PITNEY BOWES INC /DE/ (PBI) FY 2021 MD&A

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

OPERATIONS

The following discussion of our financial condition and operating results should be read in conjunction with our risk factors, consolidated financial statements and related notes. This discussion includes forward-looking statements based on management's current expectations, estimates and projections and involves risks and uncertainties. Actual results may differ significantly from those currently expressed. A detailed discussion of risks and uncertainties that could cause actual results to differ materially from such forward-looking statements is outlined under "Forward-Looking Statements" and "Item 1A. Risk Factors" in this Form 10-K. All table amounts are presented in thousands of dollars.

Throughout this discussion, we refer to revenue growth on a constant currency basis. Constant currency measures exclude the impact of changes in currency exchange rates from the prior period under comparison. We believe that excluding the impacts of currency exchange rates provides investors a better understanding of the underlying revenue performance. Constant currency change is calculated by converting the current period non-U.S. dollar denominated revenue using the prior year’s exchange rate. Where constant currency measures are not provided, the actual change and constant currency change are the same.

Management measures segment profitability and performance using segment earnings before interest and taxes (EBIT). Segment EBIT is calculated by deducting from segment revenue the related costs and expenses attributable to the segment. Segment EBIT excludes interest, taxes, general corporate expenses, restructuring charges, asset and goodwill impairment charges and other items not allocated to a business segment. Management believes that it provides investors a useful measure of operating performance and underlying trends of the business. Segment EBIT may not be indicative of our overall consolidated performance and therefore, should be read in conjunction with our consolidated results of operations.

A discussion of our financial condition and results of operations for the year ended December 31, 2019, can be found under Item 7 “Management's Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2020, filed with the SEC on February 19, 2021.

Overview

Financial Results Summary - Year Ended December 31:

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Revenue increased 3% in 2021 compared to 2020. Business services revenue, which primarily includes revenue from Presort Services and Global Ecommerce, increased 7% (6% at constant currency) compared to the prior year. Presort Services revenue increased 10% primarily due to higher mail volumes, pricing actions and investments made in the network and technology to enable a higher level of five-digit sortation services. Global Ecommerce revenue increased 5% (4% at constant currency) primarily due to higher cross-border volumes. SendTech Solutions revenue declined 1% (2% at constant currency) primarily due to lower financing revenue and support services revenue, partially offset by higher equipment sales. Financing revenue declined 14% (15% at constant currency) primarily due to lower lease extensions and lower fee income and prior year gains from the sales of investment securities. Support services revenue declined 3% driven by a declining meter population and a shift to cloud-enabled products. Equipment sales increased 11% (10% at constant currency) primarily due to the effect of COVID-19 on prior year equipment sales.

Segment EBIT in 2021 decreased 1% compared to 2020. Global Ecommerce EBIT declined 19% primarily due to a $14 million unfavorable vendor price adjustment driven by lower domestic parcel delivery volumes, SendTech Solutions EBIT decreased 3% primarily driven by a decline in revenue. and Presort Services EBIT increased 43% primarily due to higher revenue and improved productivity from investments made in the network and technology. Refer to Results of Operations section for further information.

Outlook

We continue to invest in market opportunities and new solutions and services across all our businesses, optimizing our operations and implementing cost savings initiatives to drive long-term value. During 2021, we invested significantly in our facilities, network and technologies to expand operations, improve productivity and gain economies of scale. Going forward, we will focus our investments on gaining further network efficiencies and economies of scale within our Global Ecommerce and Presort Services operations and in market opportunities and new solutions and services across all our businesses. Our portfolio continues to shift to higher growth, lower margin, markets. As we continue to invest in Global Ecommerce with a view to, and ahead of, our expectations for long term growth, it is possible that near term margins will be under pressure. However, we expect margins to improve as we build scale and realize the full benefits of our investments and optimizations.

The impacts of COVID-19 on our businesses and financial results remain uncertain. Supply chain issues continue to pose challenges for us and our clients' ability to meet their customers' demand. These supply chain issues could continue to impact our customers' behavior as well as that of end consumers, which could impact our shipping and delivery volumes. The duration and severity of these supply chain issues is unknown and unpredictable. There are some unique factors not within our control that could affect our business; however, we believe we can navigate the current conditions and will continue to take proactive steps to manage our operations and mitigate related financial impacts.

On a consolidated basis, we expect revenue growth in the low to mid-single digit range in 2022 compared to 2021. Within Global Ecommerce, we anticipate revenue growth in 2022 and margin and profit improvements from pricing initiatives and productivity improvements from the benefits of the investments we made in our facilities and network. However, we also expect continued growth of the market's need for transportation services and labor to generate increased costs. Within Presort Services, we expect revenue growth in 2022 and margin and profit improvements as productivity initiatives, increased automation and facilities consolidation and optimization will more than offset expected higher labor and transportation costs. Within SendTech Solutions, we expect overall revenue to decline, growth in our cloud-enabled shipping solutions and margins to remain strong.

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RESULTS OF OPERATIONS

REVENUE AND SEGMENT EBIT

Global Ecommerce

Global Ecommerce includes the revenue and related expenses from domestic parcel services, cross-border solutions and digital delivery services.

Global Ecommerce revenue increased 5% as reported (4% at constant currency) in 2021 compared to 2020 due to revenue growth of 7% from higher cross-border volumes, partially offset by revenue decline of 2% from lower domestic parcel delivery volumes.

Total gross margin declined $13 million and gross margin percentage declined to 7.3% from 8.5% primarily due to a $14 million unfavorable vendor price adjustment driven by lower domestic parcel delivery volumes and higher transportation, postal and labor costs, partially offset by the impact of higher revenue.

Segment EBIT for 2021 was a loss of $99 million compared to a loss of $83 million in the prior year. The increase in EBIT loss was driven by the decline in gross margin and $2 million in higher operating expenses.

Presort Services

Presort Services includes revenue and related expenses from sortation services to qualify large volumes of First Class Mail, Marketing Mail, Marketing Mail Flats and Bound Printed Matter for postal worksharing discounts.

Presort Services revenue increased 10% in 2021 compared to 2020. The processing of Marketing Mail, First Class Mail and Marketing Mail Flats and Bound Printed Matter contributed revenue growth of 5%, 4% and 1%, respectively, primarily due to the impact of increased mail volumes, improvements in five-digit sortation, pricing actions and benefits from the impacts of COVID-19 that adversely affected mail volumes in 2020.

Gross margin increased $23 million and gross margin percentage increased to 24.8% from 22.8% primarily due to the increase in revenue and improved productivity, partially offset by increased labor and transportation costs of $16 million and $6 million, respectively, due to increased competition and demand for these resources.

Segment EBIT increased $24 million or 43% in 2021 compared to 2020 due to the increase in revenue and gross margin.

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SendTech Solutions

SendTech Solutions includes the revenue and related expenses from physical and digital mailing and shipping technology solutions, financing, services, supplies and other applications to help simplify and save on the sending, tracking and receiving of letters, parcels and flats.

SendTech Solutions revenue decreased 1% (2% at constant currency) in 2021 compared to 2020. Financing revenue declined 14% (15% at constant currency) primarily due to lower lease extensions of $18 million as more clients opted to lease new equipment rather than simply extend leases on existing equipment, lower fee income of $10 million and a prior year gain of $10 million from sales of investment securities. Support services revenue declined 3% primarily due to a declining meter population and shift to cloud-enabled products, which generally require less service due to ease of use. Partially offsetting these decreases, equipment sales increased 11% (10% at constant currency), primarily due to the adverse impact on demand and our inability to perform on-site service and installations in the prior year due to COVID-19 and business services revenue increased 14% (15% at constant currency) primarily due to growth in our shipping products.

Gross margin decreased to 61.4% from 63.3% in the prior year primarily due to declines in financing and support services gross margin, partially offset by an increase in equipment sales gross margin. Financing gross margin decreased to 84.0% from 85.9% due to declining revenue and rising interest rates. Support services gross margin decreased to 67.9% from 68.7% primarily due to the decline in revenue. Equipment sales gross margin increased to 28.1% from 25.4% primarily driven by lower engineering costs.

Segment EBIT decreased $13 million, or 3% in 2021 compared to 2020, primarily driven by the decline in gross margin of $38 million, partially offset by lower credit loss provision of $23 million.

UNALLOCATED CORPORATE EXPENSES

The majority of our selling, general and administrative (SG&A) expense is recorded directly or allocated to our reportable segments. SG&A expenses not recorded directly or allocated to our reportable segments are reported as unallocated corporate expenses. Unallocated corporate expenses primarily represents corporate administrative functions such as finance, marketing, human resources, legal, information technology and innovation.

Unallocated corporate expenses in 2021 increased 4% compared to the prior year primarily driven by higher employee-related expenses of $5 million and higher insurance costs of $5 million.

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CONSOLIDATED EXPENSES

Selling, general and administrative

SG&A expense of $924 million in 2021 decreased 4%, or $39 million, compared to 2020, primarily due to lower credit loss provision of $34 million and lower professional fees of $16 million, partially offset by higher employee-related expenses of $24 million.

Research and development (R&D)

R&D expense increased 22%, or $8 million in 2021 compared to 2020, primarily due to investments in our Global Ecommerce segment.

Restructuring charges and asset impairments

Restructuring charges and asset impairments for the year ended December 31, 2021 were $19 million and primarily includes costs for employee severance and facility closures. See Note 12 to the Consolidated Financial Statements for further information.

Other components of net pension and postretirement cost (income)

Other components of net pension and postretirement cost (income) for the year ended December 31, 2021 was $1 million. The amount of other components of net pension and postretirement cost (income) recognized each year will vary based on actuarial assumptions and actual results of our pension plans. See Note 14 to the Consolidated Financial Statements for further information.

Other expense, net

Other expense for the year ended December 31, 2021 was $42 million and includes a $56 million loss from the refinancing of debt, a $10 million gain from the sale of a business, $3 million of insurance proceeds and a $1 million gain from an asset sale. See Note 11 to the Consolidated Financial Statements for further information.

INCOME TAXES AND DISCONTINUED OPERATIONS

Income taxes

The effective tax rate for 2021 includes benefits of $7 million from the resolution of tax matters, $5 million due to tax legislation in the U.K., $3 million from an affiliate reorganization and $2 million from the vesting of restricted stock, partially offset by a charge of $6 million on the pre-tax gain of $10 million from the sale of a business as the tax basis was lower than the book basis and a charge of $1 million for the write-off of deferred tax assets associated with the expiration of out-of-the-money stock options. See Note 15 to the Consolidated Financial Statements for further information.

Discontinued operations, net of tax

Loss from discontinued operations, net of tax for 2021 of $5 million includes adjustments related to the sale of our Software Solutions business in 2019 and Production Mail business in 2018. See Note 4 to the Consolidated Financial Statements for further information.

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LIQUIDITY AND CAPITAL RESOURCES

At December 31, 2021 we had cash, cash equivalents and short-term investments of $747 million, which includes $162 million held at our foreign subsidiaries used to support the liquidity needs of those subsidiaries. Our ability to maintain adequate liquidity for our operations is dependent upon a number of factors, including our revenue and earnings, our clients ability to pay their balances on a timely basis, the impacts of COVID-19 on macroeconomic conditions and our ability to take further cost savings and cash conservation measures if necessary. At this time, we believe that existing cash and investments, cash generated from operations and borrowing capacity under our $500 million revolving credit facility will be sufficient to fund our cash needs for the next 12 months.

Cash Flow Summary

The change in cash and cash equivalents is as follows:

Operating activities

Cash provided by operating activities in 2021 of $302 million was flat compared to the prior year. Cash flow from operations was positively impacted by $3 million from changes in working capital and by $38 million due to a tax payment related to a discontinued operation in the prior year. These improvements in cash were offset by lower earnings before noncash charges.

Investing activities

Cash used in investing activities for 2021 increased $80 million compared to the prior year, primarily due to higher capital expenditures as we invested significantly during the year in our facilities, our network and technologies to expand operations, improve productivity and gain economies of scale in our Global Ecommerce and Presort Services operations. In 2020, we prioritized and limited our capital expenditures in connection with COVID-19.

Net cash from investing activities in 2021 also benefited by $43 million from the timing of purchases and maturities of investment securities, but was negatively impacted by lower proceeds from the sale of assets and businesses of $29 million and higher acquisition spending of $8 million. Proceeds from the sale of assets and businesses in 2021 includes $28 million from the sale of a business and $2 million of asset sales, while proceeds in 2020 included $46 million from the surrender of company-owned life insurance policies and $12 million from the sale of an equity investment. In November 2021, we acquired CrescoData, a Platform-as-a-Service business, for $15 million.

Financing activities

Cash used in financing activities for 2021 increased $95 million compared to the prior year primarily due to higher net repayments of debt of $61 million, higher premiums and fees paid to refinance debt of $18 million and a reduction in reserve deposits of $11 million.

Debt Activity

In 2021, we refinanced a significant amount of our near-term maturities, reducing our total debt and extending our maturity profile. Specifically, we issued a $400 million 6.875% unsecured note due March 2027, a $350 million 7.25% unsecured note due March 2029 and entered into a seven-year $450 million secured term loan maturing March 2028. We redeemed all the October 2021 notes, an aggregate $363 million of the May 2022 notes, April 2023 notes and March 2024 notes under a tender offer, the remaining balance of the May 2022 notes and the remaining balance of the January 2025 term loan. We also extended the maturities of our $500 million secured revolving credit facility and our $380 million secured term loan from November 2024 to March 2026. A $56 million pre-tax loss was incurred on the refinancing of debt.

In connection with the refinancing, we terminated interest rate swap agreements with an aggregate notional amount of $500 million and entered into new interest rate swap agreements with an aggregate notional amount of $200 million. Under the terms of the new swap agreements, we pay fixed-rate interest of 0.56% and receive variable-rate interest based on one-month LIBOR. The variable interest rate under the term loans and the swaps reset monthly.

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The credit agreement that governs the revolving credit facility and term loans contains financial and non-financial covenants. At December 31, 2021, we were in compliance with all covenants and there were no outstanding borrowings under the revolving credit facility.

Future Cash Requirements

The following table summarizes our known and contractually committed cash requirements at December 31, 2021 (in millions):

Debt

We have debt with a principal balance of $2.4 billion outstanding at December 31, 2021. Approximately 74% of this debt is at fixed rates, including the effect of interest rate swaps, and the remaining 26% of debt is at variable rates based on LIBOR or other similar rates. The weighted average interest rate of our variable rate debt at December 31, 2021 was 3.1%. We estimate that cash interest payments for the next 12 months will be $130 - $140 million.

Required debt repayments over the next 12 months are $25 million and we do not have material principal maturities until 2024. Accordingly, we do not anticipate the need to access the U.S. capital markets in the next 12 months. See Note 13 to the Consolidated Financial Statements for information regarding our debt.

Lease obligations

We lease real estate and equipment under operating and capital lease arrangements. These leases have terms of up to 15 years and include renewal options.

In November 2021, we entered into an agreement to sell our Shelton, Connecticut facility for approximately $50 million and simultaneously enter into a ten year lease agreement. Total base lease payments over the ten-year term will be approximately $41 million and are not included in the table above. This transaction is expected to close in the first quarter of 2022. Additionally, lease payments in the table above do not include $21 million of payments for leases signed but not yet commenced at December 31, 2021. See Note 8 and Note 17 to the Consolidated Financial Statements for further information.

Purchase obligations

Purchase obligations include unrecorded agreements to purchase goods and services that are enforceable and legally binding upon us and that specify all significant terms, including fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Purchase obligations exclude agreements that are cancellable without penalty.

In addition to the above known and contractually committed cash payments, we anticipate using cash for the following items:

Capital Expenditures

We continue to invest in our facilities, products, solutions and technology to grow our businesses, gain additional economies of scale, provide new and innovative products and solutions and compete effectively in our markets. Capital expenditures are evaluated and approved by senior leadership based on several factors, including expected impacts on revenue growth, productivity enhancements, service improvements and cost savings.

Capital expenditures totaled $184 million and $105 million for the years ended December 31, 2021 and 2020, respectively. During 2021, we invested significantly in our facilities, network and technologies to expand operations, improve productivity and gain economies of scale in our Global Ecommerce and Presort operations. In 2020, in response to COVID-19, we prioritized and limited our capital expenditures.

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Dividends

We have historically paid a quarterly dividend to our shareholders. Each quarter, our Board of Directors considers our recent and projected earnings and other capital needs and priorities in deciding whether to approve a dividend. We expect to continue to pay a quarterly dividend of $0.05 per share; however, our Board of Directors may decide to increase or decrease this amount or to not approve the payment of a dividend at any time and for any reason without notice. Assuming the current $0.05 per quarter dividend payment, we estimate that dividend payments will be approximately $35 million in 2022. There are no material restrictions on our ability to declare dividends.

Share Repurchases

We may repurchase shares of our common stock to manage the dilution created by shares issued under employee stock plans and for other purposes. At December 31, 2021, we have authorization from our Board of Directors to repurchase up to of $16 million of our common stock. As of February 16, 2022, we have spent $8 million to repurchase 1.5 million shares of our common stock.

Off Balance Sheet Arrangements

At December, 31, 2021, we had approximately $25 million outstanding letters of credit guarantees with financial institutions that are primarily issued as security for insurance, leases, customs and other performance obligations. In general, we would only be liable for the amount of these guarantees in the event of default in the performance of our obligations, the probability of which we believe is remote.

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Critical Accounting Estimates

The preparation of our financial statements in conformity with GAAP requires management to make estimates and assumptions about certain items that affect the reported amounts of assets, liabilities, revenues, expenses and accompanying disclosures, including the disclosure of contingent assets and liabilities. The accounting policies below have been identified by management as those policies that are most critical to our financial statements due to the estimates and assumptions required. Management believes that the estimates and assumptions used are reasonable and appropriate based on the information available at the time the financial statements were prepared; however, actual results could differ from those estimates and assumptions. See Note 1 to the Consolidated Financial Statements for a summary of our accounting policies.

Revenue recognition

We derive revenue from multiple sources including the sale and lease of equipment, equipment rentals, financing, support services and business services. Certain transactions are consummated at the same time and can therefore generate revenue from multiple sources. The most common form of these arrangements involves a sale or noncancelable lease of equipment, meter services and an equipment maintenance agreement. We are required to determine whether each product and service within the contract should be treated as a separate performance obligation (unit of accounting) for revenue recognition purposes. We recognize revenue for performance obligations when control is transferred to the customer. Transfer of control may occur at a point in time or over time, depending on the nature of the contract and the performance obligation.

Revenue is allocated among performance obligations based on relative standalone selling prices (SSP), which are a range of selling prices that we would sell the good or service to a customer on a separate basis. SSP are established for each performance obligation at the inception of the contract and can be observable prices or estimated. Revenue is allocated to the meter service and equipment maintenance agreement elements using their respective observable selling prices charged in standalone and renewal transactions. For sale and lease transactions, the SSP of the equipment is based on a range of observable selling prices in standalone transactions. We recognize revenue on non-lease transactions when control of the equipment transfers to the customer, which is upon delivery for customer installable models and upon installation or customer acceptance for other models. We recognize revenue on equipment for lease transactions upon shipment for customer installable models and upon installation or customer acceptance for other models.

Impairment review

Goodwill is tested annually for impairment at the reporting unit level during the fourth quarter or sooner if circumstances indicate an impairment may exist. The impairment test for goodwill determines the fair value of each reporting unit and compares it to the reporting unit's carrying value, including goodwill. If the fair value of a reporting unit is less than its carrying value, an impairment loss is recognized for the difference, not to exceed the carrying amount of goodwill.

Testing goodwill for impairment requires us to identify our reporting units and assign assets and liabilities, including goodwill, to each reporting unit. The fair value of a reporting unit is based on one or a combination of techniques, which include a discounted cash flow model, multiples of competitors, and/or multiples from sales of like businesses. To determine fair value using a discounted cash flow model, management's cash flow projections include significant judgements and assumptions relating to revenue growth rates, projected operating income and discount rate. Changes in any of these estimates or assumptions could materially affect the determination of fair value and the associated goodwill impairment assessment for each reporting unit. Events and circumstances that could materially impact the fair value determination of a reporting unit and potentially result in a non-cash impairment charge in future periods, include, but are not limited to, changing consumer behaviors, our ability to manage volumes, gain economies of scale and improve profitability in the Global Ecommerce business, prolonged supply chain issues, inflation and rising interest rates.

Long-lived and finite-lived intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount may not be fully recoverable. The estimated future undiscounted cash flows expected to result from the use and eventual disposition of the assets is compared to the carrying value. If the sum of the undiscounted cash flows is less than the asset's carrying value, an impairment charge is recorded for an amount by which the carrying value exceeds its fair value. The fair value of the impaired asset is determined using probability weighted expected cash flow estimates, quoted market prices when available and appraisals, as appropriate. We derive the cash flow estimates from our long-term business plans and historical experience. Changes in the estimates and assumptions incorporated in our impairment assessment could materially affect the determination of fair value and the associated impairment charge.

Allowances for credit losses

Finance receivables are comprised of sales-type leases, secured loans and unsecured revolving loans. We provide an allowance for probable credit losses based on historical loss experience, adverse situations that may affect a client's ability to pay and current economic conditions and outlook based on reasonable and supportable forecasts.

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Total allowance for credit losses as a percentage of finance receivables was 2% at December 31, 2021 and 3% at December 31, 2020. Holding all other assumptions constant, a 0.25% change in the allowance rate at December 31, 2021 would have reduced pre-tax income by $3 million.

Trade accounts receivable are generally due within 30 days after the invoice date. Accounts deemed uncollectible are written off against the allowance after all collection efforts have been exhausted and management deems the account to be uncollectible. We believe that our accounts receivable credit risk is low because of the geographic and industry diversification of our clients and small account balances for most of our clients.

The allowance for credit losses as a percentage of trade accounts receivables was 3% at December 31, 2021 and 5% at December 31, 2020. Holding all other assumptions constant, a 0.25% change in the allowance rate at December 31, 2021 would have reduced pre-tax income by $1 million.

Income taxes and valuation allowance

We are subject to income taxes in the U.S. and numerous foreign jurisdictions. Our annual tax rate is based on income, statutory tax rates, tax reserve changes and tax planning opportunities available to us in the various jurisdictions in which we operate. Significant judgment is required in determining the annual tax rate and in evaluating our tax positions. We regularly assess the likelihood of tax adjustments in each of the tax jurisdictions in which we have operations and account for the related financial statement implications. We have established tax reserves that we believe are appropriate given the possibility of tax adjustments. Determining the appropriate level of tax reserves requires judgment regarding the uncertain application of tax laws. Reserves are adjusted when information becomes available or when an event occurs indicating a change in the reserve is appropriate. Changes in tax reserves could have a material impact on our financial condition or results of operations.

