Prepared by R.R. Donnelley Financial -- Form 10-K

10-K405 1 d10k405.htm FORM 10-K Prepared by R.R. Donnelley Financial -- Form 10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-K

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2001

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number 1-4694

R. R. DONNELLEY & SONS COMPANY

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)		36-1004130 (I.R.S. Employer Identification No.)
77 West Wacker Drive, Chicago, Illinois (Address of principal executive offices)		60601 (ZIP Code)

Registrant’s telephone number—(312) 326-8000

Securities registered pursuant to Section 12(b) of the Act:

Title of each Class		Name of each exchange on which registered
Common (Par Value $1.25) Preferred Stock Purchase Rights		New York, Chicago and Pacific Stock Exchanges New York, Chicago and Pacific Stock Exchanges

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to the filing requirements for the past 90 days.

Yes ^ü

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ü]

As of February 6, 2002, 112,948,996 shares of common stock were outstanding, and the aggregate market value of the shares of common stock (based on the closing price of these shares on the New York Stock Exchange—Composite Transactions on February 6, 2002) held by nonaffiliates was $3,040,251,613.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s definitive Proxy Statement dated February 22, 2002, are incorporated by reference into Part III of this Form 10-K.

TABLE OF CONTENTS

Form 10-K Item No.	Name of Item	Page
Part I

Item 1.	Business	3
Item 2.	Properties	7
Item 3.	Legal Proceedings	7
Item 4.	Submission of Matters to a Vote of Security Holders	9
	Executive Officers and Other Significant Officers of R.R. Donnelley & Sons Company	10

Part II
Item 5.	Market for R.R. Donnelley & Sons Company’s Common Equity and Related Stockholder Matters	11
Item 6.	Selected Financial Data	11
Item 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11
Item 7A.	Quantitative and Qualitative Disclosures about Market Risk	26
Item 8.	Financial Statements and Supplementary Data	26
Item 9.	Changes in and Disagreements with Accountants on Accounting and Financial Disclosure	26

Part III
Item 10.	Directors and Executive Officers of R.R. Donnelley & Sons Company	27
Item 11.	Executive Compensation	27
Item 12.	Security Ownership of Certain Beneficial Owners and Management	27
Item 13.	Certain Relationships and Related Transactions	27

Part IV
Item 14.	Exhibits, Financial Statement Schedules, and Reports on Form 8-K	27
	Signatures	28
Item 14(a).	Index to Financial Statements and Financial Statement Schedules	F-1
	Index to Exhibits	E-1

PART I

ITEM 1. BUSINESS

Industry and Company Overview

R.R. Donnelley & Sons Company provides comprehensive, integrated communications solutions that efficiently and effectively produce, manage and deliver our customers’ content, regardless of the communications medium. While our superior print capabilities remain the foundation of the company, our recent focus on expanding our range of offerings with value-added services allows us to create additional value.

We provide solutions designed to enhance the effectiveness of our customers’ communications. Our services include:

Content creation—to provide creative design services to maximize the impact of communications and improve response rates. In addition to in-house capabilities, alliances with best-in-class providers complement our service offerings.

Digital content management—to help our customers leverage their content to reach end-users through multiple marketing channels. Through our premedia technologies services, we digitally capture content, convert it to the appropriate format and channel it to multiple communications media, including print and the Internet.

Production—to drive results for our customers cost-effectively through print or the Internet. Our manufacturing operations around the world offer a full range of capabilities and are networked to quickly produce large printing jobs with identical specifications. We also are able to version printed content to reach targeted audiences.

Distribution—to deliver our customers’ words and images efficiently and reliably. R.R. Donnelley Logistics (Donnelley Logistics) delivers printed products and packages to the U.S. Postal Service (USPS), saving our customers significant time and money. We also offer a full range of services to deliver value, maximize content effectiveness, enhance our clients’ businesses and build their customer relationships via the Internet.

Our 137-year history as a printing industry leader positions us well for the future. The printing industry is projected to grow along with the communications industry. Print advertising is expected to remain among the most cost-effective ways for our customers to deliver their messages and generate revenue as they use words and images to inform, educate, entertain and sell to their audiences.

We are confident that print will remain integral to successful marketing given its unique capabilities, such as portability and high-quality graphics that cannot be duplicated by other communications methods. We also believe that the nature of print will evolve. The ability of print to be targeted, timely, flexible and integrated with other communications media will become more critical.

End-Market Descriptions

We operate primarily in the commercial print portion of the printing industry, with related service offerings designed to offer customers complete solutions for communicating their messages to targeted audiences. While our manufacturing plants, financial service centers and sales offices are located throughout the U.S. and selected international markets, the supporting technologies and knowledge base are common. Our locations have a range of production capabilities to serve our customers and end-markets. We manufacture products with the operational goal of optimizing the efficiency of the common manufacturing and distribution platform. As a result, most plants produce work for customers in two or three of our end-markets.

The following describes the end-markets we serve:

Long-run Magazines, Catalogs and Inserts R.R. Donnelley is a leader in the North American magazine, catalog and advertising insert markets. These markets are characterized by demand for large, cost-effective print runs

with excellent opportunity for differentiation among competitors through services such as premedia technologies and Donnelley Logistics. Our U.S. customers include seven of the top 10 magazine titles, eight of the top 10 consumer catalog companies and seven of the top 10 retailers. Contracts typically span from three to five years.

Telecommunications R.R. Donnelley is the worldwide leader in the directory market. We serve the global directory needs of telecommunications providers, including three of the four U.S. Regional Bell Operating Companies, independent telephone companies such as Sprint, independent directory publishers such as Yellow Book and leading international telecommunications providers such as Yell, KPN and Shanghai Telephone. Directory contracts typically span five to 12 years, with our current major contracts expiring between 2004 and 2013.

Book Publishing Services R.R. Donnelley, the leader in the North American book market, serves the consumer, religious, educational and specialty book segments. We are a key services provider for all of the top 10 U.S. book publishers and we print more than 50% of The New York Times’ adult best-seller titles. We also print one-third of all textbooks used in classrooms in the U.S.

Financial Services R.R. Donnelley Financial, a leader in the U.S. and international financial services markets, supports the communications needs of corporations, and their investment banks and law firms, as those corporations access the global capital markets. We also are a leading provider of customized communications solutions for investment management, banking, insurance, managed care and pharmaceutical companies.

Our global service network, manufacturing platform and distribution system give us unique advantages in servicing the capital markets, particularly for large financial deals. For example, we produced 40% of the top 25 initial public offerings in 2001, as well as three of the top five insurance demutualizations since 2000, including the largest in 2001. Additionally, we are a leading provider of mutual fund compliance communications. To meet our clients’ needs for accuracy, speed, confidentiality and convenience, we have developed technology for virtual deal management and Internet-enabled inventory management, are experts in EDGAR HTML filings and have integrated database management with content assembly, digital output and multiple-media delivery.

Our customized communications solutions provide an integrated suite of information management, content assembly and delivery solutions designed to give our clients closer and longer-lasting relationships with their customers. These include services that help our clients leverage the power of the Internet in communicating with their audiences. In markets that increasingly see demand for more precise communication with individuals, we believe customized communications solutions are and will continue to be a significant growth opportunity for the company.

International We have extended our core competencies for high-quality print and related services into non-U.S. geographic markets with no pre-existing local solution. These markets tend to be emerging, with favorable demographic trends such as rising education levels and increasing disposable income. Our operations in Poland and Latin America, where we produce magazines, books and telephone directories, are reported as “International.” Financial Services’ international revenue is included in Financial Services. Directory revenues from China and England are included in Telecommunications.

Specialized Publishing Services R.R. Donnelley is a leader in providing short-run publishers, catalogers and associations with comprehensive communications solutions. We serve customers with highly targeted audiences and typical production runs from 10,000 to 200,000 copies. We offer full-service and cost-effective solutions for business-to-business and consumer magazine and catalog publishers, as well as journal, association and academic publishers.

RRD Direct R.R. Donnelley is a leader in the U.S. direct-mail market, offering expertise and a range of services to guide customers smoothly and cost-effectively through direct-marketing projects. Our full-service solutions include content creation, database management, premedia technologies, personalization, finishing and distribution. We produce highly personalized and sophisticated direct mail pieces that generate results for our customers.

Premedia Technologies R.R. Donnelley’s Premedia Technologies group partners with customers in the magazine, catalog, retail, telecommunications, corporate and agency markets to effectively create, manage, prepare and distribute customer content. With core competencies in photography, creative and color services, page production, ad management, facilities management and content management, we help customers efficiently, consistently and successfully deliver their messages across multiple channels, including print and the Internet. By leveraging our experience in content production and workflow optimization, Premedia Technologies links customers’ creative processes with today’s technologies.

R.R. Donnelley Logistics R.R. Donnelley is one of the largest users of the USPS, handling approximately 19 billion print and mail pieces, and over 122 million packages each year. Distribution costs are a significant component of our customers’ cost structures, and our ability to deliver mail and packages more predictably and cost-effectively than competitors is a key differentiator.

In February 2000, Donnelley Logistics extended its services by adding package delivery (package logistics) to its established business of delivering printed material (freight services). By leveraging the USPS infrastructure to make the final delivery to households and businesses, the company provides more economical logistics services. Through “zone skipping,” greater postal discounts are obtained, and we provide more timely, reliable delivery for our customers.

In addition to delivering packages and printed material, Donnelley Logistics also provides returns management and expedited distribution of time-sensitive and secure material (expedited services). Together, these services help merchandisers and other businesses manage their supply chains more effectively and at a lower cost.

R.R. Donnelley operates primarily in two business segments: Commercial Print and Logistics Services. Financial and other information relating to these business segments is included in Item 7 and in the “Industry Segment Information” note to the consolidated financial statements on page F-25. Within the Commercial Print segment, our business is concentrated geographically in the U.S., where we have 49 manufacturing plants as of December 31, 2001 that generated $4.0 billion in net sales in 2001. In addition to our U.S. facilities, we operate 14 plants in Latin America, Europe and China. Information relating to our international operations is included in the “Geographic Area Information” note to the consolidated financial statements on page F-27. Within the Logistics Services segment, we have 24 operating facilities within the U.S. as of December 31, 2001 that generated $776 million in net sales in 2001.

Commercial printing remains a competitive industry. Consolidation among our customers and in the printing industry has put pressure on prices and increased competition among printers. We expect these industry trends to continue. We will perform in this environment by leveraging our market-leading position, generating continued productivity improvements and enhancing the value we deliver to our customers by offering them products and services that improve their effectiveness and reduce their total delivered cost. While we have contracts with many of our customers as discussed below, there are many competing companies and renewal of these contracts is dependent, in part, on our ability to continue to differentiate ourself from the competition. While our manufacturing facilities are well located for the global, national or regional distribution of our products, competitors in some areas of the U.S. may have a competitive advantage in some instances due to such factors as freight rates, wage scales and customer preference for local services. In addition to location, other important competitive factors are price and quality, as well as the range of available services.

