For the quarterly period ended September 30, 2004
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 10-Q

 


 

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2004

 

OR

 

¨ 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 0-12255

 


 

YELLOW ROADWAY CORPORATION

(Exact name of registrant as specified in its charter)

 


 

Delaware   48-0948788

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

10990 Roe Avenue, Overland Park, Kansas   66211
(Address of principal executive offices)   (Zip Code)

 

(913) 696-6100

(Registrant’s telephone number, including area code)

 

No Changes

(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 Sections 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 by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).    Yes  x    No  ¨

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class


 

Outstanding at October 29, 2004


Common Stock, $1 Par Value Per Share

  48,581,524 shares

 



Table of Contents

INDEX

 

Item

        Page

    

PART I – FINANCIAL INFORMATION

    
1.   

Financial Statements

    
    

Consolidated Balance Sheets - September 30, 2004 and December 31, 2003

   3
    

Statements of Consolidated Operations - Three and Nine Months Ended September 30, 2004 and 2003

   4
    

Statements of Consolidated Cash Flows - Nine Months Ended September 30, 2004 and 2003

   5
    

Notes to Consolidated Financial Statements

   6
2.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   22
3.   

Quantitative and Qualitative Disclosures About Market Risk

   31
4.   

Controls and Procedures

   32
    

PART II – OTHER INFORMATION

    
6.   

Exhibits

   33
    

Signatures

   34

 

2


Table of Contents

PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

CONSOLIDATED BALANCE SHEETS

Yellow Roadway Corporation and Subsidiaries

(Amounts in thousands except per share data)

 

     September 30,
2004


   

December 31,

2003


 
     (Unaudited)        

Assets

                

Current Assets:

                

Cash and cash equivalents

   $ 26,002     $ 75,166  

Accounts receivable, net

     832,151       699,142  

Prepaid expenses and other

     123,859       110,128  
    


 


Total current assets

     982,012       884,436  
    


 


Property and Equipment:

                

Cost

     2,660,750       2,538,614  

Less – accumulated depreciation

     1,224,867       1,135,346  
    


 


Net property and equipment

     1,435,883       1,403,268  
    


 


Goodwill

     631,395       617,313  

Intangibles, net

     470,436       467,114  

Other assets

     66,915       91,098  
    


 


Total assets

   $ 3,586,641     $ 3,463,229  
    


 


Liabilities and Shareholders’ Equity

                

Current Liabilities:

                

Accounts payable

   $ 267,890     $ 260,175  

Wages, vacations and employees’ benefits

     457,382       351,287  

Other current and accrued liabilities

     231,265       178,478  

Asset backed securitization (“ABS”) borrowings

     69,000       71,500  

Current maturities of long-term debt

     —         1,757  
    


 


Total current liabilities

     1,025,537       863,197  
    


 


Other Liabilities:

                

Long-term debt, less current portion

     659,151       836,082  

Deferred income taxes, net

     296,966       298,256  

Accrued pension and postretirement

     235,694       256,187  

Claims and other liabilities

     223,601       207,422  
    


 


Total other liabilities

     1,415,412       1,597,947  
    


 


Shareholders’ Equity:

                

Common stock, $1 par value per share

     50,946       50,146  

Capital surplus

     679,869       653,739  

Retained earnings

     487,139       366,157  

Accumulated other comprehensive loss

     (21,680 )     (23,167 )

Unamortized restricted stock awards

     (10,645 )     (567 )

Treasury stock, at cost (2,144 and 2,359 shares)

     (39,937 )     (44,223 )
    


 


Total shareholders’ equity

     1,145,692       1,002,085  
    


 


Total liabilities and shareholders’ equity

   $ 3,586,641     $ 3,463,229  
    


 


 

The accompanying notes are an integral part of these statements.

 

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Table of Contents

STATEMENTS OF CONSOLIDATED OPERATIONS

Yellow Roadway Corporation and Subsidiaries

For the Three and Nine Months Ended September 30

(Amounts in thousands except per share data)

(Unaudited)

 

     Three Months

   Nine Months

     2004

    2003

   2004

    2003

Operating Revenue

   $ 1,767,082     $ 770,705    $ 4,993,348     $ 2,165,251
    


 

  


 

Operating Expenses:

                             

Salaries, wages and employees’ benefits

     1,083,027       489,277      3,107,697       1,386,061

Operating expenses and supplies

     251,261       106,490      738,746       320,341

Operating taxes and licenses

     41,683       20,251      125,435       59,510

Claims and insurance

     32,150       16,518      98,445       39,972

Depreciation and amortization

     43,158       21,120      126,746       62,206

Purchased transportation

     196,070       77,992      546,718       213,971

(Gains) losses on property disposals, net

     (859 )     381      (590 )     422

Acquisition, spin-off and reorganization charges

     —         864      —         864
    


 

  


 

Total operating expenses

     1,646,490       732,893      4,743,197       2,083,347
    


 

  


 

Operating Income

     120,592       37,812      250,151       81,904
    


 

  


 

Nonoperating (Income) Expenses:

                             

Interest expense

     11,041       6,525      34,448       11,796

Write off of deferred debt issuance costs

     18,279       —        18,279       —  

Other, net

     364       2,414      706       1,978
    


 

  


 

Nonoperating expenses, net

     29,684       8,939      53,433       13,774
    


 

  


 

Income Before Income Taxes

     90,908       28,873      196,718       68,130

Income tax provision

     34,999       11,504      75,736       26,775
    


 

  


 

Net Income

   $ 55,909     $ 17,369    $ 120,982     $ 41,355
    


 

  


 

Average Common Shares Outstanding – Basic

     48,204       29,565      47,993       29,578

Average Common Shares Outstanding – Diluted

     48,778       29,843      48,492       29,832

Basic Earnings Per Share

   $ 1.16     $ 0.59    $ 2.52     $ 1.40

Diluted Earnings Per Share

   $ 1.15     $ 0.58    $ 2.50     $ 1.39

 

The accompanying notes are an integral part of these statements.

 

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STATEMENTS OF CONSOLIDATED CASH FLOWS

Yellow Roadway Corporation and Subsidiaries

For the Nine Months Ended September 30

(Amounts in thousands)

(Unaudited)

 

     2004

    2003

 

Operating Activities:

                

Net income

   $ 120,982     $ 41,355  

Noncash items included in net income:

                

Depreciation and amortization

     126,746       62,206  

Deferred debt issuance cost write off

     18,279       —    

(Gains) losses on property disposals, net

     (590 )     422  

Deferred income tax provision (benefit), net

     (11,161 )     15,758  

Changes in assets and liabilities, net:

                

Accounts receivable

     (123,958 )     (44,848 )

Accounts payable

     (31,401 )     (18,236 )

Other working capital items

     161,840       22,351  

Claims and other

     6,300       11,606  

Other, net

     7,626       (3,144 )
    


 


Net cash from operating activities

     274,663       87,470  
    


 


Investing Activities:

                

Acquisition of property and equipment

     (155,165 )     (77,172 )

Proceeds from disposal of property and equipment

     12,867       1,468  

Acquisition of companies, net of cash acquired

     (10,463 )     —    
    


 


Net cash used in investing activities

     (152,761 )     (75,704 )
    


 


Financing Activities:

                

Increase in (repayment of) long-term debt, net

     (175,044 )     194,687  

ABS borrowings, net

     (2,500 )     —    

Debt issuance cost

     (2,843 )     (7,500 )

Treasury stock purchases

     —         (2,921 )

Proceeds from exercise of stock options

     9,321       1,768  
    


 


Net cash provided by (used in) financing activities

     (171,066 )     186,034  
    


 


Net Increase (Decrease) In Cash and Cash Equivalents

     (49,164 )     197,800  

Cash and Cash Equivalents, Beginning of Period

     75,166       28,714  
    


 


Cash and Cash Equivalents, End of Period

   $ 26,002     $ 226,514  
    


 


Supplemental Cash Flow Information:

                

Income taxes paid, net

   $ 57,869     $ 13,115  

Interest paid

   $ 46,558     $ 7,434  

 

The accompanying notes are an integral part of these statements.

 

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Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Yellow Roadway Corporation and Subsidiaries

(Unaudited)

1. Description of Business

 

Yellow Roadway Corporation (also referred to as “Yellow Roadway,” “we” or “our”), one of the largest transportation service providers in the world, is a holding company that through wholly owned operating subsidiaries offers its customers a wide range of asset and non-asset-based transportation services. Yellow Roadway Technologies, Inc., a captive corporate resource, provides technology solutions and services exclusively for Yellow Roadway companies. Our operating subsidiaries include the following:

 

  Yellow Transportation, Inc. (“Yellow Transportation”) is a leading transportation services provider that offers a full range of regional, national and international services for the movement of industrial, commercial and retail goods, primarily through centralized management and customer facing organizations. Approximately 40 percent of Yellow Transportation shipments are completed in two days or less.

 

  Roadway Express, Inc. (“Roadway Express”) is a leading transportation services provider that offers a full range of regional, national and international services for the movement of industrial, commercial and retail goods, primarily through decentralized management and customer facing organizations. Approximately 30 percent of Roadway Express shipments are completed in two days or less. Roadway Express owns 100 percent of Reimer Express Lines Ltd. located in Canada that specializes in shipments into, across and out of Canada.

 

  Roadway Next Day Corporation is a holding company focused on business opportunities in the regional and next-day delivery lanes. Roadway Next Day Corporation owns 100 percent of New Penn Motor Express, Inc. (“New Penn”), which provides regional, next-day ground services through a network of facilities located in the Northeastern United States (“U.S.”), Quebec, Canada and Puerto Rico.

 

  Meridian IQ, Inc. (“Meridian IQ”) is a non-asset-based global transportation management company that plans and coordinates the movement of goods throughout the world, providing customers a quick return on investment, more efficient supply-chain processes and a single source for transportation management solutions.

 

On December 11, 2003, we successfully closed the acquisition of Roadway Corporation (“Roadway”). Roadway became Roadway LLC (“Roadway Group”) and a subsidiary of Yellow Roadway. Consideration for the acquisition included $494 million in cash and 18.0 million shares of Yellow Roadway common stock for a total purchase price of approximately $1.1 billion. The Roadway Group has two operating segments, Roadway Express and New Penn.

 

2. Principles of Consolidation

 

The accompanying consolidated financial statements include the accounts of Yellow Roadway Corporation and its wholly owned subsidiaries. We have prepared the consolidated financial statements, without audit by independent public accountants, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). In management’s opinion, all normal recurring adjustments necessary for a fair statement of the financial position, results of operations and cash flows for the interim periods included herein have been made. Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted from these statements pursuant to SEC rules and regulations. Accordingly, the accompanying consolidated financial statements should be read in conjunction with the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2003.

