<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
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 SEPTEMBER 30, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NO. 1-14196
----------------
STERLING COMMERCE, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 75-2623341
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
</TABLE>
300 CRESCENT COURT, SUITE 1200 DALLAS, TEXAS 75201
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(214) 981-1100
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
----------------
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
<TABLE>
<S> <C>
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
------------------- -----------------------------------------
Common Stock, $0.01 Par Value New York Stock Exchange
Rights to Purchase Series A Junior New York Stock Exchange
Participating
Preferred Stock, $0.01 Par Value
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
NONE
----------------
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
such filing requirements for the past 90 days. Yes [X] No [_]
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. [_]
As of November 13, 1998, the aggregate market value of the Registrant's
Common Stock held by non-affiliates of the Registrant was $3,123,158,402,
based on the closing sales price of $33 1/2 of the Registrant's Common Stock
on the New York Stock Exchange. All executive officers and directors of the
Registrant have been deemed, solely for the purpose of the foregoing
calculation, to be "affiliates" of the Registrant.
As of November 13, 1998, 94,564,538 shares of the Registrant's Common Stock
were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the proxy statement for the annual meeting of the Registrant to
be held during 1999 are incorporated by reference in Part III.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<PAGE>
STERLING COMMERCE, INC.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
FORM 10-K ITEM PAGE
-------------- ----
<C> <S> <C>
PART I
ITEM 1. BUSINESS................................................ 2
ITEM 2. PROPERTIES.............................................. 12
ITEM 3. LEGAL PROCEEDINGS....................................... 12
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS..... 12
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.................................... 13
ITEM 6. SELECTED FINANCIAL DATA................................. 13
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.................... 14
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
ITEM 7A. RISK.................................................... 28
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA............. 28
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE.................... 53
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT...... 53
ITEM 11. EXECUTIVE COMPENSATION.................................. 53
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT............................................. 53
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.......... 53
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K............................................... 54
</TABLE>
<PAGE>
PART I
ITEM 1. BUSINESS.
INTRODUCTION
Sterling Commerce, Inc. (together with its predecessors and subsidiaries,
the "Company") is a leading provider of electronic commerce ("EC") products,
services and solutions worldwide. The Company develops, markets and supports
electronic commerce software products, and provides electronic commerce
services that enable businesses to engage in business-to-business electronic
communications and transactions. The Company has been providing electronic
commerce solutions for over 25 years and has numerous customers in many
industries, including banking, healthcare, manufacturing, pharmaceuticals,
retailing, telecommunications and transportation. The Company has operations
throughout the world, including 16 direct sales offices outside of North
America, a Pan-European support center in Amsterdam, an Asian support and
development center in Singapore and more than 40 distributors worldwide.
The Company was incorporated in December 1995 as a wholly owned subsidiary
of Sterling Software, Inc. ("Sterling Software"). The Company completed its
initial public offering (the "Offering") on March 13, 1996. Pursuant to the
Offering, the Company sold to the public 1,800,000 previously unissued shares
of common stock, $0.01 par value, of the Company ("Common Stock"), and
Sterling Software sold to the public 12,000,000 of the 73,200,000 shares of
Common Stock then owned by it.
In contemplation of the Offering, among other things: (1) Sterling Software
caused to be transferred to the Company certain assets relating to the
electronic commerce business previously conducted by Sterling Software and (2)
the Company entered into contractual arrangements with Sterling Software
related to, among other things, tax allocation, indemnification and
international marketing. See "Shared Management and Contractual Arrangements
with Sterling Software" below.
On September 23, 1996, the Board of Directors of Sterling Software declared
a special dividend consisting of the distribution (the "Distribution") of all
shares of Common Stock held by Sterling Software on September 30, 1996,
payable pro rata to the holders of record of Sterling Software's common stock,
$0.10 par value ("Software Stock"), as of the close of business on such date.
As a result, effective September 30, 1996, the Company ceased to be a
subsidiary of Sterling Software.
On February 28, 1997, the Company completed a public offering (the "Follow-
On Offering") of 14,375,000 previously unissued shares of Common Stock. The
net proceeds of $400,145,000 were added to the Company's working capital and
are being used for general corporate purposes, including acquisitions. Pending
such use, the funds are invested in investment grade debt securities and other
marketable securities.
In June 1997, pursuant to an agreement (the "Termination Agreement") with
Sterling Software that terminated, effective as of June 30, 1997, the
International Distributor Agreement dated March 4, 1996, as amended (the
"International Marketing Agreement"), between the Company and Sterling
Software, the Company acquired certain assets and assumed certain liabilities
associated with the distribution of certain of the Company's products by
Sterling Software outside the United States and Canada. The Company also hired
certain Sterling Software employees, most of whom had been dedicated to the
sales and marketing of the Company's products.
ACQUISITIONS
Throughout the Company's history, and particularly since the Distribution,
the Company has complemented its internal growth by actively pursuing
strategic acquisitions to expand its technologies, product offerings and
distribution capabilities. In fiscal 1997, the Company made several
acquisitions, including the acquisition of Comfirst S.A. ("Comfirst"), a
Paris, France based provider of communications and file transfer software and,
as described above, the Company's international distribution channel from
Sterling Software.
2
<PAGE>
In fiscal 1998, the Company made five additional acquisitions, including the
acquisition of XcelleNet, Inc. ("XcelleNet"), a provider of remote systems
management software and services; the electronic data interchange ("EDI")
software and services unit of o.tel.o Communications Gmbh & Co. ("o.tel.o"), a
Dusseldorf, Germany based telecommunications company; The Electronic Data
Exchange Service Limited ("EDES"), a London, England based provider of value-
added electronic data interchange network services and related PC-based
enabling software; and Network Integration Systems Pte Ltd. ("NIS") and
iCommerce Pte Ltd. ("iCommerce"), Singapore based providers of electronic
commerce software and services, including Web-based EC community management
software and services.
For more information with respect to these acquisitions, see "1998 Business
Combinations and Reorganizations" in Item 7, Part II of this report and Note 4
of the Notes to Consolidated Financial Statements included in Item 8, Part II
of this report. Such information is incorporated herein by reference.
TARGETED MARKET
The Company offers a comprehensive range of electronic commerce business
solutions for the business-to-business electronic commerce market. The Company
continually strives to understand the business requirements of the global
electronic commerce market, to address these requirements with flexible,
reliable and secure electronic commerce solutions and to deliver these
solutions in a cost efficient manner.
The Company believes that many of today's business organizations operate as
extended enterprises that include an entity's divisions, plant sites and sales
offices, and also involve close partnering relationships with customers,
suppliers, banks and other trading partners. This extension of the enterprise
is often referred to as a supply chain. The Company's electronic commerce
solutions help to automate this supply chain by:
. Linking business processes within and between enterprises;
. Integrating different systems, such as various computing platforms,
protocols and business document formats;
. Assisting in building and managing commerce community relationships; and
. Effecting electronic payments among companies and banks.
These solutions focus on the business-to-business market and take advantage
of multiple technologies, including Internet-related technologies, to address
the needs of customers.
ORGANIZATIONAL STRUCTURE
The Company operates primarily through the following three groups, each of
which offers a distinct family of products and services to the worldwide
business-to-business electronic commerce market: the Commerce Services Group,
the Interchange Software Group and the Communications Software Group. The
Company also provides EC education, consulting and outsourcing services for
three of its primary product families through the Company's newly formed
Managed Services Division and provides bank automation software through its
Banking Systems Division. The Company believes that its decentralized
organizational structure promotes operating flexibility, improves
responsiveness to customer requirements and focuses management on achieving
revenue and profit objectives.
REVENUE SOURCES
The Company generates revenue from three sources--products, product support
and services--as follows:
. Products revenue is primarily derived from license fees from the
Company's GENTRAN, CONNECT and VECTOR software product families.
Products revenue is recognized at the time of product delivery, provided
no significant vendor obligations exist and collection is probable.
3
<PAGE>
. Product support revenue consists primarily of fees from product support
agreements that generally provide customers with updated or enhanced
versions of the Company's software products and telephone and Internet
access to the Company's technical personnel. Product support revenue is
deferred and recognized ratably over the term of the applicable product
support agreement, which is generally from one to three years.
. Services revenue consists primarily of transaction fees for services
offered as part of the COMMERCE family of products and is recognized at
the time the service is performed. Services revenue also includes fees
generated through the Company's Managed Services Division, which revenue
is recognized at the time the service is performed.
A majority of the Company's software customers enter into product support
agreements and renew such agreements prior to expiration of the support
agreement. Moreover, although most COMMERCE services agreements are cancelable
upon 30 days' notice, the Company's experience is that once customers initiate
use of the Company's COMMERCE services, they generally continue to use such
services. Accordingly, the Company considers revenue from product support and
COMMERCE services as recurring revenue. Recurring revenue increased
$51,835,000, or 26%, in 1998 as compared to 1997 and represented 51% of total
revenue in 1998 and 57% in 1997. The decrease in the relative percentage is
due to the Company receiving 100% of the revenues from the licensing of
products outside the United States and Canada in 1998 as opposed to a 50%
royalty on such revenues from Sterling Software in the first three quarters of
1997 pursuant to the International Marketing Agreement and also in part to the
significant growth in products revenue in 1998.
PRODUCTS AND SERVICES
General
The Company's approach to automating the supply chain incorporates five
interrelated software and services solutions layers:
. Software infrastructure for electronic commerce, including software for
the secure movement of information and for remote systems management;
. Application integration software to integrate disparate systems within
and between enterprises;
. Software to automate business processes, such as buying and selling over
the World Wide Web ("Web");
. Community management services to build, manage and service business
communities; and
. Managed services to provide education, training, consulting and
outsourcing.
The Company's four families of software products and services address these
solutions layers. Most of the Company's supported software products and
services accommodate four character year dating required to address Year 2000
issues. For those supported software products or services that do not, the
Company has established plans to upgrade such products or to offer alternative
software products, services or solutions. These plans have been integrated
into the Company's normal development cycles. See "Year 2000" in Item 7, Part
II of this report. Such information is incorporated herein by reference. A
brief description of each family of products is included in the following
table:
<TABLE>
<CAPTION>
COMMERCE GENTRAN CONNECT VECTOR
-------- ------- ------- ------
<S> <C> <C> <C>
A family of EC A family of EC message A family of advanced A family of bank
community management management and data file transfer and automation software
and value-added transformation remote and mobile products
services software products management software
products
</TABLE>
4
<PAGE>
COMMERCE Family
COMMERCE services and products, offered by the Company's Commerce Services
Group, are EC value-added services and software that allow companies to build,
manage and service their global commerce communities over the Internet and
private networks. These include vertical business application solutions that
take advantage of the Company's other product and services offerings. COMMERCE
solutions include:
. Community management services that help companies build, manage and
service their global commerce communities;
. Industry-specific value-added applications;
. EC network services that facilitate the exchange and distribution of
electronic business documents, the completion of commercial business
transactions and the provision of automated catalog information;
. Virtual Industry Networks (VIN);
. Electronic payment products;
. Year 2000 compliance testing solutions;
. Electronic catalogs; and
. Connectivity through the Internet or private networks.
Service offerings released in fiscal 1998 include: COMMERCE:Tracker, a Web-
based shipment tracking solution; COMMERCE:Locator, a Web-based trading
partner matching service; COMMERCE:Y2K, a Year 2000 testing and compliance
solution for EDI trading communities; and COMMERCE:Advantage, a solution for
banks to provide electronic payments and other EC capabilities to their
corporate customers.
The COMMERCE solutions are marketed to targeted vertical industry groups,
including the pharmaceutical, hardlines, grocery, healthcare, insurance,
retail, transportation, automotive, entertainment, telecommunications,
chemical and petroleum, paper and packaging and banking industries, as well as
government agencies. As of September 30, 1998, there were approximately 25,000
COMMERCE customers worldwide, including GTE Telecommunications, Inc., The Home
Depot, Pfizer, Roadway Express, Roche Laboratories, SUPERVALU, Toys "R' Us and
United Parcel Service (UPS).
GENTRAN Family
The GENTRAN family of products, offered by the Company's Interchange
Software Group, allows businesses to automate and manage the flow of internal
and external business transactions enabling companies to integrate their
business processes within commerce communities through the Internet,
electronic messaging and EDI. GENTRAN solutions offer:
. Software for integrating a company's business processes with their
customers' and suppliers' systems;
. Messaging software for automating and managing the flow of internal and
external business transactions across multiple platforms and
environments; and
. Secure, scaleable Web-enabled electronic commerce and EDI solutions.
GENTRAN software products are available for all major operating systems and
platforms, including UNIX, Windows, Windows NT, AS/400 and IBM mainframe.
GENTRAN products are designed for high-volume, commercial traffic and support
any-to-any message exchange and data transformation across platforms. Key
products within the GENTRAN family include GENTRAN:Server and GENTRAN Web
Suite. The GENTRAN family of products can be closely interfaced with
applications systems provided by major enterprise resource planning ("ERP")
vendors such as Baan, Oracle, PeopleSoft and SAP. In addition, companies such
as Lawson Software, and Symix resell GENTRAN solutions to their customers. As
of September 30, 1998, GENTRAN products were licensed to over 8,250 customers
worldwide, including Matsushita Electronics, SAP AG, the U.S. Department of
Defense and Wal-Mart Stores.
5
<PAGE>
CONNECT Family
The CONNECT family of products, offered by the Company's Communications
Software Group, provides infrastructure software for EC and business
applications, enabling organizations to automatically manage remote systems
and electronically exchange information securely and reliably across
department and company boundaries. CONNECT product offerings include:
. Software for high-performance point-to-point data exchange;
. Software for data collection, warehousing and distribution;
. Software for data communications management;
. Software for message driven business process exchange;
. Software for remote and mobile systems management; and
. Mobile user management over the Internet, intranets and extranets.
The CONNECT family of products is widely used as the communications solution
within many organizations and industries, including government agencies and
the telecommunications, banking and financial services industries. Key CONNECT
products include CONNECT:Direct, CONNECT:Mailbox, CONNECT:Remote and
CONNECT:Manage. As of September 30, 1998, CONNECT products were licensed to
over 6,850 customers worldwide, including British Telecom, Electronic Data
Services Corporation ("EDS"), HBO & Co., MCI WorldCom and Traveler's
Insurance.
VECTOR Family
The VECTOR family of products, offered by the Company's Banking Systems
Division, enables financial institutions to manage the flow of checks and
related items, to automate other banking processes and to offer new services
to their customers. VECTOR products include:
. Software that automates key item processing applications for financial
institutions, such as statement sorting, check fraud control, electronic
check presentment and return item processing; and
. Software that enables banks to offer integrated item processing services
to their retail and corporate customers.
At September 30, 1998, the Company had licensed over 1,300 copies of VECTOR
products to customers worldwide, including 99 of the top 100 U.S. banks, as
ranked by deposits as of December 31, 1997 in American Banker magazine.
Customers include BankAmerica, Chase Manhattan, Wells Fargo and ABN-AMRO.
INTERNET SOLUTIONS
Companies today are looking for ways to extend their business processes to
the Internet or the Web. By extending these processes, they can increase
revenues and reduce costs. According to Dataquest, a unit of the Gartner Group
("Dataquest"), this market, known as the business-to-business Web-commerce
market, was $28.5 million in 1997 and is projected to grow to $1.27 billion by
2002. The Company is addressing this large and expanding market by providing
Internet-related electronic commerce solutions across its product and services
families. These include:
. Internet-based transport with the CONNECT family;
. Mobile user management for intranets and extranets with CONNECT:Manage;
. Web application integration and business process automation through
GENTRAN Web Suite;
. Web-centric value-added application solutions through COMMERCE:Tracker
and COMMERCE:Banker;
6
<PAGE>
. Web community management for individual companies or industry groups
with the COMMERCE family;
. Web managed services to provide Web core competence with the solutions
provided by the Managed Services Division; and
Customers include Booknet, Chanel, Freedom Furniture, Reuters, Whirlpool and
Xerox.
MANAGED SERVICES
According to Dataquest, the worldwide EC services market is expected to grow
from $8 billion in 1998 to $21 billion by 2002. This acceleration is driven by
Year 2000 initiatives, the shortage of available technological personnel
within companies, the increasing trend for companies to focus on their core
businesses and the ongoing need to evaluate and integrate new developments in
information technology. In response to these developments, the Company formed
the Managed Services Division to offer customers of the Company's three
primary software and services families (COMMERCE, GENTRAN, and CONNECT) a
consolidated set of managed services to help them successfully implement their
EC programs. These services include custom and packaged solutions, education,
training and outsourcing. The Managed Services Division works closely with
leading systems integrators such as EDS, Andersen Consulting, KPMG and
Deloitte & Touche Consulting. Customers of the Managed Services Division
include Caliber Technology, Inc., Mitsubishi International, Owens Corning and
Union Carbide.
SALES AND MARKETING
The Company's Commerce Services Group, Interchange Software Group and
Communications Software Group each has its own sales and marketing
organizations. These organizations license and market the Company's products
and services on a worldwide basis through a combination of direct sales,
indirect sales through distributors and resellers, telesales and
telemarketing. The Company has implemented a performance-based program of
sales commissions, awards and recognition designed to compensate and motivate
its sales forces.
EMPLOYEES
The Company's business is dependent upon its ability to attract and retain
highly qualified personnel, who are currently in limited supply. The Company's
operations could be adversely affected if it were to lose the services of a
significant number of its employees or if the Company were unable to obtain
additional qualified personnel when needed. The market for highly qualified
personnel in the software and electronic commerce industries is extremely
competitive, making it difficult for companies in these industries, including
the Company, to attract and retain qualified employees. To attract and retain
qualified employees, the Company offers competitive compensation and benefits
packages and strives to maintain excellent employee relations, attractive
office facilities and challenging working environments. None of the Company's
employees are represented by a labor union. The Company has not experienced
any work stoppages and considers its employee relations to be excellent.
At September 30, 1998, the Company employed approximately 2,300 full-time
employees.
CUSTOMERS
The Company has a worldwide customer base in more than 15 industries,
including banking, telecommunications, manufacturing, insurance, healthcare,
automotive, retail, transportation, pharmaceuticals and consumer products.
While the Company's customer base includes some of the largest multinational
companies in the world, it also includes numerous regional and local
companies. As of September 30, 1998, the Company's customers included 95 of
the 100 largest U.S. industrial corporations, as ranked by 1997 sales in
7
<PAGE>
Fortune magazine, and 99 of the top 100 U.S. commercial banks, as ranked by
deposits as of December 31, 1997, in American Banker magazine.
Many of these customers use several of the Company's products and services,
including Internet-related electronic commerce solutions. Because large
companies drive electronic commerce across the supply chain, the Company often
works with these companies to market its electronic commerce solutions to their
trading partners, many of which are small to medium-sized companies. The
Company strives to develop and market products for companies of all sizes.
PRODUCT LICENSES AND PRODUCT SUPPORT
The Company's software products are licensed for perpetual use or for a fixed
term. The Company typically does not sell its software products. The license
agreements generally restrict the use of the underlying product to designated
sites or central processing units and prohibit the reproduction, transfer or
disclosure of the product. However, some license agreements may cover multiple
sites or multiple central processing units at one site.