Approximately 70% of our total sales are under contracts with customers, with the remainder on a single-order basis. For some customers, we print and provide related services for different publications under different contracts. Contracts with our larger customers normally run for a period of years (usually three to five years, but longer in the case of contracts requiring significant capital investment) or for an indefinite period subject to termination on specified notice by either party. These sales contracts generally provide for price adjustments to reflect price changes for materials, wages and utilities. No single customer has a relationship with the company that accounted for 10% or more of our sales in 2001.

The primary raw materials we use in our print businesses are paper and ink. In 2001, we spent approximately $1.7 billion on raw materials. We are a large purchaser of paper and our focus is to improve materials performance and total cost management for our customers, which we believe is a competitive advantage. We negotiate with leading suppliers to maximize our purchasing efficiencies, but we do not rely on any one supplier. We have existing paper supply contracts (at prevailing market prices) to cover substantially all of our requirements through 2003, and management believes extensions and renewals of these purchase contracts will provide adequate paper supplies in the future. Ink and ink materials are currently available in sufficient amounts, and we believe that we will have adequate supplies in the future. We also coordinate purchasing activity at the local plant and corporate levels to increase economies of scale.

Our overriding objectives in the environmental, health and safety arenas are to create sustainable compliance and an injury-free workplace. We believe that estimated capital expenditures for environmental controls to comply with federal, state and local provisions, as well as expenditures, if any, for our share of costs to clean hazardous waste sites that have received our waste, will not have a material effect upon our earnings or our competitive position.

As of December 31, 2001, we had approximately 33,000 employees. Approximately 8,000 employees in our U.S. workforce have been our employees for 10 to 24 years, and more than 3,300 have been our employees for 25 years or longer. As of December 31, 2001, we employed approximately 27,000 people in the United States, approximately 1,000, or 3%, of whom were covered by collective bargaining agreements. In addition, we employed approximately 6,000 people in our international operations, 29% of whom were covered by collective bargaining agreements. Of the 27,000 U.S. employees, approximately 1,400, or 5%, were employed within Logistics Services.

We did not make any business acquisitions during 2001. During 2000, we made several business acquisitions to extend our geographic reach and expand our range of capabilities. Within the Commercial Print segment, in January 2000, we acquired Omega Studios-Southwest, Inc., a photography studio offering digital photography and creative services. In February 2000, we acquired Iridio, Inc., a Seattle-based full-services premedia technologies company. Both of these acquisitions are included within our Premedia Technologies operations. In February 2000, we also acquired EVACO Inc., a Florida-based financial printer, included within our Financial Services operations. In July 2000, we acquired Circulo do Livro, a Brazilian book printer, included within our International operations. During 2000, we also acquired minority interests in an Internet communications services company and in several start-up businesses. Within the Logistics Services segment, in February 2000, we acquired CTC Distribution Services L.L.C. (CTC or package logistics), a consolidator of business-to-home packages. See the “Acquisitions and Investments” note to the consolidated financial statements on page F-8 for more details.

During 1999, we made several business acquisitions intended to speed growth in select areas. Within the Commercial Print segment, in March 1999, we acquired Cadmus Financial, a financial printer based in North Carolina included within our Financial Services operations. In April 1999, we acquired the Communicolor division of the Standard Register Company, a provider of personalization services and printer of innovative direct-mail campaigns, with plants located in Ohio and Kansas, as part of RRD Direct. In May 1999, we acquired Hamburg Gráfica Editora, a Brazilian book printer, included within our International operations. In December 1999, we purchased Penton Press, a short-run magazine printing facility in Ohio, included within Specialized Publishing Services. In addition to these acquisitions, during 1999, we increased our ownership position in Editorial Lord Cochrane S.A. (Cochrane), the largest commercial printer in Chile, to 99% from 78%. Cochrane, included within our International operations, also increased its ownership interest in Atlántida Cochrane (located in Argentina) from 50% to 100%. Within the Logistics Services segment, in July 1999, we acquired Freight Systems, Inc., a California-based transportation company.

During 2001, we announced the closure of several of our manufacturing facilities within the Commercial Print segment to improve the effectiveness and efficiency of our overall print platform. During 2001, we also closed several start-up operations, including Red Rover Digital, that were included in the “Other” operating segment. See the “Restructuring and Impairment” note to the consolidated financial statements on page F-9 for more details.

In November 2001, we sold our remaining investment in the common stock of Stream International Inc. (Stream) for approximately $10 million in cash.

In June 2000, we sold our 100% interest in R.R. Donnelley (India) Ltd. and its 25.37%-owned subsidiary, Tata Donnelley Limited, to Tata Sons Limited for approximately $13 million in cash.

During the fourth quarter of 1999, we divested the majority of our interests in Modus Media International (MMI), Stream and Corporate Software & Technology Holdings, Inc. (CS&T). In October 1999, we sold our investment in MMI for a total of approximately $60 million ($47 million in cash and a $13 million promissory note). In November 1999, we sold 93% of our investment in the common stock of Stream to a group led by Bain Capital for approximately $96 million in cash. Also, in November 1999, we sold our entire interest in CS&T to the management of CS&T for cash proceeds of approximately $41 million.

Special Note Regarding Forward-Looking Statements. Our Annual Report to Shareholders, including this Form 10-K, are among certain communications that contain forward-looking statements, including statements regarding our financial position, results of operations, market position, product development and regulatory matters. When used in such communications, the words “believes,” “anticipates,” “expects” and similar expressions are intended to identify forward-looking statements. These forward-looking statements are based on our estimates, assumptions, projections and current expectations and are subject to a number of risks and uncertainties. Actual results in the future could differ materially from those described in the forward-looking statements as a result of many factors outside our control, including war or acts of terrorism affecting the overall business climate; competition with other communications services providers based on pricing and other factors; fluctuations in the cost of paper, other raw materials and fuel we use; changes in postal rates and postal regulations; seasonal fluctuations in overall demand for services; changes in customer demand; changes in the advertising and printing markets; changes in the capital markets that affect demand for financial printing; the financial condition of our customers; our ability to continue to obtain improved operating efficiencies; the general condition of the U.S. economy and the economies of other countries in which we operate; changes in the rules and regulations to which we are subject and the cost of complying with these rules and regulations, including environmental and health and welfare benefit regulations; changes in the rules and regulations to which our customers are subject, particularly those affecting privacy or the printing requirements of Financial Services or Telecommunications customers; and other factors set forth in this Form 10-K and other company communications generally. We do not undertake and specifically decline any obligation to publicly release the results of any revisions to these forward-looking statements that may be made to reflect any future events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

ITEM 2. PROPERTIES

Our corporate office is located in leased office space in a building in Chicago, Illinois. In addition, as of December 31, 2001, we lease or own 62 U.S. facilities, some of which have multiple buildings and warehouses. These facilities encompass approximately 17.7 million square feet. We have 14 plants encompassing approximately 2.5 million square feet in Latin America, Europe and Asia. Of the total manufacturing and warehouse facilities, approximately 17.9 million square feet of space is owned, while the remaining 2.3 million square feet of space is leased. In addition, we have sales offices across the U.S., Latin America, Europe and Asia.

ITEM 3. LEGAL PROCEEDINGS

On November 25, 1996, a class action was brought against the company in federal district court in Chicago, Illinois, on behalf of current and former African-American employees, alleging that the company racially discriminated against them in violation of the Civil Rights Act of 1871, as amended, and the U.S. Constitution (Jones, et al. v. R.R. Donnelley & Sons Co.). The complaint seeks declaratory and injunctive relief, and asks for actual, compensatory, consequential and punitive damages in an amount not less than $500 million. Although

plaintiffs sought nationwide class certification, most of the specific factual assertions of the complaint relate to the closing by the company of its Chicago catalog operations in 1993. Other general claims relate to other company locations.

On June 30, 1998, a class action was filed against the company in federal district court in Chicago on behalf of current and former African-American employees, alleging that the company racially discriminated against them in violation of Title VII of the Civil Rights Act of 1964 (Adams, et al. v. R.R. Donnelley & Sons Co.). While making many of the same general discrimination claims contained in the Jones complaint, the Adams plaintiffs are also claiming retaliation by the company for the filing of discrimination charges or otherwise complaining of race discrimination. The complaint seeks the same relief and damages as sought in the Jones case.

On April 6, 2001, in an amended opinion, the district court judge in the Jones and Adams cases certified three plaintiff classes in the actions: a class consisting of African-American employees discharged in connection with the shutdown of the Chicago catalog operations; a class consisting of African-American employees of the Chicago catalog operations after November 1992 who were other than permanent employees; and a class consisting of African-Americans subjected to an allegedly hostile working environment at the Chicago catalog operations, the Chicago Financial, Pontiac or Dwight, Illinois, manufacturing operations. The judge also consolidated the Jones and Adams cases for pretrial purposes. In an order dated June 8, 2001, the district court ruled that a four-year, rather than a two-year, statute of limitations applied to classes one and three. On August 21, 2001, the court of appeals granted the company leave to appeal the issue of the appropriate statute of limitations to apply to the first and third plaintiff classes.

On December 18, 1995, a class action was filed against the company in federal district court in Chicago alleging that older workers were discriminated against in selection for termination upon the closing of the Chicago catalog operations (Gerlib, et al. v. R.R. Donnelley & Sons Co.). The suit also alleges that the company violated the Employee Retirement Income Security Act (ERISA) in determining benefits payable to retiring or terminated employees. On August 14, 1997, the court certified classes in both the age discrimination and ERISA claims limited to former employees of the Chicago catalog operations.

The district court judge in Gerlib ruled on summary judgment motions of the parties in an order dated October 26, 2001, further clarified by an order dated January 25, 2002. While ruling that permanent employees who received special augmented separation pay in conjunction with the closure of the Chicago catalog operations were not eligible for regular separation pay, and that special augmented separation pay was not payable to employees other than those considered permanent employees at the date of closure, the judge ruled that permanent employees who elected to receive enhanced retirement benefits were also eligible to receive regular separation pay. The order also set for trial in July 2002, the claims related to age discrimination.

On December 28, 2000, a purported class action was brought against the company and certain of its benefit plans in federal district court in Chicago, Illinois, on behalf of certain former employees of the Chicago catalog operations (Jefferson, et al. v. R.R. Donnelley & Sons Co., et al.). The suit alleges that enhanced pension benefits were not paid to plaintiffs and that plaintiffs are being required to contribute to the costs of retiree medical coverage, both in violation of plan documents and ERISA. The complaint seeks recalculation of pension benefits due plaintiffs since their retirement dates, reimbursement of any amounts paid by plaintiffs for medical coverage, interest on the foregoing amounts, as well as a declaration as to the benefits due plaintiffs in the future.