 

3. Stock-Based Compensation

 

Yellow Roadway has various stock-based employee compensation plans, which are described more fully in our Annual Report on Form 10-K for the year ended December 31, 2003. Yellow Roadway accounts for stock options issued under those plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. We do not reflect compensation costs in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant.

 

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We estimated the fair value per option for each option granted in the periods presented using the Black-Scholes option pricing model with the following weighted average assumptions for the three and nine months ended September 30:

 

     Three Months

   Nine Months

 
     2004

   2003

   2004

    2003

 

Actual options granted

   0    0      28,000       54,700  

Dividend yield

   n/a    n/a      —   %     —   %

Expected volatility

   n/a    n/a      45.2   %     46.9   %

Risk-free interest rate

   n/a    n/a      2.6   %     2.1   %

Expected option life (years)

   n/a    n/a      3.6         3.0    

Fair value per option

   n/a    n/a    $ 12.61     $ 8.90  

 

The following table illustrates the effect on net income and earnings per share if we had applied the fair value recognition provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123, Accounting for Stock-Based Compensation, for the three and nine months ended September 30:

 

     Three Months

   Nine Months

(in millions except per share data)


   2004

   2003

   2004

   2003

Net income, as reported

   $ 55.9    $ 17.4    $ 121.0    $ 41.4

Less: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects

     0.4      0.5      1.3      1.6
    

  

  

  

Pro forma net income

   $ 55.5    $ 16.9    $ 119.7    $ 39.8
    

  

  

  

Basic earnings per share:

                           

Net income – as reported

   $ 1.16    $ 0.59    $ 2.52    $ 1.40

Net income – pro forma

     1.15      0.57      2.49      1.35

Diluted earnings per share:

                           

Net income – as reported

     1.15      0.58      2.50      1.39

Net income – pro forma

     1.14      0.56      2.47      1.34

 

During the nine months ended September 30, 2004, we issued 136,155 share units to certain executive officers under the Long-Term Incentive and Equity Award Plan, adopted in February 2004. According to the plan provisions, the share units provide the holders the right to receive one share of common stock upon vesting of one share unit. Fifty percent of the awarded share units vest three years from the date of grant and the remaining fifty percent vest six years from the date of grant. In July, 2004, we also issued 133,309 share units to certain key employees that vest 100% on the third anniversary of the date of grant and 13,500 share units to our board of directors that vest ratably over three years. Additionally, on February 27, 2004, we issued 27,647 shares of restricted stock from the 2002 stock option plan at $31.59 per share. These shares will vest ratably over three years.

 

The related compensation expense for the share units and restricted stock is included in the consolidated statements of operations ratably over the service period, defined as the performance period and vesting period combined. The performance share units and restricted stock are not reflected in the fair value or pro forma results above.

 

4. Acquisitions

 

In accordance with SFAS No. 141, Business Combinations (“SFAS No. 141”), we allocate the purchase price of our acquisitions to the tangible and intangible assets and liabilities of the acquired entity based on their fair values. We record the excess purchase price over the fair values as goodwill. The fair value assigned to intangible assets acquired is based on valuations prepared by independent third party appraisal firms using estimates and assumptions provided by management. In accordance with SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS No. 142”), goodwill and intangible assets with indefinite useful lives are not amortized but are reviewed at least annually for impairment. An impairment loss would be recognized to the extent that the carrying amount exceeds the assets’ fair value. Intangible assets with definite useful lives are amortized on a straight-line basis over their respective useful lives.

 

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Table of Contents

Roadway Corporation

 

On December 11, 2003, we closed the acquisition of Roadway. Consideration for the acquisition included $494.0 million in cash and 18.0 million shares of Yellow Roadway common stock for a total purchase price of approximately $1.1 billion. We initially allocated $597.0 million of the purchase price to goodwill and $461.3 million to intangible assets. Refer to our goodwill and intangibles note for further details. In connection with the acquisition, we incurred $13.4 million of restructuring costs as a result of severance (administrative, sales and operations personnel) and relocation of workforce and contract terminations. We have recognized such costs as a liability assumed as of the acquisition date, resulting in additional goodwill. These restructuring costs consisted of $12.2 million of employee termination (including wages, health benefits and outplacement services) for approximately 800 employees and related relocation costs and $1.2 million for contract terminations. All of these restructuring items will have been effectuated within one year of the acquisition in accordance with purchase accounting requirements. During the nine months ended September 30, 2004, we paid $5.6 million of restructuring costs resulting in a $7.8 million accrued liability at September 30, 2004.

 

In accordance with SFAS No. 141, we accounted for the acquisition under purchase accounting. As a result, our Statements of Consolidated Operations and Statements of Consolidated Cash Flows include results of Roadway Express and New Penn from the date of acquisition. Our results for the three and nine months ended September 30, 2003 do not reflect the operations of the Roadway Group.

 

Pro Forma Results

 

The following unaudited pro forma financial information presents the combined results of operations of Yellow Roadway as if the acquisition had occurred on January 1, 2003. The unaudited pro forma financial information is not intended to represent or be indicative of the consolidated results of operations of Yellow Roadway that would have been reported had the acquisition been completed as of the date presented, and should not be taken as representative of the future consolidated results of operations of Yellow Roadway. Summarized unaudited pro forma results were as follows for the three and nine months ended September 30, 2003:

 

(in millions except per share data)


   Three Months

   Nine Months

Operating revenue

   $ 1,521.9    $ 4,419.3

Operating income

     63.8      145.1

Income from continuing operations

     27.0      61.5

Net income

     27.0      61.4

Diluted earnings per share:

             

Income from continuing operations

     0.56      1.28

Net income

     0.56      1.28

 

GPS Logistics

 

In February 2004, MIQ LLC (formerly known as Yellow GPS), a subsidiary of Meridian IQ, exercised and closed its option to purchase GPS Logistics (EU) Ltd. MIQ LLC made a payment of $7.6 million ($6.4 million, net of cash acquired), which is subject to upward and downward adjustments based on the financial performance of GPS Logistics (EU) Ltd. The initial payment plus acquisition expenses of $0.3 million were allocated as follows: $3.3 million to goodwill, $3.2 million to amortizable intangible assets, and $1.4 million to miscellaneous assets and liabilities. The results of GPS Logistics (EU) Ltd. have been included in our financial statements since the date of acquisition. The pro forma effect of this acquisition is not material to our results of operations.

 

In September 2004, MIQ LLC paid an additional $3.7 million to the former owner of GPS Logistics (EU) Ltd., which represented a hold back payment in accordance with the terms of the February 2004 transaction. This amount has been allocated to goodwill in the accompanying financial statements.

 

MIQ LLC also has an option to acquire the Asian business of GPS Logistics Group Ltd. (not previously acquired) at a price that varies with the performance of that business. If MIQ LLC does not exercise the Asian option, it will be required to pay a deferred option price to the shareholders of GPS Logistics Group Ltd.

 

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Table of Contents
5. Goodwill and Intangibles

 

The following table shows the amount of goodwill attributable to our operating segments with goodwill balances and changes therein:

 

(in millions)


   December 31,
2003


   Acquisitions

   Purchase
Accounting
Reclasses /
Other


    September 30,
2004


Roadway Express

   $ 474.5    $ —      $ 70.1     $ 544.6

New Penn

     122.3      —        (63.3 )     59.0

Meridian IQ

     20.5      7.4      (0.1 )     27.8
    

  

  


 

Goodwill

   $ 617.3    $ 7.4    $ 6.7     $ 631.4
    

  

  


 

 

As the Roadway acquisition occurred in December 2003, the allocation of the purchase price included in the December 31, 2003 Consolidated Balance Sheets was preliminary and subject to refinement. During the nine months ended September 30, 2004, an independent asset valuation was received and certain reallocations were made related to tangible and intangible assets. In addition, the fair value of certain post-employment benefit obligations was determined by an actuary and certain tax and other obligations were determined. The purchase price allocation has been modified to reflect the results of these analyses. These changes did not have an impact on our consolidated results of operations.

 

As of September 30, 2004, refinements to the purchase price allocation are substantially complete. Additional changes during the fourth quarter of 2004, if any, are not expected to have an impact on our consolidated results of operations.

 

The components of amortizable intangible assets are as follows:

 

    

Weighted
Average
Life
(years)


   September 30, 2004

   December 31, 2003

(in millions)


      Gross
Carrying
Amount


   Accumulated
Amortization


   Gross
Carrying
Amount


   Accumulated
Amortization


Customer related

   17    $ 118.2    $ 7.0    $ 117.4    $ 1.3

Marketing related

   6      1.0      0.4      0.7      0.2

Technology based

   3      17.5      4.7      17.1      0.6
         

  

  

  

Intangible assets

        $ 136.7    $ 12.1    $ 135.2    $ 2.1
         

  

  

  

 

Total marketing related intangible assets with indefinite lives were $345.8 million at September 30, 2004 and $334.1 million at December 31, 2003. These intangible assets are not subject to amortization. The change between periods related to a reclassification arising from modifications to the purchase price allocation, as discussed above, and foreign currency translation adjustments.

 

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6. Employee Benefits

 

Components of Net Periodic Pension Cost

 

In December 2003, the Financial Accounting Standards Board revised SFAS No. 132, Employers’ Disclosures about Pensions and Other Postretirement Benefits (“Statement No. 132R”). Statement No. 132R requires the disclosure of the components of the net periodic pension cost recognized during interim periods. The following table sets forth the components of our pension costs for the three and nine months ended September 30:

 

     Three Months

    Nine Months

 

(in millions)


   2004

    2003(a)

    2004

    2003(a)

 

Service cost

   $ 9.7     $ 4.1     $ 29.6     $ 12.1  

Interest cost

     14.2       6.6       42.9       19.8  

Expected return on plan assets

     (13.2 )     (6.7 )     (39.7 )     (20.1 )

Amortization of net transition asset

     —         (0.4 )     —         (1.0 )

Amortization of prior service cost

     0.4       0.2       1.0       1.0  

Amortization of net loss

     1.2       0.6       4.2       1.6  
    


 


 


 


Net periodic pension cost

   $ 12.3     $ 4.4     $ 38.0     $ 13.4  
    


 


 


 



(a) Data for the three and nine months ended September 30, 2003 does not include Roadway Group.

 

For the three and nine months ended September 30, 2004, our other postretirement costs were $0.4 million and $2.3 million, respectively. Prior to the acquisition of Roadway, we did not provide postretirement benefits to Roadway; therefore, there are no such amounts for the three and nine months ended September 30, 2003.

 

Employer Contributions

 

On July 1, 2004, we contributed $22.3 million to our company-sponsored pension plans. Additionally, on September 15, 2004 we contributed $20.0 million to these plans.

