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Anacomp




Anacomp, Inc., based in Indianapolis, Indiana, began as a computer and data services
company in 1969. The company was founded by Ronald Palamara, a Ph.D. in computer
sciences. Among the computer services offered by the company were the design and im-
plementation of computer software systems and the management of customers™ com-
puter facilities. The company also operated customers™ data centers, offered data
processing and micro¬lming services, and sold micrographic equipment. The company
viewed that its future growth would primarily come from the design and development
of software for the banking industry.
Prior to 1980, the company™s principal proprietary software system for commercial
banks and thrift institutions was the Customer Integrated/Reference File (CI/RF) system.
CI/RF integrated a customer™s banking relationships”such as checking, savings, loans,
etc.”and incorporated them into a single record. The system was utilized by banks in
20 states throughout the United States, including Manufacturers Hanover Trust and
Sumitomo Bank of California. The system and software primarily used a computer lan-
guage designed for computers manufactured by NCR Corporation.
Beginning in 1980 Anacomp announced plans to develop a number of new software
systems for the banking and ¬nancial services industry. For the retail banking industry
the company was developing two new products: the Continuous Integrated System (CIS)
and the BANKSERVE 10000 system. CIS was claimed to be the ¬rst on-line real-time re-
tail banking transactions processing system designed for IBM computers. The BANK-
SERVE 10000 system would allow banks to share networks of point-of-sale terminals or
automated teller machines on a national or regional basis.
Anacomp had also announced plans to develop a full line of software systems to help
banks deal more ef¬ciently with their wholesale customers”companies, institutions,
and other banks. The Corporate Electronic Funds Transfer (CEFT) system was expected
to combine three banking functions: an electronic funds transfer mechanism that would
take payments from external sources, a money transfer component which would auto-
mate the bank™s internal paying and receiving functions, and a corporate funds control
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Case: Anacomp, Inc.




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Part 4 Additional Cases




component which would allow the bank to monitor its own cash position and the cash
position of each customer. The Corporate Deposit and Analysis (CDA) system, another
wholesale banking product that Anacomp targeted for development, was expected to au-
tomate the bank™s depository relationships with large corporations and other banks.
In August 1982 the company announced that it was initiating the development of yet
another new software system, Corporate International Banking System (CIBS). CIBS
was the most complex system the company planned to date, and was intended to help a
large international bank automate certain internal treasury operations, generate complete
information on the bank™s foreign currency positions, and automate the processing of
letters of credit and documentary credit collections.
Anacomp™s management believed that the above software systems, if successfully de-
veloped and implemented, would enable the company to become a leading supplier of
software and services to the banking industry.




Anacomp
INDUSTRY AND COMPETITION1
The computer services industry was marked by very rapid growth. In 1981, computer
service revenues totaled $18.9 billion, up 23 percent from $15.4 billion a year, according
to INPUT, a leading international consulting ¬rm. INPUT had estimated that the industry
growth rate between 1981 and 1986 would be approximately 23 percent per annum.
There were three major segments of the computer services industry: processing ser-
vices, professional services, and software products. The companies in the processing
area offered customers access to a large computer facility in which batch processing, re-
mote computing services, and facilities management services were performed. This seg-
ment accounted for 57 percent of total computer services revenues in 1981 and was
expected to grow at a compound annual rate of 17 percent between 1981 and 1986. The
companies in the professional services segment provided customers alternatives to in-
house data processing. These services included custom-made computer systems and
programming to perform specialized tasks, as well as the management of data process-
ing facilities. The professional services segment, which accounted for 23 percent of total
computer services industry revenues in 1981, was expected to grow 29 percent annually
from 1981 to 1986. Software products, the third segment of the software services indus-
try, was the fastest-growing sector. Software products consist of instructions that guide
computer equipment through tasks. This segment was expected to grow at an annual
compound growth rate of 33 percent between 1981 and 1986.
The high growth rates of the computer services industry were being fueled by the large
number of computers installed and customers™ realization of the value computer services
can have in lifting their productivity. Hardware, the premiere growth area of the 1960s and
1970s, had since taken on a commodity-like status as a result of progressively lower man-
ufacturing costs. Computer services, on the other hand, increased in value and in price.