By order dated January 4, 2002, the district court judge in Jefferson granted summary judgment in the company’s favor on one claim, finding that retirees from the Chicago catalog operations were not entitled to non-contributory medical benefits for life. The district court judge in Jefferson ruled separately that under procedures outlined in the company’s Retirement Benefit Plan, appeals of any determination of pension amounts due to putative class members were to be made through a prescribed administrative process. He also ruled that those claims made on behalf of plaintiffs already members of the classes certified in Gerlib (persons over the age of 54 at the date of termination of their employment) should be made through the administrative process. As of February 1, 2002, administrative review of the claims of the Gerlib plaintiffs was completed, and the claims denied. Administrative review of the claims of the remaining Jefferson plaintiffs is in progress.

The Jones, Gerlib and Jefferson cases relate primarily to the circumstances surrounding the closing of the Chicago catalog operations. The company believes that it acted properly in the closing of the operations. Further, with regard to all cases, the company believes it has a number of valid defenses to all of the claims made and will vigorously defend its actions, including filing appeals of rulings of the district court judge. However, management is unable to make a meaningful estimate of any loss that could result from an unfavorable outcome of any of the pending cases.

In December 1999, the U.S. Environmental Protection Agency, Region 5 (U.S. EPA) issued a Notice of Violation against the company, pursuant to Section 113 of the Clean Air Act (the Act). The notice alleges that the company’s facility in Willard, Ohio, violated the Act and Ohio’s State Implementation Plan in installing and operating certain equipment without appropriate air permits. While the notice does not specify the remedy sought, upon final determination of a violation, the U.S. EPA may issue an administrative order requiring the installation of air pollution control equipment, assess penalties, or commence civil or criminal action against the company. The company responded to the U.S. EPA on March 10, 2000. The company does not believe that any unfavorable result of this proceeding will have a material impact on the company’s financial position or results of operations.

In addition, the company is a party to certain litigation arising in the ordinary course of business which, in the opinion of management, will not have a material adverse effect on the operations or financial condition of the company.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of security holders during the quarter ended December 31, 2001.

EXECUTIVE OFFICERS AND OTHER SIGNIFICANT OFFICERS OF R.R. DONNELLEY & SONS COMPANY

Name, Age and Positions with the Company(2)	Officer Since	Business Experience During Past Five Years(2)

Haven E. Cockerham 54, Senior Vice President, Human Resources	1998	Management responsibilities for Compensation; Benefits; Employee Relations, Diversity and Corporate Human Resources; Recruiting; and Organizational Capability. Prior experience as Vice President, Human Resources, at Detroit Edison Company, a provider of electrical utilities, from May 1994 until March 1998.

Ronald E. Daly 55, President, R.R. Donnelley Print Solutions(1)	1989	Management responsibilities for sales and manufacturing to the Book, Catalog and Retail, Magazine and Telecommunications Industries, Premedia Technologies; and Strategic Sourcing. Prior experience as President, Telecommunications.

William L. Davis 58, Chairman of the Board, President and Chief Executive Officer(1)	1997	Management responsibilities as Chairman of the Board, President and Chief Executive Officer. Prior experience as Senior Executive Vice President at Emerson Electric Company, manufacturer of electrical, electronic and related products, from January 1993 until March 1997.

Monica M. Fohrman 52, Senior Vice President, General Counsel and Secretary(1)	1988	Management responsibilities for Legal Department, Secretary’s Office and Community Relations.

Joseph C. Lawler 52, Executive Vice President(1)	1995	Management responsibilities for R.R. Donnelley Logistics Services; RRD Direct; International Operations; and Corporate Development, Government Relations, Strategy and Planning. Prior experience as President, Catalog Services; and President, Merchandise Media.

Gregory A. Stoklosa 46, Executive Vice President and Chief Financial Officer(1)	1993	Management responsibilities for Investor Relations; Treasury; Financial Reporting and Accounting; Financial Planning and Analysis; Internal Audit; Strategic Cost Management; and Taxes. Prior management experience as Vice President, Treasurer and Vice President, Corporate Controller.

Gary L. Sutula 57, Senior Vice President and Chief Information Officer	1997	Management responsibilities for Technology Planning and Operations and Applications Solutions Delivery. Prior experience as Senior Vice President and Chief Information Officer at Transamerica Financial Services, a provider of international consumer lending services, from June 1994 until November 1997.

(1)

Executive officer of the Company.

(2)

Each officer named has carried on his or her principal occupation and employment in the company for more than five years with the exception of Haven E. Cockerham, William L. Davis and Gary L. Sutula as noted in the table above.

PART II

ITEM 5. MARKET FOR R.R. DONNELLEY & SONS COMPANY’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock is listed and traded on the New York Stock Exchange, Chicago Stock Exchange and Pacific Exchange, Inc.

As of February 6, 2002, there were 8,786 stockholders of record. Quarterly prices of our common stock, as reported on the New York Stock Exchange-Composite Transactions, and dividends paid per share during the two years ended December 31, 2001, are contained in the chart below:

					Common Stock Prices
	Dividends Paid				2001				2000
	2001		2000		High		Low		High		Low
First Quarter	$	0.23	$	0.22	$	30.60	$	24.50	$	24.31	$	19.00
Second Quarter		0.23		0.22		31.90		25.12		26.69		20.13
Third Quarter		0.24		0.23		30.74		24.30		26.75		22.13
Fourth Quarter		0.24		0.23		30.57		24.76		27.00		21.38
Full Year		0.94		0.90		31.90		24.30		27.00		19.00

ITEM 6. SELECTED FINANCIAL DATA

SELECTED FINANCIAL DATA

(Not Covered by Auditors’ Report)

(Thousands of dollars, except per share data)

	2001		2000		1999			1998			1997
Net sales	$	5,297,760	$	5,764,335	$	5,415,642		$	5,217,953		$	5,085,811
Income from continuing operations*		24,988		266,900		311,515			374,647			206,525
Loss on disposal of discontinued operations		—		—		—			—			(60,000	)
Loss from discontinued operations		—		—		(3,201	)		(80,067	)		(15,894	)
Net income*		24,988		266,900		308,314			294,580			130,631
Net income per diluted share*		0.21		2.17		2.38			2.08			0.89
Total assets		3,400,017		3,914,202		3,853,464			3,798,117			4,134,166
Noncurrent liabilities		1,527,320		1,491,093		1,511,743			1,447,852			1,730,047
Cash dividends per common share		0.94		0.90		0.86			0.82			0.78

Includes the following one-time items: 2001 restructuring and impairment charges of $196 million ($137 million after-tax, or $1.15 per diluted share); 2001 gain on the sale of investment of $7 million ($7 million after-tax, or $0.05 per diluted share); and 2001 loss on investment write-downs of $19 million ($19 million after-tax, or $0.16 per diluted share); 2000 gain on the sale of shares received from the demutualization of the company’s basic life insurance carrier of $13 million ($8 million after-tax, or $0.06 per diluted share); 1999 gains on the sale of businesses and investments of $43 million ($27 million after-tax, or $0.20 per diluted share); 1998 gains on the sale of the company’s remaining interests in two former subsidiaries of $169 million ($101 million after-tax, or $0.71 per diluted share); 1997 restructuring and impairment charges of $71 million ($42 million after-tax, or $0.29 per diluted share).

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Financial Review

In the financial review that follows, we discuss our results of operations, financial condition and certain other information. This discussion should be read in conjunction with our consolidated financial statements and related notes that begin on page F-1.

In November 1999, we disposed of our entire interest in Corporate Software & Technology Inc. (CS&T). The operating results of this business are shown as a discontinued operation. In November 1999, we also sold 93% of our investment in the common stock of Stream International Inc. (Stream). Stream is consolidated in our financial results prior to the date of disposition. For comparison purposes, summary results of operations for Stream are included in the table below:

Stream Summary Income Statement*

In Millions	2001	2000	1999
Net sales	$—	$—	$	212
Value-added revenue (VAR)	—	—		212
Gross profit	—	—		64
Selling and administrative expenses	—	—		57
Earnings from operations	—	—		7

Included in “Other” for segment reporting purposes.

One-Time Items The following nonrecurring items also affect comparability between years:

In 2001, income from continuing operations included:

restructuring and impairment charges ($196 million pretax and $137 million after-tax; $(1.15) per diluted share);

a gain on the sale of our remaining 7% interest in Stream ($7 million both pretax and after-tax; $0.05 per diluted share); and

a loss on the write-down of several Internet technology-related investments of the company ($19 million pretax and after-tax; $(0.16) per diluted share).

In 2000, income from continuing operations included a one-time non-operating gain related to the sale of shares received from the demutualization of our basic life insurance carrier ($13 million pretax and $8 million after-tax; $0.06 per diluted share).

In 1999, income from continuing operations included:

a gain on the sale of 93% of our interest in Stream ($40 million pretax and $75 million after-tax due to tax benefits from associated tax loss carrybacks; $0.59 per diluted share);

a gain on the sale of our interest in Modus Media International (MMI) ($3 million both pretax and after-tax; $0.01 per diluted share); and

a provision for income taxes related to corporate-owned life insurance (COLI) ($51 million; $(0.40) per diluted share) (see the “Income Taxes” note to the consolidated financial statements on page F-19 for more details on COLI).

The following table summarizes the after-tax impact of these one-time items:

	Full Year Results								Per Diluted Share
	2001			2000		1999			2001			2000		1999
	In Thousands
Income from continuing operations before one-time items	$	173,635		$	258,992	$	285,171		$	1.47		$	2.11	$	2.20
Restructuring and impairment charges		(136,752	)		—		—			(1.15	)		—		—
Gain on sale of businesses and investments		6,641			—		77,532			0.05			—		0.60
Investment write-downs		(18,536	)		—		—			(0.16	)		—		—
Gain from demutualization		—			7,908		—			—			0.06		—
COLI tax provision		—			—		(51,188	)		—			—		(0.40	)

Income from continuing operations	$	24,988		$	266,900	$	311,515		$	0.21		$	2.17	$	2.40
Loss from discontinued operations		—			—		(3,201	)		—			—		(0.02	)

Net income	$	24,988		$	266,900	$	308,314		$	0.21		$	2.17	$	2.38

A summary analysis of expense trends is presented below:

	2001		% Change		2000		% Change		1999
	In Thousands
Cost of materials	$	1,689,882	(10.6	)%	$	1,890,678	0.1	%	$	1,888,764
Cost of transportation		607,389	6.9			568,339	158.9			219,535
Cost of manufacturing*		1,769,712	(5.7	)		1,876,476	2.3			1,833,907
Depreciation		315,937	(3.2	)		326,349	1.0			323,009
Amortization		62,786	(2.0	)		64,053	24.7			51,373
Selling and administrative expenses*		554,914	(5.0	)		584,298	(2.8	)		601,040
Restructuring and impairment charges		195,545	N/A			—	N/A			—
Net interest expense		71,183	(20.6	)		89,639	1.7			88,164

*Excludes

depreciation and amortization, which are shown separately.

