SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 -------------------------------------------------------------------------- FORM 10-Q Quarterly Report Under Section 13 or 15 (d) of the Securities Exchange Act of 1934 -------------------------------------------------------------------------- For the Quarter Ended June 30, 2000 Commission file number 0-4714 United Parcel Service, Inc. -------------------------------------------------------------------------- (Exact name of registrant specified in its charter) Delaware 58-2480149 -------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 55 Glenlake Parkway, NE Atlanta, Georgia 30328 ----------------------------------------------------------------------- (Address of principal executive office) (Zip Code) Registrant's telephone number, including area code (404) 828-6000 Not Applicable -------------------------------------------------------------------------- Former name, address and fiscal year, if changed since last report Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities and Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. YES X NO Class A and B Common Stock, par value $.01 per share -------------------------------------------------------------------------- (Title of Class) 996,779,940 Class A shares, 145,243,505 Class B shares -------------------------------------------------------------------------- Outstanding as of August 10, 2000 PART I. FINANCIAL INFORMATION Item 1. Financial Statements UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS June 30, 2000 (unaudited) and December 31, 1999 (In millions except share and per share amounts) June 30, December 31, Assets 2000 1999 ----------- ------------- Current Assets: Cash & cash equivalents $ 2,381 $ 4,204 Marketable securities & short-term investments 2,277 2,074 Accounts receivable 3,216 3,167 Prepaid employee benefit costs 976 1,327 Materials, supplies & other prepaid expenses 406 366 _____ ______ Total Current Assets 9,256 11,138 Property, Plant & Equipment (including aircraft under capitalized lease obligations) - at cost, net of accumulated depreciation & amortization of $9,245 in 2000 and $8,891 in 1999 11,450 11,579 Other Assets 379 326 ______ ______ $21,085 $23,043 ====== ====== Liabilities & Shareowners' Equity Current Liabilities: Commercial paper $ 904 $ - Accounts payable 1,267 1,295 Accrued wages & withholdings 1,586 998 Dividends payable - 361 Tax assessment 146 457 Income taxes payable 367 50 Current maturities of long-term debt 545 512 Other current liabilities 728 525 _____ _____ Total Current Liabilities 5,543 4,198 Long-Term Debt (including capitalized lease obligations) 1,748 1,912 _____ _____ Accumulated Postretirement Benefit Obligation, Net 1,052 990 _____ _____ Deferred Taxes, Credits & Other Liabilities 3,481 3,469 _____ _____ Shareowners' Equity: Preferred stock, no par value, authorized 200,000,000 shares, none issued - - Class A common stock, par value $.01 per share, authorized 4,600,000,000 shares, issued 1,004,932,270 and 1,101,295,534 in 2000 and 1999 10 11 Class B common stock, par value $.01 per share, authorized 5,600,000,000 shares, issued 138,159,361 and 109,400,000 in 2000 and 1999 1 1 Additional paid-in capital 811 5,096 Retained earnings 8,644 7,536 Accumulated other comprehensive loss (205) (170) _____ _____ 9,261 12,474 _____ ______ $21,085 $23,043 ====== ====== See notes to unaudited consolidated financial statements. UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES STATEMENTS OF CONSOLIDATED INCOME Three Months and Six Months Ended June 30, 2000 and 1999 (In millions except per share amounts) (unaudited) Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 _____ _____ ______ ______ Revenue $7,284 $6,560 $14,504 $12,891 _____ _____ ______ ______ Operating Expenses: Compensation and benefits 4,042 3,725 8,117 7,377 Other 2,078 1,833 4,140 3,646 _____ _____ ______ ______ 6,120 5,558 12,257 11,023 _____ _____ ______ ______ Operating Profit 1,164 1,002 2,247 1,868 _____ _____ ______ ______ Other Income and (Expense): Investment income 62 39 395 70 Interest expense (65) (56) (117) (105) Tax assessment - (1,786) - (1,786) Miscellaneous, net (2) (6) (12) (22) _____ _____ _____ _____ (5) (1,809) 266 (1,843) _____ _____ _____ _____ Income (Loss) Before Income Taxes 1,159 (807) 2,513 25 Income Taxes 464 47 1,005 380 _____ _____ _____ _____ Net Income (Loss) $ 695 $ (854) $ 1,508 $ (355) ===== ===== ===== ===== Basic Earnings (Loss) Per Share $ 0.61 $(0.77) $ 1.29 $ (0.32) ===== ===== ===== ===== Diluted Earnings (Loss) Per Share $ 0.60 $(0.77) $ 1.27 $ (0.32) ===== ===== ===== ===== See notes to unaudited consolidated financial statements.
UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENT OF SHAREOWNERS' EQUITY Six Months Ended June 30, 2000 (In millions except per share amounts) (unaudited) Accumulated Class A Class B Additional Other Total Common Stock Common Stock Paid-In Retained Comprehensive Shareowners' Shares Amount Shares Amount Capital Earnings Loss Equity Balance, January 1, 2000 1,101 $11 109 $1 $5,096 $7,536 $(170) $12,474 Comprehensive income: Net income - - - - - 1,508 - 1,508 Foreign currency adjustments - - - - - - (51) (51) Unrealized gain on marketable securities - - - - - - 16 16 Comprehensive income 1,473 Dividends ($0.34 per share) - - - - - (400) - (400) Stock award plans 5 - - - 92 - - 92 Common stock purchases: Tender offer (68) (1) - - (4,069) - - (4,070) Other (5) - - - (335) - - (335) Common stock issuances 1 - - - 27 - - 27 Conversion of Class A Common Stock to Class B Common Stock (29) - 29 - - - - - Balance, June 30, 2000 1,005 $10 138 $1 $ 811 $8,644 $(205) $ 9,261
