United Parcel Service - 10-Q quarterly report FY

United States
Securities and Exchange Commission
Washington, D.C. 20549

Form 10-Q

Commission file number 001-15451

United Parcel Service, Inc.

(Exact name of registrant as specified in its charter)

Former name, former address and former fiscal year, if changed since last report.

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 ý   No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).       Yes ý   No o

There were 577,582,053 Class A shares, and 546,661,228 Class B shares, with a par value of $0.01 per share, outstanding at November 10, 2003.

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

September 30, 2003 (unaudited) and December 31, 2002

(In millions, except per share amounts)

See notes to unaudited consolidated financial statements.

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UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES

STATEMENTS OF CONSOLIDATED INCOME

Three and Nine Months Ended September 30, 2003 and 2002

(In millions, except per share amounts)

(unaudited)

See notes to unaudited consolidated financial statements.

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UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF SHAREOWNERS’ EQUITY

Nine Months Ended September 30, 2003 and 2002

(In millions, except per share amounts)

(unaudited)

See notes to unaudited consolidated financial statements.

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UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

Nine Months Ended September 30, 2003 and 2002

(In millions)

(unaudited)

See notes to unaudited consolidated financial statements.

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Note 1.  Basis of Presentation

In our opinion, the accompanying interim, unaudited, consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly our financial position as of September 30, 2003, our results of operations for the three and nine months ended September 30, 2003 and 2002, and cash flows for the nine months ended September 30, 2003 and 2002.  The results reported in these consolidated financial statements should not be regarded as necessarily indicative of results that may be expected for the entire year.  The interim financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2002.

For interim consolidated financial statement purposes, we compute our tax provision on the basis of our estimated annual effective income tax rate, and provide for accruals under our various employee benefit plans for each three month period based on one quarter of the estimated annual expense.

Certain prior period amounts have been reclassified to conform to the current period presentation.

Note 2.  Stock-Based Compensation

Effective January 1, 2003, we adopted the fair value measurement provisions of Financial Accounting Standards Board (FASB) Statement No. 123 “Accounting for Stock-Based Compensation” (“FAS 123”).  Under the provisions of FASB Statement No. 148 “Accounting for Stock-Based Compensation — Transition and Disclosure,” we have elected to adopt the measurement provisions of FAS 123 using the prospective method.  Under this approach, all stock-based compensation granted subsequent to January 1, 2003 has been expensed to compensation and benefits over the vesting period based on the fair value at the date the stock-based compensation is granted.  Stock compensation awards include stock options, management incentive awards, restricted performance units, and employer matching contributions (in shares of UPS stock) for a defined contribution benefit plan.

The following provides pro forma information as to the impact on net income and earnings per share if we had used the fair value measurement provisions of FAS 123 to account for all stock-based compensation awards granted prior to January 1, 2003 (in millions, except per share amounts).

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Note 3.  New Accounting Pronouncements

On January 1, 2002, we adopted FASB Statement No. 142 “Goodwill and Other Intangible Assets” (“FAS 142”).  Upon adoption of FAS 142, we were required to test all existing goodwill for impairment as of January 1, 2002, using a fair value approach.  An impairment charge is recognized for the amount, if any, by which the carrying amount of goodwill exceeds its fair value.  Fair values are established using discounted cash flows.  We recorded a non-cash goodwill impairment charge of $72 million ($0.07 per diluted share) related to our former Mail Technologies business, which we divested during the quarter ended June 30, 2003.  This charge was reported as a cumulative effect of change in accounting principle and resulted in a restatement of our first quarter 2002 quarterly financial statements.  The primary factor resulting in the impairment charge was the lower than anticipated growth experienced in the expedited mail delivery business.  Amortization of goodwill and indefinite-lived intangible assets ceased upon the implementation of FAS 142 on January 1, 2002.

On January 1, 2003, we adopted FASB Interpretation No. 45 “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” (“FIN 45”).  FIN 45 requires that a liability be recognized at fair value at the inception of certain guarantees for the obligations undertaken by the guarantor.  FIN 45 also requires additional disclosures for certain guarantee contracts.  The adoption of FIN 45 was not material to our results of operations or financial condition.