Results of Operations—2001 compared with 2000

Net sales decreased $467 million, or 8.1%, to $5.3 billion compared with $5.8 billion in 2000. Acquisitions contributed an increase of $103 million in net sales between years, offset by lower organic sales within the Commercial Print and Logistics Services segments.

For our Commercial Print segment, value-added revenue represents net sales less the cost of materials. For some customers, we purchase paper used in the printing process and pass through this cost (referred to as “pass-through material sales”) at a margin that is lower than print and related services; other customers furnish their own paper. Customer-furnished paper is not reflected in our financial results. For our Logistics Services segment, value-added revenue represents net sales less the cost of transportation. By measuring value-added revenue, we eliminate the effects of material prices and transportation costs, as well as mix issues related to customer-furnished versus Donnelley-furnished paper, that are largely beyond our control.

Consolidated value-added revenue decreased $305 million, or 9.2%, to $3.0 billion compared with $3.3 billion in 2000. Acquisitions contributed an increase of $35 million in value-added revenue between years. Value-added revenue is affected by the price of scrap (by-product) paper we sell. Income from the sale of by-products is recorded as a reduction in our cost of materials. During 2001, we recognized a reduction in our cost of materials of $41 million from by-product revenues compared with $66 million in 2000, a decrease of 38%.

Gross profit as a percentage of net sales declined to 17.2% in 2001 compared with 19.1% in 2000, primarily due to lower margins within the Commercial Print segment. Commercial Print’s gross profit margin was affected negatively in 2001 by lower volumes and high fixed costs across most of the segment, primarily within Financial Services and Long-run Magazines, Catalogs and Inserts. Our Logistics Services segment, which has a lower gross profit margin than our Commercial Print segment, also represented a higher proportion of net sales in 2001 (15% versus 12% in 2000).

Selling and administrative expenses decreased $30 million, or 5.1%, to $568 million compared with $598 million in 2000. Selling and administrative expenses as a percentage of net sales was 10.7% in 2001 compared with 10.4% in 2000. Reductions in volume-related costs, including incentive compensation and sales commissions, savings resulting from our elimination of approximately 250 administrative positions company-wide ($10 million) and general cost containment were partially offset by increased bad debt expense ($16 million). The increase in bad debt expense during 2001 reflected a deterioration in collections during the year, particularly due to retail bankruptcies.

Net interest expense decreased 20.6% to $71 million in 2001, due to lower average debt levels, and lower average short-term borrowing rates. Other income, net, in 2001 was $11 million compared with $23 million in 2000. Other income, net, in 2000 included a one-time pretax gain of $13 million from the sale of shares received from the demutualization of our basic life insurance carrier. Excluding this one-time gain in 2000, other income,

net, increased $1 million in 2001 primarily due to higher equity income on investments ($4 million) and higher miscellaneous income ($1 million), partially offset by higher foreign currency transaction losses ($4 million).

The following comparisons exclude the impact of the one-time items discussed below: Earnings from continuing operations before income taxes of $282 million in 2001 decreased 33.0% from $421 million in 2000. The effective tax rate in both years was 38.5%. Net income of $174 million in 2001 decreased 33.0% from $259 million in 2000. Diluted earnings per share of $1.47 decreased $0.64, or 30.3%, from $2.11 in 2000. The rate of decrease was lower on a per-share basis due to fewer average shares outstanding during 2001.

Including one-time items, earnings from continuing operations before income taxes were $75 million in 2001, down 82.7% from $434 million in 2000. The effective tax rate in 2001 was 66.6%, compared with 38.5% in 2000, as certain one-time items did not have an associated income tax provision or benefit. Net income was $25 million, down 90.6% from $267 million in 2000.

The following table shows the trends in net sales and value-added revenue by end-market (in thousands):

	Net Sales						Value-Added Revenue
	2001		2000		% Change		2001		2000		% Change
Long-run Magazines, Catalogs, and Inserts	$	1,670,106	$	1,873,484	(10.9	)%	$	1,033,906	$	1,158,297	(10.7	)%
Telecommunications		834,366		868,153	(3.9	)		385,335		406,847	(5.3	)
Book Publishing Services		708,380		780,349	(9.2	)		502,674		532,693	(5.6	)
Financial Services		493,563		638,129	(22.7	)		416,045		540,382	(23.0	)
International(1)		293,069		326,773	(10.3	)		141,852		156,682	(9.5	)
Specialized Publishing Services		228,080		263,492	(13.4	)		141,792		158,972	(10.8	)
RRD Direct		179,330		198,111	(9.5	)		98,943		107,146	(7.7	)
Premedia Technologies		105,749		109,909	(3.8	)		105,749		108,069	(2.1	)

Total Commercial Print	$	4,512,643	$	5,058,400	(10.8	)	$	2,826,296	$	3,169,088	(10.8	)
Logistics Services		775,518		691,167	12.2			168,130		122,828	36.9
Other(2)		9,599		14,768	(35.0	)		6,063		13,402	(54.8	)

Total Net Sales	$	5,297,760	$	5,764,335	(8.1	)	$	3,000,489	$	3,305,318	(9.2	)

(1)

Includes Latin America and Poland.

(2)

Includes Red Rover, Louisville Distribution (sold in June 2000) and Other.

Operating Results by Business Segment—2001 Compared with 2000 As discussed more fully in the “Industry Segment Information” note to the consolidated financial statements on page F-25, we have two reportable segments: Commercial Print and Logistics Services. Following our acquisition of CTC in February 2000, we now report results from our logistics businesses within Logistics Services. Refer to the section “End-Market Descriptions” on page 3 for a discussion of the end-markets served by each of these business segments.

Net sales of our Commercial Print segment decreased $546 million in 2001, or 10.8%, from 2000. The incremental impact of acquisitions on net sales between years was not significant. First half net sales of the Commercial Print segment were down 8.2% between years. The impact of the economic slowdown worsened in the second half of 2001 particularly after September 11; second half net sales decreased by 13.2% between years. Net sales for Long-run Magazines, Catalogs and Inserts decreased 10.9% between years, which reflected volume decreases across all major markets. Increased retail bankruptcies, as well as lower magazine and retail insert advertising spending, and lower catalog page counts drove the majority of volume declines. Net sales for Book Publishing were down 9.2% from 2000 driven by lower volumes in the consumer and religious markets. Net sales for Telecommunications decreased 3.9% between years primarily due to volume shortfalls in the domestic directory market.

Net sales for Financial Services decreased 22.7% compared with 2000, driven primarily by the slowdown in both U.S. and international capital markets. Capital markets volume was particularly impacted by the events and aftermath of September 11. During 2001, we derived 85.0% of our capital markets sales from the U.S.; our U.S. capital markets sales were down 20.9% from 2000. Due to weakness in the international capital markets during 2001, our international capital markets sales were down 58.6% from 2000.

Net sales of our Logistics Services segment increased $84 million in 2001, or 12.2%, from 2000. We acquired package logistics in February 2000, which contributed an incremental $104 million in net sales between years. Unit volumes for package logistics were up 21.4% between years, partially due to an additional five weeks of activity in 2001. In addition, package logistics benefited from higher pricing in 2001, including a more profitable customer mix. Net sales of our print logistics business were down 6.0% between years, driven primarily by lower freight services volume and, to a lesser extent, reduced expedited services volume.

Value-added revenue for the Commercial Print segment decreased $343 million, or 10.8%, from 2000, resulting from volume declines across all major markets. The incremental impact of acquisitions on value-added revenue between years was not significant. Value-added revenue for Long-run Magazines, Catalogs and Inserts declined 10.8% between years, driven primarily by lower volumes. Lower revenues from by-products for Long-run Magazines, Catalogs and Inserts decreased value-added revenue by 1.0% between years. Financial Services’ value-added revenue decreased 23.0% from 2000, driven by the slowed U.S. and international capital markets.

Value-added revenue for the Logistics Services segment increased $45 million, or 36.9%, from 2000. Package logistics contributed an incremental $35 million in value-added revenue between years, up 59.1%. During 2000, package logistics was affected negatively by low price levels in response to competition and low-margin work for a number of large mailers. In 2001, package logistics benefited from higher net sales, and higher postage discounts due to deeper penetration of the postal system (closer to the final destination), which more than offset increased transportation and handling costs. Value-added revenue for our print logistics business increased 16.3% from 2000, despite the drop in net sales between years, driven by lower transportation costs. The decline in transportation costs related to better cost management and non-recurring start-up costs of a new distribution facility in the Northeast during the fourth quarter of 2000.

The following discussion excludes the impact of restructuring and impairment charges (see discussion under the caption “Restructuring and Impairment and Other One-Time Items”, below). Earnings from operations for the Commercial Print segment declined $207 million, or 39.8%, from 2000, with declines in each end market. Earnings from operations within Long-run Magazines, Catalogs and Inserts in particular were hurt by the severity of the volume decline, particularly during the second half of 2001. During 2001, we announced actions to better align our cost structures that included the closing of four print facilities within our long-run operations. Of the four facilities, the two largest (Des Moines, Iowa and Old Saybrook, Connecticut) are expected to cease operations in the second quarter of 2002. Earnings from operations within Financial Services were affected negatively in 2001 by the capital markets slowdown. RRD Direct had volume shortfalls during 2001 and operational issues at its Newark, Ohio facility, following the consolidation of another direct mail facility into Newark in 2000. Earnings from operations in 2000 included a pretax charge of $9 million to close two plants (a direct mail facility and a Financial Services printing plant).

Our Logistics Services segment incurred a loss from operations, excluding restructuring and impairment charges, of $3.9 million compared with a loss of $13.9 million in 2000. This improved operating performance in 2001 was driven by package logistics, and the positive factors affecting value-added revenue noted above. Logistics Services also benefited from reduced administrative expenses in 2001 related to the shutdown of package logistics’ former headquarters in Minneapolis, Minnesota during the year. Our print logistics business incurred a loss from operations in 2001, driven by lower freight services volume, as well as lower expedited services volume related to the declines in Financial Services. Within print logistics, the distribution center start-up problems in the fourth quarter of 2000 were resolved in early 2001, partially offset by additional facility expansion costs during 2001.

The loss from operations within the “Other” segment, excluding restructuring and impairment charges, included expenses of $21 million and $29 million in 2001 and 2000, respectively, to grow complementary businesses. These businesses included Red Rover Digital (Red Rover), a provider of Internet web site design services, which was shut down during the fourth quarter of 2001. 2000 included an additional operating loss of $2 million for our Louisville distribution center through June 2000, the date of disposition.

Earnings from operations for the Corporate segment, excluding restructuring and impairment charges, were $55 million in 2001 compared with $26 million in 2000. This increase between years was driven by higher benefit plan earnings (excluding service costs) ($9 million); lower provision for LIFO inventories ($4 million) and lower corporate administrative and other unallocated expenses ($16 million).