See notes to unaudited consolidated financial statements. UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS Six Months Ended June 30, 2000 and 1999 (In millions) (unaudited) Six Months Ended June 30, 2000 1999 Cash flows from operating activities: _____ _____ Net income/(loss) $ 1,508 $ (355) Adjustments to reconcile net income (loss) to net cash from operating activities: Depreciation and amortization 570 563 Postretirement benefits 62 48 Deferred taxes, credits, and other 60 38 Stock award plans 288 204 Gain on exchange of investments and sale of business (290) - Changes in assets and liabilities: Accounts receivable (49) 85 Prepaid employee benefit costs 351 412 Materials, supplies and other prepaid expenses (40) (62) Accounts payable (28) (40) Accrued wages and withholdings 329 140 Dividends payable (361) (247) Tax assessment (311) 1,442 Income taxes payable 452 250 Other current liabilities 137 49 _____ _____ Net cash from operating activities 2,678 2,527 _____ _____ Cash flows from investing activities: Capital expenditures (663) (597) Disposals of property, plant and equipment 202 50 Purchases of marketable securities and short-term investments (2,098) (1,753) Sales and maturities of marketable securities and short-term investments 2,167 674 Construction funds in escrow 51 (140) Other asset receipts (payments) (69) 17 _____ _____ Net cash (used in) investing activities (410) (1,749) _____ _____ Cash flows from financing activities: Proceeds from borrowings 1,123 999 Repayments of borrowings (347) (367) Purchases of common stock via tender (4,070) - Other purchases of common stock (335) (1,140) Issuances of common stock pursuant to stock awards and employee stock purchase plans 77 620 Dividends (400) (311) Other transactions (122) (21) _____ _____ Net cash (used in) financing activities (4,074) (220) _____ _____ Effect of exchange rate changes on cash (17) (20) _____ _____ Net increase (decrease) in cash and cash equivalents (1,823) 538 Cash and cash equivalents: Beginning of period 4,204 1,240 _____ _____ End of period $ 2,381 $1,778 ====== ===== Cash paid during the period for: Interest (net of amount capitalized) $ 162 $ 85 ====== ===== Income taxes $ 444 $ 423 ====== ===== See notes to unaudited consolidated financial statements UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS 1. For interim consolidated financial statement purposes, we compute our tax provision on the basis of our estimated annual effective income tax rate, and provide for accruals under our various employee benefit plans for each three month period based on one quarter of the estimated annual expense. 2. In our opinion, the accompanying interim, unaudited, consolidated financial statements contain all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position as of June 30, 2000, the results of operations for the three and six months ended June 30, 2000 and 1999, and cash flows for the six months ended June 30, 2000 and 1999. The results reported in these consolidated financial statements should not be regarded as necessarily indicative of results that may be expected for the entire year. 3. The following table sets forth the computation of basic and diluted earnings per share (in millions except per share amounts): Three Months Six Months Ended Ended June 30, June 30, 2000 1999 2000 1999 Numerator: ____ ____ ____ ____ Numerator for basic and diluted earnings (loss) per share - Net income (loss) $ 695 $(854) $1,508 $(355) ==== ==== ===== ==== Denominator: Weighted-average shares - Denominator for basic earnings (loss) per share 1,144 1,114 1,167 1,114 Effect of dilutive securities: Contingent shares - Management incentive awards 7 - 5 - Stock option plans 16 - 18 - _____ _____ _____ _____ Denominator for diluted earnings (loss) per share 1,167 1,114 1,190 1,114 ===== ===== ===== ===== Basic Earnings (Loss) Per Share $0.61 $(0.77) $1.29 $(0.32) ==== ===== ==== ===== Diluted Earnings (Loss)Per Share $0.60 $(0.77) $1.27 $(0.32) ==== ===== ==== ===== UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (continued) 4. On August 9, 1999 the U.S. Tax Court issued an opinion unfavorable to UPS regarding a Notice of Deficiency asserting that we are liable for additional tax for the 1983 and 1984 tax years. The Court held that we are liable for tax on income of Overseas Partners Ltd. ("OPL"), a Bermuda company, which had reinsured excess value package insurance purchased by our customers beginning in 1984. The Court held that for the 1984 tax year we are liable for taxes of $31 million on income reported by OPL, penalties and penalty interest of $93 million and interest for a total after-tax exposure estimated at approximately $246 million. In February 2000, the U.S. Tax Court entered a decision in accord with its opinion. In addition, during the first quarter of 1999, the IRS issued two Notices of Deficiency asserting that we are liable for additional tax for the 1985 through 1987 tax years, and the 1988 through 1990 tax years. The primary assertions by the IRS relate to the reinsurance of excess value package insurance, the issue raised for the 1984 tax year. The IRS has based its assertions on the same theories included in the 1983-1984 Notice of Deficiency. The IRS has taken similar positions for tax years subsequent to 1990. Based on the Tax Court opinion, we currently estimate that our total after-tax exposure for the tax years 1984 through 1999 could be as high as $2.353 billion. We believe that a number of aspects of the Tax Court decision are incorrect, and we have appealed the decision to the U.S. Court of Appeals for the Eleventh Circuit. In the second quarter 1999 financial statements, we recorded a tax assessment charge of $1.786 billion, which included an amount for related state tax liabilities. The charge included taxes of $915 million and interest of $871 million. This assessment resulted in a tax benefit of $344 million related to the interest component of the assessment. As a result, our net charge to net income for the tax assessment was $1.442 billion, increasing our total after-tax reserve at that time with respect to these matters to $1.672 billion. The tax benefit of deductible interest is included in income taxes; however, since none of the income on which this tax assessment is based is our income, we have not classified the tax charge as income taxes. We determined the size of our reserve with respect to these matters in accordance with generally accepted accounting principles based on our estimate of our most likely liability. In making this determination, we concluded that it was more likely that we would be required to pay taxes on income reported by OPL and interest, but that it was not probable that we would be required to pay any penalties and penalty interest. If penalties and penalty interest ultimately are determined to be payable, we would have to record an additional charge of up to $681 million. UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (continued) On August 31, 1999, we deposited $1.349 billion, and on August 8, 2000, we deposited an additional $91 million, with the IRS related to these matters for the 1984 through 1994 tax years. We included the profit of the excess value package insurance program, using the IRS's methodology for calculating these