On July 1, 2003, we adopted FASB Interpretation No. 46 “Consolidation of Variable Interest Entities” (“FIN 46”).  FIN 46 addresses consolidation of variable interest entities that are unable to finance operations without investor support, or where investors do not have exposure to the significant risks and rewards of ownership.  The adoption of FIN 46 was not material to our results of operations or financial condition.

On July 1, 2003, we adopted FASB Statement No. 149 “Amendment of Statement 133 on Derivative Instruments and Hedging Activities” (“FAS 149”).  FAS 149 amends FAS 133 for certain decisions made by the FASB as part of the Derivatives Implementation Group process.  FAS 149 also amends FAS 133 to incorporate clarifications of the definition of a derivative.  The adoption of FAS 149 was not material to our results of operations or financial condition.

On July 1, 2003, we adopted FASB Statement No. 150 “Accounting for Certain Instruments with Characteristics of Both Liabilities and Equity” (“FAS 150”).  FAS 150 establishes how an issuer measures certain freestanding financial instruments with characteristics of both liabilities and equity, and requires that such instruments be classified as liabilities.  The adoption of FAS 150 was not material to our results of operations or financial condition.

Note 4.  Other Assets

Other assets as of September 30, 2003 and December 31, 2002 consist of the following (in millions):

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The following table indicates the allocation of goodwill by reportable segment, as of September 30, 2003 and December 31, 2002 (in millions):

The goodwill added in the non-package segment resulted from the purchase of the remaining minority interest in a previously acquired company.

The following is a summary of intangible assets as of September 30, 2003 and December 31, 2002 (in millions):

Note 5.  Legal Proceedings and Contingencies

We are named as a defendant in twenty-three pending lawsuits that seek to hold us liable for the collection of premiums for excess value (“EV”) insurance in connection with package shipments since 1984.  Based on state and federal tort, contract and statutory claims, these cases generally claim that we failed to remit collected EV premiums to an independent insurer; we failed to provide promised EV insurance; we acted as an insurer without complying with state insurance laws and regulations; and the price for EV insurance was excessive.

These actions all were filed after the August 9, 1999 United States Tax Court decision, in which the Tax Court held that we were liable for tax on income of Overseas Partners Ltd., a Bermuda company that had reinsured EV insurance purchased by our customers beginning in 1984, and that we were liable for additional tax for the 1983 and 1984 tax years.  On June 20, 2001, the U.S. Court of Appeals for the Eleventh Circuit ruled in our favor and reversed the Tax Court decision.  In January 2003, we and the IRS finalized settlement of all outstanding tax issues relating to EV package insurance.

These twenty-three cases have been consolidated for pre-trial purposes in a multi-district litigation proceeding (“MDL Proceeding”) in federal court in New York.  In addition to the cases in which UPS is named as a defendant, there also is an action, Smith v. Mail Boxes Etc., against Mail Boxes Etc. and its franchisees relating to UPS EV insurance and related services purchased through Mail Boxes Etc. centers.  This case also has been consolidated into the MDL Proceeding.

While expressly denying any and all liability, we have reached an agreement in principle to enter into a global settlement resolving all claims and all cases in the MDL Proceeding.  The proposed settlement requires several steps before it becomes final, including completion of detailed settlement documentation, notice to the settlement class, and obtaining preliminary and final court approval of the settlement.  If the

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proposed settlement becomes final, we would provide to qualifying settlement class members vouchers toward the purchase of specified UPS services and pay a portion of the attorneys’ fees, the total amount of which will be determined by the Court.  The ultimate cost to us of the proposed settlement will depend on a number of factors.  We do not believe that this proposed settlement will have a material effect on our financial condition, results of operations, or liquidity.

In addition, we are a defendant in various other lawsuits that arose in the normal course of business.  We believe that the eventual resolution of these cases will not have a material adverse effect on our financial condition, results of operations or liquidity.