Earnings (loss) from operations as reported (including restructuring and impairment charges) is reconciled to earnings (loss) from continuing operations before income taxes by business segment as follows: Commercial Print: other income, net, of $14 million in 2001 and $13 million in 2000; Logistics Services: other income, net, of $0.3 million in 2001 and other expense, net, of $0.1 million in 2000; Other: other expense, net, of $13 million in 2001 and $4 million in 2000; and Corporate: other expense, net, of $74 million in 2001 and $76 million in 2000. Other income, net, for the Commercial Print segment in 2001 included a pretax loss of $5 million related to the impact of the peso devaluation on our investment in Argentina. The functional currency of our operations in Argentina is the Argentine peso. While the devaluation was formally announced in January 2002, the currency impact of translating non-peso denominated assets and liabilities into U.S. dollars was recorded in 2001. The $5 million pretax loss was more than offset by additional miscellaneous other income.

Other expense, net, within the “Other” segment of $13 million in 2001 included $12 million of net one-time gains and losses related to the following investments: $19 million pretax loss on the write-down of several Internet technology-related investments, partially reduced by a $7 million one-time gain on the sale of our remaining investment in Stream (see discussion under the caption “Restructuring and Impairment and Other One-Time Items”, below). Other expense, net, within the Corporate segment in 2001 included lower net interest expense between years of $17 million, partially offset by lower gains on sale of assets ($5 million) and higher miscellaneous other expense ($10 million).

Restructuring and Impairment and Other One-Time Items The following discussion should be read in conjunction with the “Restructuring and Impairment” note to the consolidated financial statements on Page F-9. During 2001, we recorded pretax restructuring and impairment charges of $196 million ($137 million after-tax, or $1.15 per diluted share). Of the total $196 million pretax charge, $106 million related to various restructuring actions announced during 2001, and $90 million related to write-downs to adjust the carrying values of certain businesses. The total $196 million pretax charge was included as restructuring and impairment charges in the Consolidated Statements of Income on page F-2.

As a company, we assess regularly our manufacturing platforms to assure that they are efficient, flexible and aligned properly with our customers’ needs. In March 2001, we announced a $300 million upgrade in our print platform, approximately one-third of which related to restructuring costs. We intend to create a more efficient, flexible and integrated print platform to better serve our long-run magazine, catalog and inserts customers within our Commercial Print segment. This upgrade program includes the purchase of up to ten new presses and associated binding lines, most of which we expect to place into service during 2002. As we upgrade facilities, certain existing equipment with minimal book value will be either retired or sold. As of December 31, 2001, capital expenditures related to this upgrade program were $90 million, mostly in the fourth quarter. We plan to complete the upgrade program by early to mid-2003. We expect total company capital spending for the full year 2002, including the upgrade program, to be in the range of $250 million to $300 million, consistent with 2001 levels.

As part of our efforts to build a more effective print platform, we must continually assess each plant’s scale of operations and geographic location relative to our entire print platform. During the first half of 2001, we announced the closure of the following five U.S. manufacturing facilities: St. Petersburg and South Daytona, Florida; Des Moines, Iowa; Old Saybrook, Connecticut; and print production-only at a Financial Services sales center in Houston, Texas. Each of these print facilities lacked the necessary scale and geographic location to remain competitive. All customer work produced at these facilities either has been or will be transferred to other company facilities once necessary expansions to accommodate the transfer of work are complete. As of December 31, 2001, all print production had ceased at the two Florida and the Texas facilities. Both Florida facilities are considered held for disposal at December 31, 2001. Print production at the Des Moines, Iowa and Old Saybrook, Connecticut facilities (the two largest of the announced closings) is expected to cease by June 30, 2002. The Des Moines, Iowa and Old Saybrook, Connecticut facilities are considered held for use as of December 31, 2001.

In addition to the above restructuring actions, we announced additional workforce reductions and consolidations at several of our facilities during 2001, including a company-wide reduction of 250 administrative positions in June. In particular, we took further actions to reduce costs in the second half because of the duration and severity of the economic downturn and its impact on all of our print-related businesses. Total pretax restructuring and impairment charges of $106 million related to restructuring actions announced during 2001 by business segment were: Commercial Print: $96 million; Logistics Services: $1 million; Other: $5 million; and Corporate: $4 million. Of these amounts, $89 million represented the cash component, of which $55 million was paid during 2001. Of the $55 million cash component, $19 million represented enhanced early retirement benefits to be paid by our various benefit plans.

As noted above, we plan to complete our print platform upgrade program primarily in 2002, with some carryover into 2003 expected. As we complete our upgrade program and fully transition all customer work during the first half of 2002 from closed facilities, we expect to improve the overall performance of our print platform. This will include improvements in cycle times and less waste through the addition of faster, more efficient equipment to our networked platform. Further, we expect to achieve greater economies of scale when volume levels return from the depressed economic levels in 2001 by having fewer, yet larger and more strategically located facilities. These improvements will be augmented by our business process redesign and continuous improvement programs (such as Six Sigma and Process Variability Reduction) that we expect will continue to drive down both manufacturing costs and working capital.

In addition to the five U.S. manufacturing locations, we announced the closing during 2001 of two plants outside the U.S. due to sales shortfalls from acquisition plans and to streamline costs: Ediciones Eclipse S.A. de C.V. in Mexico, and Hamburg Gráfica Editora in Brazil. Customer work from both plants will be consolidated into existing company facilities. In addition, in 2001, we ceased production of directories at our York, England facility, and transitioned the work to a newly-constructed plant in Flaxby, England. All three non-U.S. facilities were considered held for disposal at December 31, 2001.

During 2001, in accordance with Statement of Financial Accounting Standards (SFAS) No. 121, Accounting for the Impairment of Long-Lived Assets to Be Disposed Of, we recorded a pretax impairment charge of $90 million to adjust the carrying values of certain of our businesses to fair value. This included write-downs with respect to the following businesses within the Commercial Print segment: RRD Direct (Communicolor, Newark, Ohio division: $37 million); Specialized Publishing Services (Penton Press, Berea, Ohio division: $11 million); and International including Argentina (Atlántida Cochrane: $19 million); Brazil (Circulo do Livro and Hamburg Gráfica Editora: $11 million); and Mexico (Ediciones Eclipse S.A. de C.V.: $12 million). The pretax impairment charge of $90 million reduced goodwill by $36 million and property and equipment by $54 million. The write-downs were primarily the result of the deterioration in net sales from the original acquisition plans, such that the carrying values of the entities were not considered to be recoverable. See the “Restructuring and Impairment” note to the consolidated financial statements on page F-9 for more details.

As a result of all restructuring actions and impairment write-downs announced in 2001, net of the incremental costs associated with the print platform upgrade, we expect to realize costs savings in 2002 of approximately $90 million, of which $86 million is the cash component and $4 million is non-cash, related to lower depreciation expense. During 2001, we recognized approximately $19 million of cost savings from 2001 restructuring actions taken, excluding benefits from our continuous improvement and other productivity programs. Of this $19 million in cost savings, $18 million was the cash component, and $1 million was non-cash, related to lower depreciation expense. This reduction in our cost structure, however, was more than offset by the impact of volume reductions and pricing pressures in 2001, particularly during the second half of the year. As long as market activity levels remain low, we will continue to take aggressive cost actions. We also expect to drive gains in throughput, productivity and capacity utilization once volume activity levels recover.

During 2001, we recorded a pretax charge of $19 million ($19 million after-tax, or $0.16 per diluted share) to write-down the values of several of our Internet-related technology investments. During 2000, we acquired a minority interest in an Internet communications services company for $14 million for which no publicly-traded market data was available. During the fourth quarter of 2001, this Internet communications services company entered into an equity transaction with a third party, which provided a basis for a revised valuation and an impairment of our minority interest. The total $19 million pretax charge was included in other income (expense) as investment write-downs in the Consolidated Statements of Income on page F-2.

We also recorded a pretax gain on the sale of our remaining interest in Stream in the fourth quarter of 2001 of $7 million ($7 million after-tax, or $0.05 per share). The $7 million pretax gain was included in other income (expense) as gain on sale of businesses and investments in the Consolidated Statements of Income on page F-2. In 2000, we recorded a pretax gain of $13 million ($8 million after-tax, or $0.06 per diluted share) on the sale of shares received from the demutualization of our basic life insurance carrier. The $13 million pretax gain was included in other income (expense) as other, net, in the Consolidated Statements of Income on page F-2.

Results of Operations—2000 compared with 1999

Continuing Operations Net sales increased $349 million, or 6.4%, to $5.8 billion compared with $5.4 billion in 1999. Excluding Stream, net sales increased $561 million, or 10.8%, from 1999. Acquisitions contributed $476 million of the increase in net sales excluding Stream between years. Our most significant acquisition during 2000 was the purchase of certain net assets of CTC in February. CTC, or package logistics, which is reported as part of our Logistics Services segment, contributed $365 million of net sales in 2000.

Consolidated value-added revenue was flat between years; excluding Stream, value-added revenue increased $210 million, or 6.8%, to $3.3 billion compared with $3.1 billion in 1999. Acquisitions contributed $136 million of the increase in value-added revenue between years. Value-added revenue is affected by the price of scrap (by-product) paper we sell. Income from the sale of by-products is recorded as a reduction in our cost of materials. During 2000, we recognized a reduction in our cost of materials of $66 million from by-product revenues, which represents an increase of $28 million, or 71.5%, from 1999.

Gross profit as a percentage of net sales was 19.1% in 2000 compared with 21.4% in 1999. Excluding Stream, our gross profit margin in 1999 was 21.0%. Our Logistics Services segment, which has lower gross profit margins than our Commercial Print segment, represented a higher proportion of net sales in 2000 (12% versus 5% in 1999), primarily as a result of the acquisition of package logistics. Logistics Services’ gross margin was down significantly in 2000 related to the performance of package logistics, as well as higher transportation costs and other operational issues discussed below. Commercial Print’s gross profit margin increased between years due to the impact of continued productivity initiatives and higher by-products revenues.

Selling and administrative expenses decreased $31 million, or 4.9%, to $598 million compared with $629 million in 1999. Selling and administrative expenses as a percentage of net sales was 10.4% in 2000 compared with 11.6% in 1999. Spending reductions and cost containment of $10 million, coupled with the elimination of

Stream expenses ($57 million) and lower Year 2000-related expenses ($30 million), were partially offset by increased spending to grow new complementary businesses ($23 million), information systems development ($21 million) and recent acquisitions ($22 million).

Net interest expense increased 1.7% to $90 million in 2000, due to higher average short-term borrowing rates. Other income, net, in 2000 of $23 million included a one-time pretax gain of $13 million from the sale of shares received from the demutualization of our basic life insurance carrier. Excluding one-time items, other income, net, decreased $12 million between years primarily due to lower equity income on investments ($7 million) and foreign currency transaction losses ($5 million). Gain on sale of businesses and investments of $43 million in 1999 included one-time pretax gains on the disposition of Stream ($40 million) and the sale of our interest in MMI ($3 million).