 

7. Business Segments

 

We report financial and descriptive information about our reportable operating segments on a basis consistent with that used internally for evaluating segment performance and allocating resources to segments. We manage the segments separately because each requires different operating, marketing and technology strategies. We evaluate performance primarily on adjusted operating income and return on capital.

 

We have four reportable segments, which are strategic business units that offer complementary transportation services to their customers. Yellow Transportation and Roadway Express are unionized carriers that provide comprehensive regional, national and international transportation services. New Penn is also a unionized carrier that focuses on business opportunities in the regional and next-day delivery lanes. Meridian IQ, our non-asset-based segment, provides transportation management services, domestic and international freight forwarding and multi-modal brokerage services.

 

The accounting policies of the segments are the same as those described in the Summary of Accounting Policies note in our Annual Report on Form 10-K for the year ended December 31, 2003. We charge management fees and other corporate services to our segments based on the direct benefits received or as a percentage of revenue. Corporate losses represent operating expenses of the holding company, including salaries, wages and benefits, along with incentive compensation and professional services, that have not been allocated to the operating segments. Corporate identifiable assets primarily refer to cash, cash equivalents and deferred debt issuance costs. Intersegment revenue relates to transportation services provided by Yellow Transportation to Meridian IQ and Roadway Express as well as charges to Yellow Transportation for use of various Meridian IQ service names.

 

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Table of Contents

The following table summarizes our operations by business segment:

 

(in millions)


  

Yellow

Transportation


   

Roadway

Express


  

New

Penn


  

Meridian

IQ


    Corporate/
Eliminations


    Consolidated

 

As of September 30, 2004 Identifiable assets

   $ 1,022.1     $ 2,137.2    $ 247.8    $ 122.3     $ 57.2     $ 3,586.6  

As of December 31, 2003 Identifiable assets

     986.5       2,002.4      340.7      79.9       53.7       3,463.2  

Three months ended September 30, 2004

                                              

External revenue

     828.3       811.6      70.7      56.4       —         1,767.0  

Intersegment revenue

     0.7       0.8      —        0.6       (2.1 )     —    

Operating income (loss)

     63.7       52.1      10.2      1.1       (6.5 )     120.6  

Adjustments to operating income(a)

     (1.3 )     0.3      0.1      0.1       —         (0.8 )

Adjusted operating income (loss)

     62.4       52.4      10.3      1.2       (6.5 )     119.8  

Three months ended September 30, 2003(b)

                                              

External revenue

     737.8       —        —        32.9       —         770.7  

Intersegment revenue

     0.5       —        —        0.6       (1.1 )     —    

Operating income (loss)

     42.8       —        —        0.2       (5.2 )     37.8  

Adjustments to operating income(a)

     0.4       —        —        0.4       0.4       1.2  

Adjusted operating income (loss)

     43.2       —        —        0.6       (4.8 )     39.0  

Nine months ended September 30, 2004

                                              

External revenue

     2,354.0       2,296.6      191.1      151.6       —         4,993.3  

Intersegment revenue

     2.1       1.1      —        1.7       (4.9 )     —    

Operating income (loss)

     135.8       103.5      25.2      2.3       (16.6 )     250.2  

Adjustments to operating income(a)

     (0.8 )     0.2      —        —         —         (0.6 )

Adjusted operating income (loss)

     135.0       103.7      25.2      2.3       (16.6 )     249.6  

Nine months ended September 30, 2003(b)

                                              

External revenue

     2,088.2       —        —        77.1       —         2,165.3  

Intersegment revenue

     1.7       —        —        1.6       (3.3 )     —    

Operating income (loss)

     98.7       —        —        (0.7 )     (16.1 )     81.9  

Adjustments to operating income(a)

     0.4       —        —        0.4       0.5       1.3  

Adjusted operating income (loss)

     99.1       —        —        (0.3 )     (15.6 )     83.2  

(a) Management excludes these items when evaluating operating income and segment performance to better evaluate the results of our core operations. In the periods presented, adjustments consisted of losses (gains) on property disposals.
(b) As of September 30, 2003, Roadway Express and New Penn had not been acquired; therefore, segment information is not reported for the three and nine months ended September 30, 2003.

 

8. Comprehensive Income

 

Our comprehensive income for the periods presented includes net income and foreign currency translation adjustments. The three and nine months ended September 30, 2003 also included changes in the fair value of an interest rate swap. Comprehensive income for the three and nine months ended September 30 follows:

 

     Three Months

    Nine Months

(in millions)


   2004

   2003

    2004

   2003

Net income

   $ 55.9    $ 17.4     $ 121.0    $ 41.4

Changes in foreign currency translation adjustments

     2.9      (0.1 )     1.5      1.3

Changes in the fair value of an interest rate swap

     —        0.4       —        1.1
    

  


 

  

Comprehensive income

   $ 58.8    $ 17.7     $ 122.5    $ 43.8
    

  


 

  

 

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Table of Contents
9. Rental Expenses

 

We incur rental expenses under non-cancelable lease agreements for certain buildings and operating equipment. Rental expense is charged to “operating expenses and supplies” on the Statements of Consolidated Operations. The following table represents the actual rental expense, as reflected in operating income, incurred for the three and nine months ended September 30:

 

     Three Months

   Nine Months

(in millions)


   2004

   2003

   2004

   2003

Rental expense

   $ 23.6    $ 10.1    $ 71.5    $ 29.9
    

  

  

  

 

10. Multi-Employer Pension Plans

 

Yellow Transportation, Roadway Express and New Penn contribute to approximately 90 separate multi-employer health, welfare and pension plans for employees covered by collective bargaining agreements (approximately 77 percent of total employees). The largest of these plans, the Central States Southeast and Southwest Areas Pension Plan (the “Central States Plan”) provides retirement benefits to approximately 53 percent of our total employees. The amounts of these contributions are determined by contract and established in the agreements. The health and welfare plans provide health care and disability benefits to active employees and retirees. The pension plans provide defined benefits to retired participants. We recognize as net pension cost the required contribution for the period and recognize as a liability any contributions due and unpaid.

 

Under current legislation regarding multi-employer pension plans, a termination, withdrawal or partial withdrawal from any multi-employer plan in an under-funded status would render us liable for a proportionate share of the multi-employer plans’ unfunded vested liabilities. This potential unfunded pension liability also applies to our unionized competitors who contribute to multi-employer plans. Based on the limited information available from plan administrators, which we cannot independently validate, we believe that our portion of the contingent liability in the case of a full withdrawal or termination would be material to our financial position and results of operations. Yellow Transportation, Roadway Express and New Penn have no current intention of taking any action that would subject us to obligations under the legislation.

 

Yellow Transportation, Roadway Express and New Penn each have collective bargaining agreements with their unions that stipulate the amount of contributions each company must make to union-sponsored, multi-employer pension plans. The Internal Revenue Code and related regulations establish minimum funding requirements for these plans. Under recent legislation, qualified multi-employer plans are permitted to exclude certain recent investment losses from the minimum funding formula through 2005. The Central States Plan, in particular, has informed us that its recent investment performance has adversely affected its funding levels and that the fund is seeking corrective measures to address its funding. During the benefit period of the recent legislation, the Central States Plan is expected to meet the minimum funding requirements. If any of these plans, including the Central States Plan, fails to meet minimum funding requirements and the trustees of such a plan are unable to obtain a waiver of the requirements or certain changes in how the applicable plan calculates its funding level from the Internal Revenue Service (“IRS”) or reduce pension benefits to a level where the requirements are met, the IRS could impose an excise tax on all employers participating in these plans and contributions in excess of our contractually agreed upon rates could be required to correct the funding deficiency. If an excise tax were imposed on the participating employers and additional contributions required, it could have a material adverse impact on the financial results of Yellow Roadway.

 

11. Pending Accounting Pronouncement

 

At its September 2004 meeting, the Emerging Issues Task Force (EITF) of the Financial Accounting Standards Board (FASB) reached a conclusion on EITF Issue No. 04-8, “The Effect of Contingently Convertible Debt on Diluted Earnings Per Share”, that would require the contingent shares issuable under our existing notes to be included in our diluted earnings per share calculation retroactive to the date of issuance by applying the “if converted” method under FASB Statement No. 128, “Earnings per Share” (SFAS No. 128). We have followed the existing interpretation of SFAS No. 128, which requires inclusion of the impact of the conversion of our existing notes only when and if the conversion thresholds are reached. As the conversion thresholds have not been reached, we have not included the impact of the conversion of our existing notes in our computation for diluted earnings per share through the periods ended September 30, 2004.

 

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Table of Contents

The new rule, which has been approved by the FASB and is awaiting resolution of another exposure draft which will determine its effective date, will require us to restate previously reported diluted earnings per share and will result in lower diluted earnings per share than previously reported for periods subsequent to the issuance of the existing notes. We are currently pursuing an exchange (an “Exchange Offer”) of our existing notes for new notes that have identical terms to the existing notes but also include the addition of a net share settlement provision and a modification to the options available to the note holders upon a change in control. If the Exchange Offer is completed prior to the effective date of the new rule, the restated diluted earnings per share will be calculated under the terms of the new notes and will result in lower diluted earnings per share once our stock price meets the conversion price. For the periods June 30, 2003 through June 30, 2004, assuming exchange of substantially all of the existing notes, our diluted earnings per share would not be materially different than the reported amount. For the period ended September 30, 2004 our diluted earnings per share will be lower by approximately 2%. If the Exchange Offer is not completed prior to the effective date of the new rule, the restated diluted earnings per share will be calculated under the terms of the existing notes and will result in lower diluted earnings per share of approximately 12% at September 30, 2004.

 

We expect to incur approximately $2.5 million of professional fees in conjunction with the exchange offer. Theses fees will be expensed as incurred.

 

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Table of Contents
12. Guarantees of the Contingent Convertible Senior Notes

 

In August 2003, Yellow Roadway issued 5.0 percent contingent convertible senior notes due 2023. In November 2003, we issued 3.375 percent contingent convertible senior notes due 2023 (the August and November issuances, collectively, may also be known as the “contingent convertible senior notes”). In connection with the contingent convertible senior notes, the following 100 percent owned subsidiaries of Yellow Roadway have issued guarantees in favor of the holders of the contingent convertible senior notes: Yellow Transportation, Inc., Mission Supply Company, Yellow Relocation Services, Inc., Yellow Roadway Technologies, Inc., Meridian IQ, Inc., MIQ LLC (formerly Yellow GPS, LLC), Globe.com Lines, Inc., Roadway LLC, Roadway Next Day Corporation, and Roadway Express, Inc. Each of the guarantees is full and unconditional and joint and several.

 

The summarized consolidating financial statements are presented in lieu of separate financial statements and other related disclosures of the subsidiary guarantors and issuer because management does not believe that such separate financial statements and related disclosures would be material to investors. There are currently no significant restrictions on the ability of Yellow Roadway or any guarantor to obtain funds from its subsidiaries by dividend or loan.

 

The following represents summarized condensed consolidating financial information as of September 30, 2004 and December 31, 2003 with respect to the financial position, for the three and nine months ended September 30, 2004 and 2003 for results of operations and for the nine months ended September 30, 2004 and 2003 for the statements of cash flows of Yellow Roadway and its subsidiaries. The Parent column presents the financial information of Yellow Roadway, the primary obligor of the contingent convertible senior notes. The Guarantor Subsidiaries column presents the financial information of all guarantor subsidiaries of the contingent convertible senior notes. The Non-Guarantor Subsidiaries column presents the financial information of all non-guarantor subsidiaries, including those subsidiaries governed by foreign laws, Yellow Roadway Receivables Funding Corporation, Yellow Receivables Corporation and Roadway Funding, Inc., the special-purpose entities that are or were associated with our asset backed securitization (“ABS”) agreements.

 

Condensed Consolidating Balance Sheets

 

September 30, 2004

(in millions)


   Parent

    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Cash and cash equivalents

   $ 9     $ 7     $ 10     $ —       $ 26  

Intercompany advances receivable

     —         (38 )     48       (10 )     —    

Accounts receivable, net

     2       25       805       —         832  

Prepaid expenses and other

     5       101       18       —         124  
    


 


 


 


 


Total current assets

     16       95       881       (10 )     982  

Property and equipment at cost

     —         2,541       120       —         2,661  

Less – accumulated depreciation

     —         (1,210 )     (15 )     —         (1,225 )
    


 


 


 


 


Net property and equipment

     —         1,331       105       —         1,436  

Investment in subsidiaries

     1,182       95       (4 )     (1,273 )     —    

Receivable from affiliate

     67       142       13       (222 )     —    

Goodwill, intangibles and other assets

     219       770       180       —         1,169  
    


 


 


 


 


Total assets

   $ 1,484     $ 2,433     $ 1,175     $ (1,505 )   $ 3,587  
    


 


 


 


 


Intercompany advances payable

   $ 69     $ (743 )   $ 684     $ (10 )   $ —    

Accounts payable

     4       239       25       —         268  

Wages, vacations and employees’ benefits

     11       428       18       —         457  

Other current and accrued liabilities

     (6 )     217       20       —         231  

ABS borrowings

     —         —         69       —         69  
    


 


 


 


 


Total current liabilities

     78       141       816       (10 )     1,025  

Payable to affiliate

     (28 )     93       157       (222 )     —    

Long-term debt, less current portion

     400       259       —         —         659  

Deferred income taxes, net

     (11 )     270       38       —         297  

Claims and other liabilities

     22       422       16       —         460  

Shareholders’ equity

     1,023       1,248       148       (1,273 )     1,146  
    


 


 


 


 


Total liabilities and shareholders’ equity

   $ 1,484     $ 2,433     $ 1,175     $ (1,505 )   $ 3,587  
    


 


 


 


 


 

14


Table of Contents

December 31, 2003

(in millions)


   Parent

    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Cash and cash equivalents

   $ 19     $ 20     $ 36     $ —       $ 75  

Intercompany advances receivable

     180       4       —         (184 )     —    

Accounts receivable, net

     3       351       345       —         699  

Prepaid expenses and other

     5       97       8       —         110  
    


 


 


 


 


Total current assets

     207       472       389       (184 )     884  

Property and equipment at cost

     —         2,443       96       —         2,539  

Less – accumulated depreciation

     —         (1,130 )     (6 )     —         (1,136 )
    


 


 


 


 


Net property and equipment

     —         1,313       90       —         1,403  

Investment in subsidiaries

     1,374       131       —         (1,505 )     —    

Receivable from affiliate

     —         150       —         (150 )     —    

Goodwill, intangibles and other assets

     39       884       253       —         1,176  
    


 


 


 


 


Total assets

   $ 1,620     $ 2,950     $ 732     $ (1,839 )   $ 3,463  
    


 


 


 


 


Intercompany advances payable

   $ —       $ —       $ 184     $ (184 )   $ —    

Accounts payable

     12       231       17       —         260  

Wages, vacations and employees’ benefits

     6       330       15       —         351  

Other current and accrued liabilities

     (7 )     173       12       —         178  

ABS borrowings

     —         —         72       —         72  

Current maturities of long-term debt

     2       —         —         —         2  
    


 


 


 


 


Total current liabilities

     13       734       300       (184 )     863  

Payable to affiliate

     —         —         150       (150 )     —    

Long-term debt, less current portion

     573       263       —         —         836  

Deferred income taxes, net

     (12 )     263       47       —         298  

Claims and other liabilities

     14       437       13       —         464  

Shareholders’ equity

     1,032       1,253       222       (1,505 )     1,002  
    


 


 


 


 


Total liabilities and shareholders’ equity

   $ 1,620     $ 2,950     $ 732     $ (1,839 )   $ 3,463  
    


 


 


 


 


 

Condensed Consolidating Statements of Operations

 

For the three months ended September 30,

2004 (in millions)


   Parent

    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating revenue

   $ 11     $ 1,642     $ 128     $ (14 )   $ 1,767  
    


 


 


 


 


Operating expenses:

                                        

Salaries, wages and employees’ benefits

     9       1,012       62       —         1,083  

Operating expenses and supplies

     8       232       23       (12 )     251  

Operating taxes and licenses

     —         39       3       —         42  

Claims and insurance

     —         31       1       —         32  

Depreciation and amortization

     —         39       4       —         43  

Purchased transportation

     —         174       23       (1 )     196  

Operating (gains) and losses

     —         (1 )     —         —         (1 )
    


 


 


 


 


Total operating expenses

     17       1,526       116       (13 )     1,646  
    


 


 


 


 


Operating income (loss)

     (6 )     116       12       (1 )     121  
    


 


 


 


 


Nonoperating (income) expenses:

                                        

Interest expense

     6       19       10       (24 )     11  

Other

     64       11       (28 )     (28 )     19  
    


 


 


 


 


Nonoperating (income) expenses, net

     70       30       (18 )     (52 )     30  
    


 


 


 


 


Income (loss) before income taxes

     (76 )     86       30       51       91  

Income tax provision (benefit)

     (9 )     34       11       (1 )     35  

Subsidiary earnings

     71       19       —         (90 )     —    
    


 


 


 


 


Net income (loss)

   $ 4     $ 71     $ 19     $ (38 )   $ 56  
    


 


 


 


 


 

15


Table of Contents

For the three months ended September 30,

2003 (in millions)


   Parent

    Guarantor
Subsidiaries


  

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

Operating revenue

   $ 3     $ 764    $ 7     $ (3 )   $ 771
    


 

  


 


 

Operating expenses:

                                     

Salaries, wages and employees’ benefits

     4       483      2       —         489

Operating expenses and supplies

     3       101      6       (3 )     107

Operating taxes and licenses

     —         20      —         —         20

Claims and insurance

     —         17      —         —         17

Depreciation and amortization

     —         21      —         —         21

Purchased transportation

     —         76      2       —         78

Losses (gains) on property disposals, net

     —         —        —         —         —  

Acquisition, spin-off and reorganization charges

     1       —        —         —         1
    


 

  


 


 

Total operating expenses

     8       718      10       (3 )     733
    


 

  


 


 

Operating income (loss)

     (5 )     46      (3 )     —         38
    


 

  


 


 

Nonoperating (income) expenses:

                                     

Interest expense

     6       1      1       (1 )     7

Other

     1       15      (15 )     1       2
    


 

  


 


 

Nonoperating (income) expenses, net

     7       16      (14 )     —         9
    


 

  


 


 

Income (loss) before income taxes

     (12 )     30      11       —         29

Income tax provision (benefit)

     (4 )     12      4       —         12
    


 

  


 


 

Net income (loss)

   $ (8 )   $ 18    $ 7       —       $ 17
    


 

  


 


 

 

For the nine months ended September 30,

2004 (in millions)


   Parent

    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating revenue

   $ 34     $ 4,646     $ 353     $ (40 )   $ 4,993  
    


 


 


 


 


Operating expenses:

                                        

Salaries, wages and employees’ benefits

     28       2,907       173       —         3,108  

Operating expenses and supplies

     19       671       84       (35 )     739  

Operating taxes and licenses

     —         118       7       —         125  

Claims and insurance

     3       93       2       —         98  

Depreciation and amortization

     —         115       12       —         127  

Purchased transportation

     —         484       66       (3 )     547  

Operating (gains) and losses

     —         (1 )     —         —         (1 )
    


 


 


 


 


Total operating expenses

     50       4,387       344       (38 )     4,743  
    


 


 


 


 


Operating income (loss)

     (16 )     259       9       (2 )     250  
    


 


 


 


 


Nonoperating (income) expenses:

                                        

Interest expense

     22       54       21       (63 )     34  

Other

     4       49       (95 )     61       19  
    


 


 


 


 


Nonoperating (income) expenses, net

     26       103       (74 )     (2 )     53  
    


 


 


 


 


Income (loss) before income taxes

     (42 )     156       83       —         197  

Income tax provision (benefit)

     (16 )     62       29       1       76  

Subsidiary earnings

     147       53       —         (200 )     —    
    


 


 


 


 


Net income (loss)

   $ 121     $ 147     $ 54     $ (201 )   $ 121  
    


 


 


 


 


 

16


Table of Contents

For the nine months ended September 30, 2003

(in millions)


   Parent

    Guarantor
Subsidiaries


  

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

Operating revenue

   $ 10     $ 2,146    $ 19     $ (10 )   $ 2,165
    


 

  


 


 

Operating expenses:

                                     

Salaries, wages and employees’ benefits

     10       1,369      7       —         1,386

Operating expenses and supplies

     13       297      20       (10 )     320

Operating taxes and licenses

     —         59      1       —         60

Claims and insurance

     1       40      (1 )     —         40

Depreciation and amortization

     —         62      —         —         62

Purchased transportation

     —         207      7       —         214

Losses on property disposals, net

     —         —        —         —         —  

Acquisition, spin-off, and reorganization charges

     1       —        —         —         1
    


 

  


 


 

Total operating expenses

     25       2,034      34       (10 )     2,083
    


 

  


 


 

Operating income (loss)

     (15 )     112      (15 )     —         82
    


 

  


 


 

Nonoperating (income) expenses:

                                     

Interest expense

     10       3      4       (5 )     12

Other

     —         42      (45 )     5       2
    


 