.........................................................................................................................
1. Material in this section is drawn from Standard and Poor™s industry surveys on of¬ce equipment systems and ser-
vices, October 21, 1982.
734 Case: Anacomp, Inc.




4 Part 4 Additional Cases




The computer services industry in 1982 consisted of some 5,000 companies ranging
from small software operations to giants such as IBM and Control Data Corporation.
Smaller companies in the industry generally concentrated on serving particular market
niches; their performance depended on factors in¬‚uencing these small sectors.
There was active competition in each of the areas of services provided by Anacomp.
In the computer service area, Anacomp competed with other computer service compa-
nies, manufacturers of mainframe computers, and companies developing in-house com-
puter service capabilities. In the data center service business, Anacomp competed with
other data processing and micrographic service companies. Anacomp believed that the
services performed by it represented only a small portion of the market in each of the
¬elds it operated.
The computer services industry was subject to rapid technological change requiring
constant adaptation to provide competitive service. Competition in the computer ser-
vices industry was based primarily on technical capability and expertise, pricing, quality
of work, and ability to meet system development deadlines. In the other areas of Ana-
Anacomp




comp™s business, competition was based upon the reliability and timeliness of the ser-
vices and products provided.


TOP MANAGEMENT
The names, ages, and current and former positions of Anacomp™s executive of¬cers in
September 1982 were as follows:
Ronald D. Palamara, Ph.D., age 42, has served as Chairman and President for more than
the past ¬ve years.
Stanley E. Hirschfeld, age 47, became Senior Vice President of Corporate Development
during 1981. For more than the prior ¬ve years, he served as Vice President-Finance and
Secretary of Anacomp.
Ralph C. McAuley, age 47, became President of Anacomp™s Computer Services group
during 1981. For more than the ¬ve prior years, he served as Vice President of Data Pro-
cessing Services.
John J. Flanigan, age 42, became Group Vice President of Data Services in 1981. During
the prior ¬ve-year period, he served as Vice President of Data Processing Services.
Christopher Duffy, age 44, became Vice President and Chief Administrative Of¬cer dur-
ing 1981. For more than the ¬ve prior years, he served as Vice President and General
Manager of an Indianapolis television station.
Myles Hannan, age 44, became Vice President-Finance, General Counsel and Secretary
during 1981. During 1979 and 1980, he served as Vice President-Law and Administration
for Delaware North Companies, Incorporated. For more than the prior two years he served
as Vice President-Legal and Staff Divisions of the Stop & Shop Companies, Inc.
William C. Ater, age 40, became Vice President of Administration during 1981. During
1979 and 1980, he served as Anacomp™s Vice President of Bank Data Processing. For
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Case: Anacomp, Inc.




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more than the prior two years, he served in various computer management positions with
NCR Corporation.
As of the end of ¬scal 1981, all of¬cers and directors as a group owned 15.1 percent
of Anacomp™s common stock and were paid $2.9 million in cash and cash equivalent
forms of remuneration during the year.


NEW SOFTWARE SYSTEMS DEVELOPMENT
Anacomp organized and ¬nanced its new software development in a unique manner.
During the ¬scal year ended June 30, 1980, Anacomp initiated the development of a ma-
jor new computer software system called Continuous Integrated System (CIS) to be mar-
keted to major ¬nancial institutions. According to Anacomp™s management, CIS would
represent a major advance over the company™s current CI/RF system.
Anacomp stated that, in view of the anticipated signi¬cant development expenditure