In addition to licensing the use of its software products to customers, the
Company also often sells product support services to its customers. Typically,
the Company provides these services pursuant to product support agreements
having terms ranging generally from one to three years. The Company's product
support agreements generally allow customers to receive updated or enhanced
versions of the Company's software products as they become available and also
allow telephone and Internet access to the Company's technical personnel.
PRODUCT DEVELOPMENT
The Company's product development strategy is to enhance existing products
and to introduce new products based upon current and anticipated customer
needs. The Company's approach to product development includes, among other
things, evaluating anticipated customer needs, analyzing the cost of developing
new products versus the cost of acquiring new products and analyzing
anticipated revenues from new and enhanced products. For example, the Company
may seek to acquire an existing product or to acquire a company that owns an
existing product rather than develop the product internally. In other
instances, the Company may contract with a third-party developer to develop the
product for the Company. Because of these and other factors, the Company is
unable to estimate future product development costs.
The Company's Commerce Services Group, Interchange Software Group and
Communications Software Group each performs its own product development
functions. The Company believes that this decentralized structure facilitates
development cost control and focuses the development function on customer
needs. Gross product development costs in 1998, 1997 and 1996 were $47,300,000,
$38,400,000 and $27,800,000, respectively, of which the Company capitalized
$17,600,000, $13,500,000 and $12,300,000, respectively, as the cost of
developing and testing new or significantly enhanced software products. Product
development expense and the capitalization rate may fluctuate from period to
period depending, in part, upon the number and status of software development
projects in process.
The Company is addressing Year 2000 issues that may have a material impact on
its product and services offerings. In this regard, see "Year 2000" in Item 7,
Part II of this report. Such information is incorporated herein by reference.
COMPETITION
The Company believes that its ability to compete successfully in the
electronic commerce industry depends on numerous factors, both within and
outside its control, including product performance, functionality and
reliability, price and customer service and support. The Company's strategy is
to offer EC business solutions that are designed to meet the needs of the
various segments of the electronic commerce market on a local,
8
<PAGE>
regional and worldwide basis. The Company seeks to differentiate itself through
superior products and services, its reputation for quality and value and its
ability to respond quickly and efficiently to the changing needs of its
electronic commerce customers. See "Risk Factors--Competition" in Item 7, Part
II of this report for additional information regarding the Company's
competitive environment, including a list of certain of the Company's
competitors. Such information is incorporated herein by reference.
INTELLECTUAL PROPERTY RIGHTS
The Company relies primarily on a combination of copyright, patent and
trademark laws, confidentiality procedures and contractual provisions to
protect its intellectual property rights. The Company routinely enters into
nondisclosure and confidentiality agreements with employees, contractors,
consultants, vendors and customers to protect its proprietary rights.
The Company does not believe that any of its products or services infringe on
the valid rights of third parties in any material respect. Licenses for a
number of software products have been granted to the Company for its own use or
for remarketing to its customers.
See "Risk Factors--Limited Protection of Proprietary Rights; Risks of
Infringement and Loss of Licenses" in Item 7, Part II of this report for
additional information relating to the intellectual property rights of the
Company. Such information is incorporated herein by reference.
The COMMERCE, GENTRAN, CONNECT and VECTOR product and service names used
herein are registered or unregistered trademarks owned by the Company.
SHARED MANAGEMENT AND CONTRACTUAL ARRANGEMENTS WITH STERLING SOFTWARE
Shared Management
The Board of Directors of the Company (the "Board") currently has seven
members. Messrs. Sterling L. Williams (Chairman), Sam Wyly, Charles J. Wyly,
Jr. and Evan A. Wyly are directors of the Company and are also directors of
Sterling Software. Mr. Williams, who serves as President and Chief Executive
Officer of Sterling Software, ceased his employment with the Company in May
1998, whereupon he and the Company entered into a consulting agreement.
The Company and Sterling Software have certain contractual and other ongoing
relationships as discussed below under "Intercompany Agreements." Conflicts of
interest may arise between the Company and Sterling Software in a number of
areas relating to such ongoing relationships, including potential competitive
business activities, tax and employee benefit matters, indemnity arrangements
and the continued service of certain directors of each of the Company and
Sterling Software as directors of the other company. The Board utilizes such
procedures in evaluating the terms and provisions of any material transactions
between the Company and Sterling Software and their respective affiliates as
the Board may determine appropriate in light of its fiduciary duties under
applicable state law.
Contractual Arrangements
In anticipation of the Offering, the Company and Sterling Software entered
into a number of agreements (the "Intercompany Agreements") for the purpose of
defining certain relationships between them. As a result of Sterling Software's
ownership interest in the Company, the terms of such agreements were not the
result of arm's-length negotiation.
The Intercompany Agreements included, among others, a tax allocation
agreement, an indemnification agreement and the International Marketing
Agreement, each of which is briefly described below:
. The tax allocation agreement provides that for periods during which the
Company is included in Sterling Software's consolidated federal income
tax returns or consolidated, combined or unitary state
9
<PAGE>
tax returns (which periods included the period between the Offering and
the Distribution), the Company is required to pay to or is entitled to
receive from Sterling Software its allocable portion of the consolidated
federal and state income tax liability or refunds, respectively.
. The indemnification agreement provides, among other things, that each
party thereto (the "Indemnifying Party") will indemnify the other party
thereto and its directors, officers, employees, agents and
representatives (each, an "Indemnified Party") for liabilities that may
be incurred by an Indemnified Party relating to (1) the businesses,
operations or assets conducted or owned or formerly conducted or owned
by the Indemnifying Party and its subsidiaries (except, in the case
where Sterling Software is the Indemnifying Party, the businesses,
operations and assets of the Company and its subsidiaries) or (2) the
failure by the Indemnifying Party to comply with any other agreements
executed in connection with the Offering. In addition, the
indemnification agreement provides that the Company will indemnify
Sterling Software and its directors, officers, employees, agents and
representatives for any liabilities resulting from or arising out of
certain acts, failures to act or the provision of incorrect factual
information by the Company in connection with the Internal Revenue
Service ruling request that cause the Distribution to be taxable to
Sterling Software or its stockholders. The indemnification agreement
also provides that each party thereto (the "Obligor Party") (1) will use
reasonable efforts to obtain the release of the other party thereto (the
"Guarantor Party") from its obligation under or in respect of all
material guarantees, surety and performance bonds, letters of credit and
other arrangements guaranteeing or securing any liability or obligation
of the Obligor Party, (2) will indemnify the Guarantor Party for any
liabilities incurred under such guarantees, bonds, letters of credit and
other arrangements and (3) will reimburse the Guarantor Party for its
direct costs (or, in certain circumstances, the Obligor Party's pro rata
share of such direct costs) of maintaining such guarantees, bonds,
letters of credit and other arrangements pending the release of the
Guarantor Party thereunder.
. The International Marketing Agreement, which was terminated effective as
of June 30, 1997, defined the terms pursuant to which Sterling Software
acted as the exclusive distributor of certain of the Company's products
in markets outside the United States and Canada. See "Introduction" in
Item 1, Part I of this report and Note 4 to the Notes to Consolidated
Financial Statements included in Item 8, Part II of this report.
EXECUTIVE AND OTHER OFFICERS
The following information regarding the executive officers of the Company is
as of November 13, 1998.
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
Warner C. Blow........ 61 President and Chief Executive Officer; Director
J. Brad Sharp......... 41 Executive Vice President and Chief Operating Officer
Paul L. H. Olson...... 48 Executive Vice President and Group President
Stephen R. Perkins.... 54 Executive Vice President and Group President
Randall P. Harvey..... 45 Senior Vice President and Group President
Albert K. Hoover...... 38 Senior Vice President and General Counsel; Secretary
Steven P. Shiflet..... 51 Senior Vice President and Chief Financial Officer
</TABLE>
Warner C. Blow has served as President of the Company since December 1995
and as Chief Executive Officer and a director since October 1996. From
December 1995 to October 1996, Mr. Blow also served as Chief Operating Officer
of the Company. Prior to December 1995, Mr. Blow served as President of
Sterling Software's Electronic Commerce Group (the predecessor of the Company)
from July 1993 and as an Executive Vice President of Sterling Software from
October 1989.
J. Brad Sharp has served as Executive Vice President of the Company since
November 1997 and as Chief Operating Officer since October 1998. Mr. Sharp
served as President of the Interchange Software Group from December 1995 to
October 1998. From December 1995 to November 1997, Mr. Sharp served as a
Senior Vice
10
<PAGE>
President of the Company. Prior to March 1996, Mr. Sharp served as President
of the Interchange Software Division of Sterling Software's Electronic
Commerce Group (the predecessor of the Company) from August 1992.
Paul L. H. Olson has served as Executive Vice President of the Company since
November 1997 and as President of the Commerce Services Group since December
1995. From December 1995 to November 1997, Mr. Olson served as a Senior Vice
President of the Company. Prior to March 1996, Mr. Olson served as President
of the Network Services Division of Sterling Software's Electronic Commerce
Group (the predecessor of the Company) from August 1992.
Stephen R. Perkins has served as Executive Vice President of the Company
since November 1997 and as President of the Communications Software Group
since December 1995. From December 1995 to November 1997, Mr. Perkins served
as a Senior Vice President of the Company. Prior to March 1996, Mr. Perkins
served as President of the Communications Software Division of Sterling
Software's Electronic Commerce Group (the predecessor of the Company) from
July 1993.
Randall P. Harvey has served as Senior Vice President of the Company and as
President of the Interchange Software Group since October 1998. From March
1996 to October 1998, Mr. Harvey served as Vice President of Labs for the
Interchange Software Group. Prior to March 1996, Mr. Harvey served as Vice
President of Labs of the Interchange Software Division of Sterling Software's
Electronic Commerce Group (the predecessor of the Company) from 1993.
Albert K. Hoover has served as Senior Vice President and General Counsel of
the Company since June 1997 and as Secretary since June 1998. From December
1995 until June 1997, Mr. Hoover served as Vice President, Legal of the
Company. Prior to March 1996, Mr. Hoover served as Vice President, Legal of
Sterling Software from May 1994 and Assistant General Counsel of Sterling
Software from June 1990.
Steven P. Shiflet has served as Senior Vice President and Chief Financial
Officer of the Company since January 1997. From December 1995 until January
1997, Mr. Shiflet served as Vice President, Finance of the Company. Prior to
March 1996, Mr. Shiflet served as Group Vice President, Finance &
Administration of Sterling Software's Electronic Commerce Group (the
predecessor of the Company) from 1986.
The following information regarding certain other vice presidents of the
Company is also as of November 13, 1998.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<C> <C> <S>
William W. Hymes........................ 62 Senior Vice President and
Division President
James W. Hoyt........................... 51 Vice President, Technology
Thomas A. Lutz.......................... 58 Vice President
Dawn Wheeler............................ 39 Vice President, Investor
Relations
G. Clark Woodford....................... 51 Vice President, Business
Development
</TABLE>
William W. Hymes has served as a Senior Vice President of the Company since
December 1995 and as President of the Banking Systems Division since June
1997. From December 1995 to June 1997, Mr. Hymes served as President of the
Company's former Banking Systems Group. Prior to March 1996, Mr. Hymes served
as President of the Banking Systems Division of Sterling Software's Electronic
Commerce Group (the predecessor of the Company) from July 1993.
James W. Hoyt has served as Vice President, Technology of the Company since
July 1996. Mr. Hoyt served as Director of Product Architecture of the
Company's Communications Software Group from March 1996 until June 1996 and of
Sterling Software's Communications Software Division from July 1993 until
March 1996.
Thomas A. Lutz has served as a Vice President of the Company since December
1995. Mr. Lutz served as President of the former International Division of the
Commerce Services Group from June 1997 until
11
<PAGE>
September 1998. Mr. Lutz served as President of the Company's former
International Group from December 1995 until June 1997. Prior to March 1996,
Mr. Lutz served as President of Sterling Software's Creative Data Systems
Division from October 1991.
Dawn Wheeler has served as Vice President, Investor Relations of the Company
since February 1996. Prior to March 1996, Ms. Wheeler served as Director of
Industry Relations of Sterling Software's Electronic Commerce Group (the
predecessor of the Company) from October 1994. Prior to October 1994, Ms.
Wheeler served in various capacities for Sterling Software's Network Services
Division from November 1988.
G. Clark Woodford has served as Vice President, Business Development of the
Company since December 1995. Prior to December 1995, Mr. Woodford served as
Vice President, Business Development of Sterling Software's Electronic
Commerce Group (the predecessor of the Company) from November 1993.
ITEM 2. PROPERTIES.
The Company's principal executive offices are located in Dallas, Texas. The
Company's principal administrative offices are located in Columbus, Ohio. Both
facilities are leased under operating leases. The Company also leases offices
and facilities in more than 39 other locations in the United States and
various other countries under operating leases. The Company believes that its
facilities will be adequate for its immediate needs and that additional or
substitute space is available if needed to accommodate expansion.
ITEM 3. LEGAL PROCEEDINGS.
The information set forth in Note 5 of the Notes to Consolidated Financial
Statements included in Item 8, Part II of this report is incorporated herein
by reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company did not submit any matters to a vote of security holders during
the fourth quarter of the fiscal year covered by this report.
12
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock has traded on the New York Stock Exchange since
March 8, 1996, under the symbol "SE." The high and low sales prices for the
Company's Common Stock for the periods indicated are set forth below.
<TABLE>
<CAPTION>
PRICE RANGE
----------------
HIGH LOW
-------- -------
<S> <C> <C>
YEAR ENDED SEPTEMBER 30, 1997:
Quarter Ended:
December 31, 1996......................................... $35 3/4 $25 1/2
March 31, 1997............................................ $38 5/8 $26 3/4
June 30, 1997............................................. $34 7/8 $24 1/8
September 30, 1997........................................ $40 5/16 $29 1/2
YEAR ENDED SEPTEMBER 30, 1998:
Quarter Ended:
December 31, 1997......................................... $39 1/8 $31 1/2
March 31, 1998............................................ $50 1/4 $33 1/2
June 30, 1998............................................. $48 3/4 $37 1/2
September 30, 1998........................................ $48 1/2 $30
</TABLE>
At November 13, 1998, the Company had approximately 1,130 holders of record
of Common Stock.
The Company did not pay dividends on its Common Stock during the years ended
September 30, 1997 and 1998. Under the terms of the Company's Revolving Credit
and Term Loan Agreement, as amended (the "Credit Agreement"), the Company is
prohibited from making distributions in the form of cash dividends on its
Common Stock.
ITEM 6. SELECTED FINANCIAL DATA.
The following selected financial data should be read in conjunction with the
consolidated financial statements of the Company included elsewhere herein.
<TABLE>
<CAPTION>
YEARS ENDED SEPTEMBER 30
---------------------------------------------
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<S> <C> <C> <C> <C> <C>
OPERATING DATA:
Revenue......................... $490,302 $350,597 $267,773 $203,578 $155,916
Cost of sales................... 96,161 70,615 54,418 41,550 36,282
Product development and enhance-
ment expenses.................. 29,717 24,853 15,553 14,807 12,497
Selling, general and administra-
tive expenses.................. 201,689 134,849 102,597 75,193 60,732
Income (loss) before other in-
come (expense) and
income taxes(1)................. (21,161) 72,591 95,205 72,028 46,405
Net income (loss)............... (61,156) 55,444 58,392 42,930 27,753
Income (loss) per common share:
Basic......................... $ (0.67) $ 0.66 $ 0.79
Diluted....................... $ (0.67) $ 0.64 $ 0.77
BALANCE SHEET DATA:
Working capital(2).............. $545,114 $491,801 $ 77,159 $ 3,692 $ 2,198
Total assets.................... 967,004 748,566 241,680 128,978 100,638
Stockholders' equity............ 747,915 600,862 138,187
Stockholder's net investment.... 53,187 43,051
</TABLE>
- --------
(1) Net of $116,460,000 of purchased research and development and $67,436,000
of reorganization and unusual costs charged to expense in 1998 and
$31,879,000 of purchased in-process research and development and
$15,810,000 of reorganization and unusual costs charged to expense in
1997.
(2) Prior to the consummation of the Offering, substantially all of the excess
cash generated by the Company's operations was regularly remitted to
Sterling Software pursuant to Sterling Software's centralized cash
management program.
13
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
INTRODUCTION
The Company was incorporated in December 1995 as a wholly owned subsidiary
of Sterling Software. Pursuant to the Offering, which was completed in March
1996, the Company sold to the public 1,800,000 previously unissued shares of
Common Stock and Sterling Software sold to the public 12,000,000 of the
73,200,000 shares of Common Stock then owned by it.
In contemplation of the Offering, among other things: (1) Sterling Software
caused to be transferred to the Company certain assets relating to the
electronic commerce business previously conducted by Sterling Software and (2)
the Company entered into contractual arrangements with Sterling Software
related to, among other things, tax allocation, indemnification and
international marketing. See "Shared Management and Contractual Arrangements
with Sterling Software" in Item 1, Part I of this report, for a discussion of
such contractual arrangements with Sterling Software.
On September 23, 1996, the Board of Directors of Sterling Software declared
a special dividend consisting of the Distribution of all shares of Common
Stock held by Sterling Software on September 30, 1996, payable pro rata to the
holders of record of Software Stock as of the close of business on such date.
As a result, effective September 30, 1996, the Company ceased to be a
subsidiary of Sterling Software.
On February 28, 1997, the Company completed the Follow-On Offering of
14,375,000 previously unissued shares of Common Stock. The net proceeds of
$400,145,000 were added to the Company's working capital and are being used
for general corporate purposes, including acquisitions. Pending such use, the
funds are being invested in investment grade debt securities and other
marketable securities. See "Acquisitions" in Item 1, Part I of this report and
Note 4 of the Notes to Consolidated Financial Statements included in Item 8,
Part II of this report for information regarding acquisitions made by the
Company since the Distribution, and see "1998 Business Combinations and
Reorganizations" below for further information regarding acquisitions
completed in fiscal 1998.
1998 BUSINESS COMBINATIONS AND REORGANIZATIONS
On July 21, 1998, the Company completed the acquisition of all the issued
and outstanding stock of XcelleNet, an Atlanta, Georgia based provider of
remote systems management products and services. The aggregate purchase price
paid was approximately $224,000,000, consisting of approximately $83,000,000
of cash, which cash was funded from the Company's available cash balances,
approximately 2,442,000 shares of newly issued Common Stock and options to
purchase approximately 1,287,000 shares of Common Stock to replace outstanding
options to purchase XcelleNet common stock held by XcelleNet employees and
directors. The cash cost of the acquisition includes approximately $9,000,000
of costs directly related to the acquisition, consisting of employee
termination costs, transaction costs, costs associated with the elimination of
facilities and other direct costs. The results of operations of XcelleNet are
included in the Company's results of operations from the date of the
acquisition.
14
<PAGE>
The Company also completed the following acquisitions in 1998:
. In two separate transactions in April and August 1998, the Company
acquired for cash certain assets and assumed certain liabilities
associated with the EDI software and services unit of o.tel.o, a
Dusseldorf, Germany based telecommunications company specializing in
cellular, cable television and Internet access services.
. In June 1998, the Company acquired for cash all of the issued and
outstanding capital stock of EDES, a London, England based provider of
value-added electronic data interchange network services and related PC-
based enabling software.
. In July 1998, the Company acquired for cash all of the issued and
outstanding capital stock of NIS, a Singapore based provider of
electronic commerce software and services.
. In July 1998, the Company acquired for cash all of the issued and
outstanding capital stock of iCommerce, a Singapore based provider of
Web based EC community management products and services.
The aggregate cash purchase price for these acquisitions was approximately
$10,000,000, which was funded from the Company's available cash balances. The
results of operations of these acquisitions are included in the Company's
results of operations from the dates of acquisition.
Results of operations for 1998 include $116,460,000 of purchased research
and development costs primarily related to the XcelleNet acquisition. This
amount was attributed to purchased research and development as valued by an
independent appraiser, and was charged to expense in accordance with the
purchase method of accounting.
REORGANIZATION AND UNUSUAL COSTS
The Company's results of operations for 1998 include reorganization and
unusual costs of $67,436,000 primarily related to the reorganization of the
Company's operations in connection with the acquisitions noted above and the
Company's strategic decision to discontinue certain businesses and activities.
Of the total reorganization and unusual costs, non-cash costs are
approximately $40,240,000 and the remaining costs of $27,196,000 require cash
outlays. Currently, the Company does not expect to incur costs related to
these reorganizations in excess of the amount charged to operations in 1998.
The Company's results of operations for 1997 include reorganization and
unusual costs of $15,810,000 primarily related to the reorganization of the
Company in connection with the acquisitions of Automated Catalogue Services,
Inc. and Comfirst and the termination of the International Marketing
Agreement. During 1998, the Company disbursed the accrued balance remaining of
these costs at September 30, 1997 of $8,991,000. The Company does not expect
to incur any further costs related to these reorganizations.
RESULTS OF OPERATIONS
Years Ended September 30, 1998 and 1997
Total revenue increased $139,705,000 or 40% in 1998 as compared to 1997. The
revenue increase was due to a $80,746,000 increase in products revenue, a
$46,028,000 increase in services revenue and a $29,689,000 increase in product
support revenue, offset partially by a $16,758,000 decrease in royalties from
Sterling Software. Products revenue increased 73%, services revenue increased
30% and product support revenue increased 42% in 1998 as compared to 1997. The
Company's product lines experienced growth in products revenue and product
support due to the addition of new customers, new product offerings, certain
product price increases and a continuing expansion of the installed customer
base for product support. The increase in products
15
<PAGE>
and product support revenue is primarily the result of increased licensing of
CONNECT and GENTRAN software products and is also the result of having direct
licensing of these products outside of the United States and Canada in 1998 as
opposed to having royalty revenue in the first three quarters of 1997. The
increase in services revenue is due primarily to growth in existing COMMERCE
services customer volume and the addition of new customers, primarily in the
hardlines, retail, grocery and healthcare markets, and also due to an increase
in education and consulting services. No royalty revenue was recorded in 1998
due to the termination of the International Marketing Agreement effective June
30, 1997.
The Company's recurring revenue includes revenue from annual and multi-year
product support agreements having terms ranging generally from one to three
years, fixed term product lease and rental agreements having terms ranging
generally from month-to-month to year-to-year and electronic commerce service
agreements cancelable upon 30 days' notice. The Company includes the entire
portion of the recognized revenue from COMMERCE service agreements in
recurring revenue, although no assurances can be given that such agreements
will not be canceled. Recurring revenue increased $51,835,000 or 26% in 1998
as compared to 1997 and represented 51% of total revenue in 1998 and 57% in
1997. The decrease in the relative percentage is due to the Company receiving
100% of the revenues from the licensing of products outside the United States
and Canada in 1998 as opposed to a 50% royalty on such revenues from Sterling
Software in the first three quarters of 1997 pursuant to the International
Marketing Agreement and also in part to the significant growth in products
revenue in 1998. For 1998, 55% of the Company's products revenue was for
products designed for operating platforms other than mainframe operating
platforms, as compared to 54% for 1997. This increase in the relative
percentage of products revenue for products designed for operating platforms
other than mainframes is due primarily to an increase in sales of products for
the UNIX and Windows NT platforms. Revenue outside of the United States, as a
percentage of total revenue, increased to 21% in 1998 from 14% in 1997
primarily due to an increase in international licensing of CONNECT and GENTRAN
software, as well as to the termination of the International Marketing
Agreement.
Total costs and expenses increased $233,457,000 in 1998 as compared to 1997
due primarily to charges in the fourth quarter of 1998 of $116,460,000 for
purchased research and development acquired primarily from XcelleNet and
$67,436,000 of reorganization and unusual costs. Excluding these charges and
similar charges in 1997, total costs and expenses increased $97,250,000 or 42%
on revenue growth of 40%. This percentage increase in total costs and expenses
is primarily due to a 50% increase in selling, general and administrative
expenses and to a lesser extent a 36% increase in cost of sales and a 20%
increase in product development and enhancement expenses compared with the
prior year. The Company believes further expenditures of approximately
$8,500,000 primarily for salaries, wages and benefits of development personnel
will be required during the next 18 months to develop into commercially viable
products the research and development purchased primarily from XcelleNet.
The components of reorganization and unusual costs in 1998 consist primarily
of a write-down of software products and other assets and recognition of
liabilities associated with software products and services which will no
longer be actively marketed or supported in the amount of approximately
$40,010,000; write-off of excess costs over net assets acquired of
approximately $8,488,000; employee termination costs of approximately
$7,993,000; out-of-pocket costs related to the reorganization of approximately
$4,784,000; and other costs of approximately $6,161,000.
Total cost of sales consists primarily of salaries and other related
expenses for product support, data center and communications personnel and
other related expenses for the Company's data center and other facilities,
communications, product media, duplication, packaging and shipping. Total cost
of sales increased $25,546,000 or 36% in 1998 as compared to 1997. As a
percentage of total revenue, total cost of sales remained unchanged at 20% for
1998 and 1997. Cost of sales for services increased $17,921,000 or 49% due to
higher COMMERCE services costs to support a growing customer base and greater
customer volume and also due to higher costs associated with providing
education and consulting services. As a percentage of total revenue, cost of
sales for services increased to 11% for 1998 from 10% in 1997. Cost of sales
for products and product support increased $7,625,000 or 22% due to increased
costs to support expanding software sales, a larger installed customer base
and higher amortization costs of capitalized development for software
products. Cost of sales for products and
16
<PAGE>
product support decreased as a percentage of total revenue to 9% in 1998 from
10% in 1997. Cost of sales includes $28,649,000 of depreciation and
amortization for 1998 and $21,611,000 of depreciation and amortization for
1997.
Product development and enhancement expense consists primarily of salaries
and other related expenses for product development personnel, together with
the cost of facilities and equipment. Product development and enhancement
expense for 1998 of $29,717,000, net of $17,600,000 capitalized pursuant to
Statement of Financial Accounting Standards No. 86, "Accounting for the Costs
of Computer Software to be Sold or Otherwise Marketed"("FAS 86"), increased
$4,864,000 or 20% compared to 1997 product development and enhancement expense
of $24,853,000, net of $13,519,000 of amounts capitalized pursuant to FAS 86.
The increase was primarily due to the higher gross product development expense
relating to products under development during 1998. As a percentage of total
revenue, product development and enhancement expense decreased to 6% in 1998
from 7% in 1997. As a percentage of total development and enhancement expense,
total capitalized costs increased to 37% in 1998 from 35% in 1997. Product
development expense and the capitalization rate may fluctuate from period to
period depending in part upon the number and status of software development
projects in process.
Selling, general and administrative expense consists primarily of salaries,
commissions and other related expenses of sales, marketing, administrative,
executive and financial personnel, as well as outside professional fees,
facilities and depreciation expenses. Selling, general and administrative
expense increased $66,840,000 or 50% in 1998 as compared to 1997 due in part
to increases in personnel following the termination of the International
Marketing Agreement in June 1997. As a percentage of total revenue, selling,
general and administrative expenses increased to 41% for 1998 from 38% in
1997.
Loss before other income and income taxes was $21,161,000 for 1998 as
compared to income before other income and income taxes of $72,591,000 for the
same period of 1997 due to the $139,705,000 increase in revenues offset by the
$233,457,000 increase in total costs and expenses including nonrecurring
charges of $183,896,000 for purchased research and development and
reorganization and other unusual costs in the fourth quarter of 1998 related
to the acquisitions and other activities noted above. Other income increased
$7,459,000 in 1998 as compared to 1997, primarily due to an increase in
investment income resulting generally from a higher average balance of
investments in cash, cash equivalents and marketable securities resulting
primarily from the net cash proceeds received by the Company from the Follow-
On Offering together with cash flows from operating activities. Excluding the
nonrecurring charges in 1998 and 1997, income before income taxes increased
$49,914,000 or 36% in 1998 as compared to 1997.
Provision for income taxes increased $30,307,000 in 1998 as compared to
1997, primarily due to the increase in taxable income including non-deductible
charges in 1998 as compared to 1997.
Years Ended September 30, 1997 and 1996
Total revenue increased $82,824,000 or 31% in 1997 as compared to 1996. The
revenue increase was due to a $42,056,000 increase in services revenue, a
$29,671,000 increase in products revenue and a $15,087,000 increase in product
support revenue, offset partially by a $3,990,000 decrease in royalties from
Sterling Software. Services revenue increased 38% in 1997 as compared to 1996,
primarily from growth in existing commerce services customer volume and the
addition of new customers, primarily in the hardlines, retail, grocery and
healthcare markets. Products revenue increased 37%, product support revenue
increased 27% and royalty revenue decreased 19% in 1997 as compared to 1996.
The Company's product lines experienced growth in products revenue, product
support revenue and royalty revenue due to the addition of new customers, new
product offerings, certain product price increases and a continuing expansion
of the installed customer base for product support. The increase in products
and product support revenue is primarily the result of increased licensing of
CONNECT and GENTRAN software products and is also the result of having direct
licensing of these products outside of the United States and Canada for the
fourth quarter of 1997 as opposed to having royalty revenue in the fourth
quarter of 1996. The decrease in royalty revenue is largely due to the
termination of the International
17
<PAGE>
Marketing Agreement effective June 30, 1997. Royalty revenue had increased 13%
in the first nine months of 1997 as compared to the same period of 1996.
The Company's recurring revenue includes revenue from annual and multi-year
product support agreements having terms ranging generally from one to three
years, fixed term product lease and rental agreements having terms ranging
generally from month-to-month to year-to-year and electronic commerce service
agreements cancelable upon 30 days' notice. The Company includes the entire
portion of the recognized revenue from COMMERCE service agreements in
recurring revenue, although no assurances can be given that such agreements
will not be canceled. Recurring revenue increased $46,623,000 or 30% in 1997
as compared to 1996 and represented 57% of total revenue in both 1997 and
1996. For 1997, 54% of the Company's products revenue was for products
designed for operating platforms other than mainframe operating platforms, as
compared to 53% for 1996. Revenue outside of the United States, as a
percentage of total revenue, increased to 14% in 1997 from 12% in 1996.
Total costs and expenses increased $105,438,000 in 1997 as compared to 1996
due in part to charges in the third quarter of 1997 of $31,879,000 for
purchased in-process research and development acquired primarily from ACS and
$15,810,000 of reorganization and unusual costs related to the acquisition of
Comfirst, ACS and the international distribution operations acquired from
Sterling Software. Excluding these charges, total costs and expenses increased
$57,749,000 or 33% on revenue growth of 31%. This percentage increase in total
costs and expenses is primarily due to a 30% increase in cost of sales, a 31%
increase in selling, general and administrative costs and to a lesser extent a
60% increase in product development and enhancement expense compared with the
prior year.
The components of the reorganization and unusual costs consist primarily of
an early termination payment to Sterling Software of approximately $5,226,000;
transaction costs and professional fees of approximately $3,100,000; severance
and transition costs of approximately $2,400,000; and other out-of-pocket
costs of approximately $5,084,000.
Total cost of sales consists primarily of salaries and other related
expenses for product support, data center and communications personnel and
other related expenses for the Company's data center and other facilities,
communications, product media, duplication, packaging and shipping. Total cost
of sales increased $16,197,000 or 30% in 1997 as compared to 1996. As a
percentage of total revenue, total cost of sales remained unchanged at 20% for
1997 and 1996. Cost of sales for services increased $9,427,000 or 35% due
primarily to higher COMMERCE services costs to support a growing customer base
and greater customer volume. As a percentage of total revenue, cost of sales
for services remained unchanged at 10% for 1997 and 1996. Cost of sales for
products and product support increased $6,770,000 or 25% due to increased
costs to support expanding software sales, a larger installed customer base
and higher amortization costs of capitalized development for software
products. Cost of sales for products and product support remained constant as
a percentage of total revenue at 10% in 1997 and in 1996. Cost of sales
includes $21,611,000 of depreciation and amortization in 1997 and $16,314,000
of depreciation and amortization in 1996.
Product development and enhancement expense consists primarily of salaries
and other related expenses for product development personnel, together with
the cost of facilities and equipment. Product development and enhancement
expense for 1997 of $24,853,000, net of $13,519,000 of amounts capitalized
pursuant to FAS 86, increased $9,300,000 or 60% compared to 1996 product
development and enhancement expense of $15,553,000, net of $12,268,000 of
amounts capitalized pursuant to FAS 86. The increase was primarily due to the
higher gross product development expense relating to products under
development during 1997. As a percentage of total revenue, product development
and enhancement expense increased to 7% in 1997 from 6% in 1996. Total
capitalized costs represented 35% and 44% of total development and enhancement
expense for 1997 and 1996, respectively. Product development expense and the
capitalization rate may fluctuate from period to period depending in part upon
the number and status of software development projects in process.
18
<PAGE>
Selling, general and administrative expense consists primarily of salaries,
commissions and other related expenses of sales, marketing, administrative,
executive and financial personnel as well as outside professional fees,
facilities and depreciation expenses. Selling, general and administrative
expense increased $32,252,000 or 31% in 1997 as compared to 1996 due primarily
to increases in personnel in sales, marketing and administration in support of
the Company's revenue growth. As a percentage of total revenue, selling,
general and administrative expenses remained unchanged at 38% for 1997 and
1996.
Income before other income and income taxes was $72,591,000 for 1997 as
compared to income before other income and income taxes of $95,205,000 for the
same period of 1996 due to the $82,824,000 increase in revenues offset by the
$105,438,000 increase in total costs and expenses including nonrecurring
charges of $47,689,000 for purchased in-process research and development and
reorganization and unusual costs in the third quarter of 1997 related to the
acquisition of Comfirst, ACS and the international distribution operations
acquired from Sterling Software. Other income increased $15,476,000 in 1997 as
compared to 1996, primarily due to an increase in investment income resulting
generally from a higher average balance of investments in cash, cash
equivalents and marketable securities resulting primarily from the net cash
proceeds received by the Company from the Follow-On Offering. Excluding the
nonrecurring charges, income before income taxes increased $40,551,000 or 42%
in 1997 compared to 1996.
Provision for income taxes decreased $4,190,000 in 1997 as compared to 1996,
primarily due to the decrease in income before taxes in 1997 as compared to
1996.
LIQUIDITY AND CAPITAL RESOURCES
Net cash flows from operations were $108,950,000 for 1998 and $122,067,000
for 1997. Net cash flows from operations were affected in 1998 by a net loss
which reflected increased noncash expenses in depreciation and amortization
and purchased research and development and increases in accounts payable and
accrued liabilities and deferred revenue, offset by increases in accounts and
notes receivable and prepaid expenses and other assets. A portion of the
Company's cash flow from operations during 1998 and 1997 was used to fund
software additions and capital expenditures. Software expenditures in 1998
were $19,320,000 the majority of which were costs capitalized pursuant to FAS
86, compared to $13,855,000 in 1997. The expenditures during 1998 were
primarily for new products and enhancements of existing products. Property and
equipment purchases of $46,454,000 in 1998 included purchases made for
equipment upgrades for network processing systems, costs to add new network
service features and computer and other equipment purchases to support the
Company's growth particularly outside the United States and Canada due to the
termination of the International Marketing Agreement.
The Company maintains a Credit Agreement, which provides for a domestic
borrowing capacity of $20,000,000 and an additional $10,000,000 international
borrowing capacity. An underlying letter of credit facility provides for
letters of credit up to the full domestic borrowing capacity. The Credit
Agreement, with final maturity of October 1, 1999, is unsecured and contains
various restrictive covenants including limitations on additional borrowings,
payment of cash dividends and acquisitions. The Credit Agreement also requires
that the Company maintain certain financial ratios. Borrowings under the
Credit Agreement bear interest at the higher of the lender's prime rate, the
Federal Funds Effective Rate plus one-half percent or, for borrowings obtained
for fixed periods of time, LIBOR plus one-half percent. There were no amounts
borrowed or outstanding under the Credit Agreement, nor the underlying letter
of credit facility, as of September 30, 1998.
On February 28, 1997, the Company issued and sold 14,375,000 shares of
Common Stock in the Follow-On Offering for net proceeds of $400,145,000, after
deducting underwriting discounts and commissions and the Follow-On Offering
expenses.
At September 30, 1998, the Company's capital resource commitments consisted
primarily of commitments under lease arrangements for office space and
equipment. The Company intends to meet such obligations from cash flows from
operations. Although no significant commitments exist for future capital
expenditures, the
19
<PAGE>
Company has presently budgeted capital expenditures of approximately
$82,000,000 for fiscal 1999 (of which approximately $27,000,000 is expected to
consist of amounts capitalized pursuant to FAS 86). The Company believes
available balances of cash, cash equivalents and short-term investments
combined with cash flows from operations and amounts available under the
Credit Agreement are sufficient to meet the Company's cash requirements for
the foreseeable future.
EFFECTS OF INFLATION
Demand for many of the Company's products and services tends to improve with
increased inflation as customers strive to increase employee productivity and
reduce costs. However, the effect of inflation on the Company's relatively
labor-intensive cost structure could adversely affect its results of
operations to the extent the Company is not able to recover increased
operating costs through increased prices and sales.
YEAR 2000
General
The Year 2000 issue is the result of computer programs that were written
using two digits rather than four to define the applicable year. Accordingly,
computer programs that perform date-related functions may recognize a date
using "00" as the year 1900 rather than the year 2000. This could result in a
system failure or miscalculation causing disruptions of operations, including
a temporary inability to process transactions, send invoices or engage in
similar normal business activities. The following discussion regarding Year
2000 matters constitutes a "Year 2000 Readiness Disclosure" within the meaning
of the Year 2000 Information and Readiness Disclosure Act.
The Company has been and continues to assess and resolve Year 2000 issues
associated with its product and services offerings, material internal systems,
such as information technology ("IT") systems and non-IT systems, and material
third-party relationships. The Company believes that this program will be
completed prior to December 31, 1999.
Product and Services Offerings
The Company has completed a Year 2000 assessment of its currently offered
products and services. This assessment included internal testing of the Year
2000 capabilities of the Company's product and EC services offerings. The
Company has no plans to have its products or EC services tested by an
independent source. Based on this assessment, the Company believes that the
vast majority of its currently offered products and EC services are Year 2000
compliant, or will become compliant by early 1999 through new product releases
or modifications to internal systems. The increased amount of testing related
to the Year 2000 resulted in some delays in the release of new products or
product versions. However, because Year 2000 compliance is generally
integrated into its normal product development activities, the Company has not
incurred, and does not expect to incur, any significant incremental expenses
in addressing the Year 2000 issue in its product or EC services offerings.
The Company believes that a small percentage of its customers who receive
product support from the Company are operating product versions that may not
be Year 2000 compliant or products or product versions that the Company has
replaced or intends to replace with comparable Year 2000 compliant products.
The Company believes that the majority of these customers are migrating and
will continue to migrate to Year 2000 compliant versions and products through
new releases, which the Company is strongly encouraging. In addition, certain
customers may be operating non-compliant versions of products in respect of
which the Company's agreed-upon product support and warranty periods have
expired. The Company has not undertaken an assessment of whether these
customers are taking appropriate steps to address any related Year 2000
issues.
20
<PAGE>
The Company provides a significant amount of its EC services through its
data center located in Columbus, Ohio. The data center utilizes third-party
software and hardware, as well as some Company software. Furthermore, the data
center requires electricity and other utilities and relies on the Internet and
third party communications providers for the transmission of data to and from
its customers. The Company has made provision for back-up systems and
established contingency plans. The Company has also conducted extensive
assessment and testing of the data center, including operating a back-up
system in a post year 2000 mode, and has taken appropriate remedial actions,
all in an effort to avoid Year 2000 failures. See "Risk Factors--Dependence on
Data Center" below.
The Company does not believe that customers who license or migrate to Year
2000 compliant versions of its products, or customers who purchase the
Company's EC services, will experience any Year 2000 failures caused by such
products or services. In addition, the Company believes that its licenses and
other agreements contain customary and appropriate limitations on the
Company's obligations with respect to any Year 2000 failures that may be
caused by its current or former products and EC services. However, there can
be no assurance that the Company's expectations and beliefs as to these
matters will prove to be accurate. Moreover, the Company's products are used
in, and the provision of its services requires the use of, systems comprised
of third-party hardware and software, some of which may not be Year 2000
compliant.
Internal Systems
The Company has been conducting a Year 2000 assessment of its material
internal systems, both IT and non-IT, on a risk-priority basis. That
assessment, which includes an assessment of certain embedded systems, is
nearing completion. Based on the current results of that assessment, the
Company believes that its internal systems will require minimal remediation,
some of which has already been completed or is currently underway. As a result
of the Company's decentralized operating structure, non-compliant systems tend
to be more limited in their effect and easier to remediate. The vast majority
of the remediation required for such systems is expected to be completed by
mid-1999, with remediation of the remaining systems scheduled for completion
prior to December 31, 1999. Based upon the low number of material internal
systems expected to require remediation, the Company does not anticipate that
the internal and external costs of such remediation will have a material
adverse effect on the Company.
There can be no assurance that the remediation of the Company's material
internal systems will be completed in a timely manner or that such remediated
systems will function as anticipated. Interruption of normal business
operations, including the Company's ability to effectively provide EC services
to customers, in such events could have a material adverse effect on the
Company's business, operating results and financial condition.
Third-Party Relationships
The Company has been conducting a Year 2000 assessment of its material third
party supplier relationships. The assessment is being conducted through
communications with such suppliers, testing of supplier equipment, systems or
interfaces, and a review of the Year 2000 information made publicly available
by such suppliers. The Company plans to complete the assessment of its
material third-party relationships prior to the end of calendar 1998 and,
promptly upon discovery of any material, non-compliant equipment or systems,
to begin remediation or adequate remediation assurances from third parties.
There can be no assurance, however, that the Company will receive all
information necessary to fully evaluate the Year 2000 readiness of all
material suppliers. Moreover, the Company relies in various ways, both
domestically and internationally, on government, utility and communications
service providers to conduct normal business operations. There can be no
assurance that such suppliers will not suffer business interruptions caused by
a Year 2000 issue. Such interruptions could have a material adverse effect on
the Company's business, operating results and financial condition.
Additional Risks
Additional aspects of the Year 2000 issue may pose risks to be considered in
evaluating the future growth of the Company. Some commentators predict that
normal purchasing patterns and trends in the software industry
21
<PAGE>
may be affected by customers replacing or upgrading applications or systems to
address Year 2000 issues. The Company has not experienced any discernable trend
indicating a recent or impending material reduction in demand for the Company's
products and services. However, there can be no assurance that Year 2000 issues
will not affect future customer purchasing patterns possibly resulting in lower
demand for the Company's products and services. Furthermore, some commentators
have also predicted that a significant amount of litigation may arise out of
Year 2000 compliance issues. While the Company has not been subject to any Year
2000 claims or lawsuits to date, there can be no assurance that customers or
former customers will not bring claims or lawsuits against the Company seeking
compensation for losses associated with Year 2000-related failures. A material
adverse outcome in a Year 2000 claim or lawsuit could have a material adverse
effect on the Company's business, financial condition and results of
operations.
Contingency Planning
Although the Company believes that it is currently executing a timely,
effective plan for addressing material Year 2000 issues that may affect the
Company, there can be no assurance that the Company or a third party on which
the Company significantly relies will not experience unanticipated consequences
or material expenses which could have a material adverse effect on the
Company's business, operating results or financial condition. The Company
believes that it is difficult to specifically describe its most likely "worst
case" Year 2000 scenario. One "worst case" scenario is the failure of the
Company's products to correctly perform date-related functions through the year
2000, causing customer systems or operations dependent upon such products or
services to fail or be disrupted. Other "worst case" scenarios involve the
Company's EC services offerings. Failure of the Company's internal systems to
correctly perform date-related functions through the year 2000, or disruptions
in those systems, could result in errors or delays in the provision of the
Company's EC services. Another "worst case" Year 2000 scenario is the failure
of a material third-party supplier, such as a communications or utility
provider, to address its Year 2000 issues, resulting in errors or delays in the
provision of the Company's EC services. In the event of such failures or
disruptions, customers may commence legal action against the Company or
otherwise seek compensation for their losses.
Except as described above, the Company has not established "contingency
plans" to address potential consequences of the Year 2000 issue. However, the
Company intends to continue to evaluate both existing and newly identified Year
2000 risks and to develop and implement such further responsive measures as it
deems appropriate.
NEW EUROPEAN CURRENCY
Eleven of the 15 member countries of the European Union are scheduled to
establish fixed conversion rates between their existing sovereign currencies
and a new currency the "Euro" and to adopt the Euro as their common legal
currency effective January 1, 1999. The Company is currently reviewing its
products and business operations with respect to the Euro's requirements in
order to determine pricing strategies in the new economic environment, analyze
the legal and contractual implications for contracts, evaluate system
capabilities and ensure vendors can support the Company's operations with
respect to Euro transactions. Because its currently offered products and
services are currency neutral, the Company does not expect to have to modify
its products or internal systems used in the provision of services in order to
support Euro transactions. The Company does expect to modify its business
operations, however, in order to support Euro transactions, but does not
believe that the cost of such modifications will have a material adverse effect
on the Company's results of operations or financial conditions. There can be no
assurance, however, that the Company will be able to complete such
modifications to comply with Euro requirements or that any failure to complete
such modifications would not have a material adverse effect on the Company's
business, results of operations or financial conditions. In addition, the
Company faces risks to the extent that third-party suppliers upon which the
Company relies, or their suppliers, are unable to make appropriate
modifications to support Euro transactions.
FORWARD-LOOKING INFORMATION
This report and other reports and statements filed by the Company from time
to time with the Securities and Exchange Commission (collectively, "SEC
Filings") contain, or may contain, certain forward-looking
22
<PAGE>
statements and information that are based on the beliefs of, and information
currently available to, the Company's management, as well as estimates and
assumptions made by the Company's management. When used in SEC Filings, words
such as "anticipate," "believe," "estimate," "expect," "future," "intend,"
"plan" and similar expressions, as they relate to the Company or the Company's
management, identify forward-looking statements. Such statements reflect the
current views of the Company with respect to future events and are subject to
certain risks, uncertainties and assumptions relating to the Company's
operations and results of operations, competitive factors and pricing
pressures, shifts in market demand, the performance and needs of the
industries served by the Company, the costs of product development and other
risks and uncertainties, including, in addition to any risks and uncertainties
specifically identified in the text surrounding such statements, those risks
discussed in "Risk Factors" below and uncertainties with respect to changes or
developments in social, economic, business, industry, market, legal and
regulatory circumstances and conditions and actions taken or omitted to be
taken by third parties, including the Company's stockholders, customers,
suppliers, business partners, competitors, and legislative, regulatory,
judicial and other governmental authorities and officials. Should one or more
of these risks or uncertainties materialize, or should the underlying
estimates or assumptions prove incorrect, actual results or outcomes may vary
significantly from those anticipated, believed, estimated, expected, intended
or planned.
RISK FACTORS
The Company and its businesses are subject to a number of risks including
those enumerated below. Any or all of such risks could have a material adverse
effect on the business, financial condition, results of operations and
prospects of the Company and on market prices for the Company's Common Stock.
See also "Forward-Looking Information" above.
Competition
The electronic commerce market is very competitive. Numerous companies
supply electronic commerce products and services, and several competitors
target specific customer requirements for which the Company presently is, or
may become, a provider. The Company's competitors include both large companies
with substantially greater resources than the Company and small, specialized
companies that may compete in one or more particular market niches.
Competitors that offer products and/or services that compete with various of
the Company's products and services include, among others, AT&T; Computer
Associates International, Inc.; General Electric Information Services;
Harbinger Corporation; IBM; MCI WorldCom; and Quick Response Services, as well
as the internal programming staffs of various businesses engaging in
electronic commerce.
The Company expects competition to increase in the future from both existing
competitors and other companies that may enter the Company's existing or
future markets. The Company believes that its ability to compete successfully
in the electronic commerce market depends on numerous factors, some of which
are outside its control, including product performance, functionality and
reliability, price and customer service and support. There can be no assurance
that new or established competitors will not offer products and services that
are superior to and/or lower in price than those of the Company. In addition,
the Company could face increased competition as and to the extent the Internet
gains further acceptance as a method of conducting electronic commerce.
Factors Affecting Operating Results; Potential Fluctuations in Quarterly
Results
The Company's future quarterly operating results may vary and reduced levels
of earnings or losses could be experienced in one or more quarters.
Fluctuations in the Company's quarterly operating results could result from a
variety of factors, including changes in the levels of revenue derived from
sales of software products and electronic commerce services, the timing of new
product and service announcements by the Company or its competitors, changes
in pricing policies by the Company or its competitors, changes in accounting
requirements, dictated by regulatory agencies or standards bodies (including
possibly retroactive changes), market acceptance of new and enhanced versions
of the products and services of the Company or its competitors, the size and
timing
23
<PAGE>
of significant orders, changes in operating expenses, changes in the Company's
strategy, the introduction of alternative technologies, the effect of
potential acquisitions and industry and general economic factors.
The Company has limited or no control over many of these factors. In
addition, a somewhat greater portion of the Company's revenues tends to be
recognized in the fourth fiscal quarter as a result of a number of factors,
including the Company's incentive compensation structure for its sales
personnel (under which opportunities to earn higher commissions applicable to
sales in excess of annual quotas and to realize other benefits associated with
the achievement of such quotas are at their greatest during the fourth fiscal
quarter).
The Company operates with virtually no product order backlog because its
software products typically are shipped shortly after orders are received. As
a result, product revenues in any quarter are substantially dependent on the
quantity of such products licensed in that quarter. The Company's expense
levels are based, in part, on its expectations as to future revenues. If
revenue levels are below expectations, the Company's operating results are
likely to be adversely affected unless the Company is willing and able to
reduce its expenses proportionately. As a result of the foregoing factors,
comparisons of results of operations between particular periods are not
necessarily meaningful and historical results of operations are not
necessarily indicative of future performance.
Technological Change; Dependence on New Products and Related Risks
The electronic commerce industry is characterized by rapid technological
change, frequent new product and service introductions and evolving industry
standards. The Company's future success will depend in significant part on its
ability to anticipate and guide industry standards, to continue to apply
advances in electronic commerce product and service technologies, to enhance
existing products and services and to introduce and acquire new products and
services on a timely basis to keep pace with technological developments.
In this regard, there can be no assurance that the Company will be
successful in developing, acquiring or marketing new or enhanced products or
services that respond to technological change or evolving industry standards,
that the Company will not experience difficulties that could delay or prevent
the successful development, acquisition or marketing of such products or
services or that the Company's new or enhanced products and services will
adequately meet the requirements of the marketplace or achieve market
acceptance.
Any delay or failure in the introduction of new or enhanced products or
services, or the failure of such products or services to achieve market
acceptance, could have a material adverse effect on the business, results of
operations and financial condition of the Company.
The introduction and marketing of new or enhanced products and services
requires management of the transition from existing products and services in
order to minimize the disruption in customer purchasing patterns. There can be
no assurance that the Company will successfully manage the transition to new
or enhanced products and services. Further, there can be no assurance that
products, services or technologies developed by others will not render the
Company's products, services or technologies obsolete.
From time to time, the Company or its competitors may announce new products,
services, capabilities or technologies that have the potential to replace or
shorten the life cycle of the Company's existing products and services
offerings. There can be no assurance that announcements of product
enhancements or new product or service offerings will not cause customers to
defer or cancel purchasing existing products and services. Any such deferrals
or cancellations could have a material adverse effect on the Company's
business, results of operations and financial condition.
Software products as complex as those used in the electronic commerce
industry may contain undetected errors or failures when first introduced or
when new versions are released. If software errors are discovered after
introduction, the Company could experience delays or lost revenues during the
period required to correct these errors. There can be no assurance that,
despite testing by the Company and by current and potential customers, errors
will not be found in new products or releases after commencement of commercial
shipments, resulting in
24
<PAGE>
loss of, or delay in, market acceptance, which could have a material adverse
effect on the Company's business, results of operations and financial
condition.
The Company faces certain risks relating to Year 2000 issues. In this
regard, see the information set forth in "Year 2000" above, which is
incorporated herein by reference.
Growth Through Acquisitions
A key element of the Company's growth strategy has been strategic
acquisitions. There can be no assurance that in the future, acquisition
candidates will be found on terms suitable to the Company or that the Company
will have adequate resources to consummate any acquisition. Acquisitions
involve a number of other special risks, including time and expenses
associated with identifying and evaluating acquisitions, the diversion of
management's attention, the difficulty in the integration of acquired products
and services, the difficulty in combining different company cultures and the
potential loss of key employees of the acquired company. In addition, customer
satisfaction or performance problems at a single acquired firm could have a
material adverse effect on the reputation of the Company as a whole.
Acquisitions may also result in potentially dilutive issuances of equity
securities, the incurrence of debt, the write-off of research and development
and capitalized product costs, integration costs and the amortization of
expenses related to goodwill and other intangible assets, all of which could
have a material adverse affect on the results of operations and financial
condition of the Company.
The guidelines and requirements for the accounting of acquisitions,
including those for the pooling of interests method of accounting, the
expensing of certain costs and the write-down of certain assets, from time to
time are being changed or under consideration for change by various regulatory
agencies and standards bodies. Those changes and the related uncertainties
could make acquisitions less beneficial or attractive to the Company and could
impact the Company's ability to make future acquisitions.
International Growth and Marketing
Prior to June 1997, Sterling Software acted as the exclusive distributor of
certain of the Company's products outside the United States and Canada
pursuant to the International Marketing Agreement. In June 1997, the Company
and Sterling Software terminated the International Marketing Agreement.
Concurrently therewith, the Company acquired certain assets and assumed
certain liabilities associated with the distribution of its products, and the
Company hired certain Sterling Software employees, most of whom had been
dedicated to the sales and marketing of those products. The Company's ability
to maintain and expand this business and its services business internationally
will depend upon, among other things, its ability to attract and retain both
talented and qualified managerial, technical and sales personnel and
electronic commerce services customers outside the United States and Canada
and its ability to continue to effectively manage its domestic operations
while focusing on international expansion. Moreover, the Company's ability to
successfully implement its international strategy will require additional
improvements to its infrastructure and management information systems, and
particularly to its international customer support systems.
International operations are subject to certain inherent risks, including
unexpected changes in regulatory requirements and tariffs, local political and
economic developments, difficulties in staffing and managing foreign
operations, exchange controls, expropriation, longer payment cycles, increased
difficulties in collecting accounts receivable, changes in foreign currency
exchange rates and potentially adverse tax consequences.
To the extent international sales are denominated in foreign currencies,
fluctuations in the exchange rates between the U.S. dollar and applicable
international currencies may contribute to fluctuations in the Company's
results of operations. The Company has in the past, on a limited basis,
entered into hedging arrangements for the purpose of reducing the risk of
currency fluctuations. In addition, sales in Europe and certain other parts of
the world typically are adversely affected in the third calendar quarter of
each year because many customers reduce their business activities in the
summer months.
25
<PAGE>
The assets and liabilities of the Company's foreign operations are
translated into U.S. dollars at exchange rates in effect as of the respective
balance sheet dates, and revenue and expense accounts of these operations are
translated at average exchange rates during the month the transactions occur.
Unrealized translation gains and losses are included as an adjustment to
retained earnings.
In the event of any dispute arising from international operations, the
Company may be subject to the exclusive jurisdiction of foreign courts and may
not be successful in subjecting foreign persons or entities to the
jurisdiction of the courts in the United States. The Company may also be
hindered in or prevented from enforcing its rights with respect to foreign
governments because of the doctrine of sovereign immunity. There can be no
assurance that the laws, regulations or administrative practices of foreign
countries relating to the Company's ability to do business in that country
will not change. Any such change could have a material adverse affect on the
business, results of operations and financial condition of the Company.
The Company faces certain risks relating to the adoption of the Euro as a
new currency in Europe. In this regard, see the information set forth in "New
European Currency" above. Such information is incorporated herein by
reference.
Ability to Attract Qualified Personnel
The Company's business is dependent upon its ability to attract and retain
highly qualified managerial, technical and sales personnel. Competition for
such personnel is intense. There can be no assurance that the Company can
retain its key managerial, technical and sales personnel or that it can
attract, assimilate or retain such personnel in the future. The inability of
the Company to attract and retain such personnel could have a material adverse
effect on the business, results of operations and financial condition of the
Company.
Dependence on Data Center
The operations of the Company's Commerce Services Group are dependent upon
the Company's ability to protect its computer equipment and the information
stored in its data center against damage that may be caused by fire, power
loss, telecommunications failures, unauthorized intrusion, computer viruses
and disabling devices and other similar events. The data center is located in
a single facility in Columbus, Ohio and the Company has no present intention
of establishing an additional data center in a separate location.
The Company is party to a disaster recovery agreement that provides
alternative off-site computer systems for use in such disastrous events. In
addition, the Company has taken precautions to protect itself and its
customers from events that could interrupt delivery of certain of the
Company's electronic commerce services. These precautions include, among
others, backup power generation equipment, fire protection and physical
security systems and an early warning detection and fire extinguishing system.
Notwithstanding such precautions, there can be no assurance that a fire or
other natural disaster, including national, regional or local
telecommunications disruptions, would not result in a prolonged disruption of
the Company's electronic commerce services.
The Company is currently covered under a business interruption insurance
policy. However, even if lost revenues or increased costs experienced by the
Company during the pendency of any disruption of its services business were
substantially recovered under any such insurance policy (as to which,
depending upon the circumstances, there can be no assurance), longer term
revenue losses not recoverable under such policies could result from possible
losses of customers and, consequently, could have a material adverse effect on
the business, results of operations and financial condition of the Company.
The Company faces certain risks relating to Year 2000 issues. In this
regard, see information set forth in "Year 2000" above. Such information is
incorporated herein by reference.
Limited Protection of Proprietary Rights; Risks of Infringement and Loss of
Licenses
Despite the Company's efforts to protect its proprietary rights,
unauthorized parties may attempt to copy aspects of the Company's products or
to obtain and use information that the Company regards as proprietary
26
<PAGE>
through reverse engineering or otherwise. There can be no assurance that the
Company's means of protecting its proprietary rights will be adequate or that
the Company's competitors will not independently develop similar technology.
In addition, the laws of some foreign countries do not protect the Company's
proprietary rights to the same extent as the laws of the United States.
However, the Company believes that, due to the rapid pace of innovation within
the electronic commerce industry, factors such as the technological and
creative skills of its personnel are more important in establishing and
maintaining a leadership position within this industry than are the various
legal protections afforded its proprietary rights.
The Company does not believe that any of its products or services infringe
the valid proprietary rights of third parties in any material respect.
However, a large number of patents, trademarks and copyrights have been, and
are being, issued, registered or asserted in the software and electronic
commerce industries. There can be no assurance that the Company is aware of
all such intellectual property rights that may pose a risk of infringement by
the Company's products or services, especially with respect to United States
patents which can cover extremely broad concepts and the applications for
which are confidential until the patents are issued.
The Company from time to time has received communications from third parties
alleging that the Company is infringing intellectual property rights. There
can be no assurance that third parties will not assert infringement claims in
the future or that the Company would prevail in any litigation to enjoin the
Company from offering affected products or services or be able to obtain a
license with respect to such rights on terms acceptable to the Company. Such
events could have a material adverse effect on the business, results of
operations and financial condition of the Company.
Licenses for a number of third-party software products have been granted to
the Company for its own use or for remarketing to its customers. In the
aggregate, these licenses are material to the business of the Company.
Although management believes that the risk that the Company will lose a
significant number of licenses is remote, such a loss could have a material
adverse effect on the business, results of operations and financial condition
of the Company.
Government Regulatory and Industrial Policy Risks
Current United States and Canadian regulations and laws governing the
telecommunications industry generally do not apply to providers of electronic
commerce services and products. Except for government regulations in certain
foreign countries (which may affect the provision of certain of the Company's
services or use of certain of its products) and regulations governing the
ability of the Company to disclose the contents of communications by its
customers, there are no government regulations pertaining to the pricing,
service characteristics or capabilities, geographic distribution or quality
control features of the Company's electronic commerce services or products.
There exists, however, the risk that governmental policies affecting the
electronic commerce industry could be implemented by executive order,
legislation, administrative order or otherwise. If such policies are adopted,
they could have a material adverse effect on the business, results of
operations and financial condition of the Company.
Although the Company does not believe that import and export control
regulations currently create significant impediments to the Company's
international growth strategy, such regulations are applicable to certain of
the Company's software products, and could interfere with such growth in the
future.
Certain Anti-takeover Provisions
Certain provisions of the Company's certificate of incorporation and bylaws
and the Delaware General Corporation Law may have the effect of delaying,
deterring or preventing a change in control of the Company.
The Company is also a party to the Rights Agreement, dated as of December
18, 1996 (the "Rights Agreement"), between the Company and The First National
Bank of Boston, as rights agent. The Rights Agreement could also delay, deter
or prevent a change in control of the Company.
27
<PAGE>
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
INTEREST RATE RISK
The Company's exposure to market risk for changes in interest rates relates
primarily to the Company's investment portfolio of cash equivalents and
marketable securities. The Company does not use derivative financial
instruments in its investment portfolio. The stated objectives of the
Company's investment guidelines are: safety of principal; liquidity;
maximization of yield; and diversification of risk. The Company places its
investments with high credit quality issuers, principally states of the United
States, political subdivisions of the states and corporate debt issuers, and
limits the amount of credit exposure to any one issuer. The marketable
securities portfolio includes only those securities with active secondary or
resale markets to ensure portfolio liquidity. In any event, a substantial
reduction in overall interest rates could significantly reduce the Company's
interest income.
The table below presents principal amounts and related weighted average
interest rates by date of maturity for the Company's investment portfolio.
Weighted average interest rates include the after-tax yield on debt securities
of states of the United States and political subdivisions of the states. The
total investment portfolio has an effective maturity of less than 180 days.
<TABLE>
<CAPTION>
MATURITY
(IN THOUSANDS, EXCEPT PERCENTAGES)
-------------------------------------
FAIR VALUE AT
1999 2000 TOTAL SEPTEMBER 30, 1998
----------- ----------- ------------ ------------------
<S> <C> <C> <C> <C>
Cash equivalents........ $ 355,779 $ 355,779 $354,948
Average interest
rate................. 5.45% 5.45%
Commercial paper........ 52,650 52,650 51,972
Average interest
rate................. 5.64% 5.64%
Debt securities......... 118,223 $ 12,658 130,881 131,479
Average interest
rate................. 5.90% 6.11% 5.92%
Total investment portfo-
lio.................... $ 526,652 $ 12,658 $ 539,310 $538,399
Average interest
rate................. 5.57% 6.11% 5.58%
</TABLE>
FOREIGN CURRENCY RISK
The Company conducts business in various foreign currencies, primarily in
Canada and Europe and to a lesser extent in Australia, Japan and other Asian
countries. The Company monitors its foreign currency exposure and, from time
to time, will attempt to reduce its exposure through hedging. As of September
30, 1998, the Company has no foreign currency hedges outstanding. The Company
has mitigated, and expects to continue to mitigate, a portion of its currency
exposure through decentralized sales, marketing and support operations in
which all costs are local currency based.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
STERLING COMMERCE, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Ernst & Young LLP, Independent Auditors......................... 29
Consolidated Financial Statements:
Consolidated Balance Sheets at September 30, 1998 and 1997.............. 30
Consolidated Statements of Operations for the Years Ended September 30,
1998, 1997 and 1996.................................................... 31
Consolidated Statements of Stockholders' Equity for the Years Ended Sep-
tember 30, 1998, 1997 and 1996......................................... 32
Consolidated Statements of Cash Flows for the Years Ended September 30,
1998, 1997 and 1996.................................................... 33
Notes to Consolidated Financial Statements.............................. 34
</TABLE>
28
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Sterling Commerce, Inc.
We have audited the accompanying consolidated balance sheets of Sterling
Commerce, Inc. (the "Company") as of September 30, 1998 and 1997, and the
related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended September 30, 1998. Our
audit also included the financial statement schedule listed under Item 14(a)
of the Company's Annual Report on Form 10-K for the year ended September 30,
1998. These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Sterling Commerce, Inc. at September 30, 1998 and 1997, and the
consolidated results of its operations and its cash flows for each of the
three years in the period ended September 30, 1998 in conformity with
generally accepted accounting principles. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic
financial statements taken as a whole, presents fairly in all material
respects the information set forth therein.
Ernst & Young LLP
Dallas, Texas
November 17, 1998
29
<PAGE>
STERLING COMMERCE, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1998 AND 1997
(IN THOUSANDS, EXCEPT SHARE INFORMATION)
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
ASSETS
------
Current assets:
Cash and cash equivalents.................................. $354,948 $250,348
Marketable securities...................................... 183,451 234,314
Accounts and notes receivable, net......................... 151,256 103,692
Deferred income taxes...................................... 11,627 10,431
Prepaid expenses and other current assets.................. 18,013 16,332
-------- --------
Total current assets..................................... 719,295 615,117
Property and equipment, net.................................. 74,391 59,723
Computer software, net of accumulated amortization of $62,257
in 1998 and $51,306 in 1997................................. 91,409 48,163
Excess cost over net assets acquired, net of accumulated am-
ortization of $2,339 in 1998 and $4,212 in 1997............. 63,382 17,156
Other assets................................................. 18,527 8,407
-------- --------
$967,004 $748,566
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable and accrued liabilities................... $ 90,599 $ 57,397
Income taxes payable....................................... 7,992 5,919
Deferred revenue........................................... 75,590 60,000
-------- --------
Total current liabilities................................ 174,181 123,316
Deferred income taxes........................................ 30,335 13,592
Other noncurrent liabilities................................. 14,573 10,796
Contingencies and commitments
Stockholders' equity:
Preferred stock $.01 par value, 50,000,000 shares autho-
rized; no shares issued and outstanding...................
Common stock $.01 par value, 150,000,000 shares authorized;
94,511,000 and 89,644,000 shares issued and outstanding in
1998 and 1997, respectively............................... 945 896
Additional paid-in capital................................. 714,156 505,855
Retained earnings.......................................... 32,814 94,111
-------- --------
Total stockholders' equity............................... 747,915 600,862
-------- --------
$967,004 $748,566
======== ========
</TABLE>
See accompanying notes.
30
<PAGE>
STERLING COMMERCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
(IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Revenue:
Products........................................ $191,380 $110,634 $ 80,963
Product support................................. 101,005 71,316 56,229
Services........................................ 197,917 151,889 109,833
Royalties from Sterling Software................ 16,758 20,748
-------- -------- --------
490,302 350,597 267,773
Costs and expenses:
Cost of sales:
Products and product support.................. 41,842 34,217 27,447
Services...................................... 54,319 36,398 26,971
-------- -------- --------
96,161 70,615 54,418
Product development and enhancement expenses.... 29,717 24,853 15,553
Selling, general and administrative expenses.... 201,689 134,849 102,597
Purchased research and development.............. 116,460 31,879
Reorganization and unusual costs................ 67,436 15,810
-------- -------- --------
511,463 278,006 172,568
Income (loss) before other income and income tax-
es............................................... (21,161) 72,591 95,205
Other income...................................... 24,152 16,693 1,217
-------- -------- --------
Income before income taxes........................ 2,991 89,284 96,422
Provision for income taxes........................ 64,147 33,840 38,030
-------- -------- --------
Net income (loss)................................. $(61,156) $ 55,444 $ 58,392
======== ======== ========
Income (loss) per common share:
Basic........................................... $ (0.67) $ 0.66 $ 0.79
======== ======== ========
Diluted......................................... $ (0.67) $ 0.64 $ 0.77
======== ======== ========
</TABLE>
See accompanying notes.
31
<PAGE>
STERLING COMMERCE, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK
------------------- ADDITIONAL STOCKHOLDERS' TOTAL
NUMBER OF PAID-IN RETAINED NET STOCKHOLDERS'
SHARES PAR VALUE CAPITAL EARNINGS INVESTMENT EQUITY
--------- --------- ---------- -------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balance at September 30,
1995................... $ 53,187 $ 53,187
Formation
transactions......... 73,200 $732 $ 53,871 (54,603)
Issuance of common
stock for cash....... 1,800 18 40,100 40,118
Net cash distributed
to Sterling
Software............. (17,819) (17,819)
Net income............ $ 39,157 19,235 58,392
Other................. 4,140 169 4,309
------ ---- -------- -------- -------- --------
Balance at September 30,
1996................... 75,000 750 98,111 39,326 138,187
Issuance of common
stock for cash....... 14,375 144 400,001 400,145
Issuance of common
stock for
acquisitions......... 194 2 4,998 5,000
Issuance of common
stock pursuant to
stock options
including tax benefit
of $1,200............ 75 3,000 3,000
Net income............ 55,444 55,444
Other................. (255) (659) (914)
------ ---- -------- -------- -------- --------
Balance at September 30,
1997................... 89,644 896 505,855 94,111 600,862
Issuance of common
stock and stock
options for
acquisitions......... 2,442 24 140,987 141,011
Issuance of common
stock pursuant to
Employee Stock
Purchase Plan
including tax benefit
of $75............... 77 1 3,775 3,776
Issuance of common
stock pursuant to
stock options
including tax benefit
of $9,871............ 2,348 24 63,633 63,657
Net loss.............. (61,156) (61,156)
Other................. (94) (141) (235)
------ ---- -------- -------- -------- --------
Balance at September 30,
1998................... 94,511 $945 $714,156 $ 32,814 $747,915
====== ==== ======== ======== ======== ========
</TABLE>
See accompanying notes.
32
<PAGE>
STERLING COMMERCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income (loss).............................. $ (61,156) $ 55,444 $ 58,392
Adjustments to reconcile net income (loss) to
net cash provided by
operating activities:
Depreciation and amortization................. 40,718 30,214 21,943
Provision for losses on accounts receivable... 8,952 3,567 1,068
Provision for (benefit of) deferred income
taxes........................................ 1,481 (15,586) 5,762
Purchased research and development............ 116,460 31,879
Noncash reorganization and unusual costs...... 36,192
Changes in operating assets and liabilities,
net of effects of business acquisitions:
Accounts and notes receivable................ (47,073) (45,885) (13,149)
Amounts due from Sterling Software........... 35,134 (35,134)
Prepaid expenses and other assets............ (11,527) (13,917) (3,135)
Accounts payable, accrued liabilities and in-
come taxes payable.......................... 14,371 20,877 12,710
Deferred revenue............................. 7,823 17,067 7,598
Other........................................ 2,709 3,273 1,235
--------- --------- --------
Net cash provided by operating activities... 108,950 122,067 57,290
INVESTING ACTIVITIES:
Purchases of property and equipment........... (46,454) (32,148) (26,573)
Purchases and capitalized cost of development
of computer software......................... (19,320) (13,855) (12,016)
Business acquisitions, net of cash acquired... (56,637) (38,320) (185)
Purchases of investments...................... (257,730) (313,460) (21,203)
Sales of investments.......................... 308,593 100,349
--------- --------- --------
Net cash used in investing activities....... (71,548) (297,434) (59,977)
FINANCING ACTIVITIES:
Issuance of common stock...................... 67,433 401,945 40,118
Net cash distributed to Sterling Software..... (17,819)
Other......................................... (235) 286 3,477
--------- --------- --------
Net cash provided by financing activities... 67,198 402,231 25,776
Increase in cash and cash equivalents.......... 104,600 226,864 23,089
--------- --------- --------
Cash and cash equivalents at beginning of
year.......................................... 250,348 23,484 395
--------- --------- --------
Cash and cash equivalents at end of year....... $ 354,948 $ 250,348 $ 23,484
========= ========= ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Income taxes paid............................ $ 51,216 $ 49,278 $ 32,268
========= ========= ========
</TABLE>
See accompanying notes.
33
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1998, 1997 AND 1996
1. GENERAL INFORMATION
General
Sterling Commerce, Inc. (together with its predecessors and subsidiaries,
the "Company") is a provider of electronic commerce ("EC") products, services
and solutions worldwide. The Company develops, markets and supports electronic
commerce software products, and provides electronic commerce services, that
enable businesses to engage in business-to-business electronic communications
and transactions. The Company has been providing electronic commerce solutions
for over 20 years and has numerous customers in many industries such as
banking, healthcare, manufacturing, pharmaceuticals, retailing,
telecommunications and transportation.
The Company was incorporated in December 1995 as a wholly owned subsidiary
of Sterling Software, Inc. ("Sterling Software"). The Company completed its
initial public offering (the "Offering") on March 13, 1996. Pursuant to the
Offering, the Company sold to the public 1,800,000 previously unissued shares
of common stock, $0.01 par value, of the Company ("Common Stock") and Sterling
Software sold to the public 12,000,000 of the 73,200,000 shares of the
Company's Common Stock then owned by it.
In contemplation of the Offering, among other things: (1) Sterling Software
caused to be transferred to the Company certain assets relating to the
electronic commerce business previously conducted by Sterling Software and (2)
the Company entered into contractual arrangements with Sterling Software
related to, among other things, tax allocation, indemnification and
international marketing. See Note 3--Agreements with Sterling Software.
On September 23, 1996, the Board of Directors of Sterling Software declared
a special dividend consisting of the distribution (the "Distribution") of all
shares of Common Stock held by Sterling Software on September 30, 1996,
payable pro rata to the holders of record of Sterling Software's common stock,
$0.10 par value, as of the close of business on such date. As a result,
effective September 30, 1996, the Company ceased to be a subsidiary of
Sterling Software.
2. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The Company's consolidated financial statements for the year ended September
30, 1996 have been prepared using Sterling Software's historical basis in the
assets and liabilities of its Electronic Commerce Group, including goodwill
and other intangible assets recognized by Sterling Software in the original
acquisition of certain businesses conducted by the Company. The Company's
consolidated financial statements include the accounts and transactions of the
Company together with its subsidiaries. All significant intercompany accounts
among the Company and its consolidated subsidiaries have been eliminated.
Certain amounts for periods ended prior to September 30, 1998 have been
reclassified to conform to the current year presentation. The financial
statements have been prepared in conformity with generally accepted accounting
principles which require management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingencies at September 30, 1998 and 1997 and the results of operations for
the years ended September 30, 1998, 1997 and 1996. While management has based
its assumptions and estimates on the facts and circumstances currently known,
final amounts may differ from such estimates.
The Company's consolidated financial statements for the year ended September
30, 1996 reflect the results of operations and cash flows of the Company as a
component or subsidiary of Sterling Software and may not be indicative of
actual results of operations and financial position of the Company which may
have been obtained under other ownership. Management believes that the
consolidated income statements include a reasonable allocation of the
incremental administrative costs previously incurred by Sterling Software,
including executive
34
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
compensation and the related costs of a corporate staff function. The
allocation of such costs were approximately $875,000 for the first quarter of
1996 and represents management's estimate of the costs that would have been
incurred had the Company operated independently of Sterling Software.
Subsequent to the first quarter of 1996, these incremental administrative
costs were incurred directly by the Company and therefore no further
allocations of such costs were made by Sterling Software.
Revenue
Revenue from license fees for software products is recognized when the
software is delivered, provided no significant future vendor obligations exist
and collection is probable. If software product transactions include the right
to receive future products, a portion of the software product revenue is
deferred and recognized as such products are delivered. Services revenue and
revenue from products involving installation or other services are recognized
as the services are performed. Services revenue earned but not invoiced at the
end of a month is recognized as revenue in such month and recorded as unbilled
accounts receivable until invoiced in the following month. Royalties from
Sterling Software represent royalties earned from Sterling Software and
certain of its subsidiaries acting as distributors of certain of the Company's
products outside of the United States and Canada.
Product support contracts generally entitle the customer to telephone
support, bug fixing and the right to receive software updates as they are
released. Revenue from product support contracts, including product support
included in initial license fees, is recognized ratably over the contract
period. All significant costs and expenses associated with product support
contracts are expensed as incurred, which approximates ratable expenses over
the contract period.
When products, product support and services are billed prior to the time the
related revenue is recognized, deferred revenue is recorded and related costs
paid in advance are deferred.
Software Development Costs
The Company capitalizes the costs of developing and testing new or
significantly enhanced software products in accordance with the provisions of
Statement of Financial Accounting Standards No. 86, "Accounting for the Costs
of Computer Software to be Sold, Leased or Otherwise Marketed" ("FAS 86").
Unamortized software development costs of $38,967,000 and $34,095,000 are
included in "Computer software, net" at September 30, 1998 and 1997,
respectively. Pursuant to FAS 86, costs are capitalized when technological
feasibility of the product is established. Technological feasibility is
established either upon the completion of a detailed program design or the
completion of a working model. The establishment of technological feasibility
and the ongoing assessment of recoverability of capitalized software
development costs require judgment by management with respect to certain
external factors, including, but not limited to, anticipated future revenues,
estimated economic life and changes in software and hardware technologies.
Software development capitalized costs include, among other things,
programmers' salaries and benefits, outside contractor costs, computer time
and allocated facilities costs.
Depreciation and Amortization
Property and equipment are recorded at cost and depreciated using the
straight-line method over average useful lives of three to fifteen years.
Capitalized computer software costs are amortized on a product-by-product
basis using the greater of the amount determined by taking the ratio of
current year net revenue to estimated future net revenue or the straight-line
method over periods ranging from two to five years. Leasehold improvements are
amortized over the term of the lease. Excess costs over the net assets of
businesses acquired
35
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
are amortized on a straight-line basis over periods of seven to forty years.
Other intangible assets are amortized on a straight-line basis over periods of
three to ten years.
Depreciation and amortization consists of the following for the years ended
September 30, 1998, 1997 and 1996 (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Property and equipment............................. $22,022 $16,617 $10,817
Purchased computer software........................ 3,122 1,720 1,412
Capitalized computer software development costs.... 11,535 10,252 8,463
Excess costs over net assets of businesses ac-
quired............................................ 2,194 830 427
Intangible assets.................................. 1,845 795 824
------- ------- -------
$40,718 $30,214 $21,943
======= ======= =======
</TABLE>
Income Taxes
The Company computes its provision for income taxes in accordance with
Statement of Financial Accounting Standards No. 109 "Accounting for Income
Taxes" ("FAS 109"), which requires the use of the asset and liability method
of accounting for income taxes. Under the asset and liability method, a
deferred tax asset or liability is recognized for estimated future tax effects
attributable to temporary differences and carryforwards. The measurement of
deferred income tax assets is adjusted by a valuation allowance, if necessary,
to recognize future tax benefit only to the extent, based on available
evidence, it is more likely than not it will be realized. The effect on
deferred taxes of a change in income tax rates is recognized in the period
that includes the enactment date.
Through September 30, 1996, income from the Company's operations was
included in consolidated income tax returns filed by Sterling Software as part
of its corporate group. The Company has entered into a tax allocation
agreement with Sterling Software covering the reporting periods through
September 30, 1996. Income tax expense in the accompanying financial
statements for periods prior to October 1, 1996, has been computed assuming
the Company filed returns separately from Sterling Software.
Stock Options
The Company has elected to follow Accounting Principles Board Opinion No. 25
"Accounting for Stock Issued to Employees" ("APB 25") in accounting for its
employee stock options and stock based awards. Under APB 25, if the exercise
price of an employee stock option equals or exceeds the market price of the
underlying stock on the date of grant, no compensation expense is recognized.
Earnings Per Share
In 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards No. 128 "Earnings per Share" ("FAS 128").
FAS 128 replaced the previously reported primary and fully diluted earnings
per share with basic and diluted earnings per share. Unlike primary earnings
per share, basic earnings per share excludes any dilutive effects of options,
warrants and convertible securities. Diluted earnings per share is very
similar to the previously reported fully diluted earnings per share. The
Company adopted FAS 128 in 1998, and earnings per share amounts for all prior
year periods presented have been restated to conform with the requirements of
FAS 128.
36
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The following table sets forth the computation of basic and diluted earnings
per share (in thousands, except per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
1998 1997 1996 (2)
------------- ------------- -------------
<S> <C> <C> <C>
Basic:
Net income (loss)................... $(61,156) $55,444 $58,392
======== ======= =======
Weighted average common shares out-
standing........................... 91,307 83,561 74,233
======== ======= =======
Per share amount.................... $ (0.67) $ .66 $ .79
======== ======= =======
Diluted:
Net income (loss)................... $(61,156) $55,444 $58,392
======== ======= =======
Weighted average common shares out-
standing........................... 91,307 83,561 74,233
Net effect of dilutive stock options
(1)................................ 3,254 1,242
-------- ------- -------
Total............................... 91,307 86,815 75,475
======== ======= =======
Per share amount.................... $ (0.67) $ .64 $ .77
======== ======= =======
</TABLE>
- --------
(1) In connection with the computation of the loss per share for the year
ended September 30, 1998, all otherwise dilutive stock options have been
excluded because the impact on the Company's net loss per share is anti-
dilutive. In the absence of this net loss, 3,839,000 additional shares
related to dilutive stock options would be included in the computation of
diluted earnings per share. Also, 429,000, 265,000 and 3,000
anti-dilutive stock options are excluded from the calculation in the
years 1998, 1997 and 1996, respectively.
(2) Weighted average common shares outstanding for the year ended September
30, 1996 were calculated as though there were 73,200,000 shares
outstanding during the entire period, together with the weighted average
of the additional 1,800,000 shares issued in the Offering.
Foreign Currency Translation
The assets and liabilities of consolidated non-U.S. operations are
translated into U.S. dollars at exchange rates in effect as of the respective
balance sheet dates. Revenue and expense accounts of those operations are
translated at average exchange rates prevailing during the period the
transactions occur. Unrealized translation gains and losses are included as an
adjustment to retained earnings.
Cash and Cash Equivalents
Cash and cash equivalents consist primarily of highly liquid investments in
investment-grade commercial paper of various issuers, with maturities of three
months or less when purchased. Cash and cash equivalents are recorded at their
fair value.
Marketable Securities
The Company invests excess cash in a diversified portfolio consisting of a
variety of securities, including commercial paper, corporate debt securities
and debt securities issued by states of the United States and political
subdivisions of the states. The fair values for marketable securities are
based on quoted market prices.
All marketable securities are classified as available-for-sale securities.
Unrealized holding gains and losses on securities available-for-sale are
recorded as a component of stockholders' equity, net of any related tax
effect. The amortized cost of debt securities in this category is adjusted for
amortization of premiums and accretion of
37
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
discounts to maturity. Such amortization is included in investment income.
Realized gains and losses and declines in values judged to be other-than-
temporary are included in investment income.
Excess Cost Over Net Assets Acquired
Excess cost over net assets acquired is amortized on a straight-line basis
over periods of seven to 40 years. The carrying amount of such costs which are
not associated with other assets acquired in a purchase business combination
is reassessed by management if facts and circumstances suggest that such
amount may be impaired. If such assessment indicates that the costs will not
be recoverable, as determined based on the estimated discounted future cash
flows of the business acquired over the remaining amortization period, the
carrying amount is reduced by the estimated shortfall of cash flows. The
carrying amount of costs associated with other assets acquired in a purchase
business combination is included in impairment evaluations when events or
circumstances exist that indicate the carrying amount of those assets may not
be recoverable.
Recent Pronouncements
There have been recent pronouncements by the FASB and the American Institute
of Certified Public Accountants ("AICPA") that may require certain changes in
accounting policies of the Company and which may also affect disclosure
requirements. These recent pronouncements do not affect the current year's
accounting or reporting requirements and are mentioned here for informational
purposes only.
FAS No. 130: "Reporting Comprehensive Income." FAS 130 establishes standards
for reporting and display of comprehensive income and its components in a full
set of general-purpose financial statements. FAS 130 will be effective for the
Company's fiscal year beginning October 1, 1998. The adoption of FAS 130 will
require additional disclosure in the Company's financial statements but will
not have any impact on the financial position or results of operations of the
Company.
FAS No. 131: "Disclosures about Segments of an Enterprise and Related
Information." FAS 131 establishes standards for the way that public business
enterprises report information about operating segments in annual financial
statements and requires that those enterprises report selected information
about operating segments in interim financial reports issued to stockholders.
It also establishes standards for related disclosures about products and
services, geographic areas and major customers. FAS 131 will be effective for
financial statements for the Company's fiscal year beginning October 1, 1998.
The adoption of FAS 131 will require additional disclosure in the Company's
financial statements but will not have any impact on the financial position or
results of operations of the Company.
FAS No. 133: "Accounting for Derivative Instruments and Hedging
Activities." FAS 133 requires companies to record derivatives on the balance
sheet as assets or liabilities, measured at fair value. Gains or losses
resulting from changes in the values of those derivatives would be accounted
for depending on the use of the derivative and whether it qualifies for hedge
accounting. FAS 133 is effective for fiscal quarters of fiscal years beginning
after June 15, 1999. The adoption of FAS 133 is not expected to have a
material impact on the financial position or results of operations of the
Company.
SOP 97-2: "Software Revenue Recognition." SOP 97-2 is effective for
transactions entered into by the Company in the Company's fiscal year
beginning October 1, 1998. In March 1998, the AICPA issued SOP 98-4 which
defers certain provisions of SOP 97-2 for one year (until fiscal years
beginning after December 15, 1998). Detailed implementation guidelines for the
provisions of SOP 97-2 which were deferred have not been issued. The Company's
accounting policy on software revenue recognition is generally in compliance
with SOP 97-2, as amended by SOP 98-4, and adoption of these SOP's, as
currently issued, is not expected to have a material impact on the financial
position or results of operations of the Company.
38
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
SOP 98-1: "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use." SOP 98-1 requires companies to capitalize
qualifying computer software costs which are incurred during the application
development stage and amortize them over the software's estimated useful life.
SOP 98-1 will be effective for the Company's fiscal year beginning October 1,
1999. The adoption of SOP 98-1 is not expected to have a material impact on
the financial position or results of operations of the Company.
3. AGREEMENTS WITH STERLING SOFTWARE
As a result of Sterling Software's ownership interest in the Company, the
terms of the agreements entered into by the Company and Sterling Software in
contemplation of the Offering were not the result of arm's-length negotiation.
Two such agreements were the tax allocation agreement and the indemnification
agreement. The tax allocation agreement states that for periods during which
the Company and/or its subsidiaries are included in Sterling Software's
consolidated federal income tax returns or consolidated, combined or unitary
state tax returns (which periods included the period between the Offering and
the Distribution), the Company is required to pay to or is entitled to receive
from Sterling Software its allocable portion of the consolidated federal and
state income tax liability or refunds, respectively. The indemnification
agreement provides that the Company will indemnify Sterling Software and its
directors, officers, employees, agents and representatives for any liabilities
resulting from or arising out of certain acts, failures to act or the
provision of incorrect factual information by the Company in connection with
the Internal Revenue Service ruling request that would cause the Distribution
to be taxable to Sterling Software or its stockholders. The indemnification
agreement also provides that each party will indemnify the other party for
certain other liabilities, including those relating to the business,
operations or assets conducted or owned by the indemnifying party.
Certain costs and expenses were initially incurred by Sterling Software on
behalf of the Company and charged to the Company. An analysis of significant
items (other than the expense allocations discussed in Note 2 under "Basis of
Presentation," tax allocations and the early termination payment discussed
below in Note 4 under "1997 Reorganization and Unusual Costs" follows (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
------------------------
1998 1997 1996
------- ------- --------
<S> <C> <C> <C>
Summary of expenses:
Legal, accounting and professional fees.......... $ 261 $ 153 $ 1,139
Payroll related.................................. 844 3,557 7,691
Occupancy........................................ 1,179 1,558 1,695
Miscellaneous.................................... 1,170 1,163 534
------- ------- --------
$ 3,454 $ 6,431 $ 11,059
======= ======= ========
</TABLE>
4. BUSINESS COMBINATIONS AND REORGANIZATIONS
1998 Business Combinations
On July 21 1998, the Company completed the acquisition of all of the issued
and outstanding stock of XcelleNet, Inc. ("XcelleNet"), an Atlanta, Georgia
based provider of remote systems management software products and services.
The Company's consolidated statements of operations reflect the results of
operations of XcelleNet from the date of the acquisition. The aggregate
purchase price paid was approximately $224,000,000, consisting of
approximately $83,000,000 of cash, approximately 2,442,000 shares of newly
issued Common Stock and options to purchase approximately 1,287,000 shares of
Common Stock to replace outstanding options to purchase XcelleNet stock held
by XcelleNet employees and directors.
39
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The components of the aggregate purchase price were as follows (in
thousands):
<TABLE>
<S> <C>
Common Stock and options to purchase Common Stock................ $141,011
Cash paid to XcelleNet Stockholders.............................. 74,151
Other direct costs of acquisition................................ 9,036
--------
$224,198
========
</TABLE>
Other direct costs of acquisition include employee termination costs,
transaction costs, costs associated with the elimination of excess facilities
and other direct costs.
The XcelleNet acquisition has been accounted for in accordance with the
purchase method of accounting. The purchase price has been allocated to
identifiable tangible and intangible assets acquired and liabilities assumed
based on their estimated fair values as follows:
<TABLE>
<S> <C>
Working capital.................................................. $ 22,239
Developed software and core technology........................... 49,751
Property and equipment........................................... 3,560
Other assets..................................................... 2,564
Deferred tax liabilities......................................... (14,066)
Other liabilities................................................ (1,206)
Purchased research and development............................... 114,650
Excess cost over net assets acquired............................. 46,706
--------
$224,198
========
</TABLE>
The estimates of fair value were determined by the Company's management
based on information furnished by the management of XcelleNet and an
independent valuation of developed software, core technology and purchased
research and development. The excess of cost over net assets acquired is being
amortized on a straight-line basis over ten years. Amounts allocated to
purchased research and development were expensed at the time of acquisition as
the Company determined that the purchased research and development had not
reached technological feasibility based on the status of design and
development activities that required further refinement and testing. The
development activities required to complete the acquired in-process
technologies include additional coding, cross-platform porting and validation,
quality assurance procedures and beta testing.
To determine the fair market value of the developed software, core
technology and in-process research and development, the Company considered the
three traditional approaches of value: the cost approach, the market approach
and the income approach. The Company relied primarily on the income approach,
whereupon fair market value is a function of the future revenues expected to
be generated by an asset, net of all allocable expenses. The income approach
focuses on the income producing capability of the developed software, core
technology and purchased research and development projects and best represents
the present value of the future economic benefits expected to be derived. In
determining the amount of the purchase price to allocate to purchased research
and development, factors such as stage of completion and technological
uncertainties were considered by the Company and its independent appraiser in
determining the present value of the future benefits to be received. If these
projects are not successfully developed, the Company may not realize the value
assigned to the purchased research and development.
The following unaudited pro forma information presents the Company's results
of operations as if the XcelleNet acquisition had occurred at October 1, 1996.
The pro forma information has been prepared by combining the results of
operations of the Company and XcelleNet for the years ended September 30, 1998
and
40
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
1997, adjusted for additional amortization expense of developed software, core
technology and excess cost over net assets acquired and the resulting impact
on the provision for income taxes. This pro forma information does not purport
to be indicative of what would have occurred had the XcelleNet acquisition
occurred as of that date or of results of operations which may occur in the
future (in thousands, except per share data):
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
(UNAUDITED)
------------------------
1998 1997
----------- -----------
<S> <C> <C>
Revenue........................................... $ 534,173 $ 401,884
Income (loss) before other income and income tax-
es............................................... $ (54,682) $ 59,920
Net income (loss)................................. $ (83,435) $ 46,258
Income (loss) per common share:
Basic........................................... $ (0.89) $ 0.54
=========== ===========
Diluted......................................... $ (0.89) $ 0.52
=========== ===========
</TABLE>
The Company also completed certain other acquisitions during 1998 for
aggregate cash consideration of approximately $10,000,000, which cash was
funded from the Company's available cash balances. The effect of these
acquisitions, individually and in the aggregate, was not material to the
Company's results of operations for 1998. The Company recorded approximately
$7,500,000 of excess cost over net assets acquired in connection with these
acquisitions.
1998 Reorganization and Unusual Costs
The Company's results of operations for 1998 include reorganization and
unusual costs of $67,436,000. These costs are primarily related to the
reorganization of the Company's operations in connection with the acquisitions
discussed above, the write-off of certain assets and excess cost over net
assets acquired and the accrual of costs in connection with the Company's
decision to exit the business of publishing CD-ROM based catalogs and the
write-off of certain other software products which the Company no longer
intends to actively market and support.
The components of the reorganization and unusual costs were as follows (in
thousands):
<TABLE>
<S> <C>
Write-down of software products and other assets and recognition of
liabilities associated with software products and services which
will no longer be actively marketed or supported................... $21,806
Write-off of software and other assets and recognition of liabili-
ties associated with exiting the business of publishing CD-ROM
based catalogs..................................................... 18,204
Write-off of excess costs over net assets acquired.................. 8,488
Employee termination costs.......................................... 7,993
Out of pocket costs related to the reorganization................... 4,784
Other............................................................... 6,161
-------
$67,436
=======
</TABLE>
Of the total reorganization costs, non-cash costs are approximately
$40,240,000 and the remaining costs of $27,196,000 require cash outlays, of
which approximately $8,048,000 had been paid through September 30, 1998,
including approximately $2,761,000 of employee termination costs. Employees
terminated were primarily involved in the publishing of CD-ROM based catalogs.
41
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
1997 Business Combinations
In February 1997, the Company acquired for cash all of the outstanding stock
of Comfirst S.A., a Paris, France based provider of communication and file
transfer software. The acquisition has been accounted for using the purchase
method of accounting.
In May 1997, the Company acquired Automated Catalogue Services L.P., a
provider of electronic product catalogs and information databases delivered
via CD-ROM and the Internet. The aggregate purchase price was approximately
$45,000,000, consisting of $28,800,000 in cash, 193,986 shares of Common Stock
valued at approximately $5,000,000 and promissory notes due January 2, 1998
(the "Notes"), having an aggregate principal amount of approximately
$11,200,000. The Notes were paid in full in July 1997. In addition, the
Company incurred costs directly related to the acquisition of approximately
$3,191,000. The acquisition has been accounted for using the purchase method
of accounting.
The excess of cost over net assets acquired in these two acquisitions is
being amortized on a straight line basis over 7 and 10 years respectively. The
effect of the acquisitions, individually and in the aggregate, was not
material to the Company's results of operations for 1997.
1997 Reorganization and Unusual Costs
In June 1997, the Company entered into an agreement (the "Termination
Agreement") with Sterling Software, terminating effective as of June 30, 1997
the International Distributor Agreement dated March 4, 1996, as amended (the
"International Marketing Agreement"). Under the Termination Agreement, the
Company acquired certain assets and assumed certain liabilities associated
with the distribution of certain of the Company's products by Sterling
Software outside the United States and Canada. The Company also hired certain
Sterling Software employees, most of whom had been dedicated to the sales and
marketing of the Company's products.
Under the terms of the Termination Agreement, the Company paid Sterling
Software (1) $5,226,000 for early termination of the International Marketing
Agreement and (2) approximately $10,076,000, which amount was equal to the net
book value of certain assets of Sterling Software acquired (principally
accounts receivable) less certain liabilities assumed by the Company related
to the international distribution of certain of the Company's products.
The Company has recorded the $5,226,000 payment and other costs, principally
incurred to integrate the international distribution business formerly
conducted by Sterling Software into the Company's operations, as
reorganization and unusual costs in the accompanying statement of operations
for the year ended September 30, 1997.
The components of the reorganization costs consist of (in thousands):
<TABLE>
<S> <C>
Early termination payment to Sterling Software.................... $ 5,226
Transaction costs and professional fees........................... 3,100
Severance and transition costs.................................... 2,400
Other............................................................. 5,084
-------
$15,810
=======
</TABLE>
Approximately $8,991,000 of these costs remained in accounts payable and
accrued liabilities at September 30, 1997 and were disbursed during fiscal
1998.
42
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
5. LEGAL PROCEEDINGS AND CLAIMS
From time to time the Company is subject to certain legal proceedings and
claims which arise in the normal course of its business. Pending matters
include claims against the Company involving alleged breaches of contract or
other nonperformance with respect to customer sales, alleged employment
discrimination and other matters. Such routine litigation matters are normally
settled or defended, depending on the circumstances of each claim.
On February 20, 1997, David B. Shaev (the "Plaintiff") filed a derivative
complaint in the Court of Chancery in the State of Delaware (the "Delaware
Chancery Court") against the Company and its directors challenging the
Company's initial grant of stock options to the Company's directors. On April
6, 1998, the Plaintiff filed a motion to amend the complaint to challenge the
Company's grants of additional stock options to certain of the Company's
directors. In his complaint, the Plaintiff alleges that the individual
defendants breached their fiduciary duties and wasted corporate assets by
granting themselves an excessive number of options pursuant to the Company's
1996 Stock Option Plan. The complaint seeks recission and injunctive relief
with respect to the stock options, as well as compensatory damages in an
unspecified amount.
On June 3, 1997, the individual defendants in the action filed a motion for
summary judgment. The Delaware Chancery Court denied the motion, which
decision was upheld on appeal. The parties subsequently held settlement
discussions and recently signed a memorandum of understanding for settlement
of the lawsuit. The memorandum of understanding provides for, among other
things, the term of certain options granted pursuant to the Company's 1996
Stock Option Plan to be reduced from ten to seven years and the Company to
follow certain procedural requirements in connection with any future stock
option grants to executive officers and directors of the Company. The
settlement provided for in the memorandum of understanding is subject to,
among other things, the execution of a formal stipulation and the approval of
the Delaware Chancery Court, after notice to the Company's stockholders and a
hearing.
While any legal proceeding has elements of uncertainty, in the opinion of
management, based on presently available information, the amount of any
liability with respect to any existing claims, net of any applicable reserves
and available insurance, will not have a material effect on the financial
condition or results of operations of the Company.
43
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
6. MARKETABLE SECURITIES
At September 30, 1998 and 1997, all of the Company's marketable securities
were classified as available-for-sale and consist of the following (in
thousands):
<TABLE>
<CAPTION>
GROSS GROSS
UNREALIZED UNREALIZED
AGGREGATE AMORTIZED HOLDING HOLDING
FAIR VALUE COST BASIS GAINS LOSSES
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
SEPTEMBER 30, 1998
Corporate commercial paper,
scheduled maturities within
one year..................... $ 51,972 $ 51,972
Government obligations,
scheduled maturities within
one year..................... 118,644 118,576 $ 78 $10
Government obligations,
scheduled maturities between
one and five years........... 12,835 12,813 22
-------- -------- ---- ---
$183,451 $183,361 $100 $10
======== ======== ==== ===
SEPTEMBER 30, 1997
Corporate commercial paper,
scheduled maturities within
one year..................... $ 38,744 $ 38,744
Corporate debt securities,
scheduled maturities within
one year..................... 33,839 33,816 $ 23
Government obligations,
scheduled maturities within
one year..................... 75,588 75,503 94 $ 9
Government obligations,
scheduled maturities between
one and five years........... 86,143 85,937 265 59
-------- -------- ---- ---
$234,314 $234,000 $382 $68
======== ======== ==== ===
</TABLE>
Government obligations are debt securities of states of the United States
and political subdivisions of the states. In the above, the Company has
reflected debt securities whose issuers may call the debt prior to the
scheduled maturity date as maturing on the earliest call date.
7. ACCOUNTS AND NOTES RECEIVABLE
Accounts and notes receivable consist of the following at September 30 (in
thousands):
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Trade accounts receivable................................. $161,587 $108,481
Less: Allowance for doubtful accounts..................... 10,331 4,789
-------- --------
$151,256 $103,692
======== ========
</TABLE>
The Company's accounts receivable are due principally from corporations in
diverse industries located in North America and Europe and are generally
unsecured.
44
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
8. PROPERTY AND EQUIPMENT
Property and equipment consist of the following at September 30 (in
thousands):
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Computers and peripheral equipment........................ $ 85,798 $ 82,690
Furniture, fixtures and other equipment................... 27,991 9,471
Building improvements..................................... 18,144 10,548
-------- --------
131,933 102,709
Less accumulated depreciation............................. 57,542 42,986
-------- --------
$ 74,391 $ 59,723
======== ========
</TABLE>
9. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities consist of the following at
September 30 (in thousands):
<TABLE>
<CAPTION>
1998 1997
------- -------
<S> <C> <C>
Trade accounts payable...................................... $30,096 $19,092
Accrued compensation........................................ 28,039 22,899
Accrued reorganization and unusual costs.................... 18,925 8,991
Other accrued liabilities................................... 13,539 6,415
------- -------
$90,599 $57,397
======= =======
</TABLE>
10. INCOME TAXES
The provision for income taxes is composed of the following (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED SEPTEMBER 30
-------------------------
1998 1997 1996
------- -------- -------
<S> <C> <C> <C>
Current:
Federal.......................................... $52,917 $ 41,547 $26,225
State............................................ 8,848 7,443 5,867
Foreign.......................................... 901 436 176
Deferred:
Federal.......................................... 609 (13,174) 4,975
State............................................ 872 (2,412) 787
------- -------- -------
$64,147 $ 33,840 $38,030
======= ======== =======
</TABLE>
The provision for income taxes differs from the income taxes computed at the
federal income tax statutory rate for the following reasons (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED SEPTEMBER 30
----------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Tax expense at U.S. federal statutory rate.... $ 1,047 $ 31,249 $ 33,748
State income taxes, net of federal benefit.... 6,318 3,384 4,223
Reorganization and unusual costs.............. 20,061
Purchased in-process research and develop-
ment......................................... 40,761
Tax exempt interest income.................... (3,324) (1,032)
Other......................................... (716) 239 59
-------- -------- --------
$ 64,147 $ 33,840 $ 38,030
======== ======== ========
</TABLE>
45
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Income before income taxes includes foreign pretax earnings of $2,518,000,
$958,000, and $356,000 for the years ended September 30, 1998, 1997, and 1996,
respectively.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of the Company's net deferred tax liability as of September 30 are as follows
(in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
SEPTEMBER 30
---------------
1998 1997
------- -------
<S> <C> <C>
Deferred current income tax assets:
Deferred revenue......................................... $ 361 $ 1,301
Reserves and accruals.................................... 8,888 9,130
Loss and credit carryforwards............................ 2,378
------- -------
11,627 10,431
------- -------
Deferred non-current income tax assets:
Deferred revenue......................................... 484 1,241
Accrued employee benefits................................ 2,454 1,257
------- -------
2,938 2,498
------- -------
Deferred non-current income tax liabilities:
Capitalized software costs............................... 14,963 13,536
Depreciation and amortization............................ 18,310 2,554
------- -------
33,273 16,090
------- -------
Deferred income tax liability net of deferred income tax
assets.................................................... $18,708 $ 3,161
======= =======
</TABLE>
At September 30, 1998, the Company had loss and tax credit carryforwards
acquired through the XcelleNet acquisition of approximately $6,794,000 and
$200,000, respectively. These carryforwards will expire, if unutilized, on
September 30, 2013.
11. COMMITMENTS
Lease Obligations
The Company leases certain facilities and equipment under operating leases.
Total rent expense for the years ended September 30, 1998, 1997 and 1996 was
$20,969,000, $17,252,000 and $10,000,000, respectively. At September 30, 1998,
minimum future rental payments due under all operating leases, net of future
sublease income, are as follows (in thousands):
<TABLE>
<S> <C>
1999............................................. $21,098
2000............................................. 23,609
2001............................................. 19,686
2002............................................. 17,755
2003............................................. 15,223
Thereafter....................................... 47,786
</TABLE>
Additionally, the Company has entered into an operating lease for a new
office facility in Dallas, Texas. The initial term of the lease extends
through February 2003, with two optional five-year renewal periods thereafter.
At the end of each renewal period the Company is required to renew the lease
(if a renewal option
46
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
exists), purchase the property for its original cost or arrange for the sale
of the property to a third party, with the Company guaranteeing to the lessor
proceeds on such sale at least equal to 85% of the original fair value of the
leased facility. Such guarantee amount is estimated to be approximately
$55,000,000. The Company could also be required to purchase the property if
the Company is in default with respect to certain obligations or covenants
contained in the lease or related agreements.
Credit Agreement
The Company maintains a Revolving Credit and Term Loan Agreement, as amended
(the "Credit Agreement"), which provides for a domestic borrowing capacity of
$20,000,000 and an additional $10,000,000 international borrowing capacity. An
underlying letter of credit facility provides for letters of credit up to the
full domestic borrowing capacity. The Credit Agreement, with final maturity
October 1, 1999, is unsecured and contains various restrictive covenants,
including limitations on additional borrowings, payment of cash dividends and
acquisitions. The Credit Agreement also requires that the Company maintain
certain financial ratios. Borrowings under the Credit Agreement bear interest
at the higher of the lender's prime rate, the Federal Funds Effective Rate
plus one-half percent or, for borrowings obtained for fixed periods of time,
LIBOR plus one-half percent. As of September 30, 1998 and 1997, there were no
amounts borrowed or outstanding under the Credit Agreement, nor the underlying
letter of credit facility.
12. STOCKHOLDER'S EQUITY
Common Stock
At September 30, 1998, the Company was authorized to issue 150,000,000
shares of Common Stock. Since inception, the Company has not declared any
dividends on its Common Stock.
Preferred Stock
The Company is authorized to issue up to 50,000,000 shares of preferred
stock, par value $0.01 per share ("Preferred Stock"). The Board of Directors
of the Company has authorized the issuance of up to 1,500,000 shares of
Preferred Stock, designated as Series A Junior Participating Preferred Stock
("Series A Junior Preferred Stock") pursuant to the terms of the Rights
Agreement, dated as of December 18, 1996 (the "Rights Plan"). The Board of
Directors of the Company is also authorized, without action by the
stockholders, to issue Preferred Stock and fix for each series the number of
shares, designation, dividend rights, voting rights, redemption rights and
other rights.
Rights Plan
On December 18, 1996, the Board of Directors of the Company declared a
dividend distribution of one right (a "Right") for each share of Common Stock
outstanding at the close of business on December 31, 1996 (the "Record Date"),
pursuant to the terms of the Rights Plan. The Rights Plan also provides,
subject to specified exceptions and limitations, that shares of Common Stock
issued after the Record Date will be entitled to and accompanied by Rights.
Pursuant to the Rights Plan, one Right to purchase 1/100th of a share of
Series A Junior Preferred Stock (structured so as to be substantially the
equivalent of a share of Common Stock) is attached to each issued and
outstanding share of Common Stock. Subject to certain conditions, each Right
entitles the holder to purchase 1/100th of a share of Series A Junior
Preferred Stock at a price (the "Purchase Price") of $200.00 per 1/100th of a
share of Series A Junior Preferred Stock (subject to adjustment).
In general, the Rights will not become exercisable, or transferable apart
from the shares of Common Stock, unless a person or group of affiliated or
associated persons becomes the beneficial owner of, or commences a
47
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
tender offer that would result in beneficial ownership of, 15% or more of the
outstanding shares of Common Stock (any such person or group of persons being
referred to in the Rights Plan as an "Acquiring Person"). Thereafter, under
certain circumstances, each Right (other than any Rights that are or were
beneficially owned by an Acquiring Person, which Rights will be void) could
become exercisable to purchase at the Purchase Price a number of shares of
Common Stock (or, in certain circumstances, the common stock of a company into
which the Company is merged or consolidated or to which the Company sells all
or substantially all of its assets) having a market value equal to two times
the Purchase Price. The Rights will expire on December 31, 2006, unless
earlier redeemed by the Company at a redemption price of $.01 per Right
(subject to adjustment), or otherwise exchanged or amended in accordance with
the terms of the Rights Plan.
Stock Purchase Plan
In March 1998, the Company's shareholders approved the Company's Employee
Stock Purchase Plan ("ESPP"). Pursuant to the ESPP, employees can purchase the
Common Stock at a specified price through payroll deductions during an
offering period, currently established on a semi-annual basis. In June 1998,
approximately 77,000 shares were issued to employees under the ESPP. At
September 30, 1998, approximately $1,118,000 had been contributed by employees
that will be used to purchase shares at the end of the offering period on
December 31, 1998. Under the ESPP, the Company can issue up to 4,000,000
shares of which, at September 30, 1998, approximately 77,000 shares had been
purchased and issued and approximately 58,000 shares were subscribed for
issuance in December 1998, assuming no employees withdrawal from the plan.
Stock Options
The Company has a stock option plan that provides for the grant of options
to purchase shares of Common Stock by officers, directors, key employees and
advisors. All option grants were made at the fair market value of the Common
Stock at the date of the grant. Options granted pursuant to the plan generally
become exercisable at a rate of 25% per year or become exercisable immediately
or within one year from the date of grant. Options granted pursuant to the
plan generally expire five or ten years from the date of grant. At September
30, 1998, approximately 2,886,000 shares were reserved for future grants of
options under the stock option plan.
Stock option transactions are summarized below for the three years ended
September 30, 1998:
<TABLE>
<CAPTION>
1998 1997 1996
------------------ ------------------ ------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
SHARES EXERCISE SHARES EXERCISE SHARES EXERCISE
(000'S) PRICE (000'S) PRICE (000'S) PRICE
------- --------- ------- --------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning
of year................. 17,727 $26 12,252 $24
Granted................ 1,241 $44 5,640 $27 12,285 $24
Options issued for
XcelleNet acquisi-
tion.................. 1,287 $25
Exercised.............. (2,349) $24 (75) $24
Canceled............... (427) $33 (90) $26 (33) $24
------ ------ ------
Outstanding at end of
year.................... 17,479 $26 17,727 $26 12,252 $24
====== ====== ======
Options exercisable at
year-end................ 11,672 $24 1,000 $24
====== ======
</TABLE>
48
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The following table summarizes information about stock options outstanding
at September 30, 1998:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------- --------------------------
WEIGHTED-
NUMBER AVERAGE WEIGHTED- NUMBER WEIGHTED-
RANGE OF OUTSTANDING REMAINING AVERAGE EXERCISABLE AVERAGE
EXERCISE PRICES (000'S) CONTRACTUAL LIFE EXERCISE PRICE (000'S) EXERCISE PRICE
- --------------- ----------- ---------------- -------------- ----------- --------------
<S> <C> <C> <C> <C> <C>
$1 to $23............... 311 6.3 $16 202 $15
$24 to $26.............. 14,522 7.1 $24 10,961 $24
$27 to $31.............. 575 5.1 $29 162 $29
$32 to $49.............. 2,071 5.5 $39 347 $34
------
$1 to $49............... 17,479 6.8 $26 11,672 $25
====== ======
</TABLE>
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-
Based Compensation" ("FAS 123") requires disclosure of pro forma net earnings
and net earnings per common share information computed as if the Company had
accounted for its employee stock options and employee stock purchase plan
awards under the fair value method as set forth in FAS 123.
The fair value of the Company's employee stock awards was estimated using a
Black-Scholes option pricing model with the following weighted-average
assumptions for 1998, 1997 and 1996, respectively: risk-free interest rates of
4.8% to 6.7%; stock price volatility factors of 0.405%, 0.368% and 0.368% and
expected option lives of 1 year to 5 years. The Company does not have a
history of paying dividends, and none have been assumed in estimating the fair
value of the options.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because, among other things, changes in the subjective input assumptions can
materially affect the fair value estimate, in the Company's opinion, the
existing models do not necessarily provide a reliable single measure of the
fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
Company's pro forma information follows (in thousands, except per share
information):
<TABLE>
<CAPTION>
1998 1997 1996
-------- ------- -------
<S> <C> <C> <C>
Net income (loss):
As reported.................................... ($61,156) $55,444 $58,392
Pro forma...................................... (86,426) 10,570 40,600
Basic earnings per share:
As reported.................................... (.67) .66 .79
Pro forma...................................... (.95) .12 .54
Diluted earnings per share:
As reported.................................... (.67) .64 .77
Pro forma...................................... (.95) .12 .54
Weighted-average fair value of options granted
during the year................................. $ 15.28 $ 8.45 $ 7.41
</TABLE>
13. DEFINED CONTRIBUTION PLAN
Prior to October 1, 1996, the Company participated in Sterling Software's
plan that provides retirement benefits under the provisions of Section 401(k)
of the Internal Revenue Code (the "Software Plan") for all full-
49
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
time employees and for part-time employees that have completed a specified
term of service. Pursuant to the Software Plan, eligible participants may
elect to contribute a percentage of their annual gross compensation and the
Company contributed additional amounts, as provided by the Software Plan.
Company contributions charged to expense during 1996 were $2,035,000.
Effective September 30, 1996, the Company ceased participating in the
Software Plan. The Company established a plan with similar attributes (the
"Commerce Plan") effective October 1, 1996 and the Company's pro rata share of
the assets of the Software Plan were transferred to the Commerce Plan. A
portion of the Commerce Plan consisting of the Company's contribution has been
designated as an employee stock ownership plan. One half of the Company's
contributions are invested in Common Stock. Company contributions charged to
expense during 1998 and 1997 were $2,478,000 and $1,951,000, respectively.
14. CHANGE-IN-CONTROL AND SEVERANCE AGREEMENTS
The Company has change-in-control agreements with 19 executive and other
officers that grant the right to receive payments based on the individual's
respective salary, bonus and benefits in the event a change in control (as
defined in such change-in-control agreements) of the Company occurs and a
covered officer's employment is terminated. In addition, the Company has
entered into a consulting agreement with its chairman that grants similar
rights as the change-in-control agreements described above. The change-in-
control agreements further provide that the Company will make certain payments
to the individual to compensate such individual for the economic effect of the
individual's liability to pay excise taxes to the extent such payments
received by such individual, pursuant to the change-in-control agreements,
stock option agreements or otherwise, are considered contingent on a change in
ownership or control under Section 280G of the Internal Revenue Code (a "Tax
Payment"). Based on certain assumptions, at September 30, 1998, the maximum
liability for compensation including bonuses, benefits and Tax Payments under
these agreements was estimated to be approximately $30,000,000. The actual
liability, if any, under these agreements will depend on a number of factors,
including the level of compensation including bonuses and benefits being
received by the covered individuals prior to a change in control and the price
at which any change-in-control transaction occurs.