  


 


 

Nonoperating (income) expenses, net

     10       45      (41 )     —         14
    


 

  


 


 

Income (loss) before income taxes

     (25 )     67      26       —         68

Income tax provision (benefit)

     (9 )     26      10       —         27
    


 

  


 


 

Net income (loss)

   $ (16 )   $ 41    $ 16     $ —       $ 41
    


 

  


 


 

 

Condensed Consolidating Statements of Cash Flows

 

For the nine months ended September 30,

2004 (in millions)


   Parent

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

   Consolidated

 

Operating activities:

                                       

Net cash from (used in) operating activities

   $ (2 )   $ 567     $ (290 )   $ —      $ 275  
    


 


 


 

  


Investing activities:

                                       

Acquisition of property and equipment

     —         (139 )     (16 )     —        (155 )

Proceeds from disposal of property and equipment

     —         11       1       —        12  

Investment in subsidiary

     —         (17 )     17       —        —    

Acquisition of companies

     (11 )     1       —         —        (10 )
    


 


 


 

  


Net cash used in investing activities

     (11 )     (144 )     2       —        (153 )
    


 


 


 

  


Financing activities:

                                       

ABS borrowings, net

     69       —         (71 )     —        (2 )

Increase in (repayment of) long-term debt

     (175 )     —         —         —        (175 )

Debt issuance cost

     (3 )     —         —         —        (3 )

Proceeds from exercise of stock options

     9       —         —         —        9  

Intercompany advances / repayments

     103       (436 )     333       —        —    
    


 


 


 

  


Net cash provided by (used in) financing activities

     3       (436 )     262       —        (171 )
    


 


 


 

  


Net decrease in cash and cash equivalents

     (10 )     (13 )     (26 )     —        (49 )

Cash and cash equivalents, beginning of period

     19       20       36       —        75  
    


 


 


 

  


Cash and cash equivalents, end of period

   $ 9     $ 7     $ 10     $ —      $ 26  
    


 


 


 

  


 

17


Table of Contents

For the nine months ended September 30,

2003 (in millions)


   Parent

    Guarantor
Subsidiaries


    Non-Guarantor
Subsidiaries


    Eliminations

   Consolidated

 

Operating activities:

                                       

Net cash from (used in) operating activities

   $ (18 )   $ 126     $ (20 )   $ —      $ 88  
    


 


 


 

  


Investing activities:

                                       

Acquisition of property and equipment

     —         (77 )     —         —        (77 )

Proceeds from disposal of property and equipment

     —         1       —         —        1  
    


 


 


 

  


Net cash used in investing activities

     —         (76 )     —         —        (76 )
    


 


 


 

  


Financing activities:

                                       

Proceeds from long-term debt

     195       —         —         —        195  

Repayment of long-term debt

     —         —         —         —        —    

Debt issuance cost

     (8 )                            (8 )

Treasury stock purchases

     (3 )     —         —         —        (3 )

Proceeds from stock options

     2       —         —         —        2  

Intercompany advances / repayments

     30       (51 )     21       —        —    
    


 


 


 

  


Net cash provided by (used in) financing activities

     216       (51 )     21       —        186  
    


 


 


 

  


Net increase (decrease) in cash and cash equivalents

     198       (1 )     1       —        198  

Cash and cash equivalents, beginning of period

     22       3       4       —        29  
    


 


 


 

  


Cash and cash equivalents, end of period

   $ 220     $ 2     $ 5     $ —      $ 227  
    


 


 


 

  


 

18


Table of Contents
13. Guarantees of the Senior Notes Due 2008

 

In connection with the senior notes due 2008 that Yellow Roadway assumed by virtue of its merger with Roadway, and in addition to the primary obligor, Roadway LLC, Yellow Roadway and its following 100 percent owned subsidiaries have issued guarantees in favor of the holders of the senior notes due 2008: Roadway Next Day Corporation, New Penn Motor Express, Inc., Roadway Express, Inc., Roadway Reverse Logistics, Inc. and Roadway Express International, Inc. Each of the guarantees is full and unconditional and joint and several.

 

The summarized consolidating financial statements are presented in lieu of separate financial statements and other related disclosures of the subsidiary guarantors and issuer because management does not believe that such separate financial statements and related disclosures would be material to investors. There are currently no significant restrictions on the ability of Yellow Roadway or any guarantor subsidiary to obtain funds from its subsidiaries by dividend or loan.

 

The following represents summarized condensed consolidating financial information of Yellow Roadway and its subsidiaries as of September 30, 2004 and December 31, 2003 with respect to the financial position, for the three and nine months ended September 30, 2004, for results of operations and for the nine months ended September 30, 2004 for statements of cash flows. The primary obligor column presents the financial information of Roadway LLC. The Guarantor Subsidiaries column presents the financial information of all guarantor subsidiaries of the senior notes due 2008 including Yellow Roadway, the holding company. The Non-Guarantor Subsidiaries column presents the financial information of all non-guarantor subsidiaries, including those subsidiaries that are governed by foreign laws and Yellow Roadway Receivables Funding Corporation, Yellow Receivables Corporation and Roadway Funding, Inc., the special-purpose entities that are or were associated with our ABS agreements.

 

Condensed Consolidating Balance Sheets

 

September 30, 2004

(in millions)


   Primary
Obligor


    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Cash and cash equivalents

   $ —       $ 16     $ 10     $ —       $ 26  

Intercompany advances receivable

     —         10       —         (10 )     —    

Accounts receivable, net

     —         4       828       —         832  

Prepaid expenses and other

     —         70       54       —         124  
    


 


 


 


 


Total current assets

     —         100       892       (10 )     982  

Property and equipment at cost

     —         864       1,797       —         2,661  

Less – accumulated depreciation

     —         (52 )     (1,173 )     —         (1,225 )
    


 


 


 


 


Net property and equipment

     —         812       624       —         1,436  

Investment in subsidiaries

     639       1,230       8       (1,877 )     —    

Receivable from affiliate

     729       80       (90 )     (719 )     —    

Goodwill, intangibles and other assets

     21       1,056       92       —         1,169  
    


 


 


 


 


Total assets

   $ 1,389     $ 3,278     $ 1,526     $ (2,606 )   $ 3,587  
    


 


 


 


 


Intercompany advances payable

   $ —       $ (499 )   $ 509     $ (10 )   $ —    

Accounts payable

     —         116       152       —         268  

Wages, vacations and employees’ benefits

     —         259       198       —         457  

Other current and accrued liabilities

     (11 )     122       120       —         231  

ABS borrowings

     —         —         69       —         69  
    


 


 


 


 


Total current liabilities

     (11 )     (2 )     1,048       (10 )     1,025  

Payable to affiliate

     8       682       29       (719 )     —    

Long-term debt, less current portion

     245       400       14       —         659  

Deferred income taxes, net

     (10 )     197       110       —         297  

Claims and other liabilities

     —         342       118       —         460  

Shareholders’ equity

     1,157       1,659       207       (1,877 )     1,146  
    


 


 


 


 


Total liabilities and shareholders’ equity

   $ 1,389     $ 3,278     $ 1,526     $ (2,606 )   $ 3,587  
    


 


 


 


 


 

19


Table of Contents

December 31, 2003

(in millions)


   Primary
Obligor


    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Cash and cash equivalents

   $ —       $ 62     $ 13     $ —       $ 75  

Intercompany advances receivable

     38       109       104       (251 )     —    

Accounts receivable, net

     —         329       370       —         699  

Prepaid expenses and other

     —         39       71       —         110  
    


 


 


 


 


Total current assets

     38       539       558       (251 )     884  

Property and equipment at cost

     —         812       1,727       —         2,539  

Less – accumulated depreciation

     —         (3 )     (1,133 )     —         (1,136 )
    


 


 


 


 


Net property and equipment

     —         809       594       —         1,403  

Investment in subsidiaries

     593       1,402       8       (2,003 )     —    

Receivable from affiliate

     650       —         —         (650 )     —    

Goodwill, intangibles and other assets

     21       1,073       82       —         1,176  
    


 


 


 


 


Total assets

   $ 1,302     $ 3,823     $ 1,242     $ (2,904 )   $ 3,463  
    


 


 


 


 


Intercompany advances payable

   $ —       $ —       $ 251     $ (251 )   $ —    

Accounts payable

     1       123       136       —         260  

Wages, vacations and employees’ benefits

     1       188       162       —         351  

Other current and accrued liabilities

     (31 )     110       99       —         178  

ABS borrowings

     —         —         72       —         72  

Current maturities of long-term debt

     —         2       —         —         2  
    


 


 


 


 


Total current liabilities

     (29 )     423       720       (251 )     863  

Payable to affiliate

     —         650       —         (650 )     —    

Long-term debt, less current portion

     249       573       14       —         836  

Deferred income taxes, net

     (11 )     205       104       —         298  

Claims and other liabilities

     1       347       116       —         464  

Shareholders’ equity

     1,092       1,625       288       (2,003 )     1,002  
    


 


 


 


 


Total liabilities and shareholders’ equity

   $ 1,302     $ 3,823     $ 1,242     $ (2,904 )   $ 3,463  
    


 


 


 


 


Condensed Consolidating Statements of Operations                                         

For the three months ended September 30,

2004 (in millions)


   Primary
Obligor


    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating revenue

   $ —       $ 845     $ 923     $ (1 )   $ 1,767  
    


 


 


 


 


Operating expenses:

                                        

Salaries, wages and employees’ benefits

     —         547       536       —         1,083  

Operating expenses and supplies

     —         112       140       (1 )     251  

Operating taxes and licenses

     —         19       23       —         42  

Claims and insurance

     —         15       17       —         32  

Depreciation and amortization

     —         20       23       —         43  

Purchased transportation

     —         79       117       —         196  

Operating (gains) and losses

     —         —         (1 )     —         (1 )
    


 


 


 


 


Total operating expenses

     —         792       855       (1 )     1,646  
    


 


 


 


 


Operating income (loss)

     —         53       68       —         121  
    


 


 


 


 


Nonoperating (income) expenses:

                                        

Interest expense

     3       8       13       (13 )     11  

Other

     (13 )     34       (15 )     13       19  
    


 


 


 


 


Nonoperating (income) expenses, net

     (10 )     42       (2 )     —         30  
    


 


 


 


 


Income (loss) before income taxes

     10       11       70       —         91  

Income tax provision

     4       5       26       —         35  

Subsidiary earnings

     50       44       —         (94 )     —    
    


 


 


 


 


Net income (loss)

   $ 56     $ 50     $ 44     $ (94 )   $ 56  
    


 


 


 


 


 

20


Table of Contents

For the nine months ended September 30,

2004 (in millions)