amounts, for both 1998 and 1999 in filings we made with the IRS in the fourth quarter of 1999. In February 2000, we deposited $339 million with the IRS related to these matters for the 1995 through 1997 tax years. These deposits and filings were made in order to stop the accrual of interest, where applicable, on that amount of the IRS's claim, without conceding the IRS's position or giving up our right to appeal the Tax Court's decision. Effective October 1, 1999, we implemented a new arrangement for providing excess value package insurance for our customers through UPS subsidiaries. This new arrangement results in including in our non-package operating segment the operations of the excess value package insurance program offered to our customers. This revised arrangement should eliminate the issues considered by the Tax Court in the Notices of Deficiency relating to OPL for periods after September 1999. The IRS has proposed adjustments, unrelated to the OPL matters discussed above, regarding the allowance of deductions and certain losses, the characterization of expenses as capital rather than ordinary, and our entitlement to the investment tax credit and the research tax credit in the 1985 through 1990 tax years. These proposed adjustments, if sustained, would result in $82 million in additional income tax expense. We expect that we will prevail on substantially all of these issues. We believe that our practice of expensing the items that the IRS alleges should have been capitalized is consistent with the practices of other industry participants. Should the IRS prevail, however, unpaid interest on these adjustments through June 30, 2000, could aggregate up to $270 million, after the benefit of related tax deductions. The IRS's proposed adjustments include penalties and penalty interest. We believe that the possibility that such penalties and penalty interest will be sustained is remote. The IRS may take similar positions with respect to some of these issues for each of the years from 1991 through 1999. We believe the eventual resolution of these issues will not result in a material adverse effect upon our financial condition, results of operations or liquidity. We are a defendant in various employment-related lawsuits. In our opinion, none of these cases is expected to have a material effect upon our financial condition, results of operations or liquidity. UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (continued) We have been named as a defendant in 18 lawsuits that seek to hold us (and in three cases, other defendants) liable for the collection of premiums for excess value package insurance in connection with package shipments since 1984. These cases generally claim that we acted as an insurer in violation of our shipping contract and without complying with state insurance laws and regulations, and that the price for excess value package insurance was excessive. Twelve of these cases have been consolidated for pre-trial purposes in a multi-district litigation proceeding before the United States District Court for the Southern District of New York. We are in the process of removing the remaining cases to federal court and having them consolidated into the multi-district litigation proceeding. These cases are in their initial stages, no discovery has commenced, and no class has been certified. These actions all developed after the August 9, 1999 Tax Court opinion was rendered. We believe the allegations have no merit and intend to defend them vigorously. The ultimate resolution of these matters cannot presently be determined. On November 22, 1999, the U.S. Occupational Safety and Health Administration proposed regulations to mandate an ergonomics standard that would require American industry to make significant changes in the workplace in order to reduce the incidence of musculoskeletal complaints such as low back pain. The exact changes in the workplace that might be required to comply with these standards are not specified in the proposal. If OSHA enforced these regulations by seeking the same ergonomic measures it has advocated in the past under its general authority to remedy "recognized hazards," however, it might demand extensive changes in the physical layout of our distribution centers as well as the hiring of significant numbers of additional full-time and part-time employees. Our competitors, as well as the remainder of American industry, also would incur proportionately comparable costs. We, our competitors and other affected parties have filed comments with OSHA challenging the medical support and economic and technical feasibility of the proposed regulations. We do not believe that OSHA has complied with the statutory mandate of establishing significant risk of material health impairment or has properly analyzed the costs and benefits of these proposed regulations. We and other affected parties recently filed additional comments in opposition to the proposed regulations and would have the right to appeal any final ergonomics standard to an appropriate federal court of appeals. We anticipate that such a standard would be rejected by the reviewing court. If ergonomic regulations resembling the current proposal were sustained by a reviewing court, we believe that we would prevail in an enforcement proceeding based on substantial defenses including the vagueness of the standards and the technological and economic feasibility of costly abatement measures. UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (continued) OSHA has taken the position that the cost of compliance with the proposed regulations will be only $4.2 billion per year over a ten-year period for all of American industry. We believe that these estimates are unrealistic. We have attempted to estimate the costs of compliance if OSHA adopts the proposed regulations and applies them in the same way as it sought to apply its prior unsuccessful attempts to impose ergonomic measures under its general authority. Based on this experience and assuming that, contrary to our expectations, OSHA were able to obtain court orders applying to all of our facilities that mandated compliance with these regulations, we estimate that the cost of compliance could be approximately $20 billion in initial costs, which would be incurred over a period of years, and approximately $5 billion in incremental annual costs. Such expenditures, if required to be incurred, would materially and adversely affect our results of operations, liquidity and financial condition. In addition, we are a defendant in various other lawsuits that arose in the normal course of business. In our opinion, none of these cases is expected to have a material effect upon our financial condition, results of operations or liquidity. 5. We report our operations in three segments: U.S. domestic package operations, international package operations and non-package operations. Package operations represent our core business and are divided into regional operations around the world. Regional operations managers are responsible for both domestic and export operations within their geographic region. International package operations include shipments wholly outside the U.S. as well as shipments with either origin or delivery outside the U.S. Non-package operations, which include the UPS Logistics Group, are distinct from package operations and are thus managed and reported separately. Segment information for the three and six months ended June 30, is as follows (in millions): Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 Revenue: U.S. domestic package $5,890 $5,434 $11,731 $10,665 International package 1,023 908 2,046 1,793 Non-package 371 218 727 433 _____ _____ ______ ______ Consolidated $7,284 $6,560 $14,504 $12,891 ===== ===== ====== ====== Operating profit: U.S. domestic package $1,018 $ 898 $ 1,911 $ 1,687 International package 85 71 149 123 Non-package 61 33 187 58 _____ _____ ______ ______ Consolidated $1,164 $1,002 $ 2,247 $ 1,868 ===== ===== ====== ====== UNITED PARCEL SERVICE, INC., AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (continued) Non-package operating profit included $26 and $28 million for the three months ended June 30, 2000 and 1999, respectively, and $53 and $58 million for the six months ended June 30, 2000 and 1999, respectively, of intersegment profit, with a corresponding amount of operating expense, which reduces operating profit of the U.S. domestic package segment. 6. The major components of other operating expenses for the three months and six months ended June 30, are as follows (in millions): Three Months Ended Six Months Ended June 30, June 30, 2000 1999 2000 1999 Repairs and maintenance $ 241 $ 226 $ 480 $ 443 Depreciation and amortization 287 280 570 563 Purchased transportation 466 385 900 761 Fuel 210 151 448 293 Other occupancy 91 88 198 189 Other expenses 783 703 1,544 1,397 ____ ____ _____ _____ Consolidated $2,078 $1,833 $4,140 $3,646 ===== ===== ===== ===== 7. Certain prior period amounts have been reclassified to conform to the current period presentation. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Three Months Ended June 30, 2000 and 1999 The following tables set forth information showing the change in revenue, average daily package volume and average revenue per piece, both in dollars or amounts and in percentage terms: Three Months Ended June 30, Change 2000 1999 $ % Revenue (in millions): ____ ____ _ _ U.S. domestic package: Next Day Air $1,412 $1,282 $130 10.1% Deferred 690 637 53 8.3 Ground 3,788 3,515 273 7.8 ----- ----- --- Total U.S. domestic package 5,890 5,434 456 8.4 International package: Domestic 222 224 (2) (0.9) Export 711 606 105 17.3 Cargo 90 78 12 15.4 ----- ----- --- Total International package 1,023 908 115 12.7 Non-package 371 218 153 70.2 ----- ----- --- Consolidated $7,284 $6,560 $724 11.0% ===== ===== === Average Daily Package Volume # - (in thousands): U.S. domestic package: Next Day Air 1,113 1,013 100 9.9% Deferred 852 792 60 7.6 Ground 10,135 9,614 521 5.4 ------ ----- --- Total U.S. domestic package 12,100 11,419 681 6.0 International package: Domestic 749 669 80 12.0 Export 360 293 67 22.9 ----- ----- --- Total International package 1,109 962 147 15.3 ----- ----- --- Consolidated 13,209 12,381 828 6.7% ====== ====== === Operating days in period 64 64 Average Revenue Per Piece: $ - U.S. domestic package: Next Day Air $19.82 $19.77 $.05 0.3% Deferred 12.65 12.57 .08 0.6 Ground 5.84 5.71 .13 2.3 Total U.S. domestic package 7.61 7.44 .17 2.3 International: Domestic 4.63 5.23 (.60) (11.5) Export 30.86 32.32 (1.46) (4.5) Total International package 13.15 13.48 (.33) (2.4) Consolidated $ 8.07 $ 7.91 $.16 2.0% ===== ===== === Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) U.S. domestic package revenue increased primarily due to volume gains across all product lines, continuing the trends reported during the first quarter of 2000. Average daily package volume for our higher revenue per piece express (Next Day Air and Deferred) products increased 8.9%, while average daily package volume for our Ground products increased 5.4%. The increase in international package revenue was due to volume growth for both our domestic and export products, offset by a decline in the revenue per piece for these products. This decline was primarily due to currency fluctuations, particularly a decline in the value of the Euro relative to the U.S. dollar. Overall average daily package volume increased 15.3% for international operations, with our high revenue per piece export products increasing at 22.9%. The increase in non-package revenue resulted primarily from the new arrangement for providing excess value package insurance for our customers as well as continued growth of the UPS Logistics Group. Excluding the excess value business, which was not included in the segment during the same period last year, non-package revenue increased over 25%, consistent with the trend we reported in the first quarter of 2000. Operating expenses increased by $562 million, or 10.1%, to $6.120 billion during the second quarter of 2000. Compensation and benefits expenses increased by $317 million, the largest component of the change. Other operating expenses increased $245 million primarily due to higher fuel costs, claims expense associated with the new arrangement for providing excess value package insurance for our customers, and higher purchased transportation costs. The increase in purchased transportation costs was primarily due to increased business for our international and logistics operations, while the $59 million, or 39.1%, increase in fuel costs was due to the increase in fuel prices and the growth in volume, partially offset by the cost reductions generated by our fuel hedging program. International operating expenses were favorably impacted by the decline in the value of the Euro relative to the U.S. dollar. To offset the increasing fuel costs we have experienced over the last several quarters and that we expect to continue into the future, we implemented a temporary 1.25% fuel surcharge effective August 7, 2000. Our operating margin improved from 15.3% during the second quarter of 1999 to 16.0% during the second quarter of 2000. This improvement continues our recently reported trends and is favorably impacted by continued product mix improvements. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) The following table sets forth information showing the change in operating profit, both in dollars and in percentage terms: Three Months Ended June 30, Change ------- ------ Operating Segment 2000 1999 $ % ----------------- ---- ---- - - (dollars in millions) U.S. domestic package $1,018 $ 898 $ 120 13.4% International package 85 71 14 19.7 Non-package 61 33 28 84.8 ----- ---- ---- Consolidated operating profit $1,164 $1,002 $ 162 16.2% ===== ===== ==== U.S. domestic package operating profit increased over 13% due to the volume and revenue improvements discussed previously. The improvement in the operating profit of our international package operations of almost 20% resulted primarily from increased volume and revenue, and was realized despite significantly higher fuel costs for this segment. All international regions contributed to these results. The increase in non-package operating profit is largely due to the new arrangement for providing excess value package insurance for our customers, which contributed $57 million of additional operating profit for the quarter. This improvement was offset in part by start-up costs associated with Service Parts Logistics, UPS Capital Corporation and other initiatives. The increase in investment income of $23 million for the quarter is due primarily to IPO proceeds that were not utilized for the tender offer that occurred in March 2000 and have not been used for the repurchase of UPS stock under our share repurchase program. Net income for the second quarter of 2000 increased by $107 million from the second quarter of 1999, after adjusting the prior year results to exclude a $1.442 billion tax assessment charge. This increase resulted in an improvement in diluted earnings per share from $0.52 in the second quarter of 1999, excluding the impact of the tax assessment charge, to $0.60 in the second quarter of 2000. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Six Months Ended June 30, 2000 and 1999 The following table sets forth information showing the change in revenue, average daily package volume and average revenue per piece, both in dollars and in percentage terms: Six Months Ended June 30, Change ------- ------ 2000 1999 $ % ---- ---- - - Revenue (in millions): U.S. domestic package: Next Day Air $2,793 $2,490 $ 303 12.2% Deferred 1,384 1,248 136 10.9 Ground 7,554 6,927 627 9.1 ----- ----- ---- Total U.S. domestic package 11,731 10,665 1,066 10.0 International package: Domestic 455 459 (4) (0.9) Export 1,396 1,180 216 18.3 Cargo 195 154 41 26.6 ----- ----- ---- Total International package 2,046 1,793 253 14.1 Non-package 727 433 294 67.9 ----- ----- ---- Consolidated $14,504 $12,891 $1,613 12.5% ====== ====== ===== Average Daily Package Volume # - (in thousands): U.S. domestic package: Next Day Air 1,092 995 97 9.7% Deferred 854 790 64 8.1 Ground 10,118 9,639 479 5.0 ------ ------ --- Total U.S. domestic package 12,064 11,424 640 5.6 International package: Domestic 752 684 68 9.9 Export 351 286 65 22.7 ----- ------ --- Total International package 1,103 970 133 13.7 ------ ------ --- Consolidated 13,167 12,394 773 6.2% ====== ====== === Operating days in period 129 127 $ Average Revenue Per Piece: - U.S. domestic package: Next Day Air $19.83 $19.70 $.13 0.7% Deferred 12.56 12.44 .12 1.0 Ground 5.79 5.66 .13 2.3 Total U.S. domestic package 7.54 7.35 .19 2.6 International: Domestic 4.69 5.28 (.59) (11.2) Export 30.83 32.49 (1.66) (5.1) Total International package 13.01 13.30 (.29) (2.2) Consolidated $ 8.00 $ 7.82 $.18 2.3% ===== ===== === Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) U.S. domestic package revenue increased 10.0% primarily due to volume gains across all product lines, continuing the trends reported during 1999. All products contributed to this increase, with our higher revenue per piece express (Next Day Air and Deferred) products accounting for over 40% of the overall revenue increase. Our average daily Ground volume grew at a 5.0% rate for the period, increasing by an average of 479,000 packages per day. Also contributing to the revenue increase were two extra operating days in the first six months of 2000 compared to the first six months of 1999. The average revenue increase for this segment on a per day basis was 8.3%. During the first quarter of 2000, we increased rates for standard ground shipments an average of 3.1% for commercial deliveries. The ground residential charge continued to be $1.00 over the commercial ground rate, with an additional delivery area surcharge of $1.50 added to certain less accessible areas. In addition, we increased rates for UPS Next Day Air, UPS Next Day Air Saver and UPS 2nd Day Air an average of 3.5%. The surcharge for UPS Next Day Air Early A.M. did not change. Rates for international shipments originating in the United States (Worldwide Express, Worldwide Express Plus, UPS Worldwide Expedited and UPS International Standard service) increased by 2.9%. Rate changes for shipments originating outside the U.S. were made throughout the past year and varied by geographic market. The increase in international package revenue was due to volume growth for both our domestic and export products, offset by a decline in the revenue per piece for these products. This decline was primarily due to currency fluctuations, particularly a decline in the value of the Euro relative to the U.S. dollar. Overall average daily package volume increased 13.7% for international operations, with our export products, which had an average revenue per piece of $30.83, increasing at 22.7%. The average revenue increase for this segment on a per day basis was 12.3%. The increase in non-package revenue resulted primarily from the new arrangement for providing excess value package insurance for our customers as well as continued growth of the UPS Logistics Group. Excluding the excess value business, which was not included in the segment during the same period last year, non-package revenue increased almost 25%. Operating expenses increased by $1.234 billion, or 11.2%, which was less