The following comparisons exclude the impact of one-time items and Stream. Income from continuing operations before income taxes of $421 million decreased 8.0% from 1999. The effective tax rate in both years was 38.5%. Income from continuing operations per diluted share of $2.11 decreased $0.06, or 2.8%, from 1999. The rate of decrease was lower on a per-share basis due to fewer average shares outstanding during 2000. Including one-time items and Stream, income from continuing operations and related diluted earnings per share decreased 14.3% and 9.6%, respectively, from 1999.

Discontinued Operations Operating results of CS&T were classified as a discontinued operation as of the date of disposal (November 1999), with prior periods restated. In 1999, the pretax loss from this segment was $5 million, or $3 million after-tax ($0.02 per diluted share). There was no gain or loss on sale.

Consolidated Net Income Excluding one-time items and Stream, net income of $259 million in 2000 decreased 7.0% from $279 million in 1999, while diluted earnings per share decreased 1.9% to $2.11. The rate of decrease was lower on a per-share basis due to fewer average shares outstanding during 2000. Including one-time items and Stream, net income decreased 13.4% while diluted earnings per share decreased 8.8%.

The following table shows the trends in net sales and value-added revenue by end-market (in thousands):

	Net Sales						Value-Added Revenue
	2000		1999		% Change		2000		1999		% Change
Long-run Magazines, Catalogs, and Inserts	$	1,873,484	$	1,861,044	0.7	%	$	1,158,297	$	1,113,914	4.0	%
Telecommunications		868,153		868,465	—			406,847		398,124	2.2
Book Publishing Services		780,349		775,262	0.7			532,693		514,582	3.5
Financial Services		638,129		631,733	1.0			540,382		525,887	2.8
International(1)		326,773		280,327	16.6			156,682		133,604	17.3
Specialized Publishing Services		263,492		206,181	27.8			158,972		128,978	23.3
RRD Direct		198,111		192,250	3.0			107,146		113,863	(5.9	)
Premedia Technologies		109,909		88,726	23.9			108,069		87,478	23.5

Total Commercial Print	$	5,058,400	$	4,903,988	3.1		$	3,169,088	$	3,016,430	5.1
Logistics Services		691,167		281,468	145.6			122,828		61,933	98.3
Other(2)		14,768		230,186	(93.6	)		13,402		228,980	(94.1	)

Total Net Sales	$	5,764,335	$	5,415,642	6.4		$	3,305,318	$	3,307,343	(0.1	)

(1)

Includes Latin America and Poland.

(2)

Includes Red Rover, Louisville Distribution (sold in June 2000) and Other.

Operating Results by Business Segment—2000 Compared with 1999 Net sales of our Commercial Print segment increased $154 million in 2000, or 3.1%, from 1999. Net sales for Long-run Magazines, Catalogs and Inserts were up less than 1% from 1999, which reflected strong volume increases and higher paper prices in 2000, offset by a lower volume of pass-through material sales. Paper prices for major grades of paper employed by our long-run market increased an average of 5% between years. Net sales for Telecommunications were flat to

1999, as an increase in directory volumes was offset by a reduction in nondirectory work (for example, the platform produced work for Financial Services in 1999). Net sales for Book Publishing were flat to 1999, driven by higher volumes within the consumer and educational markets, offset by lower pass-through material sales. Net sales for Financial Services were up 1.0% in 2000, driven by increased volume in international capital markets. During 2000, we derived 25% of our capital markets sales from international; our international capital markets volume increased 56% from 1999. Due to weakness in the U.S. capital markets for much of 2000, our U.S. capital markets sales were down 12% from 1999.

Net sales of our Logistics Services segment of $691 million in 2000 included $365 million from the acquisition of package logistics. Net sales of our print logistics business increased $44 million, or 15.6%, from 1999, driven almost entirely by higher freight services volume, despite a small decline in expedited services volume.

Value-added revenue for the Commercial Print segment increased $153 million, or 5.1%, from 1999. Excluding the impact of acquisitions, value-added revenue for Commercial Print increased 2.6%, primarily due to strong volume increases in Long-run Magazines, Catalogs and Inserts and higher by-product revenues. Incremental revenues from by-products for Commercial Print increased value-added revenue by 1.0% between years. Value-added revenue for the Logistics Services segment of $122 million in 2000 included $59 million from package logistics. Excluding package logistics, value-added revenue of our print logistics business increased 2.9% from 1999.

Earnings from operations for the Commercial Print segment were down less than 1% between years. Our traditional print businesses (long-run and book) had strong volume increases and productivity gains in 2000, particularly during the first half, and higher income from by-products. Earnings from operations were hurt during the second half by escalating energy and healthcare costs, and higher employee turnover at several of our plants. For the full year, earnings from operations were affected negatively by Financial Services and RRD Direct, our direct mail operation. Financial Services was hard hit by the U.S. capital markets slow down. RRD Direct’s volume declined as a result of a decrease in sweepstakes and credit card solicitations.

In both Financial Services and RRD Direct, we took direct action to address these earnings shortfalls. This included closing two unprofitable production facilities in 2000 for which we incurred a pretax charge of $9 million. In the fourth quarter of 2000, we reorganized RRD Direct’s sales and marketing efforts. We also made substantial progress addressing operational issues that arose following the consolidation of two of our direct mail facilities.

Our Logistics Services segment incurred a loss from operations of $14 million in 2000, equal to package logistics’ loss for the year. Package logistics was affected negatively in 2000 by low price levels in response to competition, the impact of low-margin work and new facility start-up costs. In order to increase volume and drive deeper penetration of the postal system (closer to the final destination), package logistics delivered packages for a number of large mailers at price levels that proved to be unprofitable. Levels of this low-margin work peaked during the fourth quarter and negatively affected results.

Excluding package logistics, earnings from operations of our print logistics business were break-even in 2000, down $8 million from 1999, with the majority of the shortfall occurring in the fourth quarter of 2000. This decrease was driven by higher transportation costs, primarily due to increased carrier and fuel costs and start-up problems following expansion of our Northeast distribution facility. Despite higher freight services volume, transportation costs were up 7% between years on an average per-unit basis.

Earnings (loss) from operations within the “Other” operating segment include losses of $28 million and $8 million in 2000 and 1999, respectively, to grow complementary businesses, including Red Rover.

Financial Condition, Liquidity and Capital Resources

Because of our scale, manufacturing experience and strong customer base, we continue to generate strong cash flows from our printing businesses. We plan to use these cash flows to continue our transformation in several key areas and invest in future growth to create value for our shareholders. This includes an upgrade of our print platform to enable us to better serve our customers in a more cost-effective, flexible and efficient manner. Second, it includes building value-added services upstream toward our customers and downstream toward the consumer. In addition, we will continue to invest in programs that provide the foundational support underlying these transformation efforts, including continuous improvement, business process redesign and cultural change. If we do not have investment opportunities that generate returns above our cost of capital, our philosophy is to return excess cash to shareholders through share repurchase, while maintaining our targeted capital structure.

We address certain financial exposures through a controlled program of risk management that includes the limited use of derivative financial instruments. We enter into interest rate swaps to manage our interest costs and exposure to changes in interest rates. In addition, from time to time we enter into forward and option contracts to minimize potential exchange risk and transaction losses in non-U.S. entities with non-functional currency denominated borrowings, sales, purchases or expenses. We do not use derivatives for trading purposes and we are not a party to leveraged derivatives.

During 2001, we entered into two interest rate swap agreements to exchange fixed rate for floating rate payments periodically over the life of certain outstanding debt instruments. These swaps have been designated as fair value hedges and were highly effective as of December 31, 2001. We also entered into a third interest rate swap agreement to exchange floating rate for fixed rate payments. See the “Debt Financing and Interest Expense” note to the consolidated financial statements on page F-21 for details.

While we continue to review our COLI tax position in light of recent court cases involving other taxpayers, disallowance by the Internal Revenue Service of our COLI deductions for the years 1993 through 1998 could result in additional cash payments upon settlement. See the “Income Taxes” note to the consolidated financial statements on page F-19 for a discussion of COLI tax matters.

As of December 31, 2001, our only off balance sheet financing activities were non-cancelable operating lease commitments described in the “Commitments and Contingencies” note to the consolidated financial statements on page F-14.

Cash Flows from Operating Activities

Cash flow from operations in 2001 was $548 million, a decrease of $192 million from 2000. This decrease was primarily due to the receipt in 2000 of a tax refund of $77 million related to the carryback of tax losses following the sales of MMI, CS&T and Stream in 1999; a COLI tax payment of $62 million in 2001 as a result of the settlement of a federal income tax audit for the years 1990 through 1992; and the weaker operating performance of the company in 2001. Our cash conversion cycle (days’ sales outstanding plus days’ inventory on hand minus days’ payable outstanding) was stable at 48 days for 2001 and 2000. The ratio of operating working capital* to sales has continued to improve to 5.5% in 2001 from 6.1% in 2000 and 6.9% in 1999.

Cash flows from operations increased by $105 million in 2000, primarily due to the receipt of the tax refund of $77 million in 2000 and reduced investments in operating working capital.

Operating working capital is defined as current assets (including cash) less current liabilities (excluding debt, taxes and restructuring reserves).

Cash Used in Investing Activities

Our principal recurring investing activities are capital expenditures to improve the productivity of operations. In 2001, capital expenditures totaled $273 million, a $36 million increase compared to 2000 spending of $237 million. During 2001, we opened a second printing plant in Poland and several facilities within our Premedia Technologies group, located in New York, Oregon and Warsaw, Poland, to better serve our customers’

content management and communications needs. The higher level of spending in 2001 was driven by these expansions and our investments to create a more efficient print platform to serve our long-run magazine, catalog and advertising insert customers. Beginning in 2001 and extending into 2003, we expect to invest up to $300 million in this print platform, a third of which relates to restructuring activities, to create fewer, larger and more efficient facilities to better serve our customers (see discussion under the caption “Restructuring and Impairment and Other One-Time Items”, above). We expect to fund these actions primarily through cash provided by our operations.

Acquisitions

We made no business acquisitions in 2001. In 2000, we made several business acquisitions and investments to extend our geographic reach and expand our range of capabilities.

Acquisitions completed in 2000 included:

Omega Studios-Southwest, Inc. (January 2000)—This dedicated photography studio expanded our premedia offerings in digital photography and creative services, and extended our geographic reach to the Southwest.

CTC (February 2000)—This mailer of business-to-home packages in the U.S. more than doubled the revenues of our Logistics Services segment, enhanced our scale and expanded our service offering to include the delivery of packages in addition to printed products.

Iridio, Inc. (February 2000)—This full-service premedia company, which provides digital photography, prepress, digital asset management and digital print services, brought us a significant presence in the Pacific Northwest.

EVACO, Inc. (February 2000)—This financial printer based in Florida expanded our Financial Services operations in the Southeast.

Circulo do Livro (July 2000)—This Brazilian book printer expanded our capabilities to serve the book publishing market and, together with expansion of our Hamburg Gráfica Editora division, made us the largest book printer in South America.

