the execution of our service delivery programs.

Pursue strategic acquisitions that promote growth and improve gross margin - We are continually exploring potential acquisition opportunities in the ordinary course of business to identify acquisitions that can accelerate the growth of our business and improve our gross margin mix, with a particular focus on software-oriented transactions. We may fund acquisitions through either equity or debt, including borrowings under our senior secured credit facility.

In connection with executing this strategy, in July 2014, we announced a restructuring plan to strategically reallocate resources to position NCR to focus on our highest growth, highest margin opportunities in the software-driven consumer transaction technologies industry. The program is centered on ensuring our people and processes are aligned with our continued transformation and include: rationalizing our product portfolio to eliminate overlap and redundancy; end-of-lifeing older commodity product lines that are costly to maintain and provide little to no return; moving lower productivity services positions to our new centers of excellence due to the positive impact of services innovation; and reducing layers of management and organizing around divisions to improve decision-making, accountability and strategic execution.

NCR expects to incur a related pre-tax charge in the range of approximately $150 million to $200 million that will be included in income from operations, with approximately $150 million recorded in 2014 and the remainder recorded in 2015. The estimate includes both severance and asset related charges. The cash impact of the restructuring plan is expected to be approximately $50 million in 2014 and $50 million in 2015. Annualized savings are expected to reach approximately $90 million by 2016.
We expect to continue with these initiatives, including the restructuring plan, for the remainder of 2014 and beyond, as we refine our business model and position the Company for growth and profitability. Potentially significant risks to the execution of our initiatives include the global economic environment and its effect on capital spending by our customers, competition that can drive further price erosion and potential loss of market share, geopolitical instability in some of the countries in which we operate, difficulties associated with introduction of products in new self-service markets, market adoption of our products by customers, management and servicing of our existing indebtedness, and integration of previously completed acquisitions.

Results from Operations

Three and Six Months Ended June 30, 2014 Compared to Three and Six Months Ended
June 30, 2013


The following table shows our results for the three and six months ended June
30:
                                        Three months ended June 30      Six months ended June 30
In millions                                2014            2013           2014            2013
Revenue                                   $1,658          $1,535         $3,176          $2,945
Gross margin                               $480            $426           $896            $795
Gross margin as a percentage of
revenue                                   29.0%           27.8%          28.2%           27.0%
Operating expenses
   Selling, general and administrative
expenses                                   $247            $232           $492            $461
   Research and development expenses        64              55            127             110
Income from operations                     $169            $139           $277            $224


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The following table shows our revenues and gross margins from products and services for the three and six months ended June 30:

                                      Three months ended June 30       Six months ended June 30
In millions                              2014             2013           2014            2013
Product revenue                          $722             $743          $1,356          $1,410
Cost of products                         531              550           1,007           1,053
Product gross margin                     $191             $193           $349            $357
Product gross margin as a percentage
of revenue                              26.5%            26.0%          25.7%           25.3%
Services revenue                         $936             $792          $1,820          $1,535
Cost of services                         647              559           1,273           1,097
Services gross margin                    $289             $233           $547            $438
Services gross margin as a
percentage of revenue                   30.9%            29.4%          30.1%           28.5%

The following table shows our revenues by theater for the three months ended June 30:

                                                                                       % Increase
                                                                                       (Decrease)
                                                                           % Increase   Constant
In millions                      2014   % of Total     2013   % of Total   (Decrease)   Currency
Americas                         $834      50%         $760      50%          10%          11 %
Europe                           408       25%         369       24%          11%           8 %
Asia Middle East Africa (AMEA)   416       25%         406       26%           2%           5 %
Consolidated revenue            $1,658     100%       $1,535     100%          8%           9 %

The following table shows our revenues by theater for the six months ended June 30:

                                                                                       % Increase
                                                                                       (Decrease)
                                                                           % Increase   Constant
In millions                      2014   % of Total     2013   % of Total   (Decrease)   Currency
Americas                        $1,614     51%        $1,496     51%           8%          10 %
Europe                           773       24%         690       23%          12%          10 %
Asia Middle East Africa (AMEA)   789       25%         759       26%           4%           8 %
Consolidated revenue            $3,176     100%       $2,945     100%          8%           9 %

Revenue

For the three months ended June 30, 2014 compared to the three months ended June 30, 2013, revenue increased 8% due to improvement in our financial services, hospitality, and emerging industries lines of business. Digital Insight generated $87 million of revenue in the three months ended June 30, 2014. Foreign currency fluctuations unfavorably impacted the revenue comparison by 1%. Our product revenue decreased 3% and our services revenue increased 18% year-over-year. The decrease in our product revenue was due to declines in the financial services, retail solutions, and emerging industries lines of business in the Americas theater and declines in the retail solutions and emerging industries lines of business in the AMEA theater partially offset by growth in all lines of business in the Europe theater and growth in the financial services line of business in the AMEA theater. The increase in our services revenue was primarily attributable to increases in professional and installation services, maintenance services and software as a service (SaaS). Services revenue increased in all lines of business in the Americas and Europe theaters and increased in the financial services and retail solutions lines of business in the AMEA theater.


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For the six months ended June 30, 2014 compared to the six months ended June 30, 2013, revenue increased 8% due to improvement in our financial services, hospitality, and emerging industries lines of business. Digital Insight generated $163 million of revenue from the date of acquisition, January 10, 2014, through June 30, 2014. Foreign currency fluctuations unfavorably impacted the revenue comparison by 1%. Our product revenue decreased 4% and our services revenue increased 19% year-over-year. The decrease in our product revenue was due to declines in the financial services and retail solutions lines of business in the Americas theater and declines in the retail solutions and emerging industries lines of business in the AMEA theater partially offset by growth in the hospitality line of business in the Americas theater, growth in all lines of business in the Europe theater, and growth in the financial services and hospitality lines of business in the AMEA theater. The increase in our services revenue was primarily attributable to increases in professional and installation services, maintenance services and software as a service (SaaS). Services revenue increased in all lines of business in the Americas, Europe and AMEA theaters.

Gross Margin

Gross margin as a percentage of revenue in the three months ended June 30, 2014 was 29.0% compared to 27.8% in the three months ended June 30, 2013. Product gross margin in the three months ended June 30, 2014 was 26.5% compared to 26.0% in the three months ended June 30, 2013. Product gross margin in the three months ended June 30, 2014 was negatively impacted by $1 million in higher acquisition-related amortization of intangibles, or 0.1% as a percentage of product revenue. Excluding this item, product gross margin increased primarily due to a favorable sales mix. Services gross margin in the three months ended June 30, 2014 was 30.9% compared to 29.4% in the three months ended June 30, 2013. Services gross margin in the three months ended June 30, 2014 was negatively impacted by $6 million in higher acquisition-related amortization of intangibles and positively impacted by $5 million in lower pension expense, or 0.1% as a percentage of services revenue. Excluding these items, services gross margin increased due to a favorable mix of revenues, including an increase in SaaS revenues.

Gross margin as a percentage of revenue in the six months ended June 30, 2014 was 28.2% compared to 27.0% in the six months ended June 30, 2013. Product gross margin in the six months ended June 30, 2014 was 25.7% compared to 25.3% in the six months ended June 30, 2013. Product gross margin in the six months ended June 30, 2014 was negatively impacted by $3 million in higher acquisition-related amortization of intangibles, or 0.2% as a percentage of product revenue. Excluding this item, product gross margin increased primarily due to a favorable sales mix. Services gross margin in the six months ended June 30, 2014 was 30.1% compared to 28.5% in the six months ended June 30, 2013. Services gross margin in the six months ended June 30, 2014 was negatively impacted by $12 million in higher acquisition-related amortization of intangibles and positively impacted by $10 million in lower pension expense, or 0.2% as a percentage of services revenue. Excluding these items, services gross margin increased due to a favorable mix of revenues, including an increase in SaaS revenues.

Selling, General and Administrative Expenses

Selling, general and administrative expenses were $247 million, or 14.9% as a percentage of revenue, in the three months ended June 30, 2014 as compared to $232 million, or 15.1% as a percentage of revenue, in the three months ended June 30, 2013. Selling, general and administrative expenses in the three months ended June 30, 2014 included $6 million of acquisition-related costs, $14 million of acquisition-related amortization of intangibles, $1 million of OFAC and FCPA related legal costs, and $1 million of pension costs. Selling, general, and administrative expenses in the three months ended June 30, 2013 included $14 million of acquisition-related costs, $8 million of acquisition-related amortization of intangibles, and $3 million of pension costs. Excluding these items, selling, general and administrative expenses remained relatively consistent as a percentage of revenue.

Selling, general and administrative expenses were $492 million, or 15.5% as a percentage of revenue, in the six months ended June 30, 2014 as compared to $461 million, or 15.7% as a percentage of revenue, in the six months ended June 30, 2013. Selling, general and administrative expenses in the six months ended June 30, 2014 included $20 million of acquisition-related costs, $28 million of acquisition-related amortization of intangibles, $2 million of OFAC and FCPA related legal costs, and $1 million of pension costs. Selling, general and administrative expenses in the six months ended June 30, 2013 included $30 million of acquisition-related costs, $14 million of acquisition-related amortization of intangibles, $1 million of OFAC and FCPA related legal costs, and $5 million of pension costs. Excluding these items, selling, general and administrative expenses remained relatively consistent as a percentage of revenue.

Research and Development Expenses

Research and development expenses were $64 million, or 3.9% as a percentage of revenue, in the three months ended June 30, 2014 as compared to $55 million, or 3.6% as a percentage of revenue, in the three months ended June 30, 2013. Research and development expenses were $127 million, or 4.0% as a percentage of revenue, in the six months ended June 30, 2014 as compared to $110 million, or 3.7% as a percentage of revenue, in the six months ended June 30, 2013. The increase in both periods is in line with management expectations as we continue to invest in broadening our solutions.


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Interest and Other Expense Items

Interest expense was $46 million in the three months ended June 30, 2014 compared to $26 million in the three months ended June 30, 2013. Interest expense increased in the three months ended June 30, 2014 primarily as a result of interest payable on the Company's senior unsecured notes. Other expense, net was $3 million in the three months ended June 30, 2014 and June 30, 2013. Other expense, net in the three months ended June 30, 2014 primarily included losses from foreign exchange contracts not designated as hedging instruments, foreign currency fluctuations and bank fees. Other income, net in the three months ended June 30, 2013 primarily included losses from foreign currency fluctuations.

Interest expense was $89 million in the six months ended June 30, 2014 compared to $47 million in the six months ended June 30, 2013 primarily as a result of interest payable on the Company's senior unsecured notes. Other expense, net was $10 million in the six months ended June 30, 2014 compared to other expense, net of $1 million in the the six months ended June 30, 2013. Other expense, net in the six months ended June 30, 2014 primarily included losses from foreign exchange contracts not designated as hedging instruments, foreign currency fluctuations and bank fees. Other expense, net in the six months ended June 30, 2013 primarily included losses from foreign currency fluctuations, partially offset by a gain on the sale of an investment.

Provision for Income Taxes

Income tax provisions for interim (quarterly) periods are based on an estimated annual effective income tax rate calculated separately from the effect of significant or unusual items. Income tax expense was $29 million for the three months ended June 30, 2014 compared to $23 million for the three months ended June 30, 2013. The increase in income tax expense was primarily driven by an increase in earnings. Income tax expense was $33 million for the six months ended June 30, 2014 compared to $25 million for the six months ended June 30, 2013. The increase in income tax expense was primarily driven by the one-time benefit of approximately $16 million included in the six months ended June 30, 2013 in connection with the American Taxpayer Relief Act, which was partially offset by an increase in discrete benefits in the six months ended June 30, 2014.
NCR is subject to numerous federal, state and foreign tax audits. While NCR believes that appropriate reserves exist for issues that might arise from these audits, should these audits be settled, the resulting tax effect could impact the tax provision and cash flows in future periods.