We participate in a number of trustee-managed multi-employer pension and health and welfare plans for employees covered under collective bargaining agreements.  Several factors could result in higher future contributions to these plans, including unfavorable investment performance, changes in demographics, and increased benefits to participants.  At this time, we are unable to determine the amount of additional future contributions, if any, or whether any material adverse effect on our financial condition, results of operations, or cash flows could result from our participation in these plans.

Note 6.  Segment Information

We report our operations in three segments: U.S. domestic package operations, international package operations and non-package operations, as follows:

U.S. Domestic Package – Domestic package operations include the time-definite delivery of letters, documents, and packages throughout the United States.

International Package – International package operations include delivery to more than 200 countries and territories worldwide, including shipments wholly outside the U.S. as well as shipments with either origin or distribution outside the U.S.  Our international package reporting segment includes the operations of our Europe, Asia-Pacific, Canada, and Americas operating segments.

Non-Package – Non-package operations include UPS Supply Chain Solutions, Mail Boxes Etc. (the franchisor of Mail Boxes Etc. and The UPS Store), UPS Capital Corp., our mail and consulting services, and our excess value package insurance business.  UPS Supply Chain Solutions, which is comprised of our former UPS Freight Services and UPS Logistics Group businesses, provides supply chain design and management, freight forwarding, and customs brokerage services.

Segment information for the three and nine months ended September 30 is as follows (in millions):

Non-package operating profit included $26 and $28 million for the three months, and $80 and $84 for the nine months ended September 30, 2003 and 2002, of intersegment profit, with a corresponding amount of operating expense, which reduces operating profit, included in the U.S. domestic package segment.

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Note 7.  Other Operating Expenses

The major components of other operating expenses for the three and nine months ended September 30 are as follows (in millions):

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Note 8.  Earnings Per Share

The following table sets forth the computation of basic and diluted earnings per share (in millions, except per share amounts):

Note 9.  Restructuring Charge and Related Expenses

In the fourth quarter of 2002, we initiated a restructuring program to combine UPS Freight Services and the UPS Logistics Group into a single business unit (“Supply Chain Solutions”), as well as to integrate the activities of UPS Capital and First International Bank.  The program is designed to facilitate business growth, streamline management decision-making, reduce the cost structure, and provide higher levels of service to our customers.  The program will be substantially completed by the end of 2003.

The total cost of the program is estimated at $127 million, of which $106 million was recorded in 2002 and $7 million in the first nine months of 2003.  Costs of the program include employee severance costs, asset impairments, costs associated with the consolidation of facilities, and other costs directly related to the restructuring program.  The costs incurred with this program are classified in other operating expenses within the non-package segment in the income statement.

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We initially established a liability for the restructuring charge and related expenses in the fourth quarter of 2002.  Set forth below is a summary of activity related to the restructuring program liability for the nine months ended September 30, 2003 (in millions):

Note 10.  Sale of Business Units

During the second quarter of 2003, we sold our Mail Technologies business unit in a transaction that increased net income by $14 million, or $0.01 per diluted share.  The gain consisted of a pre-tax loss of $24 million recorded in other operating expenses within the non-package segment, and a tax benefit of $38 million recognized in conjunction with the sale.  The tax benefit exceeds the pre-tax loss from this sale primarily because the goodwill impairment charge we previously recorded for the Mail Technologies business unit was not deductible for income tax purposes.  Consequently, our tax basis was greater than our book basis, thus producing the tax benefit described above.

During the third quarter of 2003, we sold our Aviation Technologies business unit and recognized a pre-tax gain of $24 million ($15 million after-tax, or $0.01 per diluted share), which is recorded in other operating expenses within the non-package segment.

The operating results of both the Mail Technologies unit and the Aviation Technologies unit were previously included in our non-package segment, and were not material to our consolidated operating results in any of the periods presented.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Revenue, Volume and Revenue Per Piece

The following tables set forth information showing the change in revenue, average daily package volume and average revenue per piece, both in dollars or amounts and in percentage terms:

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Operating Profit

The following tables set forth information showing the change in operating profit, both in dollars (in millions) and in percentage terms: