NCR VOYIX CORPORATION BUSINESS OVERVIEW
NCR is a leading software- and services-led enterprise provider in the financial, retail, hospitality, and telecommunications and technology industries. NCR is a global company that is headquartered inAtlanta, Georgia . NCR offers a range of solutions that help businesses of all sizes run the store, run the restaurant and run self-service banking channels. Our portfolio includes digital first offerings for banking, restaurants and retailers, as well as payments processing, multi-vendor connected device services, automated teller machines (ATMs), point of sale (POS) terminals and self-service technologies. We also resell third-party networking products and provide related service offerings in the telecommunications and technology sectors. Our solutions are also designed to support our transition to an as-a-Service company and enable us to be the technology-based service provider of choice to our customers. As ofJanuary 1, 2019 , NCR began management of its business on an industry basis, changing from the previous model of management on a solution basis. As a result, we categorize our operations into the following segments: Banking, Retail, Hospitality, and Other. Each of our segments derives its revenue in each of the sales theaters in which NCR operates. This change to our segment reporting for fiscal year 2019 and future periods is further described in Note 1, "Description of Business and Significant Accounting Policies" of the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report. NCR's reputation is founded upon over 135 years of providing quality products, services and solutions to our customers. At the heart of our customer and other business relationships is a commitment to acting responsibly, ethically and with the highest level of integrity. This commitment is reflected in NCR's Code of Conduct, which is available on the Corporate Governance page of our website.
2019 OVERVIEW
As more fully discussed in later sections of this MD&A, the following were significant themes and events for 2019:
• Revenue increased 8% from the prior year, driven by growth in all segments;
• Revenue growth included an increase in ATM revenue of 29%;
• Recurring revenue, which includes products and services under contract
where revenue is recognized over time, increased 6% from the prior year
and comprised 45% of total revenue;
• Completed the amendment and extension of our senior secured creditfacility as well as refinanced the unsecured notes due 2021 which extended
the weighted average debt maturity and provided improved covenants;
• Completed the redemption and conversion of the remaining Series A
Convertible Preferred Stock held by Blackstone ;
• Completed the acquisition of
banking platform for large financial institutions; and
• Completed the acquisition of Zynstra, Ltd. , an edge virtualization
technology provider, to further enhance our next generation store
architecture.
OVERVIEW OF STRATEGIC INITIATIVES AND TRENDS
Today's consumers expect businesses to provide a rich, integrated and personalized experience across all commerce channels, including online, mobile and in-store. NCR is at the forefront of this shift, assisting businesses of every size in their digital transformation journeys. Our mission is to be the leading software- and services-led enterprise provider in the financial, retail, and hospitality industries. To fulfill this mission, we have developed a long-term growth strategy built on taking care of our customers, improving execution of new product introductions, accelerating software and services revenue growth and executing spend optimization programs. We believe that our mission and long-term strategy position NCR to continue to drive growth, sustainable revenue, profit and cash flow, and to improve value for all of our stakeholders.
To deliver on our mission and strategy, we are focused on the following main initiatives in 2020:
• Customer Care - Improve the customer experience and execution of new
product introductions;
• Stockholder Value - Accelerate profitable top-line revenue growth by
investing in and shifting our revenue mix to recurring software and
services revenue streams we identify as strategic growth platforms, while
improving the Company's cost structure;
• Strategic Growth Platforms and Targeted Acquisitions - Increase capital
expenditures in strategic growth platforms and target acquisitions to gain
solutions that drive the highest growth and return on investment and will
accelerate our NCR-as-a-Service vision;
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• Talent and Employee Care - Develop, reward and retain talent with
competitive recruiting, training and effective incentive-based
compensation programs; and
• Sales Enablement - Provide our sales force with top-performing and secure
products packaged to target our desired revenue mix and drive customer
delight and stockholder value, as well as invest in appropriate training
programs to enable success.
Potentially significant risks to the execution of our initiatives and achievement of our strategy include the strength of demand for the products we offer or will offer in the future consistent with our strategy and its effect on our businesses; the impact of disruptions in our supply chain and the addition of new suppliers due to theWuhan coronavirus; domestic and global economic and credit conditions including, in particular, those resulting from the imposition or threat of protectionist trade policies or import or export tariffs, global and regional market conditions and spending trends in the financial, retail and hospitality industries, modified or new global or regional trade agreements, the execution ofUnited Kingdom's exit from theEuropean Union ; uncertainty over further potential changes inEurozone participation and fluctuations in oil and commodity prices; our ability to transform our business model and to sell higher-margin software and services with recurring revenue, including our ability to successfully streamline our hardware operations; the success of our restructuring plans and spend optimization program; our ability to improve execution of new product offerings or integration of acquired product offerings; market acceptance of new solutions; competition in the information technology industry; cybersecurity risks and compliance with data privacy and protection requirements; disruptions in or problems with our data center hosting facilities; defects or errors in our products; the historical seasonality of our sales; tax rates and new tax legislation; and foreign currency fluctuations.
Cybersecurity Risk Management
Similar to most companies, NCR and its customers are subject to more frequent and increasingly sophisticated cybersecurity attacks. The Company maintains cybersecurity risk management policies and procedures including disclosure controls, which it regularly evaluates for updates, for handling and responding to cybersecurity events. These policies and procedures include internal notifications and engagements and, as necessary, cooperation with law enforcement. Personnel involved in handling and responding to cybersecurity events periodically undertake tabletop exercises to simulate an event. Our internal notification procedures include notifying the applicable Company attorneys, which, depending on the level of severity assigned to the event, may include direct notice to, among others, the Company's General Counsel, Ethics & Compliance Officer, and Chief Privacy Officer. Company attorneys support efforts to evaluate the materiality of any incidents, determine whether notice to third parties such as customers or vendors is required, determine whether any prohibition on insider trading is appropriate, and assess whether disclosure to stockholders or governmental filings, including with theSEC , are required. Our internal notification procedures also include notifying various NCR Information Technology Services managers, subject matter experts in the Company's software department and Company leadership, depending on the level of severity assigned to the event.
For further information on potential risks and uncertainties see Item 1A "Risk Factors."
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Table of Contents RESULTS OF OPERATIONS
The following table shows our results for the years ended
2019 2018 2017
Revenue $6,915 $6,405 $6,516
Gross margin 1,921 1,675 1,855
Gross margin as a percentage of revenue 27.8% 26.2% 28.5%
Operating expenses
Selling, general and administrative expenses
Research and development expenses 259 252 241 Asset impairment charges - 227 - Income from operations$611 $191 $691 The following tables show our revenue by geographic theater for the years endedDecember 31 : % Increase (Decrease) Constant % Increase Currency In millions 2019 % of Total 2018 % of Total (Decrease) (1) Americas$ 4,174 60%$ 3,707 58% 13% 14% Europe, Middle East Africa (EMEA) 1,843 27% 1,751 27% 5% 9% Asia Pacific (APJ) 898 13% 947 15% (5)% (3)% Consolidated revenue$ 6,915 100%$ 6,405 100% 8% 10% % Increase (Decrease) % Increase Constant In millions 2018 % of Total 2017 % of Total (Decrease) Currency (1) Americas$ 3,707 58%$ 3,809 59% (3)% (2)% Europe, Middle East Africa (EMEA) 1,751 27% 1,786 27% (2)% (4)% Asia Pacific (APJ) 947 15% 921 14% 3% 4% Consolidated revenue$ 6,405 100%$ 6,516 100% (2)% (2)% The following table shows our revenue by segment for the years endedDecember 31 : % Increase (Decrease) Constant % Increase Currency In millions 2019 % of Total 2018 % of Total (Decrease) (1) Banking$ 3,512 51%$ 3,183 50% 10% 13% Retail 2,217 32% 2,097 32% 6% 7% Hospitality 843 12% 817 13% 3% 4% Other 343 5% 308 5% 11% 13% Consolidated revenue$ 6,915 100%$ 6,405 100% 8% 10% 29
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% Increase
(Decrease)
Constant
% Increase Currency
In millions 2018 % of Total 2017 % of Total (Decrease) (1)
Banking $ 3,183 50% $ 3,175 49% -% 1%
Retail 2,097 32% 2,169 33% (3)% (4)%
Hospitality 817 13% 878 13% (7)% (7)%
Other 308 5% 294 5% 5% 4%
Consolidated revenue $ 6,405 100% $ 6,516 100% (2)% (2)%
(1) The tables above include presentations of period-over-period revenue growth
or decline on a constant currency basis. Revenue growth on a constant currency
basis is a non-GAAP measure that excludes the effects of foreign currency
fluctuations. We calculate this information by translating prior period revenue
growth at current period monthly average exchange rates. We believe that
examining period-over-period revenue growth or decline excluding foreign
currency fluctuations is useful for assessing the underlying performance of our
business and provides additional insight into historical and/or future
performance, and our management uses revenue growth adjusted for constant
currency to evaluate period-over-period operating performance on a more
consistent and comparable basis. These non-GAAP measures should not be
considered substitutes for, or superior to, period-over-period revenue growth
under GAAP.
The following table provides a reconciliation of region revenue % growth (GAAP)
to revenue % growth constant currency (non-GAAP) for the years ended December
31 :
2019 2018
Revenue % Revenue %
Growth Growth
Revenue Favorable Constant Revenue Favorable Constant
% Growth (unfavorable) Currency % Growth (unfavorable) Currency
(GAAP) FX impact (non-GAAP) (GAAP) FX impact (non-GAAP)
Americas 13% (1)% 14% (3)% (1)% (2)%
EMEA 5% (4)% 9% (2)% 2% (4)%
APJ (5)% (2)% (3)% 3% (1)% 4%
Consolidated revenue 8% (2)% 10% (2)% -% (2)%
The following table provides a reconciliation of segment revenue % growth (GAAP)
to revenue % growth constant currency (non-GAAP) for the years ended December
31 :
2019 2018
Revenue % Revenue %
Revenue Growth Growth
% Favorable Constant Revenue % Favorable Constant
Growth (unfavorable) Currency Growth (unfavorable) Currency
(GAAP) FX impact (non-GAAP) (GAAP) FX impact (non-GAAP)
Banking 10% (3)% 13% -% (1)% 1%
Retail 6% (1)% 7% (3)% 1% (4)%
Hospitality 3% (1)% 4% (7)% -% (7)%
Other 11% (2)% 13% 5% 1% 4%
Consolidated revenue 8% (2)% 10% (2)% -% (2)%
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2019 compared to 2018 results discussion
Revenue
Revenue increased 8% in 2019 from 2018 due to increases in all segments. Foreign currency fluctuations had an unfavorable impact of 2% on the revenue comparison.
Banking revenue increased 10% due to a 29% increase in Automated Teller Machine (ATM) revenue driven by higher backlog conversion and higher ATM-related software as well as growth in services revenue. Foreign currency fluctuations had an unfavorable impact of 3% on the revenue comparison.
Retail revenue increased 6% driven by an increase in payments, strength in self-checkout (SCO) and services revenue. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison.
Hospitality revenue increased 3% driven by higher cloud, payments, and point-of-sale (POS) revenue. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison.
Gross Margin
Gross margin as a percentage of revenue was 27.8% in 2019 compared to 26.2% in 2018. Gross margin for the year endedDecember 31, 2019 included$21 million related to transformation and restructuring costs and$24 million related to amortization of acquisition-related intangible assets. Gross margin for the year endedDecember 31, 2018 included$102 million related to transformation and restructuring costs and$23 million related to amortization of acquisition-related intangible assets. Excluding these items, gross margin as a percentage of revenue increased from 28.1% to 28.4% due to growth in the Banking and Retail segments primarily driven by improved hardware profitability partially offset by declines in the Hospitality segment.
2018 compared to 2017 results discussion
Revenue
Revenue decreased 2% in 2018 from 2017 due to declines in Retail and Hospitality partially offset by a slight increase in Banking. Foreign currency fluctuations did not have an impact on the revenue comparison. Banking revenue increased slightly due to increases in software and services revenue offset by a decrease in ATM revenue. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison. Retail revenue decreased 3% from 2017 driven by declines in SCO and software license revenue partially offset by growth in services revenue. Foreign currency fluctuations had a favorable impact of 1% on the revenue comparison.
Hospitality revenue decreased 7% primarily due to declines in hardware revenue. Foreign currency fluctuations did not have an impact on the revenue comparison.
Gross Margin
Gross margin as a percentage of revenue was 26.2% in 2018 compared to 28.5% in 2017. Gross margin for the year endedDecember 31, 2018 included$102 million related to transformation and restructuring costs and$23 million related to amortization of acquisition-related intangible assets. Gross margin for the year endedDecember 31, 2017 included$11 million related to transformation and restructuring costs and$50 million related to amortization of acquisition related intangible assets. Excluding these items, gross margin as a percentage of revenue decreased from 29.4% to 28.1%. Excluding these items, gross margin as a percentage of revenue declined mainly due to increased costs associated with alleviating supply chain constraints which were largely resolved by the end of 2018 as we executed our manufacturing network redesign strategy.
Effects of Pension, Postemployment, and Postretirement Benefit Plans
NCR's income from continuing operations for the years ended
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In millions 2019 2018 2017 Pension (benefit) expense$94 $(31) $36 Postemployment expense 29 40 24 Postretirement (benefit) (4) (4) (3) Total expense$119 $5 $57 In 2019, pension expense was$94 million compared to pension benefit of$31 million in 2018 and pension expense of$36 million in 2017. In 2019, pension expense included actuarial losses of$75 million compared to actuarial gains of$45 million in 2018 and actuarial losses of$28 million in 2017. Actuarial losses in 2019 were primarily due to a decrease in the discount rates. Actuarial gains in 2018 were due to an increase in discount rates as well as a favorable impact from a mortality update in theUnited Kingdom . Discount rates in 2017 remained consistent with 2016 and actuarial losses in 2017 were primarily due to a mortality update inthe United States . The components of pension, postemployment and postretirement, other than service cost, are included in other income (expense), net for all periods presented. Service cost is included within the income statement line items within income from operations as other employee compensation costs arising from service rendered during the periods presented.
Selling, General and Administrative Expenses
Selling, general and administrative expenses were$1,051 million in 2019, up from$1,005 million in 2018. As a percentage of revenue, these expenses were 15.2% in 2019 and 15.7% in 2018. In 2019, selling, general and administrative expenses included$31 million of transformation and restructuring costs,$62 million of acquisition-related amortization of intangibles and$3 million of acquisition-related costs. In 2018, selling, general and administrative expenses included$67 million of transformation and restructuring costs,$62 million of acquisition-related amortization of intangibles and$6 million of acquisition-related costs. Excluding these items, selling, general and administrative expenses increased as a percentage of revenue from 13.6% in 2018 to 13.8% in 2019 due to increases in employee-related and real estate expenses. Selling, general, and administrative expenses were$1,005 million in 2018, up from$923 million in 2017. As a percentage of revenue, these expenses were 15.7% in 2018 and 14.2% in 2017. In 2018, selling, general, and administrative expenses included$67 million of transformation and restructuring costs,$62 million of acquisition-related amortization of intangibles and$6 million of acquisition-related costs. In 2017, selling, general, and administrative expenses included$14 million of transformation and restructuring costs,$65 million of amortization of acquisition-related intangible assets and$5 million of acquisition-related costs. Excluding these items, selling, general and administrative expenses increased as a percentage of revenue from 12.9% in 2017 to 13.6% in 2018 due to continued investment in our business.
Research and Development Expenses
Research and development expenses were$259 million in 2019, up from$252 million in 2018. As a percentage of revenue, these costs were 3.7% in 2019 and 3.9% in 2018. In 2019, research and development expenses included$6 million of costs related to our transformation and restructuring costs. In 2018, research and development expenses included$10 million of transformation and restructuring costs. After considering this item, research and development expenses decreased slightly as a percentage of revenue from 3.8% in 2018 to 3.7% in 2019 due to increased discipline for investments in our strategic growth platforms. Research and development expenses were$252 million in 2018, up from$241 million in 2017. As a percentage of revenue, these costs were 3.9% in 2018 and 3.7% in 2017. In 2018, research and development expenses included$10 million of transformation and restructuring costs. In 2017, research and development expenses included$4 million of transformation costs. After considering this item, research and development expenses increased slightly as a percentage of revenue from 3.6% in 2017 to 3.8% in 2018.
Asset Impairment Charges
In 2019, there were no significant asset impairment charges recorded. In 2018, asset impairment charges were$227 million which included a$146 million impairment of goodwill under our previous segment structure, which was assigned to the Hardware reporting unit and a$37 million impairment charge related to long-lived assets held and used in our Hardware operations. Refer to Note 5, "Goodwill and Purchased Intangible Assets" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report for additional discussion. Additionally, in 2018, we recorded$44 million for the write-off of certain internal and external use software capitalization projects that were no longer considered strategic based on review by the new management team and as a result, the projects have been abandoned. In 2017, there were no significant asset impairment charges recorded. 32
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Table of Contents Interest Expense Interest expense was$197 million in 2019 compared to$168 million in 2018 and$163 million in 2017. Interest expense in all years was primarily related to the Company's senior unsecured notes and borrowings under the Company's senior secured credit facility. The increase from 2018 to 2019 is due to higher average outstanding principal balances during 2019 as well as the write-off of$7 million of deferred financing fees as a result of the debt refinancing completed during 2019. Refer to Note 7, "Debt Obligations" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report for additional discussion.
Other Income (Expense), net
Other income (expense), net was expense of
In millions 2019 2018
2017
Interest income$5 $5
Foreign currency fluctuations and foreign exchange contracts (23) (26) (26) Bank-related fees (7) (8) (8) Employee benefit plans (82) 45 (15) Gain on entity liquidations 37 - - Other, net (3) - - Other income (expense), net$(73) $16 $(46) Income Taxes Our effective tax rate was (80)% in 2019, 187% in 2018, and 50% in 2017. During 2019, our tax rate was impacted by the transfer of certain intangible assets among our wholly-owned subsidiaries, resulting in a variety of tax effects including the establishment of deferred tax assets, recognition of tax gains and losses and other deferred tax adjustments. In total, these tax impacts created a net tax benefit associated with the intangible asset transfer of$264 million . Our tax rate was also impacted by foreign valuation allowance releases of$74 million . During 2018, our tax rate was impacted by lower income before tax as well as our final assessment of the impact as a result of the Tax Cuts and Jobs Act of 2017 enacted onDecember 22, 2017 ("U.S. Tax Reform"). We filed tax method changes that resulted in lower deferred tax assets subject to the downward rate remeasurement, and we recorded a valuation allowance on deferred tax assets related to foreign tax credits not able to be utilized as a result ofU.S. Tax Reform. The net impact of these adjustments was an income tax expense of$37 million . During 2017, our tax rate was impacted by a$130 million provisional expense primarily related to the application of the newly enacted 21% corporate income tax rate to our netU.S. deferred income tax assets and the repatriation tax instituted with theU.S. Tax Reform. While we are subject to numerous federal, state and foreign tax audits, we believe that appropriate reserves exist for issues that might arise from these audits. Should these audits be settled, the resulting tax effect could impact the tax provision and cash flows in future periods. During 2020, the Company expects to resolve certain tax matters related toU.S. and foreign jurisdictions. These resolutions could have a material impact on the effective tax rate in 2020. We regularly review our deferred tax assets for recoverability and establish a valuation allowance if it is more likely than not that some portion or all of a deferred tax asset will not be realized. The determination as to whether a deferred tax asset will be realized is made on a jurisdictional basis and is based on the evaluation of positive and negative evidence. This evidence includes historical taxable income/loss, projected future taxable income, the expected timing of the reversal of existing temporary differences and the implementation of tax planning strategies.
Loss from Discontinued Operations
In 2019, the loss from discontinued operations was
In 2018, the loss from discontinued operations was
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In 2017, the loss from discontinued operations was
Revenue and Operating Income by Segment
As described in Note 4, "Segment Information and Concentrations" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report, the Company manages and reports its businesses in the following segments:
• Banking - We offer solutions to enable customers in the financial services
industry to reduce costs, generate new revenue streams and enhance
customer loyalty. These solutions include a comprehensive line of ATM and
payment processing hardware and software; cash management and video
banking software and customer-facing digital banking services; and related
installation, maintenance, and managed and professional services.• Retail - We offer solutions to customers in the retail industry designed
to improve selling productivity and checkout processes as well as increase
service levels. These solutions primarily include retail-oriented
technologies, such as POS terminals and POS software; a retail software
platform with a comprehensive suite of retail software applications;
innovative self-service kiosks, such as SCO; as well as bar-code scanners.
We also offer installation, maintenance, managed and professional services
as well as payment processing solutions.
• Hospitality - We offer technology solutions to customers in thehospitality industry, serving businesses that range from a single store or
restaurant to global chains and sports and entertainment venues. Our
solutions include POS hardware and software solutions, installation,
maintenance, managed and professional services as well as payment
processing solutions.
• Other - This category includes telecommunications and technology solutions
where we offer maintenance as well as managed and professional services
for third-party hardware provided to select manufacturers who value and
leverage our global service capability.
Each of these segments derives its revenue by selling in the sales theaters in
which NCR operates. Segments are measured for profitability by the Company's
chief operating decision maker based on revenue and segment operating income.
For purposes of discussing our operating results by segment, we exclude the
impact of certain non-operational items from segment operating income,
consistent with the manner by which management reviews each segment, evaluates
performance, and reports our segment results under GAAP. This format is useful
to investors because it allows analysis and comparability of operating trends.
It also includes the same information that is used by NCR management to make
decisions regarding the segments and to assess our financial performance. Our
segment results are reconciled to total Company results reported under GAAP in
Note 4, "Segment Information and Concentrations" of the Notes to Consolidated
Financial Statements included in Item 8 of Part II of this Report.
In the segment discussions below, we have disclosed the impact of foreign currency fluctuations as it relates to our segment revenue due to its significance.
Banking Segment
The following table presents the Banking revenue and segment operating income
for the years ended
In millions 2019 2018 2017 Revenue$3,512 $3,183 $3,175 Operating income$514 $412 $421
Operating income as a percentage of revenue 14.6% 12.9% 13.3%
Banking revenue increased 10% in 2019 compared to 2018 due to a 29% increase in ATM revenue driven by higher backlog conversion and higher ATM-related software as well as growth in services revenue. Foreign currency fluctuations had an unfavorable impact of 3% on the revenue comparison. Banking revenue increased slightly in 2018 compared to 2017 driven by an increase in hardware maintenance and cloud revenue offset by a 3% decline in ATM revenue. While there were supply chain constraints throughout the year, by the end of the year, the constraints were largely resolved and our overall plan to improve ATM manufacturing operations were progressing with strong production levels exiting the year. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison.
Operating income increased in 2019 compared to 2018 primarily driven by higher volume and a favorable mix of revenue with improved hardware profitability. Operating income decreased in 2018 compared to 2017 primarily driven by a decrease in ATM volume and the
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impact of increased costs associated with alleviating supply chain constraints partially offset by a favorable impact from services productivity initiatives and higher cloud revenue. Retail Segment The following table presents the Retail revenue and segment operating income for the years endedDecember 31 : In millions 2019 2018 2017 Revenue$2,217 $2,097 $2,169 Operating income$144 $142 $231
Operating income as a percentage of revenue 6.5% 6.8% 10.7%
Retail revenue increased 6% in 2019 compared to 2018 primarily driven by an increase in payments, SCO and services revenue. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison.
Retail revenue decreased 3% in 2018 compared to 2017 primarily driven by a decline in SCO revenues of 15% and software license revenue partially offset by growth in services revenue. SCO revenue decreased due to the timing of customer roll-outs in the current year. Foreign currency fluctuations had a favorable impact of 1% in the year-over-year comparison. Operating income slightly increased in 2019 compared to 2018 primarily due to higher software and services revenue and improved hardware profitability. Operating income decreased in 2018 compared to 2017 primarily due to lower revenue as well as the impact of increased costs associated with alleviating supply chain constraints. Hospitality Segment
The following table presents the Hospitality revenue and segment operating
income for the years ended
In millions 2019 2018 2017 Revenue$843 $817 $878 Operating income$56 $85 $140
Operating income as a percentage of revenue 6.6% 10.4% 15.9%
Hospitality revenue increased 3% in 2019 compared to 2018 driven by an increase in cloud, payments and POS revenue. Foreign currency fluctuations had an unfavorable impact of 1% on the revenue comparison.
Hospitality revenue decreased 7% in 2018 compared to 2017 driven by a decrease
in hardware revenue due to several large customer roll-outs in the prior year
and lower software license revenue offset by an increase in cloud and services
revenue. Foreign currency fluctuations had no impact on the revenue comparison.
Operating income decreased in 2019 compared to 2018 driven by several large
installations in the prior year, an unfavorable mix of revenue as well as
increased investment in product support and payments. Operating income decreased
in 2018 compared to 2017 driven by lower revenue and the impact of increased
cost associated with improving the supply chain constraints.
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Table of Contents Other Segment The following table presents the Other revenue and operating income for the years endedDecember 31 : In millions 2019 2018 2017 Revenue$343 $308 $294 Operating income$44 $49 $48
Operating income as a percentage of revenue 12.8% 15.9% 16.3%
Other revenue increased 11% in 2019 compared to 2018 driven by an increase in services revenue. Foreign currency fluctuations had an unfavorable impact of 2% on the revenue comparison.
Other revenue increased 5% in 2018 compared to 2017 driven by an increase in hardware revenue as well as growth in services revenue. Foreign currency fluctuations had a favorable impact of 1% on the revenue comparison.
Operating income decreased in 2019 compared to 2018 driven by an unfavorable mix of revenue partially offset by the increase in revenue. Operating income slightly increased in 2018 compared to 2017 driven by an increase in revenue partially offset by an unfavorable product mix.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
In the year endedDecember 31, 2019 , cash provided by operating activities was$628 million and in the year endedDecember 31, 2018 cash provided by operating activities was$572 million . The increase was due to higher earnings partially offset by the timing of working capital requirements. NCR's management uses a non-GAAP measure called "free cash flow" to assess the financial performance of the Company. We define free cash flow as net cash provided by (used in) operating activities and cash provided by (used in) discontinued operations, less capital expenditures for property, plant and equipment, less additions to capitalized software plus discretionary pension contributions and settlements (if any). Free cash flow does not have a uniform definition under GAAP, and therefore NCR's definition of this measure may differ from that of other companies. We believe free cash flow information is useful for investors because it relates the operating cash flows from the Company's continuing and discontinued operations to the capital that is spent and to improve business operations. In particular, free cash flow indicates the amount of cash available after capital expenditures for, among other things, investments in the Company's existing businesses, strategic acquisitions and investments, repurchase of NCR stock and repayment of debt obligations. Free cash flow does not represent the residual cash flow available for discretionary expenditures, since there may be other non-discretionary expenditures that are not deducted from the measure. This non-GAAP measure should not be considered a substitute for, or superior to, cash flows from operating activities under GAAP. The table below reconciles net cash provided by (used in) operating activities, the most directly comparable GAAP measure, to NCR's non-GAAP measure of free cash flow for the years endedDecember 31 : In millions 2019 2018 2017 Net cash provided by operating activities$628 $572 $752
Capital expenditures for property, plant and equipment (91) (143) (128) Additions to capitalized software
(238) (170) (166)
Net cash used in discontinued operations (24) (36) (8) Free cash flow (non-GAAP)$275 $223 $450 In 2019, net cash provided by operating activities increased$56 million , and net cash used in discontinued operations decreased$12 million , which contributed to a net increase in free cash flow of$52 million in comparison to 2018. Additionally, capital expenditures for property, plant and equipment decreased$52 million primarily due to expenditures for our new global headquarters completed in the previous period. Additions to capitalized software increased$68 million due to continued investment in our strategic growth platforms. The net cash used in discontinued operations in 2019 decreased$12 million in comparison to 2018 primarily due to decreased remediation spend associated with theFox River environmental matters in 2019. In 2018, net cash provided by operating activities decreased$180 million , and net cash used in discontinued operations increased$28 million , which contributed to a net decrease in free cash flow of$227 million in comparison to 2017. Additionally, capital expenditures for property, plant and equipment increased$15 million primarily due to expenditures related to the new global headquarters inAtlanta, Georgia . Additions to capitalized software increased$4 million due to continued investment in software solution enhancements. The 36
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net cash used in discontinued operations in 2018 increased
Financing activities and certain other investing activities are not included in our calculation of free cash flow. Our other investing activities primarily include business acquisitions, and investments as well as proceeds from the sales of property, plant and equipment. During the year endedDecember 31, 2019 , we completed six acquisitions for$203 million , which included the acquisition ofD3 Technology, Inc. ,Zynstra, Ltd. as well as several local Hospitality resellers. Our financing activities include borrowings and repayments of credit facilities and notes. During the year endedDecember 31, 2019 , we amended and restated our senior secured credit facility which resulted in the repayment of the term loan under the prior facility of$759 million and proceeds from the term loan under the new facility of$750 million . Additionally, during the year endedDecember 31, 2019 , we issued new senior unsecured notes for an aggregate principal amount of$1 billion and redeemed in full the$500 million aggregate principal amount of 4.625% senior unsecured notes and the$400 million aggregate principal amount of 5.875% senior unsecured notes. In the year endedDecember 31, 2019 , we paid$32 million of debt issuance fees related to these transactions. Financing activities during the year endedDecember 31, 2019 also included the redemption of the outstanding Series A Convertible Preferred Stock owned byBlackstone for$302 million , the repurchase of our common stock for a total of$96 million , proceeds from stock employee plans of$16 million and tax withholding payments on behalf of employees for stock based awards that vested of$29 million . Financing activities during the year endedDecember 31, 2018 included the repurchase of our common stock for a total of$210 million , proceeds from employee stock plans of$20 million and tax withholding payments on behalf of employees for stock based awards that vested of$36 million . Financing activities during the year endedDecember 31, 2017 included the repurchase of our common stock for a total of$350 million , proceeds from employee stock plans of$15 million and tax withholding payments on behalf of employees for stock based awards that vested of$31 million . Long Term Borrowings OnAugust 28, 2019 , the Company entered into an amended and restated senior secured credit facility and refinanced the long term facility and revolving credit facility thereunder. The senior secured credit facility consisted of a term loan facility with an aggregate principal commitment of$750 million , of which$748 million was outstanding as ofDecember 31, 2019 . Additionally, the senior secured credit facility provides for a five-year revolving credit facility with an aggregate principal amount of$1.1 billion , of which$265 million was outstanding as ofDecember 31, 2019 . Loans under the revolving credit facility are available inU.S. Dollars, Euros and Pound Sterling. The revolving credit facility also allows a portion of the availability to be used for letters of credit, and as ofDecember 31, 2019 , outstanding letters of credit were$28 million . As ofDecember 31, 2018 , the outstanding principal balance of the term loan facility was$759 million and the outstanding balance on the revolving facility was$120 million . OnAugust 21, 2019 , the Company issued$500 million aggregate principal amount of 5.750% senior unsecured notes due in 2027 and$500 million aggregate principal amount 6.125% senior unsecured notes due in 2029. OnSeptember 7, 2019 , the Company redeemed in full the$500 million aggregate principal amount of 4.625% senior unsecured notes that were due in 2021. OnDecember 15, 2019 , the Company redeemed in full the$400 million aggregate principal amount of 5.875% senior unsecured notes that were due in 2021. As ofDecember 31, 2019 , we had outstanding$700 million in aggregate principal balance of 6.375% senior unsecured notes due in 2023,$600 million in aggregate principal balance of 5.00% senior unsecured notes due in 2022,$500 million in aggregate principal balance of 5.750% senior unsecured notes due in 2027 and$500 million in aggregate principal balance of 6.125% senior unsecured notes due in 2029. InNovember 2019 , the Company amended its trade receivables securitization facility (the A/R Facility) to increase the maximum commitment made available under the Facility and extended the maturity date toNovember 2021 . The amendment also included other modifications including the scope of receivables subject to the facility and related eligibility requirements, the adoption of a new benchmark for determining overnight funding rates and the fees and interest payable to the agent and lenders party thereto. The A/R Facility now provides for up to$300 million in funding based on the availability of eligible receivables and other customary factors and conditions. As ofDecember 31, 2019 and 2018, the Company had$270 million and$100 million , respectively, outstanding under the facility.
See Note 7, "Debt Obligations" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report for further information on the senior secured credit facility, the senior unsecured notes and the trade receivables securitization facility.
Employee Benefit Plans We expect to make pension, postemployment and postretirement plan contributions of approximately$78 million in 2020. See Note 10, "Employee Benefit Plans" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report for additional discussion on our pension, postemployment and postretirement plans. 37
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Transformation and Restructuring Initiatives In 2019, we successfully executed our spend optimization program to drive cost savings through operational efficiencies to generate at least$100 million of savings. This initiative created efficiencies in our corporate functions, reduced spending in non-strategic areas and limited discretionary spending. We incurred a pre-tax charge of$58 million in 2019 with a cash impact of$44 million . Additionally, during 2020, as we execute our transition to NCR as-a-Service, our efforts will be centered around improving our organizational design and driving improved efficiencies. The primary areas of focus include our offerings, go to market strategy and support and delivery model. We expect to achieve$90 million annualized run-rate savings by year-end 2020 with$40 million of realized savings in 2020. Series A Convertible Preferred Stock OnDecember 4, 2015 , NCR issued 820,000 shares of Series A Convertible Preferred Stock to certain entities affiliated with theBlackstone Group L.P. (collectively,Blackstone ) for an aggregate purchase price of$820 million , or$1,000 per share, pursuant to an Investment Agreement between the Company andBlackstone , datedNovember 11, 2015 . In connection with the issuance of the Series A Convertible Preferred Stock, the Company incurred direct and incremental expenses of$26 million . These direct and incremental expenses reduced the Series A Convertible Preferred Stock, and will be accreted through retained earnings as a deemed dividend from the date of issuance through the first possible known redemption date,March 16, 2024 . Holders of Series A Convertible Preferred Stock are entitled to a cumulative dividend at the rate of 5.5% per annum, payable quarterly in arrears and payable in-kind for the first sixteen dividend payments, after which, beginning in the first quarter of 2020, dividends will be payable in cash or in-kind at the option of the Company. Under the Investment Agreement,Blackstone agreed not to sell or otherwise transfer its shares of Series A Convertible Preferred Stock (or any shares of common stock issued upon conversion thereof) without the Company's consent untilJune 4, 2017 . InMarch 2017 , we providedBlackstone with an early release from this lock-up, allowingBlackstone to sell approximately 49% of its shares of Series A Convertible Preferred Stock, and in return,Blackstone agreed to amend the Investment Agreement to extend the lock-up on the remaining 51% of its shares of Series A Convertible Preferred Stock for six months untilDecember 1, 2017 . In connection with the early release of the lock-up,Blackstone offered for sale 342,000 shares of Series A Convertible Preferred Stock in an underwritten public offering. In addition,Blackstone converted 90,000 shares of Series A Convertible Preferred Stock into shares of our common stock and we repurchased those shares of common stock for$48.47 per share. The underwritten offering and the stock repurchase were consummated onMarch 17, 2017 . OnSeptember 18, 2019 , NCR entered into an agreement to repurchase and convert the outstanding 512,221 shares of Series A Convertible Preferred Stock owned byBlackstone . NCR repurchased 237,673 shares of Series A Convertible Preferred Stock for total cash consideration of$302 million . The remaining shares ofBlackstone's Series A Convertible Preferred Stock, including accrued dividends, were converted to approximately 9.16 million shares of common stock at a conversion price of$30.00 per share. This transaction retires all of the Series A Convertible Preferred Stock owned byBlackstone . During the year endedDecember 31, 2019 and 2018, the Company paid dividends-in-kind of$43 million and$46 million respectively, associated with the Series A Convertible Preferred Stock. As ofDecember 31, 2019 and 2018, the Company had accrued dividends of$1 million and$3 million , respectively. There were no cash dividends declared in the years endedDecember 31, 2019 and 2018. The remaining Series A Convertible Preferred Stock is convertible at the option of the holders at any time into shares of common stock at a conversion price of$30.00 per share, or a conversion rate of 33.333 shares of common stock per share of Series A Convertible Preferred Stock. As ofDecember 31, 2019 and 2018, the maximum number of common shares that could be required to be issued upon conversion of the outstanding shares of the Series A Convertible Preferred Stock was 13.3 million and 29.0 million shares, respectively, which would represent approximately 9% and 20% of our outstanding common stock as ofDecember 31, 2019 and 2018 including the preferred shares on an as-converted basis. Cash and Cash Equivalents Held by Foreign Subsidiaries Cash and cash equivalents held by the Company's foreign subsidiaries were$475 million and$443 million atDecember 31, 2019 and 2018, respectively. As a result ofU.S. Tax Reform, including the repatriation tax, in general we will not be subject to additionalU.S. taxes if cash and cash equivalents and short-term investments held outside theU.S. are distributed to theU.S. in the form of dividends or otherwise. However, we may be subject to foreign withholding taxes, which could be significant. Summary As ofDecember 31, 2019 , our cash and cash equivalents totaled$509 million and our total debt was$3.59 billion . Our borrowing capacity under our senior secured credit facility was$807 million atDecember 31, 2019 . Our ability to generate positive cash flows from operations is dependent on general economic conditions, and the competitive environment in our industry, and is 38
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subject to the business and other risk factors described in Item 1A of Part I of this Report. If we are unable to generate sufficient cash flows from operations, or otherwise comply with the terms of our credit facilities, we may be required to seek additional financing alternatives. We believe that we have sufficient liquidity based on our current cash position, cash flows from operations and existing financing to meet our expected pension, postemployment and postretirement plan contributions, remediation payments related to environmental matters, debt servicing obligations, payments related to transformation initiatives, and our operating requirements for the next twelve months. Contractual Obligations In the normal course of business, we enter into various contractual obligations that impact, or could impact, the liquidity of our operations. The following table and discussion outlines our material obligations as ofDecember 31, 2019 on an undiscounted basis, with projected cash payments in the years shown: Total 2025 & In millions Amounts 2020 2021-2022 2023-2024 Thereafter All Other Debt obligations$ 3,591 $ 15 $ 885 $ 980 $ 1,711 $ - Interest on debt obligations 1,063 186 358 242 277 - Estimated environmental liability payments 117 42 31 24 20 - Lease obligations 733 129 182 102 320 - Purchase obligations 1,128 1,076 44 8 - - Uncertain tax positions 92 - - - - 92 Total obligations$ 6,724 $ 1,448 $ 1,500 $ 1,356 $ 2,328 $ 92 For purposes of this table, we used interest rates as ofDecember 31, 2019 to estimate the future interest on debt obligations outstanding as ofDecember 31, 2019 and have assumed no voluntary prepayments of existing debt. See Note 7, "Debt Obligations" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report for additional disclosure related to our debt obligations and the related interest rate terms. The estimated environmental liability payments included in the table of contractual obligations shown above are related to theFox River , Kalamazoo and Ebina environmental matters. The amounts shown are our expected payments, net of the payment obligations of co-obligors and an estimate for payments to be received from indemnification parties. For additional information, refer to Note 11, "Commitments and Contingencies" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report. Our lease obligations are primarily for future rental amounts for our world headquarters inAtlanta, Georgia , as well as for certain sales and manufacturing facilities in various domestic and international locations and leases related to equipment and vehicles. Purchase obligations represent committed purchase orders and other contractual commitments for goods or services. The purchase obligation amounts were determined through information in our procurement systems and payment schedules for significant contracts. Included in the amounts are committed payments in relation to the long-term service agreement with Accenture under which NCR's transaction processing activities and functions are performed. We have a$92 million liability related to our uncertain tax positions. Due to the nature of the underlying liabilities and the extended time often needed to resolve income tax uncertainties, we cannot make reliable estimates of the amount or timing of cash payments that may be required to settle these liabilities. For additional information, refer to Note 8, "Income Taxes" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report. OurU.S. and international employee benefit plans, which are described in Note 10, "Employee Benefit Plans" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report, could require significant future cash payments. We expect mandatory contributions to ourU.S. pension plan could be required beginning in 2021 based on current funding requirements and assuming the Company does not complete any actions, including, but not limited to, a pre-fund or de-risking action. The funded status of NCR'sU.S. pension plan is an underfunded position of$577 million as ofDecember 31, 2019 compared to an underfunded position of$494 million as ofDecember 31, 2018 . Our international retirement plans were in an underfunded position of$116 million as ofDecember 31, 2019 , as compared to an underfunded position of$139 million as ofDecember 31, 2018 . The increase in our underfunded position is primarily attributable to a decrease in discount rates. Contributions to international pension plans are expected to be approximately$26 million in 2020. 39
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We also have product warranties that may affect future cash flows. These items are not included in the table of obligations shown above, but are described in detail in Note 11, "Commitments and Contingencies" of the Notes to Consolidated Financial Statements included in Item 8 of Part II of this Report. Our senior secured credit facility and the indentures for our senior unsecured notes include affirmative and negative covenants that restrict or limit our ability to, among other things, incur indebtedness; create liens on assets; engage in certain fundamental corporate changes or changes to our business activities; make investments; sell or otherwise dispose of assets; engage in sale-leaseback or hedging transactions; pay dividends or make similar distributions; repay other indebtedness; engage in certain affiliate transactions; or enter into agreements that restrict our ability to create liens, pay dividends or make loan repayments. Our senior secured credit facility also includes financial covenants that require us to maintain: • a consolidated leverage ratio on the last day of any fiscal quarter, not
to exceed (i) in the case of any fiscal quarter ending on or prior to
reflect debt used to reduce NCR's unfunded pension liabilities to
(b) 1.00, and (ii) in the case of any fiscal quarter ending after March
31, 2021 and on or prior to
amount (not to exceed 0.50) to reflect debt used to reduce NCR's unfunded
pension liabilities to (b) 1.00; and (iii) in the case of any fiscal
quarter ending after
(not to exceed 0.50) to reflect debt used to reduce our unfunded pension
liabilities to (b) 1.00.
The Company has the option to elect to increase the maximum permitted leverage ratio by 0.25 in connection with the consummation of any material acquisition (as defined in the senior secured credit facility) for four fiscal quarters, but in no event will the maximum permitted leverage ratio, inclusive of all increases, exceed 4.75 to 1.00. AtDecember 31, 2019 , the maximum consolidated leverage ratio under the Senior Secured Credit Facility was 4.75 to 1.00. Off-Balance Sheet Arrangements We have no significant contractual obligations not fully recorded on our Consolidated Balance Sheets or fully disclosed in the notes to our consolidated financial statements. We have no material off-balance sheet arrangements as defined by SEC Regulation S-K Item 303(a)(4)(ii).
See Note 11, "Commitments and Contingencies" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report for additional information on guarantees associated with our business activities.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our consolidated financial statements are prepared in accordance with GAAP. In connection with the preparation of these financial statements, we are required to make assumptions, estimates and judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosure of contingent liabilities. These assumptions, estimates and judgments are based on historical experience and are believed to be reasonable at the time. However, because future events and their effects cannot be determined with certainty, the determination of estimates requires the exercise of judgment. Our critical accounting policies are those that require assumptions to be made about matters that are highly uncertain. Different estimates could have a material impact on our financial results. Judgments and uncertainties affecting the application of these policies and estimates may result in materially different amounts being reported under different conditions or circumstances. Our management continually reviews these assumptions, estimates and judgments to ensure that our financial statements are presented fairly and are materially correct. In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require significant management judgment in its application. There are also areas in which management's judgment in selecting among available alternatives would not produce a materially different result. The significant accounting policies and estimates that we believe are the most critical to aid in fully understanding and evaluating our reported financial results are discussed in the paragraphs below. Our senior management has reviewed these critical accounting policies and related disclosures with our independent registered public accounting firm and the Audit Committee of our Board of Directors. See Note 1, "Basis of Presentation and Significant Accounting Policies" of the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report, which contains additional information regarding our accounting policies and other disclosures required by GAAP. Revenue RecognitionThe Company records revenue when, or as, performance obligations are satisfied by transferring control of a promised good or service to the customer in an amount that reflects the consideration we expect to be entitled to in exchange for products and services. The Company evaluates the transfer of control primarily from the customer's perspective where the customer has the ability to direct the use of and obtain substantially all of the remaining benefits from that good or service. The Company does not adjust the transaction price for taxes collected from customers, as those amounts are netted against amounts remitted to government authorities. 40
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NCR frequently enters contracts that include multiple distinct performance
obligations, including hardware, software, professional consulting services,
installation services and maintenance support services. A promise to a customer
is considered distinct when the product or service is both capable of being
distinct, and distinct in the context of the contract. For these arrangements,
the Company allocates the transaction price, at contract inception, to each
distinct performance obligation on a relative standalone selling price basis.
The primary method used to estimate standalone selling price is the price that
the Company charges for that good or service when the Company sells it
separately in similar circumstances to similar customers.
For hardware products, control is generally transferred when the customer has
the ability to direct the use of and obtain substantially all of the remaining
benefits of the products, which generally coincides with when the customer has
assumed title and risk of loss of the goods sold. In certain instances, customer
acceptance is required prior to the passage of title and risk of loss of the
delivered products. In such cases, revenue is not recognized until the customer
acceptance is obtained. Delivery, acceptance, and transfer of title and risk of
loss generally occur in the same reporting period. NCR's customers may request
that delivery and passage of title and risk of loss occur on a bill and hold
basis. Hardware products may also be provided as a service when included in a
package sold with software and services. In these instances, revenue is
recognized in accordance with the lease accounting standard and depending on the
terms and conditions included in the contract may be either sales-type leases or
operating leases. Revenue from hardware sales-type leases is recognized at the
beginning of the lease term and revenue from operating leases is recognized on a
straight-line basis over the term of the contract.
Software products may be sold as perpetual licenses, term-based licenses and
cloud-enabled, software as a service (SaaS). Both perpetual and term-based
license revenue are recognized at a point in time when control transfers to the
customer and reported within product revenue. Control is typically transferred
when the customer takes possession of, or has complete access to, the software.
Revenue from term license software is recognized for the committed term of the
contract (which is typically one month to one year due to customer termination
rights). If the amount of consideration the Company expects to be paid in
exchange for the licenses depends on customer usage, revenue is recognized when
the usage occurs.
Cloud-enabled SaaS primarily consists of fees to provide our customers access to
our platform and cloud-based applications. Revenue from SaaS contracts is
recognized as variable consideration directly allocated based on customer usage
or on a ratable basis over the contract term beginning on the date that our
service is made available to the customer. SaaS is reported as part of our
services revenue.
The Company sells some product solutions that include a combination of
cloud-enabled SaaS and on-premise term-based software licenses. Significant
judgment is required to determine if the products and services represent
distinct promises to the customer or if they should be combined into one
performance obligation. When they are combined into one performance obligation,
revenue is recognized ratably over the subscription period for which the SaaS is
provided.
In addition to SaaS, our services revenue includes professional consulting,
installation and maintenance support. Professional consulting primarily consists
of software implementation, integration, customization and optimization
services. Revenue from professional consulting contracts is recognized when the
services are completed or customer acceptance of the service is received, if
required. For installation and maintenance, control is transferred as the
services are provided or ratably over the service period, or, if applicable,
after customer acceptance of the service. We apply the 'as invoiced' practical
expedient, for performance obligations satisfied over time, if the amount we may
invoice corresponds directly with the value to the customer of the
Company's performance to date. This expedient permits us to recognize revenue in
the amount we invoice the customer.
The nature of our arrangements gives rise to several types of variable
consideration including service level agreement credits, stock rotation rights,
trade-in credits and volume-based rebates. At contract inception, we include
this variable consideration in our transaction price when there is a basis to
reasonably estimate the amount of the fee and it is probable there will not be a
significant reversal. These estimates are generally made using the expected
value method and a portfolio approach, based on historical experience,
anticipated performance and our best judgment at the time. These estimates are
reassessed at each reporting date. Because of our confidence in estimating these
amounts, they are included in the transaction price of our contracts and the
associated remaining performance obligations.
We account for shipping and handling activities related to contracts with
customers as costs to fulfill our promise to transfer the associated products,
rather than as a separate performance obligation. Accordingly, we record amounts
billed for shipping and handling costs as a component of net product sales, and
classify such costs as a component of cost of products.