Divestitures

See the “Divestitures” note to the consolidated financial statements on page F-7 for details.

Cash Provided by Financing Activities

Financing activities include net borrowings, dividend payments and share repurchases. Our net borrowings increased by $57 million in 2001.

Commercial paper is our primary source of short-term financing. On December 31, 2001, we had $16 million outstanding in commercial paper borrowings. In addition, at December 31, 2001, we had a $431 million unused revolving credit facility with a number of banks. This facility provides support for issuing commercial paper and other credit needs. Management believes our cash flow and borrowing capability are sufficient to fund operations.

Share Repurchases

We acquired 8.8 million, 2.5 million and 11.9 million shares of our stock in 2001, 2000 and 1999, respectively, for $248 million, $63 million and $379 million, respectively, in privately negotiated or open-market transactions. Since 1996, we have spent $1.5 billion to repurchase stock and reduced the number of shares outstanding by 28%.

Net cash used to repurchase common stock, defined as cash used for share repurchases net of proceeds from stock options exercised, was $250 million in 2001; $22 million in 2000; and $350 million in 1999.

A summary of the shares outstanding is presented below:

	2001	2000	1999
	In Thousands
As of December 31
Basic	113,122	121,055	123,237
Dilutive effect	2,069	1,629	125

Total	115,191	122,684	123,362

Full Year Average
Basic	116,728	122,323	128,872
Dilutive effect	1,770	770	694

Total	118,498	123,093	129,566

In January 2001, the board of directors authorized a share repurchase program for up to $300 million of the company’s common stock in privately negotiated or open-market transactions. From February 1, through December 31, 2001, under this program we purchased approximately 7.7 million shares at an aggregate cost of approximately $218 million. The authorization expired on January 31, 2002.

Dividends

Dividends to shareholders totaled $110 million in each of 2001 and 2000 and $111 million in 1999. In 2001, we increased our dividend by 4%, representing our 31st consecutive annual dividend increase. We have consistently paid a dividend since becoming a public company in 1956.

Financial Condition

Our financial position remains strong as evidenced by our year-end balance sheet. Our total assets in 2001 were $3.4 billion compared with $3.9 billion at the end of 2000. Average invested capital (total debt and equity, computed on a 13-month average) was $2.3 billion in 2001, compared with $2.4 billion at the end of 2000. Lower income from continuing operations, excluding one-time items, reduced the return on average invested capital to 10.0% from 13.2% a year ago.

At year-end 2001, the debt-to-capital ratio increased to 54% from 45% in 2000 and year-end debt-to-total market value was flat at 24% compared with 2000. We also consider interest coverage ratios when reviewing our capital structure. Our ratio of earnings before interest, taxes, depreciation and amortization (EBITDA), excluding one-time items, to interest expense, was 10.3 at year-end, compared with 10.1 a year ago.

Other Information

Human Resources

As of December 31, 2001, we had approximately 33,000 employees. Approximately 81% of our employees work in the U.S., and approximately 3% of those are covered by collective bargaining agreements. Of the approximately 6,000 people working in our international operations, 29% are covered by collective bargaining agreements as is customary in those locations.

Minority representation among our U.S. workforce during 2001 increased by 13% based on our governmental reporting. Minority representation was 14% among our U.S. professionals, officials and managers,

while female representation was 35%. Minorities represented 19% of our U.S. workforce and females represented 33%.

Environmental, Health and Safety

Our business is subject to various laws and regulations governing employee health and safety and environmental protection. Our policy is to comply with all laws and regulations, and our objective is to create an injury-free workplace. We strive to achieve the highest performance standards of environmental performance and employee health and safety within both the printing industry and the manufacturing community. Since 1987, we have reduced releases and off-site transfers reported under the U.S. Environmental Protection Agency’s Toxic Release Inventory program by 80%. In addition, we have reduced the generation of hazardous waste by more than 49% since 1988 by applying various techniques.

In the area of employee health and safety, we have reduced our Occupational Health and Safety Administration (OSHA) recordable injury and illness and our days away from work rates consistently over the past five years. Since 1994, our OSHA recordable rate has decreased by more than 46% and our days away rate has declined more than 73%.

We do not anticipate that compliance with laws and regulations in these areas will have a material adverse effect on our competitive or consolidated financial position.

Technology

We remain a technology leader and hold 180 patents in print-related technology, including 20 patents in the emerging area of digital printing. We are a leader in technologies such as computer-to-plate, customer connectivity and digital imaging capabilities.

Public recognition for our technology efforts in 2001 include the following rankings among all U.S. companies:

#1 of the most innovative media and entertainment company users of information technology (Information Week, September 17, 2001); and

#115 of the top 500 leading IT innovators (Information Week, September 17, 2001).

Litigation and Contingent Liabilities

For a discussion of certain litigation involving the company, see the “Commitments and Contingencies” note to the consolidated financial statements on page F-14. For a discussion of our corporate-owned life insurance programs, see the “Income Taxes” note to the consolidated financial statements on page F-19.

New Accounting Pronouncements

Effective January 1, 2001, we adopted SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended by SFAS No. 138, Accounting for Certain Derivative Instruments and Certain Hedging Activities. These statements require that all freestanding derivatives and many derivatives embedded in other contracts be recognized on the balance sheet as either an asset or liability measured at fair value. Changes in the derivative instrument’s fair value will be recognized currently in earnings or in other comprehensive income if specific hedge accounting criteria are met. Special accounting for qualifying hedges allows a derivative instrument’s gains and losses to offset related results of the hedged item in the income statement, to the extent effective, and requires that we formally document, designate and assess the effectiveness of transactions that receive hedge accounting.

We have limited transactions that fall under the accounting rules of SFAS No. 133. We have entered into three interest rate swaps to manage certain of our interest rate costs and exposure to changes in interest rates. In accordance with the provisions of SFAS No. 133, we record the fair value of these instruments on our balance sheet and recognize changes in fair market value currently in earnings. The effect of recording the gains and losses on these instruments resulting from changes in fair value from inception is not material to our results of operations or financial position. In addition, from time to time, we enter into forward and option contracts to minimize potential exchange risk and transaction losses in non-U.S. entities with nonfunctional currency denominated borrowings, sales, purchases or expenses. We do not use derivatives for trading purposes and we are not a party to leveraged derivatives.

In July 2001, the Financial Accounting Standards Board issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that all business combinations initiated after June 30, 2001 be accounted for using the purchase method of accounting. SFAS No. 142, which must be implemented in January 2002, requires that goodwill and certain intangible assets not be amortized over an estimated useful life. Instead, goodwill must be assessed for impairment at least annually by applying a fair-value-based test. We anticipate that future earnings will increase without amortization expense; however we must assess our existing goodwill for impairment under the new standard. In accordance with the transition provisions of the new standard, we may record a charge for a change in accounting principle for any impairment of goodwill during 2002. During both of the years ended December 31, 2001 and 2000, we recognized goodwill amortization of $18 million ($13 million and $14 million after-tax, or $(0.11) per diluted share for 2001 and 2000, respectively).

Outlook

The environment is highly competitive in most of our product categories and geographic regions. Competition is based largely on price, quality and servicing the special needs of customers. Industry analysts believe that there is overcapacity in most commercial printing markets. Therefore, competition is intense. Our intent is to differentiate our service offerings so that we are viewed by our customers as a partner that can help them deliver effective and targeted communications in the right format to the right audience at the right time.

We are a large user of paper, supplied to us by our customers or bought by us. The cost and supply of certain paper grades used in the manufacturing process will continue to affect our financial results. However, management currently does not see any disruptive conditions affecting prices or supply of paper in 2002.

Postal costs are a significant component of our customers’ cost structures. Postal rates increased in both January 2001 and July 2001. These increases have not had a negative effect on us. An additional increase has been proposed for the second half of 2002. Postal rate increases can enhance the value of Donnelley Logistics to our customers, as we are able to improve the cost efficiency of mail processing and distribution. This ability to deliver mail on a more precise schedule and at a lower relative cost should enhance our position in the marketplace.

The cost of energy affects our operating costs in the Commercial Print segment and transportation costs in Logistics Services. In Logistics Services, increases in fuel costs can be offset by fuel surcharges passed on to customers, but increases in other energy costs could affect our consolidated financial results.

In addition, consumer confidence and economic growth are key drivers of demand for our services. The slowdown experienced in the U.S. and international economies is affecting demand across most of our businesses. As we enter 2002, uncertainty in the economy has led certain of our customers to indicate that they anticipate flat or falling demand in their end markets throughout 2002.

In the longer term, technological changes, including the electronic distribution of information, present both risks and opportunities for the company. Many of our strategies leverage our distinctive capabilities to participate

in the rapid growth in electronic communications. Our goal remains to help our customers succeed by delivering effective and targeted communications in the right format to the right audience at the right time. We believe that with our competitive strengths, including our comprehensive service offerings, technology leadership, depth of management experience, customer relationships and economies of scale, we can develop the most valuable solutions for our customers, which should result in growth in shareholder value.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to market risk from changes in interest rates and foreign exchange rates. However, we generally maintain more than half of our debt at fixed rates (approximately 64% at December 31, 2001) and therefore our exposure to short-term interest rate fluctuations is immaterial to our consolidated financial statements. Our exposure to adverse changes in foreign exchange rates also is immaterial to our consolidated financial statements, and we occasionally use financial instruments to hedge exposures to foreign exchange rate changes. We do not use financial instruments for trading purposes and we are not a party to any leveraged derivatives. For further disclosure relating to financial instruments, see the “Debt Financing and Interest Expense” note to the consolidated financial statements on page F-21.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The financial information required by Item 8 is contained in Item 14 of Part IV and listed on page F-1.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF R.R. DONNELLEY & SONS

Information concerning the directors and officers of the company is contained on pages 5 and 12-13 of the company’s definitive Proxy Statement dated February 22, 2002, and is incorporated herein by reference. See also the list of the company’s officers and related information under “Executive Officers and Significant Officers of R.R. Donnelley & Sons Company” at the end of Part I of this annual report.

ITEM 11. EXECUTIVE COMPENSATION

Information concerning director and executive compensation for the year ended December 31, 2001, and, with respect to certain of such information, prior years, is contained on pages 15, 19-23 and 27-29 of the company’s definitive Proxy Statement dated February 22, 2002, and is incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Information concerning the beneficial ownership of the company’s common stock is contained on pages 16-18 of the company’s definitive Proxy Statement dated February 22, 2002, and is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

None.

PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a)

1. Financial Statements

The financial statements listed in the accompanying index (page F-1) to the financial statements are filed as part of this annual report.

2. Financial Statement Schedule

The financial statement schedule listed in the accompanying index (page F-1) to the financial statements is filed as part of this annual report.

3. Exhibits

The exhibits listed on the accompanying index to exhibits (pages E-1 through E-2) are filed as part of this annual report.