   Primary
Obligor


    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating revenue

   $ —       $ 2,378     $ 2,616     $ (1 )   $ 4,993  
    


 


 


 


 


Operating expenses:

                                        

Salaries, wages and employees’ benefits

     —         1,547       1,561       —         3,108  

Operating expenses and supplies

     —         341       399       (1 )     739  

Operating taxes and licenses

     —         59       66       —         125  

Claims and insurance

     —         46       52       —         98  

Depreciation and amortization

     —         58       69       —         127  

Purchased transportation

     —         223       324       —         547  

Operating (gains) and losses

     —         —         (1 )     —         (1 )
    


 


 


 


 


Total operating expenses

     —         2,274       2,470       (1 )     4,743  
    


 


 


 


 


Operating income (loss)

     —         104       146       —         250  
    


 


 


 


 


Nonoperating (income) expenses:

                                        

Interest expense

     10       39       25       (40 )     34  

Other

     (40 )     44       (25 )     40       19  
    


 


 


 


 


Nonoperating (income) expenses, net

     (30 )     83       —         —         53  
    


 


 


 


 


Income (loss) before income taxes

     30       21       146       —         197  

Income tax provision

     11       11       54       —         76  

Subsidiary earnings

     102       92       —         (194 )     —    
    


 


 


 


 


Net income (loss)

   $ 121     $ 102     $ 92     $ (194 )   $ 121  
    


 


 


 


 


Condensed Consolidating Statements of Cash Flows                                         

For the nine months ended September 30,

2004 (in millions)


   Primary
Obligor


    Guarantor
Subsidiaries


   

Non-

Guarantor
Subsidiaries


    Eliminations

    Consolidated

 

Operating activities:

                                        

Net cash from (used in) operating activities

   $ 48     $ 276     $ (49 )   $ —       $ 275  
    


 


 


 


 


Investing activities:

                                        

Acquisition of property and equipment

     —         (62 )     (93 )     —         (155 )

Proceeds from disposal of property and equipment

     —         9       3       —         12  

Acquisition of companies

     —         —         (10 )     —         (10 )
    


 


 


 


 


Net cash used in investing activities

     —         (53 )     (100 )     —         (153 )
    


 


 


 


 


Financing activities:

                                        

ABS borrowings, net

     —         —         (2 )     —         (2 )

Repayment of long-term debt

     —         (4 )     (171 )     —         (175 )

Debt issuance cost

     —         (3 )     —         —         (3 )

Proceeds from exercise of stock options

     —         —         9       —         9  

Intercompany advances / repayments

     (48 )     (208 )     256       —         —    
    


 


 


 


 


Net cash provided by (used in) financing activities

     (48 )     (215 )     92       —         (171 )
    


 


 


 


 


Net increase (decrease) in cash and cash equivalents

     —         8       (57 )     —         (49 )

Cash and cash equivalents, beginning of period

     —         8       67       —         75  
    


 


 


 


 


Cash and cash equivalents, end of period

   $ —       $ 16     $ 10     $ —       $ 26  
    


 


 


 


 


 

21


Table of Contents

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

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) should be read in conjunction with the Consolidated Financial Statements and the Notes to Consolidated Financial Statements of Yellow Roadway Corporation (also referred to as “Yellow Roadway,” “we” or “our”). MD&A and certain statements in the Notes to Consolidated Financial Statements include forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21 of the Securities Exchange Act of 1934, as amended (each a “forward-looking statement”). Forward-looking statements include those preceded by, followed by or include the words “should,” “could,” “may,” “expect,” “believe,” “estimate” or similar expressions. Our actual results could differ materially from those projected by these forward-looking statements due to a number of factors, including (without limitation), inflation, inclement weather, price and availability of fuel, competitor pricing activity, expense volatility, ability to capture cost synergies, changes in equity and debt markets, a downturn in general or regional economic activity, effects of a terrorist attack, and labor relations, including (without limitation), the impact of work rules, work stoppages, strikes or other disruptions, any obligations to multi-employer health, welfare and pension plans, wage requirements and employee satisfaction.

 

On December 11, 2003, we successfully closed the acquisition of Roadway Corporation (“Roadway”). Roadway became Roadway LLC (“Roadway Group”) and a subsidiary of Yellow Roadway. Consideration for the acquisition included $494 million in cash and 18.0 million shares of Yellow Roadway common stock for a total purchase price of approximately $1.1 billion. The Roadway Group has two operating segments, Roadway Express, Inc. (“Roadway Express”) and New Penn Motor Express, Inc. (“New Penn”).

 

In accordance with SFAS No. 141, Business Combinations, we accounted for the acquisition under purchase accounting. As a result, our Statements of Consolidated Operations and Statements of Consolidated Cash Flows include results for Roadway Express and New Penn from the date of acquisition. Our third quarter 2003 results and our results for the nine months ended September 30, 2003 do not reflect the operations of the Roadway Group; however, our Notes to Consolidated Financial Statements do include limited pro forma information that presents the combined results of operations of Yellow Roadway as if the Roadway acquisition had occurred at the beginning of the period presented. Management has provided the pro forma information to facilitate comparison of results among periods. The unaudited pro forma financial information is not intended to represent or be indicative of the consolidated results of operations of Yellow Roadway that would have been reported had the acquisition been completed as of the date presented and should not be taken as representative of the future consolidated results of operations of Yellow Roadway.

 

Results of Operations

 

Our Results of Operations section focuses on the highlights and significant items that impacted our operating results during the third quarter as well as the year to date. Our discussion will also explain the adjustments to operating income that management excludes when internally evaluating segment performance since the items are not related to the segments’ core operations. Please refer to our Business Segments note for further discussion.

 

22


Table of Contents

Yellow Transportation Results

 

As one of our largest operating units, Yellow Transportation represented approximately 47 percent and 96 percent of our consolidated revenue in the third quarter of 2004 and 2003, respectively, and in the nine months ended September 30, 2004 and 2003, respectively. On an adjusted basis, assuming the acquisition of Roadway had occurred on January 1, 2003, Yellow Transportation revenue would have represented approximately 46 percent of our consolidated revenue in the third quarter of 2003 and in the nine months ended September 30, 2003. The table below provides summary financial information for Yellow Transportation for the three and nine months ended September 30:

 

     Three months

    Nine months

 

(in millions)


   2004

    2003

    Percent
Change


    2004

    2003

   

Percent

Change


 

Operating revenue

   $ 829.0     $ 738.3     12.3 %   $ 2,356.1     $ 2,089.9     12.7 %

Operating income

     63.7       42.8     48.7 %     135.8       98.7     37.6 %

Adjustments to operating income(a)

     (1.3 )     0.4     n/m       (0.8 )     0.4     n/m (b)

Adjusted operating income

     62.4       43.2     44.6 %     135.0       99.1     36.3 %

Operating ratio

     92.3 %     94.2 %   1.9 pp     94.2 %     95.3 %   1.1 pp(c)

Adjusted operating ratio

     92.5 %     94.2 %   1.7 pp     94.3 %     95.3 %   1.0 pp

(a) Represents charges that management excludes when evaluating segment performance to better understand our core operations (see discussion below).
(b) Not meaningful.
(c) Percentage points.

 

Three months ended September 30, 2004 compared to three months ended September 30, 2003

 

Yellow Transportation reported record third quarter revenue in 2004 of $829.0 million, representing an increase of $90.7 million or 12.3 percent from the third quarter of 2003. The revenue increase resulted from a combination of continued improvement in economic conditions which contributed to increases in the number of shipments and yield, increased revenue from fuel surcharge, and continued emphasis on premium services. The fuel surcharge, adjusted weekly based on a national index, represents an amount charged to customers that adjusts for changing fuel prices and is common throughout the transportation industry. The two primary components of less-than-truckload (“LTL”) revenue are tonnage, comprised of the number of shipments and the weight per shipment, and price, usually evaluated on a per hundred weight basis. In the third quarter of 2004, Yellow Transportation LTL tonnage increased by 4.8 percent per day, and LTL revenue per hundred weight improved by 5.7 percent from the third quarter of 2003.

 

Premium services, an integral part of our strategy to offer a broad portfolio of services and meet the increasingly complex transportation needs of our customers, continued to deliver significant revenue growth. Premium services at Yellow Transportation include, among others, Exact Express®, an expedited and time-definite ground service with a 100 percent satisfaction guarantee; and Definite Delivery®, a guaranteed on-time service with constant shipment monitoring and notification. In the third quarter of 2004, total Exact Express revenue increased by 41 percent and Definite Delivery revenue was consistent with the third quarter of 2003. Yellow Transportation also offers Standard Ground Regional Advantage, a high-speed service for shipments moving between 500 and 1,500 miles. Standard Ground Regional Advantage revenue represented approximately 25 percent of total Yellow Transportation revenue in the third quarter of 2004 and increased 15 percent from the third quarter of 2003. This service provides higher utilization of assets by use of more direct loading and bypassing intermediate handling at distribution centers.

 

Yellow Transportation operating income improved by $20.9 million or 48.7 percent in the third quarter of 2004 compared to the third quarter of 2003. Operating income increased due to higher revenue and our continued ability to effectively balance volume and price. Increased wage and benefit rates, primarily contractual, and increased purchased transportation partially offset the operating income improvement. Variation in the labor mix slightly offset the increased wages. Operating expenses as a percentage of revenue decreased in the third quarter of 2004 by 1.9 percentage points compared to the third quarter of 2003, resulting in an operating ratio of 92.3 percent. Operating ratio refers to a common industry measurement calculated by dividing a company’s operating expenses by its operating revenue.

 

In addition to the operating ratio, we evaluate our results based on incremental margins, or the change in operating income divided by the change in revenue. The incremental margin at Yellow Transportation from the third quarter of 2003 to the third quarter of 2004 was 23 percent which is slightly above our 15 to 20 percent long-term goal. In any given quarter, our incremental margin may be above or below our targeted level of 15 to 20 percent. However, over the longer-term, our expectation is to average a 15 to 20 percent incremental margin.

 

Adjustments to operating income represent charges that management excludes when evaluating segment performance to better understand the results of our core operations. Management excludes the impact of gains and losses from the disposal of property as they reflect charges not related to the segment’s primary business. For the three months ended September 30, 2004 and 2003, adjustments to operating income were insignificant to our results of operations.

 

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Table of Contents

Nine months ended September 30, 2004 compared to nine months ended September 30, 2003

 

Yellow Transportation revenue increased $266.2 million or 12.7 percent in the nine months ended September 30, 2004 versus the year ago period. In the nine months ended September 30, 2004, Yellow Transportation LTL tonnage increased 6.8 percent per day compared to the year ago period primarily due to improved economic conditions, and increased penetration in premium services. In addition, LTL revenue per hundred weight increased during the nine months ended September 30, 2004 by 4.1 percent compared to the nine months ended September 30, 2003.