Allowance for Doubtful Accounts We evaluate the collectability of our accounts
receivable based on a number of factors. We establish provisions for doubtful
accounts using percentages of our accounts receivable balance as an overall
proxy to reflect historical average credit losses and also use management
judgment that may include elements that are uncertain, including specific
provisions for known issues. The percentages are applied to aged accounts
receivable balances. Aged accounts are determined based on the number of days
the receivable is outstanding, measured from the date of the invoice, or from
the date of revenue recognition. As the age of the receivable increases, the
provision percentage also increases. This policy is applied consistently among
all of our operating segments.
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Based on the factors below, we periodically review customer account activity in order to assess the adequacy of the allowances provided for potential losses. Factors include economic conditions and judgments regarding collectability of account balances, each customer's payment history and creditworthiness. The allowance for doubtful accounts was$44 million as ofDecember 31, 2019 ,$31 million as ofDecember 31, 2018 , and$37 million as ofDecember 31, 2017 . These allowances represent, as a percentage of gross receivables, 2.9% in 2019, 2.2% in 2018, and 2.8% in 2017. Given our experience, the reserves for potential losses are considered adequate, but if one or more of our larger customers were to default on its obligations, we could be exposed to potentially significant losses in excess of the provisions established. We continually evaluate our reserves for doubtful accounts and economic deterioration could lead to the need to increase our allowances. Inventory Valuation Inventories are stated at the lower of cost or net realizable value, using the average cost method. Each quarter, we reassess raw materials, work-in-process, parts and finished equipment inventory costs to identify purchase or usage variances from standards, and valuation adjustments are made. Additionally, to properly provide for potential exposure due to slow-moving, excess, obsolete or unusable inventory, inventory values are reduced based on forecasted usage, orders, technological obsolescence and inventory aging. These factors are impacted by market conditions, technology changes and changes in strategic direction, and require estimates and management judgment that may include elements that are uncertain. On a quarterly basis, we review the current net realizable value of inventory and adjust for any inventory exposure due to age or excess of cost over net realizable value. We have inventory in more than 40 countries around the world. We purchase inventory from third party suppliers and manufacture inventory at our plants. This inventory is transferred to our distribution and sales organizations at cost plus a mark-up. This mark-up is referred to as inter-company profit. Each quarter, we review our inventory levels and analyze our inter-company profit to determine the correct amount of inter-company profit to eliminate. Key assumptions are made to estimate product gross margins, the product mix of existing inventory balances and current period shipments. Over time, we refine these estimates as facts and circumstances change. If our estimates require refinement, our results could be impacted. The policies described are applied consistently across all of our operating segments. Warranty Reserves One of our key objectives is to provide superior quality products and services. To that end, we provide a standard manufacturer's warranty typically extending up to 12 months, allowing our customers to seek repair of products under warranty at no additional cost. A corresponding estimated liability for potential warranty costs is recorded at the time of the sale. We sometimes offer extended warranties in the form of product maintenance services to our customers for purchase. For maintenance contracts that have been combined with product contracts under the revenue guidance, the Company defers revenue at an amount based on the relative standalone selling price allocation and recognizes the deferred revenue over the service term. For non-combined maintenance contracts, the Company defers the stated amount of the separately priced service and recognizes the deferred revenue over the service term. Refer to Note 11, "Commitments and Contingencies" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report for further information regarding our accounting for extended warranties. Future warranty obligation costs are based upon historical factors such as labor rates, average repair time, travel time, number of service calls per machine and cost of replacement parts. When a sale is consummated, the total customer revenue is recognized and the associated warranty liability is recorded based upon the estimated cost to provide the service over the warranty period. Total warranty costs were$37 million in 2019,$42 million in 2018, and$43 million in 2017. Warranty costs as a percentage of total product revenue was 1.4% in 2019, 1.8% in 2018, and 1.7% in 2017. Historically, the principal factor used to estimate our warranty costs has been service calls per machine. Significant changes in this factor could result in actual warranty costs differing from accrued estimates. Although no near-term changes in our estimated warranty reserves are currently anticipated, in the unlikely event of a significant increase in warranty claims by one or more of our larger customers, costs to fulfill warranty obligations would be higher than provisioned, thereby impacting results. GoodwillGoodwill is tested at the reporting unit level for impairment on an annual basis during the fourth quarter or more frequently if certain events occur indicating that the carrying value of goodwill may be impaired. A significant amount of judgment is involved in determining if an indicator of impairment has occurred. Such indicators may include a decline in expected cash flows, a significant adverse change in legal factors or in the business climate, a decision to sell a business, unanticipated competition, or slower growth rates, among others. In the evaluation of goodwill for impairment, we have the option to perform a qualitative assessment to determine whether further impairment testing is necessary or to perform a quantitative assessment by comparing the fair value of a reporting unit to its carrying 42
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amount, including goodwill. Under the qualitative assessment, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount. If under the quantitative assessment the fair value of a reporting unit is less than its carrying amount, then the amount of the impairment loss, if any, is determined based on the amount by which the carrying amount exceeds the fair value up to the total value of goodwill assigned to the reporting unit. Fair values of the reporting units are estimated using a weighted methodology considering the output from both the income and market approaches. The income approach incorporates the use of a discounted cash flow (DCF) analysis. A number of significant assumptions and estimates are involved in the application of the DCF model to forecast operating cash flows, including revenue growth, operating income margin and discount rate. Several of these assumptions vary among reporting units. The cash flow forecasts are generally based on approved strategic operating plans. The market approach is performed using the Guideline Public Companies (GPC) method which is based on earnings multiple data. We perform a reconciliation between our market capitalization and our estimate of the aggregate fair value of the reporting units, including consideration of a control premium. Valuation of Long-lived Assets and Amortizable Other Intangible Assets We perform impairment tests for our long-lived assets if an event or circumstance indicates that the carrying amount of our long-lived assets may not be recoverable. In response to changes in industry and market conditions, we may also strategically realign our resources and consider restructuring, disposing of, or otherwise exiting businesses. Such activities could result in impairment of our long-lived assets or other intangible assets. We also are subject to the possibility of impairment of long-lived assets arising in the ordinary course of business. We consider the likelihood of impairment if certain events occur indicating that the carrying value of the long-lived assets may be impaired and we may recognize impairment if the carrying amount of a long-lived asset or intangible asset is not recoverable from its undiscounted cash flows. Impairment is measured as the difference between the carrying amount and the fair value of the asset. We use both the income approach and market approach to estimate fair value. Our estimates of fair value are subject to a high degree of judgment since they include a long-term forecast of future operations. Accordingly, any value ultimately derived from our long-lived assets may differ from our estimate of fair value. Pension, Postretirement and Postemployment Benefits We sponsor domestic and foreign defined benefit pension and postemployment plans as well as domestic postretirement plans. As a result, we have significant pension, postretirement and postemployment benefit costs, which are developed from actuarial valuations. Actuarial assumptions attempt to anticipate future events and are used in calculating the expense and liability relating to these plans. These factors include assumptions we make about interest rates, expected investment return on plan assets, rate of increase in healthcare costs, involuntary turnover rates, and rates of future compensation increases. In addition, our actuarial consultants advise us about subjective factors such as withdrawal rates and mortality rates to use in our valuations. We generally review and update these assumptions on an annual basis at the beginning of each fiscal year. We are required to consider current market conditions, including changes in interest rates, in making these assumptions. The actuarial assumptions that we use may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates, or longer or shorter life spans of participants. These differences may result in a significant impact to the amount of pension, postretirement or postemployment benefits expense we have recorded or may record. Ongoing pension, postemployment and postretirement expense impacts all of our segments. Pension mark-to-market adjustments, settlements, curtailments and special termination benefits are excluded from our segment results as those items are not included in the evaluation of segment performance. See Note 4, "Segment Information and Concentrations," in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report for a reconciliation of our segment results to income from operations. The key assumptions used in developing our 2019 expense were discount rates of 3.8% for ourU.S. pension plan and 3.7% for our postretirement plan, and an expected return on assets assumption of 3.6% for ourU.S. pension plan in 2019. TheU.S. plan represented 62% of the pension obligation and 100% of the postretirement plan obligation as ofDecember 31, 2019 . Holding all other assumptions constant, a 0.25% change in the discount rate used for theU.S. plan would have increased or decreased 2019 ongoing pension expense by approximately$2 million and would have had an immaterial impact on 2019 postretirement income. A 0.25% change in the expected rate of return on plan assets assumption for theU.S. pension plan would have increased or decreased 2019 ongoing pension expense by approximately$3 million . Our expected return on plan assets has historically been and will likely continue to be material to net income. For 2020, we intend to use discount rates of 2.7% and 2.5% in determining theU.S. pension and postretirement expense, respectively. We intend to use an expected rate of return on assets assumption of 2.8% for theU.S. pension plan. We recognize additional changes in the fair value of plan assets and net actuarial gains or losses of our pension plans upon remeasurement, which occurs at least annually in the fourth quarter of each year. The remaining components of pension expense, primarily net service cost, interest cost, and the expected return on plan assets, are recorded on a quarterly basis as ongoing pension expense. While it is required that we review our actuarial assumptions each year at the measurement date, we generally do not change them between measurement dates. We use a measurement date ofDecember 31 for all of our plans. Changes in assumptions or asset values may have a significant effect on the annual measurement of expense or income in the fourth quarter. 43