Revenue and Operating Income by Segment

The Company manages and reports its businesses in the following four segments:

Financial Services - We offer solutions to enable customers in the financial services industry to reduce costs, generate new revenue streams and enhance customer loyalty. These solutions include a comprehensive line of ATM and payment processing hardware and software; cash management, video banking and customer-facing digital banking software; and related installation, maintenance, and managed and professional services. We also offer a complete line of printer consumables.

Retail Solutions - We offer solutions to customers in the retail industry designed to improve selling productivity and checkout processes as well as increase service levels. These solutions primarily include retail-oriented technologies, such as point of sale terminals and point of sale software; an omni-channel retail software platform with a comprehensive suite of retail software applications; innovative self-service kiosks, such as self-checkout; as well as bar-code scanners. We also offer installation, maintenance, managed and professional services and a complete line of printer consumables.

Hospitality - We offer technology solutions to customers in the hospitality industry, serving businesses that range from a single store or restaurant to global chains and sports and entertainment venues. Our solutions include point of sale hardware and software solutions, installation, maintenance, managed and professional services and a complete line of printer consumables.

Emerging Industries - We offer maintenance as well as managed and professional services for third-party computer hardware provided to select manufacturers, primarily in the telecommunications industry, who value and leverage our global service capability. Also included in the Emerging Industries segment are solutions designed to enhance the customer experience for the travel and gaming industries, such as self-service kiosks, and the small business industry, such as an all-in-one point of sale solution. Additionally, we offer installation, maintenance, and managed and professional services.


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Each of these segments derives its revenues by selling products and services in the sales theaters in which NCR operates. Segments are measured for profitability by the Company's chief operating decision maker based on revenue and segment operating income. For purposes of discussing our operating results by segment, we exclude the impact of certain items (described below) from segment operating income, consistent with the manner by which management reviews each segment, evaluates performance, and reports our segment results under accounting principles generally accepted in the United States of America (otherwise known as GAAP). This format is useful to investors because it allows analysis and comparability of operating trends. It also includes the same information that is used by NCR management to make decisions regarding the segments and to assess our financial performance.

The effect of pension expense and other significant, non-recurring items on segment operating income have been excluded from the operating income for each reporting segment presented below. Our segment results are reconciled to total Company results reported under GAAP in Note 13, "Segment Information" of the Notes to Condensed Consolidated Financial Statements.

In the segment discussions below, we have disclosed the impact of foreign currency fluctuations as it relates to our segment revenue due to its significance during the quarter.

Financial Services Segment

The following table presents the Financial Services revenue and segment
operating income for the three and six months ended June 30:

                                             Three months ended June 30       Six months ended June 30
In millions                                     2014             2013           2014            2013
Revenue                                         $900             $782          $1,694          $1,496
Operating income                                $137             $95            $240            $152
Operating income as a percentage of revenue    15.2%            12.1%          14.2%           10.2%

We completed the acquisition of Digital Insight on January 10, 2014. As a result, the revenue and operating income results for the Financial Services segment include the impact of Digital Insight from January 10, 2014. Digital Insight generated $87 million and $163 million of revenue and $27 million and $50 million of operating income in the three and six months ended June 30, 2014, respectively.

Financial Services revenue increased 15% in the three months ended June 30, 2014 compared to the three months ended June 30, 2013. Financial Services revenue increased 13% in the six months ended June 30, 2014 compared to the six months ended June 30, 2013. The increase in both periods was driven by growth in product sales and services revenue in the Europe and AMEA theaters and growth in services revenue in the Americas theater, which includes the impact of the Digital Insight business, partially offset by declines in product sales in the Americas theater. Foreign currency fluctuations had an unfavorable impact on the three and six months ended revenue comparison by 1% and 2%, respectively.

Operating income increased in the three months ended June 30, 2014 compared to the three months ended June 30, 2013 and in the six months ended June 30, 2014 compared to the six months ended June 30, 2013. The increase in both periods in operating income was driven by a higher mix of software revenue and the contribution of the Digital Insight business as noted above.

Retail Solutions Segment

The following table presents the Retail Solutions revenue and segment operating
income for the three and six months ended June 30:

. . .
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