than our revenue increase of 12.5%. Compensation and benefits expenses, the largest component of this increase, accounted for $740 million and included a $59 million charge recorded in the first quarter of this year relating to the creation of 4,000 new full-time hourly jobs resulting from the 1997 Teamsters contract. Other operating expenses increased $494 million due to higher fuel costs, claims expense associated with the new arrangement for providing excess value package insurance for our customers, and higher purchased transportation costs. The increase in purchased transportation costs was primarily due to increased business for our international and logistics operations. The 52.9% increase in fuel costs from $293 million to $448 million was due to the increase in fuel prices, the growth in our average daily volume, and the two extra operating days in the quarter, partially offset by the cost Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) reductions generated by our fuel hedging program. International operating expenses were favorably impacted by the decline in the value of the Euro relative to the U.S. dollar. To offset the increasing fuel costs we have experienced over the last several quarters and that we expect to continue into the future, we implemented a temporary 1.25% fuel surcharge effective August 7, 2000. Our operating margin improved from 14.5% during the first six months of 1999 to 15.5% during the same period in 2000. This improvement continues our recently reported trends and is favorably impacted by continued product mix improvements. The following table sets forth information showing the change in operating profit, both in dollars and in percentage terms: Six Months Ended June 30, Change ------- ------ Operating Segment 2000 1999 $ % ---- ---- - - (dollars in millions) U.S. domestic package $1,911 $1,687 $ 224 13.3% International package 149 123 26 21.1 Non-package 187 58 129 222.4 ----- ----- ---- Consolidated operating profit $2,247 $1,868 $ 379 20.3% ===== ===== ==== U.S. domestic package operating profit increased by $224 million due to the volume and revenue improvements discussed previously. The improvement in the operating profit of our international package operations of 21.1% resulted primarily from increased volume and revenue, and was realized despite significantly higher fuel costs for this segment. This improvement was spread throughout our international regions. The increase in non-package operating profit is largely due to the new arrangement for providing excess value package insurance for our customers, which contributed $115 million of additional operating profit for the six month period. Also contributing to the operating profit improvement was the $49 million gain we recognized from the sale of our UPS Truck Leasing subsidiary. These improvements were offset somewhat by start-up costs associated with Service Parts Logistics, UPS Capital Corporation and other initiatives. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) The increase in investment income of $325 million for the period is due to two factors. First, in the first quarter of 2000, two companies in which our Strategic Enterprise Fund held investments were acquired by other companies, which caused us to recognize a gain of $241 million. In addition, we earned income on the $5.3 billion in net IPO proceeds available for investment prior to the tender offer that occurred in early March 2000, and the $1.2 billion in IPO proceeds that were not utilized for the tender offer. We announced a share repurchase program on April 20, 2000, that we expect to utilize up to the remaining $1.2 billion not used in the tender offer, of which approximately $950 million remains available for share repurchases as of June 30, 2000, and continues to generate investment income. Net income for the six months ended June 30, 2000 amounted to $1.508 billion, or $1.27 per diluted share, compared to a loss of $355 million, $0.32 per diluted share, for the same period in the prior year. Our fiscal 2000 results reflect the non-recurring items discussed above, which include the gains on our Strategic Enterprise Fund investments and sale of our Truck Leasing subsidiary, offset partially by the charge for retroactive costs associated with creating new full-time jobs from existing part-time Teamster jobs. Our fiscal 1999 results reflect a tax assessment charge resulting from an unfavorable ruling of the U.S. Tax Court. Excluding these non-recurring transactions for each of these periods, net income for the six months ending June 30, 2000, would have been $1.369 billion, an increase of $282 million over adjusted 1999 net income of $1.087 billion. Adjusted diluted earnings per share increased from $0.96 in 1999 to $1.15 in 2000. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Liquidity and Capital Resources Our primary source of liquidity is our cash flow from operations. We maintain significant cash, cash equivalents, marketable securities and short-term investments, amounting to $4.7 billion at June 30, 2000. Of this amount, approximately $950 million represents the net proceeds remaining from our initial public offering, which was completed in November 1999. We used the majority of the IPO proceeds to fund a cash tender offer to purchase Class A-1 shares from shareowners. The tender offer, which was announced on February 4, 2000 and expired on March 3, 2000, was for up to 100,893,277 shares at a price of $60 per share. The actual number of shares validly tendered and accepted for purchase by us was 67,834,815, which resulted in a cash expenditure of approximately $4.1 billion and reduced our outstanding Class A shares accordingly. The remaining IPO proceeds are available for a share repurchase program that was announced on April 20, 2000. We maintain a commercial paper program under which we are authorized to borrow up to $2.0 billion. Approximately $1.004 billion was outstanding under this program as of June 30, 2000. Since we do not intend to refinance the full commercial paper balance outstanding at June 30, 2000, $904 million has been classified as a current liability on our balance sheet. The average interest rate on the amount outstanding at June 30, 2000 was 6.5%. We maintain two credit agreements with a consortium of banks. These agreements provide revolving credit facilities of $1.25 billion each, with one expiring in April 2001 and the other expiring in April 2005. Interest on any amounts we borrow under these facilities would be charged at 90-day LIBOR plus 15 basis points. There were no borrowings under either of these agreements as of June 30, 2000. We also maintain a European medium-term note program with a borrowing capacity of $1.0 billion. Under this program, we may issue notes from time to time denominated in a variety of currencies. At June 30, 2000, $500 million was available under this program. Of the amount outstanding at June 30, 2000, $200 million bears interest at a stated interest rate of 6.625% and $300 million bears interest at a stated interest rate of 6.25%. The $300 million notes were repaid on July 7, 2000. In January 1999, we filed a shelf registration statement with the SEC under which we may issue debt securities in the U.S. marketplace of up to $2.0 billion. The debt may be denominated in a variety of currencies. There was approximately $105 million issued under this shelf registration statement at June 30, 2000. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) On November 22, 1999, the U.S. Occupational Safety and Health Administration proposed regulations to mandate an ergonomics standard that would require American industry to make significant changes in the workplace in order to reduce the incidence of musculoskeletal complaints such as low back pain. The exact changes in the workplace that might be required to comply with these standards are not specified in the proposal. If OSHA enforced these regulations by seeking the same ergonomic measures it has advocated in the past under its general authority to remedy "recognized hazards," however, it might demand extensive changes in the physical layout of our distribution centers as well as the hiring of significant numbers of additional full-time and part-time employees. Our competitors, as well as the remainder of American industry, also would incur proportionately comparable costs. We, our competitors and other affected parties have filed comments with OSHA challenging the medical support and economic and technical feasibility of the proposed regulations. We do not believe that OSHA has complied with the statutory mandate of establishing significant risk of material health impairment or has properly analyzed the costs and benefits of these proposed regulations. We and other affected parties recently filed additional comments in opposition to the proposed regulations and would have the right to appeal any final ergonomics standard to an appropriate federal court of appeals. We anticipate that such a standard would be rejected by the reviewing court. If ergonomic regulations resembling the current proposal were sustained by a reviewing court, we believe that we would prevail in an enforcement proceeding based on substantial defenses including the vagueness of the standards and the technological and economic feasibility of costly abatement measures. OSHA has taken the position that the cost of compliance with the proposed regulations will be only $4.2 billion per year over a ten-year period for all of American industry. We believe that these estimates are unrealistic. We have attempted to estimate the costs of compliance if OSHA adopts the proposed regulations and applies them in the same way as it sought to apply its prior unsuccessful attempts to impose ergonomic measures under its general authority. Based on this experience and assuming that, contrary to our expectations, OSHA were able to obtain court orders applying to all of our facilities that mandated compliance with these regulations, we estimate that the cost of compliance could be approximately $20 billion in initial costs, which would be incurred over a period of years, and approximately $5 billion in incremental annual costs. Such expenditures, if required to be incurred, would materially and adversely affect our results of operations, liquidity and financial condition. Market Risk We are exposed to a number of market risks in the ordinary course of business. These risks, which include interest rate risk, foreign currency exchange risk and commodity price risk, arise in the normal course of business rather than from trading. We have examined our exposures to these risks and concluded that none of our exposures in these areas is material to fair values, cash flows or earnings. We have engaged in several strategies to manage these market risks. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Our indebtedness under our various financing arrangements creates interest rate risk. In connection with each debt issuance and as a result of continual monitoring of interest rates, we may enter into interest rate swap agreements for purposes of managing our borrowing costs. For all foreign currency-denominated borrowing and certain lease transactions, we simultaneously entered into currency exchange agreements to lock in the price of the currency needed to pay the obligations and to hedge the foreign currency exchange risk associated with such transactions. We are exposed to other foreign currency exchange risks in the ordinary course of our business operations due to the fact that we provide our services in more than 200 countries and territories and collection of revenues and payment of certain expenses may give rise to currency exposure. We require significant quantities of gasoline, diesel fuel and jet fuel for our aircraft and delivery vehicles. We therefore are exposed to commodity price risk associated with variations in the market price for energy products. We manage this risk with a hedging strategy designed to minimize the impact of sudden, catastrophic increases in the prices of energy products, while allowing us to benefit if fuel prices decline. Our hedging program is designed to moderate the impact of fluctuating crude oil prices and maintain our competitive position relative to our industry peers. Future Accounting Changes In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("FAS 133"), as amended by Statement No. 137 and No. 138, which provides a comprehensive and consistent standard for the recognition and measurement of derivatives and hedging activities. Upon adoption, all derivative instruments will be recognized on the balance sheet at fair value, and changes in the fair values of such instruments must be recognized currently in earnings unless specific hedge accounting criteria are met. FAS 133 will be effective for the Company on January 1, 2001. We are currently evaluating this Statement and expect to provide an estimate of the probable effects of adoption on the financial statements when we file our third quarter 10-Q. In December 1999, the SEC issued Staff Accounting Bulletin No. 101 "Revenue Recognition in Financial Statements" ("SAB 101"). SAB 101 provides guidance on applying generally accepted accounting principles to revenue recognition issues in financial statements. We will adopt SAB 101 as required in the fourth quarter of 2000. We are currently evaluating the effect that such adoption might have on our financial position and results of operations. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) In March 2000, the FASB issued Interpretation No. 44 "Accounting of Certain Transactions involving Stock Compensation - an Interpretation of APB No. 25" ("FIN 44"). FIN 44 clarifies the application of APB No. 25 for (a) the definition of employee for purposes of applying APB No. 25, (b) the criteria for determining whether a plan qualifies as a noncompensatory plan, (c) the accounting consequence of various modifications to the terms of a previously fixed stock option or award, and (d) the accounting for an exchange of stock compensation awards in a business combination. The application of FIN 44 did not have a material effect on our financial position or results of operations. "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Liquidity and Capital Resources" and other parts of this report contain "forward-looking" statements about matters that are inherently difficult to predict. These statements include statements regarding our intent, belief and current expectations. We have described some of the important factors that affect these statements as we discussed each subject. Forward-looking statements involve risks and uncertainties that may affect future developments. These risks include, for example, our continued ability to successfully compete, especially with foreign competition, the reliability and availability of rail transportation, the growth rate of e-commerce in relation to our expectations, adverse weather conditions and changing fuel prices. Additional information concerning these risks and uncertainties, and other factors you may wish to consider, are provided in the "Risk Factors" section of our prospectus dated November 9, 1999, as filed with the Securities and Exchange Commission. Item 3. Quantitative and Qualitative Disclosures About Market Risk See Item 2. PART II. OTHER INFORMATION Item 1. Legal Proceedings We have been named as a defendant in 18 lawsuits that seek to hold us (and in three cases, other defendants) liable for the collection of premiums for excess value package insurance in connection with package shipments since 1984. These cases generally claim that we acted as an insurer in violation of our shipping contract and without complying with state insurance laws and regulations, and that the price for excess value package insurance was excessive. Twelve of these cases have been consolidated for pre-trial purposes in a multi-district litigation proceeding before the United States District Court for the Southern District of New York. We are in the process of removing the remaining cases to federal court and having them consolidated into the multi-district litigation proceeding. These cases are in their initial stages, no discovery has commenced, and no class has been certified. These actions all developed after the August 9, 1999 Tax Court opinion was rendered. We believe the allegations have no merit and intend to defend them vigorously. The ultimate resolution of these matters cannot presently be determined. Item 4. - Submission of Matters to a Vote of Security Holders Our annual meeting of shareowners was held on May 12, 2000. Proxies for the meeting were solicited pursuant to Regulation 14A under the Securities Exchange Act of 1934. There was no solicitation in opposition to management's nominees as listed in Item No. 1 in the proxy statement, and all of such nominees were elected. 1. The results of the voting by the shareowners for directors are presented below. Director Percent of Number of Votes Total Voting William H. Brown, III For 5,878,869,066 97.45% Withheld 153,602,139 2.55% Robert J. Clanin For 5,858,934,372 97.12% Withheld 173,536,833 2.88% Michael L. Eskew For 5,896,225,304 97.74% Withheld 136,245,901 2.26% James P. Kelly For 5,892,337,837 97.68% Withheld 140,133,368 2.32% Ann M. Livermore For 5,890,896,960 97.65% Withheld 141,574,245 2.35% Gary E. MacDougal For 5,865,319,075 97.23% Withheld 167,152,130 2.77% Joseph R. Moderow For 5,901,410,664 97.83% Withheld 131,060,541 2.17% Kent C. Nelson For 5,819,877,137 96.48% Withheld 212,594,068 3.52% Victor A. Pelson For 5,890,384,625 97.64% Withheld 142,086,580 2.36% Charles L. Schaffer For 5,907,749,169 97.93% Withheld 124,722,036 2.07% Lea N. Soupata For 5,780,646,143 95.83% Withheld 251,825,062 4.17% Robert M. Teeter For 5,889,265,124 97.63% Withheld 143,206,081 2.37% Thomas H. Weidemeyer For 5,888,827,690 97.62% Withheld 143,643,515 2.38% 2. The proposal and the results of the voting by the shareowners for ratification of our appointment of independent auditors are presented below. Percent of Total Number of Votes Voting To ratify the appointment of Deloitte & Touche LLP, independent auditors, as For 5,933,809,338 98.37% auditors of UPS and its subsidiaries for Against 70,194,436 1.16% the year ending December 31, 2000 Abstain 28,467,431 0.47% 3. The proposal and the results of the voting by the shareowners for the amendment of our restated certificate of incorporation are presented below. Percent of Total Number of Votes Voting To confirm the amendment of the restated certificate of incorporation of UPS to For 5,912,191,486 98.01% modify the definition of "permitted Against 32,743,781 0.54% transferee" as it applies to lending Abstain 87,535,938 1.45% institutions. Item 6. - Exhibits and Reports on Form 8-K a) Exhibits: (3) Certificate of Amendment of Restated Certificate of Incorporation (27) Financial Data Schedule (for SEC filing purposes only) b) Reports on Form 8-K: no reports on Form 8-K were filed during the quarter. EXHIBIT INDEX (3) Certificate of Amendment of Restated Certificate of Incorporation SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. UNITED PARCEL SERVICE, INC. --------------------------- (Registrant) Date: August 14, 2000 By: /S/ Robert J. Clanin ---------------------- Robert J. Clanin Senior Vice President, Treasurer and Chief Financial Officer