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The most significant assumption used in developing our 2019 postemployment plan expense is the assumed rate of involuntary turnover of 4.3%. The involuntary turnover rate is based on historical trends and projections of involuntary turnover in the future. A 0.25% change in the rate of involuntary turnover would have increased or decreased 2019 expense by approximately$2 million . The sensitivity of the assumptions described above is specific to each individual plan and not to our pension, postretirement and postemployment plans in the aggregate. We intend to use an involuntary turnover assumption of 3.8% in determining the 2020 postemployment expense. Environmental and Legal Contingencies Each quarter, we review the status of each claim and legal proceeding and assess our potential financial exposure. If the potential loss from any claim or legal proceeding would be material and is considered probable and the amount can be reasonably estimated, we accrue a liability for the estimated loss. To the extent that the amount of such a probable loss is estimable only by reference to a range of equally likely outcomes, and no amount within the range appears to be a better estimate than any other amount, we accrue the amount at the low end of the range. Because of uncertainties related to these matters, the use of estimates, assumptions and judgments, and external factors beyond our control, accruals are based on the best information available at the time. At environmental sites, or portions of environmental sites, where liability is determined to be probable but a remedy has not yet been determined, we accrue for the costs of investigations and studies for the affected areas but not for the costs of remediation. As additional information becomes available, we reassess the potential liability related to our pending claims and litigation and may revise our estimates. Such revisions in the estimates of the potential liabilities could have a material impact on our results of operations and financial position. When insurance carriers or third parties have agreed to pay any amounts related to costs, and we believe that it is probable that we can collect such amounts, those amounts are reflected as receivables in our Consolidated Balance Sheet. The most significant legal contingencies impacting our Company are theFox River ,Kalamazoo River , and Ebina matters, which are further described in detail in Note 11, "Commitments and Contingencies" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report. NCR has been identified as a potentially responsible party (PRP) at both theFox River and Kalamazoo sites. As described below and in Note 11, "Commitments and Contingencies" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report, while litigation activities have largely concluded with respect to theFox River and Kalamazoo matters and while the Company has engaged in cooperative regulatory compliance activities with the government ofJapan with respect to the Ebina matter, the extent of our potential liabilities continues to be subject to significant uncertainties. The uncertainties related to theFox River and Kalamazoo matters include the total cost of clean-up as well as the solvency and willingness of the co-obligors or indemnitors to pay. The uncertainties related to the Ebina matter include total cost of clean-up subject to approval by local agencies inJapan . Our net reserves for theFox River matter, the Kalamazoo matter and the Ebina matter, as ofDecember 31, 2019 were approximately$16 million ,$81 million , and$19 million , respectively, as further discussed in Note 11, "Commitments and Contingencies" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report. The Company regularly re-evaluates the assumptions used in determining the appropriate reserve for these matters as additional information becomes available and, when warranted, makes appropriate adjustments. Income Taxes We recognize deferred tax assets and liabilities based on the differences between the financial statement carrying amounts and the tax basis of assets and liabilities. The deferred tax assets and liabilities are determined based on the enacted tax rates expected to apply in the periods in which the deferred tax assets or liabilities are anticipated to be settled or realized. We regularly review our deferred tax assets for recoverability and establish a valuation allowance if it is more likely than not that some portion or all of a deferred tax asset will not be realized. The determination as to whether a deferred tax asset will be realized is made on a jurisdictional basis and is based on the evaluation of positive and negative evidence. This evidence includes historical taxable income, projected future taxable income, the expected timing of the reversal of existing temporary differences and the implementation of tax planning strategies. Projected future taxable income is based on our expected results and assumptions as to the jurisdiction in which the income will be earned. The expected timing of the reversals of existing temporary differences is based on current tax law and our tax methods of accounting. As a result of this determination, we had valuation allowances of$352 million as ofDecember 31, 2019 and$485 million as ofDecember 31, 2018 , related to certain deferred income tax assets, primarily tax loss carryforwards, in jurisdictions where there is uncertainty as to the ultimate realization of a benefit from those tax assets. If we are unable to generate sufficient future taxable income, or if there is a material change in the actual effective tax rates or the time period within which the underlying temporary differences become taxable or deductible, or if the tax laws change unfavorably, then we could be required to increase our valuation allowance against our deferred tax assets, resulting in an increase in our effective tax rate. The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the consolidated financial statements from such a position are measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon settlement. Interest and penalties related to uncertain tax positions are recognized as part of the 44
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provision for income taxes and are accrued beginning in the period that such interest and penalties would be applicable under relevant tax law until such time that the related tax benefits are recognized. During 2019, we transferred certain intangible assets among our wholly-owned subsidiaries, which resulted in the establishment of deferred tax assets of$274 million . The establishment of deferred tax assets from intra-entity transfers of intangible assets required us to make significant estimates and assumptions to determine the fair value of such intangible assets. Critical estimates in valuing the intangible assets include, but are not limited to, internal revenue and expense forecasts, and discount rates. The sustainability of our future tax benefits is dependent upon the acceptance of these valuation estimates and assumptions by the taxing authorities. The provision for income taxes may change period-to-period based on non-recurring events, such as the settlement of income tax audits and changes in tax laws, as well as recurring factors including the geographic mix of income before taxes, state and local taxes and the effects of various global income tax strategies. We maintain certain strategic management and operational activities in overseas subsidiaries and our foreign earnings are taxed at rates that are generally lower than inthe United States . As ofDecember 31, 2019 , we did not provide forU.S. federal income taxes or foreign withholding taxes on approximately$3.1 billion of undistributed earnings of our foreign subsidiaries as such earnings are expected to be reinvested indefinitely. Refer to Note 8, "Income Taxes" in the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report for disclosures related to foreign and domestic pretax income, foreign and domestic income tax (benefit) expense and the effect foreign taxes have on our overall effective tax rate. Stock-based Compensation We measure compensation cost for stock awards at fair value and recognize compensation expense over the service period for which awards are expected to vest. We utilize the Black-Scholes option pricing model to estimate the fair value of options at the date of grant, which requires the input of highly subjective assumptions, including expected volatility and expected holding period. We estimate forfeitures for awards granted which are not expected to vest. The estimation of stock awards that will ultimately vest requires judgment, and to the extent that actual results or updated estimates differ from our current estimates, such amounts will be recorded as a cumulative adjustment in the period in which estimates are revised. We consider many factors when estimating expected forfeitures, including types of awards and historical experience. Actual results and future changes in estimates may differ from our current estimates. We have performance-based awards that vest only if specific performance conditions are satisfied, typically at the end of a single- or multi-year performance period, and the service requirement is fulfilled. The number of shares that will be earned can vary based on actual performance. No shares will vest if the objectives are not met, and in the event the objectives are exceeded, additional shares will vest up to a maximum amount. The cost of these awards is expensed over the service period based upon management's estimates of achievement against the performance criteria. Because the actual number of shares to be awarded is not known until the end of the performance period, the actual compensation expense related to these awards could differ from our current expectations.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
A discussion of recently issued accounting pronouncements is described in Note 1, "Basis of Presentation and Significant Accounting Policies" of the Notes to Consolidated Financial Statements in Item 8 of Part II of this Report, and we incorporate by reference such discussion in this MD&A.
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