 

Despite increases in contractual wages and benefits and purchase transportation rates, operating income for Yellow Transportation increased $37.1 million or 37.6 percent in the nine months ended September 30, 2004 as compared to the nine months ended September 30, 2003. As discussed above, the increase in operating income is related to the increased revenue and our continued success in negotiating appropriate prices for the related business volumes. Our operating income was adversely impacted by wage and benefit increases. Despite the cost increases, operating expenses as a percentage of revenue decreased for the first nine months of 2004 by 1.1 percentage points compared to the first nine months of 2003, resulting in an operating ratio of 94.2 percent for year-to-date 2004. During the nine months ended September 30, 2003, Yellow Transportation recognized a benefit in operating income of $5.0 million related to an insurance recovery.

 

Roadway Express Results

 

Three months ended September 30, 2004 compared to three months ended September 30, 2003

 

Due to the acquisition date of December 11, 2003, Roadway Express results were not included in our third quarter 2003 results of operations, which make 2004 results more difficult to evaluate against prior periods without conforming adjustments. In the third quarter of 2003, Roadway Express results reflected different accounting policies, and the effect of asset and liability valuations prior to adjusting them to their fair value, as required by purchase accounting. In addition, the entity reported results based on a twelve-week period instead of a calendar quarter resulting in six fewer business days than the third quarter of 2004. For these reasons, management evaluates the segment’s results primarily based on a combination of sequential growth month over month, attainment of plan performance and comparison to adjusted third quarter 2003 results.

 

Roadway Express reported revenue of $812.4 million in the third quarter of 2004 compared to adjusted revenue of $770.3 million in the third quarter of 2003, an increase of 5.5 percent. Prior year third quarter revenue was adjusted to reflect the current revenue recognition policy and the conversion to a calendar quarter. The revenue increase resulted from a 4.1 percent improvement in tonnage per day (of which 1.4 percent is LTL tonnage), a 3.8 percent increase in LTL revenue per hundred weight, and increased revenue from fuel surcharge compared to the third quarter of 2003. Roadway Express represented approximately 46 percent of our consolidated revenue in the third quarter of 2004. On an adjusted basis, assuming the acquisition of Roadway had occurred on January 1, 2003, Roadway Express revenue would have represented approximately 48 percent of our consolidated revenue in the third quarter of 2003.

 

Roadway Express reported operating income of $52.1 million in the third quarter of 2004, which included approximately $0.3 million of losses on property disposals. Operating income results continued to exceed management’s expectations, as the segment lowered operating costs despite the increase in volume. Reduced salaries, wages and employees’ benefits contributed significantly to the favorable operating results. Efficiency improvements more than offset the increased contractual wage and benefit rates. In the third quarter of 2004, Roadway Express recognized $2.2 million of amortization related to intangible assets identified in the purchase price allocation. Roadway Express reported a third quarter 2004 operating ratio of 93.6 percent compared to 96.5 percent for the third quarter of 2003 as adjusted for certain acquisition charges.

 

Nine months ended September 30, 2004 compared to nine months ended September 30, 2003

 

Roadway Express reported revenue of $2,297.7 million for the nine months ended September 30, 2004 as compared to $2,222.9 million, as adjusted, for the nine months ended September 30, 2003, an increase of $74.8 million or 3.4 percent. The prior period revenue was adjusted to reflect the current revenue recognition policy and the conversion into a nine-month period versus a thirty-six week period. The increased revenue, including higher fuel surcharge revenue, is primarily attributed to a 3.6 percent increase in LTL revenue per hundred weight. Roadway Express represented approximately 46 percent of our consolidated revenue for the nine months ended September 30, 2004.

 

Roadway Express reported operating income of $103.5 million for the nine months ended September 30, 2004 as compared to $60.2 million, as adjusted, for the nine months ended September 30, 2003. The current period operating income significantly benefited from various cost savings initiatives. These initiatives, primarily centered on reduced salaries, wages and employees’ benefits, more than compensated for increased contractual wage and benefit rates and higher fuel costs. During the nine months ended September 30, 2004, Roadway Express recognized $6.0 million of amortization of intangible assets. There was no such amount in the comparable prior year period.

 

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New Penn Results

 

Three months ended September 30, 2004 compared to three months ended September 30, 2003

 

Similar to Roadway Express, New Penn results for the third quarter of 2004 include purchase accounting valuations and reflect different accounting policies than the third quarter of 2003. In addition, the entity reported prior year results based on a twelve-week period instead of a calendar quarter resulting in six fewer business days than the third quarter of 2004.

 

New Penn reported revenue of $70.7 million in the third quarter of 2004 compared to adjusted revenue of $56.2 million in the third quarter of 2003. Prior year third quarter revenue was adjusted to reflect the conversion to a calendar quarter. Due to the focus on next-day services, New Penn did not record a significant revenue recognition adjustment in the third quarter of 2004 or the third quarter of 2003. Please refer to Management’s Discussion and Analysis in our Annual Report on Form 10-K for a detailed discussion of our revenue recognition policies.

 

New Penn represented approximately 4 percent of our consolidated revenue in the third quarter of 2004. On an adjusted basis, assuming the acquisition of Roadway had occurred on January 1, 2003, New Penn revenue would have represented approximately 4 percent of our consolidated revenue in the third quarter of 2003. The 25.8 percent revenue improvement from the third quarter of 2003 to the third quarter of 2004 resulted primarily from a 21.3 percent increase in LTL tonnage per day, and a 3.0 percent increase in LTL revenue per hundred weight. New Penn effectively gained profitable new customers upon the closure of a competitor, USF Red Star, on May 24, 2004. Strong sales initiatives, coupled with the new USF Red Star business, and continued improvement in the economy in the third quarter of 2004 contributed to the tonnage growth.

 

Operating income at New Penn was $10.2 million in the third quarter of 2004, including approximately $39 thousand of losses on property disposals. Operating income results continued to exceed management’s expectations and significantly increased from the entity’s reported results in the third quarter of 2003. In the third quarter of 2004, New Penn recognized $0.8 million of amortization related to intangible assets identified in the purchase price allocation. Increased revenue combined with improved cost management significantly contributed to an operating ratio improvement of 6.4 percentage points from the prior year period resulting in a third quarter 2004 operating ratio of 85.4 percent.

 

Nine months ended September 30, 2004 compared to nine months ended September 30, 2003

 

New Penn reported revenue of $191.1 million and operating income of $25.2 million for the nine months ended September 30, 2004. The revenue growth at New Penn is directly attributed to the increase in LTL tonnage per day in addition to the benefit of new customers gained from the closure of USF Red Star in the Northeast. The improved economy also contributed to the strong revenue results at New Penn. The segment’s operating income also benefited from the strong revenue improvements as well as continued emphasis on cost containment and profitable growth strategies. During the nine months ended September 30, 2004, New Penn recognized $2.9 million of amortization of intangible assets. There was no such amount in the comparable prior year period.

 

Meridian IQ Results

 

Meridian IQ is our non-asset-based segment that plans and coordinates the movement of goods throughout the world. Meridian IQ represented approximately 3 percent of our consolidated revenue in the third quarter of 2004 and 2003 and approximately 3 percent in the nine months ended September 30, 2004 and 2003. On a pro forma basis, assuming the acquisition of Roadway had occurred on January 1, 2003, Meridian IQ revenue would have represented approximately 2 percent of our consolidated revenue in the third quarter of 2003 and approximately 2 percent in the nine months ended September 30, 2003. The table below provides summary financial information for Meridian IQ for the three and nine months ended September 30:

 

     Three months

    Nine months

 

(in millions)


   2004

   2003

   Percent
Change


    2004

   2003

   

Percent

Change


 

Operating revenue

   $ 57.0    $ 33.5    70.4 %   $ 153.3    $ 78.7     94.7 %

Operating income

     1.1      0.2    n/m       2.3      (0.7 )   n/m  

 

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Three months ended September 30, 2004 compared to three months ended September 30, 2003

 

In the third quarter of 2004, Meridian IQ revenue increased by $23.5 million or 70.4 percent from the third quarter of 2003. The significant increase in revenue resulted from a combination of strong organic growth within Meridian IQ existing services and recent acquisitions. Operating income also increased from $0.2 million in the third quarter of 2003 to $1.1 million in the third quarter of 2004. Increased revenue partially offset by higher marketing costs produced the improved operating results.

 

Nine months ended September 30, 2004 compared to nine months ended September 30, 2003

 

For the nine months ended September 30, 2004, Meridian IQ revenue increased by $74.6 million or 94.7 percent from the nine months ended September 30, 2003. Meridian IQ had an operating loss of $0.7 million for the nine months ended September 30, 2003 compared to an operating profit of $2.3 million for the nine months ended September 30, 2004. Organic growth within Meridian IQ and the positive results from recent acquisitions contributed to the overall improved operating results for the nine months ended September 30, 2004 compared to the nine months ended September 30, 2003.

 

Consolidated Results

 

Our consolidated results for the three and nine months ended September 30, 2004 include the results of each of the operating segments previously discussed, including Roadway Express and New Penn. The reported results for the three and nine months ended September 30, 2003 include the former Yellow Corporation entities only, consisting of Yellow Transportation and Meridian IQ. A comparison to pro forma information that presents the combined results of operations of Yellow Roadway as if the Roadway acquisition had occurred at the beginning of the period presented is not included as such comparison is not considered meaningful for the nine months ended September 30. The proforma information included in the footnotes reflects the results of the former Roadway Corporation on a period basis which concluded September 13, 2003 which hinders comparability. The following discussion focuses on items that management evaluates on a consolidated basis, as segment results have been discussed previously.

 

Three months ended September 30, 2004 compared to three months ended September 30, 2003

 

The table below provides summary consolidated financial information for the three months ended September 30:

 

(in millions)


   2004

   2003

   Percent Change

 

Operating revenue

   $ 1,767.0    $ 770.7    129.3 %

Operating income

     120.6      37.8    219.0 %

Nonoperating expenses, net

     29.7      8.9    233.7 %

Net income

   $ 55.9    $ 17.4    221.3 %

 

Each of our operating segments contributed to the revenue growth, which resulted from a combination of improving economic conditions, increased fuel surcharge revenue, increased premium services and non-asset-based acquisitions. Operating revenue increased by $996.3 million from third quarter 2003 to the third quarter of 2004, primarily due to the acquisition of Roadway Express and New Penn in addition to the improved results at Yellow Transportation and Meridian IQ. Our revenue was favorably impacted by the improved economic conditions which resulted in increased tonnage through our combined business which in turn increased revenue.