Significant judgment is also required in determining the amount of deferred tax assets that will ultimately be realized and corresponding deferred tax asset valuation allowance. When estimating the necessary valuation allowance, we consider all available evidence for each jurisdiction including historical operating results, estimates of future taxable income and the feasibility of ongoing tax planning strategies. If new information becomes available that would alter our estimate of the amount of deferred tax assets that will ultimately be realized, we adjust the valuation allowance through income tax expense. Changes in the deferred tax asset valuation allowance could have a material impact on our financial condition or results of operations.

Pension benefits

The calculation of net periodic pension expense and determination of net pension obligations are dependent on assumptions and estimates relating to, among other things, the discount rate (interest rate used to discount the future estimated liability) and the expected rate of return on plan assets. These assumptions are evaluated and updated annually.

The discount rate for our largest plan, the U.S. Qualified Pension Plan (the U.S. Plan) and our largest foreign plan, the U.K. Qualified Pension Plan (the U.K. Plan) used in the determination of net periodic pension expense for 2021 was 2.55% and 1.30%, respectively. For 2022, the discount rate used in the determination of net periodic pension expense for the U.S. Plan and the U.K. Plan will be 2.85% and 1.85%, respectively. A 0.25% change in the discount rate would not materially impact annual pension expense for the U.S. Plan or the U.K. Plan. A 0.25% change in the discount rate would impact the projected benefit obligation of the U.S. Plan and U.K. Plan by $45 million and $27 million, respectively.

The expected rate of return on plan assets used in the determination of net periodic pension expense for 2021 was 5.60% for the U.S. Plan and 4.75% for the U.K. Plan. For 2022, the expected rate of return on plan assets used in the determination of net periodic pension expense for the U.S. Plan will be 5.10% and the U.K. Plan will be 4.0%. A 0.25% change in the expected rate of return on plan assets would impact annual pension expense for the U.S. Plan by $4 million and the U.K. Plan by $1 million.

Actual pension plan results that differ from our assumptions and estimates are accumulated and amortized primarily over the life expectancy of plan participants and affect future pension expense. Net pension expense is also based on a market-related valuation of plan assets where differences between the actual and expected return on plan assets are recognized over a five-year period. Plan benefits for participants in a majority of our U.S. and foreign pension plans are frozen.

Residual value of leased assets

Equipment residual values are determined at the inception of the lease using estimates of the equipment's fair value at the end of the lease term. Residual value estimates impact the determination of whether a lease is classified as an operating lease or a sales-type lease. Fair value estimates of equipment at the end of the lease term are based on historical renewal experience, used equipment markets, competition and technological changes.

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We evaluate residual values on an annual basis or sooner if circumstances warrant. Declines in estimated residual values considered "other-than-temporary" are recognized immediately. Increases in estimated future residual values are not recognized until the equipment is remarketed. If the actual residual value of leased assets were 10% lower than management's current estimates and considered "other-than-temporary", pre-tax income would be $5 million lower.

Legal and Regulatory Matters

See Regulatory Matters in Item 1, Other Tax Matters in Note 15 to the Consolidated Financial Statements for regulatory matters regarding our tax returns and Note 16 to the Consolidated Financial Statements for information regarding our legal proceedings.

Foreign Currency Exchange

The functional currency for most of our foreign operations is the local currency. Changes in the value of the U.S. dollar relative to the currencies of countries in which we operate impact our reported assets, liabilities, revenue and expenses. Exchange rate fluctuations can also impact the settlement of intercompany receivables and payables between our subsidiaries in different countries. During 2021, 15% of our consolidated revenue was from operations outside the United States and the translation of foreign currencies to the U.S. dollar did not have a material impact on revenues or operating results for the year ended December 31, 2021.