Anacomp
for the CIS system, the company had entered into an agreement in November 1979 with
a limited partnership, RTS Associates. Under this agreement, Anacomp agreed to de-
velop the CIS system on behalf of the partnership. In return, RTS agreed to pay a devel-
opment fee of $6 million, of which $2.2 million was paid in 1980. Upon completion of
the development of the CIS system, Anacomp agreed to market CIS for ¬ve years on a
commission basis. Anacomp also had the option to acquire all rights to the CIS system
at the greater of its appraised fair market value or RTS™s investment plus a ¬xed pro¬t.
RTS had the right to extend Anacomp™s ¬ve-year marketing agreement an additional ¬ve
years or to cancel it if Anacomp did not use its best efforts to market CIS.
RTS Associates™ payments for the CIS development expenses were ¬nanced by (1) an
investment of $1.444 million by the partners, (2) a $3.25 million bank loan to RTS, se-
cured by bank letters of credit and personal guarantees of the limited partners, and (3) a
$2.2 million loan to RTS, personally guaranteed by the limited partners, from Anacomp,
with interest at 11 percent per annum payable quarterly through December 31, 1981, and
with principal and interest payable thereafter in 84 equal monthly installments. In addi-
tion, if the CIS development expenses exceeded $6 million and therefore RTS was re-
quired to pay further development fees, Anacomp agreed to loan RTS, without recourse
to the limited partners, up to $1.5 million to complete the CIS system.
Several of¬cers and directors of Anacomp were af¬liated with the corporate general
partner of RTS, and were also investors in the limited partnership arrangement. Ronald
Palamara, Chairman of the Board and President of Anacomp, and three other directors
of Anacomp, were also directors and of¬cers of the corporate general partner of RTS.
The ownership interest of Anacomp™s of¬cers and directors in the limited partnership
amounted to 38.5% of the total.
During the ¬scal year 1981, thirteen major banks, including the National Bank of
North America in New York, the Shawmut National Bank in Boston, Provident National
Bank in Philadelphia, and the First National Bank in Kansas City, contracted with Ana-
comp to participate as advisory banks in the CIS project for a nonrefundable fee of
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6 Part 4 Additional Cases




$150,000 each. The arrangement permitted each bank to review the project during devel-
opment and provide input regarding changes to enhance the ultimate marketability of CIS.
In June 1982, Anacomp announced that the CIS system development was completed.
The company also announced that it purchased the system from RTS Associates for
$16 million.


FINANCIAL PERFORMANCE
After reporting a strong increase in revenues and pro¬ts from 1978 to 1981, Anacomp
reported a slower revenue growth and a decline in pro¬ts in ¬scal 1982. Dr. Palamara
commented that the 1982 performance was a short-term aberration, and that the compa-
ny™s long-term strategy and prospects were sound:
Fiscal 1982 marked the beginning of one era and the end of another for Ana-
comp. A new era began with ¬ve events having tremendous long-term signi¬cance
Anacomp




for Anacomp: the purchase of two major software products, the completion of our
most signi¬cant acquisition, an offering of $50 million in convertible debentures,
the formation of history™s largest software research and development partnership,
and Anacomp™s listing on the New York Stock Exchange. Thus, despite a dif¬cult
fourth quarter which was affected by several non-recurring items and resulted in
lower earnings for the year, ¬scal 1982 was perhaps the most signi¬cant year of
achievements in Anacomp™s history.
Judged solely by the numbers, of course, 1982 does not seem especially mem-
orable. . . . In terms of positioning the company for future growth, however, 1982
may well be remembered as the most significant year in Anacomp™s history. . . .
We believe that Anacomp™s performance in future years will demonstrate that
the company is well along in its evolution from a small, explosive-growth firm to
a nationally recognized market leader.
Dr. Palamara projected record ¬nancial results in ¬scal 1983. He also assured inves-
tors that Anacomp would place renewed emphasis on improving the company™s pro¬t-
ability and reducing its ¬nancial leverage.
Exhibit 1 shows Anacomp™s stock price data around the time of its 1982 results. An
abridged version of the company™s annual report is presented in Exhibit 2.


QUESTIONS
1. Evaluate Anacomp™s new product development strategy. What are the risks and ben-
efits of this strategy for Anacomp™s shareholders?
2. How is Anacomp™s accounting influenced by the way the company organizes and fi-
nances its new product development?
3. Compare Anacomp™s cash flow performance with its accounting performance. What
is your evaluation of the company™s financial condition?
4. What is your assessment of Anacomp™s future?
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Case: Anacomp, Inc.




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