 

Operating income increased $82.8 million for the three months ended September 30, 2004 versus the comparable year ago period, mostly due to the acquisition of Roadway Express and New Penn, and increased revenue and the corresponding incremental margins at Yellow Transportation and Meridian IQ. Corporate expenses in the third quarter of 2004 increased by $1.3 million from the third quarter of 2003 due to increased professional services costs associated with the Sarbanes-Oxley Act of 2002 and increased incentive accruals related to our improved operating results, offset by corporate-allocated management fees.

 

Included in nonoperating expenses for the three months ended September 30, 2004 is a write off of deferred debt issuance costs of $18.3 million resulting from our September 2004 debt refinancing. Additionally, nonoperating expenses were unfavorably impacted by increased interest expense that resulted from higher average debt balances in the third quarter of 2004 compared to those included in third quarter of 2003 due to the additional debt we issued to consummate the Roadway acquisition and the assumption of $225.0 million of senior notes issued by Roadway.

 

Our effective tax rate for the third quarter of 2004 was 38.5 percent compared to 38.9 percent in the third quarter of 2003. As we record our tax provision based on our full year forecasted results, we expect this rate to approximate 38.5 percent for the remainder of the year. Variations in the rate could result from our income allocation among subsidiaries and their relative state tax rates, in addition to tax planning strategies that may be implemented throughout the year.

 

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Nine months ended September 30, 2004 compared to nine months ended September 30, 2003

 

The table below provides summary consolidated financial information for the nine months ended September 30:

 

(in millions)


   2004

   2003

   Percent Change

 

Operating revenue

   $ 4,993.3    $ 2,165.3    130.6 %

Operating income

     250.2      81.9    205.4 %

Nonoperating expenses, net

     53.4      13.8    287.0 %

Net income

   $ 121.0    $ 41.4    192.3 %

 

Consolidated operating revenue increased by $2.8 billion from the revenue for the nine months ended September 30, 2003 to the current comparable period primarily due to the acquisition of the Roadway Group in addition to the improved results at Yellow Transportation, as previously discussed. Each of our operating segments, especially Yellow Transportation, contributed to revenue growth, which resulted from both improved economic conditions and increased premium services.

 

Consolidated operating income for the nine months ended September 30, 2003 increased by $168.3 million when compared to the comparable current year period due to the acquisition of the Roadway Group, as well as the previously mentioned successes within Yellow Transportation. Corporate expenses for the nine months ended September 30, 2004 increased $0.5 million versus the nine months ended September 30, 2003 primarily due to increased incentive accruals related to our improved operating results and increased professional services costs as mentioned above which were more than offset by the higher corporate-allocated management fees and the absence of costs associated with sponsoring a trade conference that generally occurs every other year.

 

During the nine months ended September 30, 2004, we were able to capture approximately $27.0 million of cost synergies through our cost reduction programs. We expect further cost synergies to be realized during the balance of the year.

 

Consolidated nonoperating expenses for the nine months ended September 30, 2004 were greater than the nonoperating expenses for the nine months ended September 30, 2003 by $39.6 million due to the $18.3 million write off of deferred debt issuance costs previously mentioned and $22.7 million higher interest expense that resulted from the additional debt we either assumed or issued to consummate the Roadway acquisition.

 

Our effective tax rate for the nine months ended September 30, 2004 was 38.5 percent compared to 38.9 percent for the nine months ended September 30, 2003. As discussed above, we expect this rate to approximate 38.5 percent for the remainder of the year.

 

Financial Condition

 

Liquidity

 

Our liquidity needs arise primarily from capital investment in new equipment, land and structures, and information technology, as well as funding working capital requirements. To provide short-term and longer-term liquidity, we maintain capacity under a $500 million unsecured credit agreement and a $450 million asset backed securitization (“ABS”) agreement involving Yellow Transportation and Roadway Express accounts receivable. We believe these facilities provide adequate capacity to fund our current working capital and capital expenditure requirements. It is not unusual for us to have a deficit working capital position, as we can operate in this position due to rapid turnover of accounts receivable, effective cash management and ready access to funding.

 

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The following table provides details of the outstanding components and available unused capacity under the current bank credit agreement and ABS agreement at each period end:

 

(in millions)


   September 30,
2004


   

December 31,

2003


 

Capacity:

                

Revolving loan

   $ 500.0     $ 250.0  

Term loan

     —         175.0  

Letters of credit facility

     —         250.0  

ABS facility

     450.0       200.0  
    


 


Total capacity

     950.0       875.0  
    


 


Amounts outstanding:

                

Term loan

     —         (175.0 )

Letters of credit facility

     (290.5 )     (250.0 )

Letters of credit under revolver loan

     —         (24.4 )

ABS facility

     (69.0 )     (71.5 )
    


 


Total outstanding

     (359.5 )     (520.9 )
    


 


Available unused capacity

   $ 590.5     $ 354.1  
    


 


 

Unsecured Credit Agreement

 

In September 2004 we modified our debt structure, eliminating the secured facility and entering in to a new $500 million unsecured facility. This new facility provides a revolving loan up to the maximum limit of $500 million offset by any letters of credit outstanding which are limited to $375 million. The revolving loan allows for tranches denominated in foreign currencies, including a $50 million Canadian dollar tranche and a $10 million euro/pound sterling tranche. Any borrowings under the foreign denominated tranches reduce the available borrowings under the total facility.

 

Our interest rate on the unsecured credit agreement is based on the London inter-bank offer rate (“LIBOR”) plus a fixed increment. We are also required to pay certain commitment fees on the total capacity and fronting fees related to the outstanding letters of credit. In accordance with the terms of the agreement, we must comply with certain financial covenants primarily relating to our leverage ratio, fixed charges and minimum net worth. As of September 30, 2004, we were in compliance with all terms of the agreement. We do not consider these covenants overly restrictive, and we believe we have considerable flexibility in operating our business in a prudent manner.

 

At the time of our refinancing, we had $75 million outstanding under our previous secured credit facility. We borrowed under our ABS facility (discussed below) to repay the term loan amount. As of September 30, 2004, we have not drawn on the new revolving loan but have secured certain letters of credit which serve primarily as collateral for our self-insurance programs, mainly in the areas of workers’ compensation, property damage and liability claims. Collateral requirements for letters of credit and availability of surety bonds, an alternative form of self-insurance collateral, fluctuate over time with general conditions in the insurance market. In conjunction with the refinancing, we wrote off $18.3 million of deferred debt issuance costs associated with the term loan. We incurred approximately $2.0 million of costs associated with the new agreement which have been capitalized and will be recognized over the debt term. The facility matures in September 2009.

 

Asset Backed Securitization Facility

 

Our ABS facility provides us with additional liquidity and lower borrowing costs through access to the asset backed commercial paper market. By using the ABS facility, we obtain a variable rate based on the A1/P1 commercial paper rate, plus a fixed increment for utilization and administration fees.

 

On May 21, 2004, we replaced our existing ABS facility with a new ABS facility. The new ABS facility involved receivables of Yellow Transportation and Roadway Express and had an increased limit of $300 million, up from the previous limit of $200 million. On September 10, 2004 we again modified our existing ABS facility, increasing the limit to $450 million. Under the terms of the agreement, Yellow Transportation and Roadway Express provide servicing of the receivables and retain the associated collection risks. The termination date of the ABS facility is May 20, 2005 at which time we intend and expect to renew on an annual basis. Accordingly, the outstanding borrowings of $69 million as of September 30, 2004 have been classified as a current liability in the accompanying consolidated balance sheets.

 

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The ABS facility is operated by Yellow Roadway Receivables Funding Corporation (“YRRFC”), a special purpose entity and wholly owned subsidiary of Yellow Roadway. Management will continue to evaluate the financial position of Yellow Transportation and Roadway Express, including the transferred receivables and related borrowings. As a result, the Yellow Roadway consolidated financial statements and segment reporting will not be impacted by this change. However, as the receivables will be legally owned by YRRFC, separate subsidiary financial statements filed with the Securities and Exchange Commission due to the issuance of public debt will not reflect the transferred receivables and related borrowings.

 

Cash Flow Measurements

 

We use free cash flow as a measurement to manage working capital and capital expenditures. Free cash flow indicates cash available after normal capital expenditures have been funded. Free cash flow may be used to fund additional capital expenditures, to reduce outstanding debt (including current maturities), to invest in our growth strategies or other prudent uses of cash. This measurement is used for internal management purposes and should not be construed as a better measurement than net cash from operating activities as defined by generally accepted accounting principles. The following table illustrates our calculation for determining free cash flow for the nine months ended September 30:

 

(in millions)


   2004

    2003

 

Net cash from operating activities

   $ 274.7     $ 87.5  

Net property and equipment acquisitions

     (142.3 )     (75.7 )

Proceeds from exercise of stock options

     9.3       1.8  
    


 


Free cash flow

   $ 141.7     $ 13.6  
    


 


 

The $128.1 million increase in free cash flow from the third quarter of 2003 to the third quarter of 2004 resulted from increased operating cash flow of $187.2 million partially offset by increased net property and equipment acquisitions of $66.6 million. Operating cash flows increased from the third quarter of 2003 to the third quarter of 2004 primarily due to improved operating results of $79.6 million and other working capital fluctuations of $139.5 million, of which $61 million is attributable to Roadway Express and New Penn, entities that were not included in our reported results for the third quarter of 2003, offset by an increase in the change in accounts receivable of $79.1 million due to increased revenue. Other working capital fluctuations mostly related to timing differences in employee wage and benefit accruals, increased performance incentive accruals, and accrued interest and taxes.

 

Other items considered in evaluating free cash flow include net property and equipment acquisitions and proceeds from the exercise of stock options. In the first nine months of 2004, net property and equipment acquisitions increased by $66.6 million compared to the first nine months of 2003, due to a combination of increased investments in revenue equipment at Yellow Transportation and the impact of capital expenditures for Roadway Express and New Penn. Our proceeds received from the exercise of stock options increased by $7.6 million in the first nine months of 2004 compared to the first nine months of 2003 primarily due to the increase in the exercise of stock options, primarily attributable to the increase in our average common stock price during 2004.

 

Contractual Obligations and Other Commercial Commitments

 

The following tables provide aggregated information regarding our contractual obligations and commercial commitments as of September 30, 2004.

 

Contractual Cash Obligations

 

     Payments Due by Period

  
 

(in millions)


   Less than 1 year

   2-3 years

   4-5 years

   After 5 years

   Total

 

Balance sheet obligations:

                                    

ABS borrowings

   $ 69.0    $ —      $ —      $ —      $ 69.0  

Long-term debt

     —        4.4      228.5      406.0      638.9  

Off balance sheet obligations:

                                    

Operating leases