(b)

Reports on Form 8-K

A current report on Form 8-K was filed on November 8, 2001, and included Item 5 “Other Events” and Item 7 “Financial Statements and Exhibits.”

(c)

Exhibits

The exhibits listed on the accompanying index (pages E-1 through E-2) are filed as part of this annual report.

(d)

Financial Statements omitted—

Certain schedules have been omitted because the required information is included in the consolidated financial statements or notes thereto or because they are not applicable or not required.

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on the 22nd day of February, 2002.

R.R. DONNELLEY & SONS COMPANY

/S/ VIRGINIA L. SEGGERMAN

Virginia L. Seggerman

Vice President and Controller

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated, on the 22nd day of February, 2002.

Signature and Title

/S/ WILLIAM L. DAVIS

William L. Davis

Chairman of the Board, President and

Chief Executive Officer, Director

(Principal Executive Officer)

/S/ GREGORY A. STOKLOSA

Gregory A. Stoklosa

Executive Vice President and

Chief Financial Officer

(Principal Financial Officer)

/S/ VIRGINIA L. SEGGERMAN

Virginia L. Seggerman

Vice President and Controller

(Principal Accounting Officer)

/S/ JOSEPH B. ANDERSON, JR.*

Joseph B. Anderson, Jr.

Director

/S/ GREGORY Q. BROWN*

Gregory Q. Brown

Director

/S/ MARTHA LAYNE COLLINS*

Martha Layne Collins

Director

/S/ MONICA M. FOHRMAN

By:

Monica M. Fohrman

As Attorney-in-Fact

Signature and Title

/S/ JAMES R. DONNELLEY*

James R. Donnelley

Director

/S/ JUDITH H. HAMILTON*

Judith H. Hamilton

Director

/S/ THOMAS S. JOHNSON*

Thomas S. Johnson

Director

/S/ OLIVER R. SOCKWELL*

Oliver R. Sockwell

Director

/S/ BIDE L. THOMAS*

Bide L. Thomas

Director

/S/ NORMAN H. WESLEY*

Norman H. Wesley

Director

/S/ STEPHEN M. WOLF*

Stephen M. Wolf

Director

By Monica M. Fohrman as Attorney-in-Fact pursuant to Powers of Attorney executed by the directors listed above, which Powers of Attorney have been filed with the Securities and Exchange Commission.

ITEM 14(a). INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES

		Page
Consolidated Statements of Income for each of the three years ended December 31, 2001		F-2
Consolidated Balance Sheets at December 31, 2001 and 2000		F-3
Consolidated Statements of Cash Flows for each of the three years ended December 31, 2001		F-4
Consolidated Statements of Shareholders’ Equity for each of the three years ended December 31, 2001		F-5
Notes to Consolidated Financial Statements		F-6
Report of Independent Public Accountants		F-28
Unaudited Interim Financial Information, Dividend Summary and Financial Summary		F-29
Report of Independent Public Accountants on Financial Statement Schedule		F-31
Financial Statement Schedule
II—Valuation and Qualifying Accounts		F-32

F-1

R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

Thousands of Dollars, Except Per Share Data

	Year Ended December 31
	2001			2000			1999
Net sales	$	5,297,760		$	5,764,335		$	5,415,642
Cost of sales		4,387,309			4,665,472			4,256,635

Gross profit		910,451			1,098,863			1,159,007
Selling and administrative expenses		567,635			597,823			628,580
Restructuring and impairment charges		195,545			—			—

Earnings from operations		147,271			501,040			530,427
Other income (expense):
Interest expense		(71,183	)		(89,639	)		(88,164	)
Gain on sale of businesses and investments		6,641			—			42,835
Investment write-downs		(18,536	)		—			—
Other, net		10,701			22,583			21,431

Earnings from continuing operations before income taxes		74,894			433,984			506,529
Income taxes		49,906			167,084			195,014

Income from continuing operations		24,988			266,900			311,515
Loss from discontinued operations, net of income taxes		—			—			(3,201	)

Net Income	$	24,988		$	266,900		$	308,314

Income from Continuing Operations per Share of Common Stock
Basic	$	0.21		$	2.18		$	2.41
Diluted		0.21			2.17			2.40
Loss from Discontinued Operations per Share of Common Stock
Basic	$	—		$	—		$	(0.02	)
Diluted		—			—			(0.02	)
Net Income per Share of Common Stock
Basic	$	0.21		$	2.18		$	2.39
Diluted		0.21			2.17			2.38

See accompanying Notes to Consolidated Financial Statements.

F-2

R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

Thousands of Dollars, Except Share Data

	December 31
	2001			2000
Assets
Cash and equivalents	$	48,615		$	60,873
Receivables, less allowances for doubtful accounts of $22,571 in 2001 and $20,016 in 2000		681,459			882,486
Inventories		126,718			188,745
Prepaid expenses		83,402			74,345

Total Current Assets		940,194			1,206,449

Net property, plant and equipment, at cost, less accumulated depreciation of $3,148,018 in 2001 and $3,040,871 in 2000		1,490,118			1,620,592
Goodwill and other intangibles, net of accumulated amortization of $313,422 in 2001 and $266,014 in 2000		445,281			520,242
Other noncurrent assets		524,424			566,919

Total Assets	$	3,400,017		$	3,914,202

Liabilities
Accounts payable	$	295,444		$	387,495
Accrued compensation		162,573			184,668
Short-term debt		168,497			271,640
Current and deferred income taxes		46,849			43,484
Other accrued liabilities		310,927			303,274

Total Current Liabilities		984,290			1,190,561

Long-term debt		881,318			739,190
Deferred income taxes		212,099			233,505
Other noncurrent liabilities		433,903			518,398

Total Noncurrent Liabilities		1,527,320			1,491,093

Shareholders’ Equity
Common stock at stated value ($1.25 par value) Authorized shares: 500,000,000; Issued: 140,889,050 in 2001 and 2000		308,462			308,462
Retained earnings		1,569,596			1,666,936
Accumulated other comprehensive income		(109,002	)		(74,126	)
Unearned compensation		(6,998	)		(6,752	)
Reacquired common stock, at cost		(873,651	)		(661,972	)

Total Shareholders’ Equity		888,407			1,232,548

Total Liabilities and Shareholders’ Equity	$	3,400,017		$	3,914,202

See accompanying Notes to Consolidated Financial Statements.

F-3

R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

Thousands of Dollars

	Year Ended December 31
	2001			2000			1999
Cash flows provided by (used for) operating activities:
Net income	$	24,988		$	266,900		$	308,314
Restructuring and impairment charges		195,545			—			—
Loss from discontinued operations, net of tax		—			—			3,201
Loss (gain) on sale or write-down of businesses and investments, net of tax		11,895			—			(77,532	)
Depreciation		315,937			326,349			323,009
Amortization		62,786			64,053			51,373
Gain on sale of assets		(8,204	)		(5,952	)		(6,524	)
Net change in operating working capital		59,681			(16,533	)		(27,915	)
Net change in other assets and liabilities		(122,549	)		107,426			41,829
Other		8,315			(1,658	)		19,562

Net Cash Provided by Operating Activities		548,394			740,585			635,317

Cash flows provided by (used for) investing activities:
Capital expenditures		(273,340	)		(237,107	)		(275,826	)
Other investments including acquisitions, net of cash acquired		(2,416	)		(224,511	)		(222,066	)
Disposition of assets		19,346			23,401			7,837
Disposition of businesses and investments, net of tax		—			—			135,664

Net Cash Used for Investing Activities		(256,410	)		(438,217	)		(354,391	)

Cash flows provided by (used for) financing activities:
Net increase (decrease) in borrowings		56,985			(152,946	)		116,621
Disposition of reacquired common stock		23,520			10,314			22,591
Acquisition of common stock		(273,255	)		(32,421	)		(372,403	)
Cash dividends paid		(109,987	)		(110,268	)		(111,133	)

Net Cash Used for Financing Activities		(302,737	)		(285,321	)		(344,324	)

Effect of exchange rate changes on cash and equivalents		(1,505	)		1,953			(1,460	)

Net (Decrease) Increase in Cash and Equivalents from Continuing Operations		(12,258	)		19,000			(64,858	)

Net Increase in Cash from Discontinued Operations		—			—			40,505

Net (Decrease) Increase in Cash and Equivalents		(12,258	)		19,000			(24,353	)

Cash and Equivalents at Beginning of Year		60,873			41,873			66,226

Cash and Equivalents at End of Year	$	48,615		$	60,873		$	41,873


Changes in operating working capital, net of acquisitions and divestitures:
	2001			2000			1999
Decrease (increase) in assets:
Receivables—net	$	185,413		$	(8,889	)	$	(15,860	)
Inventories—net		59,138			3,761			(1,814	)
Prepaid expenses		(9,356	)		(21,857	)		7,664
Increase (decrease) in liabilities:
Accounts payable		(86,330	)		10,850			(7,651	)
Accrued compensation		(21,431	)		9,146			(10,274	)
Other accrued liabilities		(67,753	)		(9,544	)		20

Net Change in Operating Working Capital	$	59,681		$	(16,533	)	$	(27,915	)

See accompanying Notes to Consolidated Financial Statements.

F-4

R.R. DONNELLEY & SONS COMPANY AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

Thousands of Dollars, Except Share Data

	Common Stock			Reacquired Common Stock					Unearned Compensation Restricted Stock			Retained Earnings			Other Comprehensive Income			Total
	Shares	Amount		Shares		Amount			Unearned Compensation Restricted Stock			Retained Earnings			Other Comprehensive Income			Total
Balance at December 31, 1998	140,889,050	$	308,462	(6,566,622	)	$	(272,050	)	$	(6,118	)	$	1,325,634		$	(55,050	)	$	1,300,878
Net income													308,314						308,314
Translation adjustments																(8,613	)		(8,613	)
Minimum pension liability adjustment																(491	)		(491	)

Comprehensive income																			299,210

Treasury stock purchases				(11,850,254	)		(379,074	)											(379,074	)
Cash dividends													(110,078	)					(110,078	)
Common shares issued under stock programs				765,231			29,822			(104	)		(2,396	)					27,322

Balance at December 31, 1999	140,889,050	$	308,462	(17,651,645	)	$	(621,302	)	$	(6,222	)	$	1,521,474		$	(64,154	)	$	1,138,258
Net income													266,900						266,900
Translation adjustments																(8,696	)		(8,696	)
Minimum pension liability adjustment																(1,276	)		(1,276	)

Comprehensive income																			256,928

Treasury stock purchases				(2,502,003	)		(62,684	)											(62,684	)
Cash dividends													(110,268	)					(110,268	)
Common shares issued under stock programs				320,018			22,014			(530	)		(11,170	)					10,314

Balance at December 31, 2000	140,889,050	$	308,462	(19,833,630	)	$	(661,972	)	$	(6,752	)	$	1,666,936		$	(74,126	)	$	1,232,548
Net income													24,988						24,988
Translation adjustments																(6,502	)		(6,502	)
Minimum pension liability adjustment