The Company has entered into severance agreements with 19 executive and
other officers of the Company providing for payments based on the individual
officer's salary and bonus and continuation of benefits. In addition, the
Company has entered into a consulting agreement with its chairman that
provides for annual base compensation plus agreed-upon bonuses. At September
30, 1998, the maximum estimated liability for future compensation including
bonuses and benefits under these agreements was estimated to be approximately
$23,000,000.
50
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
15. OPERATIONS BY GEOGRAPHIC AREA
The Company's operations in the United States and international markets at
September 30, 1998 and for the year then ended are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
YEAR ENDED
SEPTEMBER 30, 1998
------------------
<S> <C>
Revenue:
United States.............................................. $390,226
Europe..................................................... 63,305
Canada and Latin America................................... 27,057
Asia-Pacific............................................... 9,714
--------
490,302
========
Operating Profit (Loss):
United States.............................................. $146,776
Europe..................................................... 19,554
Canada and Latin America................................... 14,468
Asia-Pacific............................................... (1,489)
Re-organization and unusual costs.......................... (67,436)
Purchased research and development......................... (116,460)
Corporate and other........................................ (16,574)
--------
(21,161)
========
Identifiable Assets:
United States.............................................. $298,026
Europe..................................................... 71,724
Canada and Latin America................................... 16,611
Asia-Pacific............................................... 11,643
Corporate and other........................................ 569,000
--------
967,004
========
</TABLE>
The amounts presented for "Corporate and other" include corporate expense,
intersegment eliminations, cash balances, marketable securities, deferred
income tax balances and other assets.
The Company had no significant international operations from the date of the
Offering until June 30, 1997, upon the termination of the International
Marketing Agreement with Sterling Software. The results of the Company's
international operations during the fourth quarter of 1997 were not material.
51
<PAGE>
STERLING COMMERCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
16. QUARTERLY FINANCIAL RESULTS (UNAUDITED)
The Company's consolidated operating results for each quarter of 1998 and
1997 are summarized as follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-------------------------------------------
DECEMBER 31 MARCH 31 JUNE 30 SEPTEMBER 30
----------- -------- -------- ------------
<S> <C> <C> <C> <C>
Year ended September 30, 1998:
Revenue.......................... $106,283 $111,076 $122,095 $ 150,848
Cost of sales.................... 20,462 24,029 24,099 27,570
Product development and enhance-
ment expenses................... 7,648 6,393 7,343 8,334
Selling, general and administra-
tive expenses................... 45,577 44,789 47,666 63,657
Income (loss) before other income
and income taxes(1)............. 32,596 35,865 42,987 (132,609)
Net income (loss)................ $ 24,200 $ 26,977 $ 31,226 $(143,559)
Earnings (loss) per share:
Basic.......................... $ 0.27 $ 0.30 $ 0.34 $ (1.53)
Diluted........................ $ 0.26 $ 0.29 $ 0.33 $ (1.53)
Year ended September 30, 1997:
Revenue.......................... $ 74,769 $ 79,534 $ 87,798 $ 108,496
Cost of sales.................... 15,735 16,392 18,073 20,415
Product development and enhance-
ment expenses................... 5,071 6,191 7,147 6,444
Selling, general and administra-
tive expenses................... 28,950 29,371 32,484 44,044
Income (loss) before other income
and income taxes(2)............. 25,013 27,580 (17,595) 37,593
Net income (loss)................ $ 16,060 $ 18,817 $ (7,476) $ 28,043
Earnings (loss) per share:
Basic.......................... $ 0.21 $ 0.23 $ (0.08) $ 0.31
Diluted........................ $ 0.21 $ 0.23 $ (0.08) $ 0.30
</TABLE>
- --------
(1) Net of $116,460,000 of purchased research and development and $67,436,000
of reorganization and unusual costs charged to expense in the quarter
ended September 30, 1998.
(2) Net of $31,879,000 of purchased research and development and $15,810,000
of reorganization and unusual costs charged to expense in the quarter
ended June 30, 1997.
52
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information required by this Item 10 concerning the directors of the Company
is set forth in the Proxy Statement to be provided to stockholders in
connection with the Company's 1999 Annual Meeting of Stockholders, under the
heading "Proposal I--Election of Directors," which information is incorporated
herein by reference. Information concerning compliance with Section 16 of the
Securities Act of 1934, as amended, by persons subject to such Section is set
forth in the Proxy Statement under the heading "Section 16(a) Beneficial
Ownership Reporting Compliance," which information is incorporated herein by
reference. The name, age and position of each executive officer of the Company
is set forth under the heading "Executive Officers" in Part I of this report,
which information is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information required by this Item 11 concerning executive compensation is
set forth in the Proxy Statement under the heading "Management Compensation,"
which information is incorporated herein by reference. Information contained
in the Proxy Statement under the caption "Management Compensation--Report of
the Executive and Option Committees on Executive Compensation" and "Stock
Performance Chart" is not incorporated by reference herein.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this Item 12 concerning security ownership of
certain beneficial owners and management is set forth in the Proxy Statement
under the heading "Security Ownership of Certain Beneficial Owners and
Management," which information is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this Item 13 concerning certain relationships and
related transactions is set forth in the Proxy Statement under the headings
"Management Compensation--Executive and Stock Option Committee Interlocks and
Insider Participation" and "Certain Transactions," which information is
incorporated herein by reference.
53
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this Annual Report on Form
10-K.
1. Consolidated Financial Statements:
See Index to Consolidated Financial Statements at Item 8.
2. Consolidated Financial Statement Schedules:
Schedule II--Valuation and Qualifying Accounts for the Years Ended September
30, 1998, 1997 and 1996
All other schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under
the related instructions or are inapplicable and therefore have been omitted.
3. Exhibits
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<C> <S>
2.1 Agreement and Plan of Merger dated as of April 16, 1998 by and among
Sterling Commerce, Inc., Sterling Commerce (Southern), Inc. and
XcelleNet, Inc.(1)
3.1 Third Amended and Restated Certificate of Incorporation of the
Company, as amended(2)
3.2 Amended and Restated Bylaws of the Company(3)
4.1 Rights Agreement dated December 18, 1996 by and between the Company
and The First National Bank of Boston, as Rights Agent(4)
10.1.1 International Marketing Agreement dated March 4, 1996 between Sterling
Commerce International, Inc. and Sterling Software International,
Inc.(5)
10.1.2 Amendment No. 1 to the International Distributor Agreement dated as of
January 31, 1997 between Sterling Commerce B.V. and Sterling Software
International, Inc. (a.k.a. the International Marketing Agreement)(6)
10.2 Termination Agreement dated June 30, 1997 between Sterling Commerce
B.V. and Sterling Software International, Inc.(7)
10.3 Tax Allocation Agreement dated March 4, 1996 between the Company and
Sterling Software(8)
10.4 Indemnification Agreement dated March 4, 1996 between the Company and
Sterling Software(5)
10.5 Master Software License Agreement dated March 4, 1996 among the
Company, Sterling Software and their respective subsidiaries parties
thereto(5)
10.6 Agreement dated as of September 19, 1996 by the Company for the
benefit of Sterling Software(9)
10.7 Form of Indemnification Agreement between the Company and each of its
officers and directors(8), (10)
10.8 Form of Director Agreement dated as of January 27, 1997 between the
Company and each of Sam Wyly and Charles J. Wyly, Jr.(6), (10)
10.9 Agreement dated May 31, 1998 between the Company and Sterling L.
Williams(3)
10.10 Form of Change-in-Control Severance Agreement between the Company and
each of Warner C. Blow, J. Brad Sharp, Paul L.H. Olson, Stephen R.
Perkins and certain other executive officers of the Company(5), (10)
10.11 Form of Severance Agreement between the Company and each of Warner C.
Blow, J. Brad Sharp, Paul L.H. Olson, Stephen R. Perkins and certain
other executive officers of the Company(5), (10)
10.12 Supplemental Executive Retirement Plan(10), (11)
10.13 Sterling Commerce, Inc. Amended and Restated 1996 Stock Option
Plan(10), (12)
10.14.1 Sterling Commerce, Inc. Deferred Compensation Plan(10), (13)
</TABLE>
54
<PAGE>
<TABLE>
<S> <C>
10.14.2 First Amendment to Sterling Commerce, Inc. Deferred Compensation Plan dated as of October 30,
1997(10), (11)
10.14.3 Second Amendment to Sterling Commerce, Inc. Deferred Compensation Plan dated as of June 1, 1998(3),
(10)
10.15.1 Revolving Credit and Term Loan Agreement dated as of October 1, 1996 among the Company and The First
National Bank of Boston, as agent, and Bank One, Texas, National Association(9)
10.15.2 Amendment and Modification Agreement to the Revolving Credit and Term Loan Agreement among the
Company and The First National Bank of Boston, as agent, and Bank One, Texas, National
Association(12)
21.1 Subsidiaries of the Company(3)
23.1 Consent of Ernst & Young LLP(3)
27.1 Financial Data Schedule(3)
</TABLE>
- --------
(1) Previously filed as an exhibit to the Current Report on Form 8-K dated
April 16, 1998 and incorporated herein by reference. (The copy of the
Agreement and Plan of Merger incorporated by reference in this report
does not include the Schedules thereto. The Company agrees to furnish
supplementally to the Commission any such omitted Schedule upon request.)
(2) Previously filed as an exhibit to the Company's Registration Statement
No. 333-20565 and incorporated herein by reference.
(3) Filed herewith.
(4) Previously filed as an exhibit to the Current Report on Form 8-K dated
December 18, 1996 and incorporated herein by reference.
(5) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended March 31, 1996 and incorporated herein by reference.
(6) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended December 31, 1996 and incorporated herein by reference.
(7) Previously filed as an exhibit to the Current Report on Form 8-K dated
June 30, 1997 and incorporated herein by reference.
(8) Previously filed as an exhibit to the Company's Registration Statement
No. 33-80595 and incorporated herein by reference.
(9) Previously filed as an exhibit to the Annual Report on Form 10-K, as
amended, for the fiscal year ended September 30, 1996 and incorporated
herein by reference.
(10) Management contract or compensatory plan or arrangement required to be
filed as an exhibit to this form pursuant to Item 14(c) of the form.
(11) Previously filed as an exhibit to the Annual Report on Form 10-K for the
fiscal year ended September 30, 1997 and incorporated herein by
reference.
(12) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended June 30, 1997 and incorporated herein by reference.
(13) Previously filed as an exhibit to the Company's Registration Statement
No. 333-37523 and incorporated herein by reference.
(b) Reports on Form 8-K.
During the three-month period ended September 30, 1998, the Company filed a
Current Report on Form 8-K. The report, dated July 21, 1998, included
information requested under Item 2--Acquisition or Disposition of Assets.
(c) Exhibits.
The response to this portion of Item 14 is submitted as a separate section
of this report.
(d) Financial Statement Schedules.
The response to this portion of Item 14 is submitted as a separate section
of this report.
55
<PAGE>
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.
STERLING COMMERCE, INC.
/s/ Warner C. Blow
By: _________________________________
Warner C. Blow
President and Chief Executive
Officer
Date: November 19, 1998
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 and on the dates indicated.
<TABLE>
<S> <C> <C>
/s/ Sterling L. Williams Chairman of the Board and November 19, 1998
____________________________________ Director
Sterling L. Williams
/s/ Warner C. Blow President and Chief November 19, 1998
____________________________________ Executive Officer and
Warner C. Blow Director
(Principal Executive
Officer)
/s/ Charles J. Wyly, Jr. Director November 19, 1998
____________________________________
Charles J. Wyly, Jr.
/s/ Sam Wyly Director November 19, 1998
____________________________________
Sam Wyly
/s/ Evan A. Wyly Director November 19, 1998
____________________________________
Evan A. Wyly
/s/ Honor R. Hill Director November 19, 1998
____________________________________
Honor R. Hill
/s/ Robert E. Cook Director November 19, 1998
____________________________________
Robert E. Cook
/s/ Steven P. Shiflet Senior Vice President and November 19, 1998
____________________________________ Chief Financial Officer
Steven P. Shiflet (Principal Financial and
Accounting Officer)
</TABLE>
56
<PAGE>
SCHEDULE II
STERLING COMMERCE, INC.
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO
BEGINNING ADDITION FROM COSTS AND DEDUCTIONS-- BALANCE AT END
OF PERIOD ACQUISITION EXPENSES DESCRIBE OF PERIOD
---------- ------------- ---------- ------------ --------------
<S> <C> <C> <C> <C> <C>
Allowance for doubtful
accounts at September
30, 1998.............. $4,789,000 $2,096,000 $6,013,000 $(2,567,000)(1) $10,331,000
========== ========== ========== =========== ===========
Allowance for doubtful
accounts at September
30, 1997.............. $2,416,000 $3,567,000 $(1,194,000)(1) $ 4,789,000
========== ========== =========== ===========
Allowance for doubtful
accounts at September
30, 1996.............. $2,000,000 $1,068,000 $ (652,000)(1) $ 2,416,000
========== ========== =========== ===========
</TABLE>
- --------
(1)Accounts written off.
II-1
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<C> <S>
2.1 Agreement and Plan of Merger dated as of April 16, 1998 by and among
Sterling Commerce, Inc., Sterling Commerce (Southern), Inc. and
XcelleNet, Inc.(1)
3.1 Third Amended and Restated Certificate of Incorporation of the
Company, as amended(2)
3.2 Amended and Restated Bylaws of the Company(3)
4.1 Rights Agreement dated December 18, 1996 by and between the Company
and The First National Bank of Boston, as Rights Agent(4)
10.1.1 International Marketing Agreement dated March 4, 1996 between Sterling
Commerce International, Inc. and Sterling Software International,
Inc.(5)
10.1.2 Amendment No. 1 to the International Distributor Agreement dated as of
January 31, 1997 between Sterling Commerce B.V. and Sterling Software
International, Inc. (a.k.a. the International Marketing Agreement)(6)
10.2 Termination Agreement dated June 30, 1997 between Sterling Commerce
B.V. and Sterling Software International, Inc.(7)
10.3 Tax Allocation Agreement dated March 4, 1996 between the Company and
Sterling Software(8)
10.4 Indemnification Agreement dated March 4, 1996 between the Company and
Sterling Software(5)
10.5 Master Software License Agreement dated March 4, 1996 among the
Company, Sterling Software and their respective subsidiaries parties
thereto(5)
10.6 Agreement dated as of September 19, 1996 by the Company for the
benefit of Sterling Software(9)
10.7 Form of Indemnification Agreement between the Company and each of its
officers and directors(8), (10)
10.8 Form of Director Agreement dated as of January 27, 1997 between the
Company and each of Sam Wyly and Charles J. Wyly, Jr.(6), (10)
10.9 Agreement dated May 31, 1998 between the Company and Sterling L.
Williams(3)
10.10 Form of Change-in-Control Severance Agreement between the Company and
each of Warner C. Blow, J. Brad Sharp, Paul L.H. Olson, Stephen R.
Perkins and certain other executive officers of the Company(5), (10)
10.11 Form of Severance Agreement between the Company and each of Warner C.
Blow, J. Brad Sharp, Paul L.H. Olson, Stephen R. Perkins and certain
other executive officers of the Company(5), (10)
10.12 Supplemental Executive Retirement Plan(10), (11)
10.13 Sterling Commerce, Inc. Amended and Restated 1996 Stock Option
Plan(10), (12)
10.14.1 Sterling Commerce, Inc. Deferred Compensation Plan(10), (13)
10.14.2 First Amendment to Sterling Commerce Inc. Deferred Compensation Plan
dated as of October 30, 1997(10), (11)
10.14.3 Second Amendment to Sterling Commerce Inc. Deferred Compensation Plan
dated as of June 1, 1998(3), (10)
10.15.1 Revolving Credit and Term Loan Agreement dated as of October 1, 1996
among the Company and The First National Bank of Boston, as agent,
and Bank One, Texas, National Association(9)
10.15.2 Amendment and Modification Agreement to the Revolving Credit and Term
Loan Agreement among the Company and The First National Bank of
Boston, as agent, and Bank One, Texas, National Association(12)
</TABLE>
57
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NO. DESCRIPTION
------- -----------
<C> <S>
21.1 Subsidiaries of the Company(3)
23.1 Consent of Ernst & Young LLP(3)
27.1 Financial Data Schedule(3)
</TABLE>
- --------
(1) Previously filed as an exhibit to the Current Report on Form 8-K dated
April 16, 1998 and incorporated herein by reference. (The copy of the
Agreement and Plan of Merger incorporated by reference in this report does
not include the Schedules thereto. The Company agrees to furnish
supplementally to the Commission any such omitted Schedule upon request.)
(2) Previously filed as an exhibit to the Company's Registration Statement No.
333-20565 and incorporated herein by reference.
(3) Filed herewith.
(4) Previously filed as an exhibit to the Current Report on Form 8-K dated
December 18, 1996 and incorporated herein by reference.
(5) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended March 31, 1996 and incorporated herein by reference.
(6) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended December 31, 1996 and incorporated herein by reference.
(7) Previously filed as an exhibit to the Current Report on Form 8-K dated
June 30, 1997 and incorporated herein by reference.
(8) Previously filed as an exhibit to the Company's Registration Statement No.
33-80595 and incorporated herein by reference.
(9) Previously filed as an exhibit to the Annual Report on Form 10-K, as
amended, for the fiscal year ended September 30, 1996 and incorporated
herein by reference.
(10) Management contract or compensatory plan or arrangement required to be
filed as an exhibit to this form pursuant to Item 14(c) of the form.
(11) Previously filed as an exhibit to the Annual Report on Form 10-K for the
fiscal year ended September 30, 1997 and incorporated herein by
reference.
(12) Previously filed as an exhibit to the Quarterly Report on Form 10-Q for
the quarter ended June 30, 1997 and incorporated herein by reference.
(13) Previously filed as an exhibit to the Company's Registration Statement
No. 333-37523 and incorporated herein by reference.
58
<PAGE>
EXHIBIT 3.2
================================================================================
AMENDED AND RESTATED
BYLAWS
OF
STERLING COMMERCE, INC.
As in effect on May 31, 1998
================================================================================
<PAGE>
TABLE OF CONTENTS
Page
----
ARTICLE I - OFFICES......................................... 1
Section 1. Registered Office.......................... 1
Section 2. Other Offices.............................. 1
ARTICLE II - STOCKHOLDERS................................... 1
Section 1. Meetings................................... 1
Section 2. Annual Meeting............................. 1
Section 3. List of Stockholders....................... 2
Section 4. Special Meetings........................... 2
Section 5. Notice..................................... 2
Section 6. Quorum..................................... 3
Section 7. Voting..................................... 3
Section 8. Proxy...................................... 3
ARTICLE III - BOARD OF DIRECTORS............................ 4
Section 1. Board of Directors......................... 4
Section 2. Number of Directors........................ 4
Section 3. Newly Created Directorships and Vacancies.. 5
Section 4. Removal.................................... 5
ARTICLE IV - MEETINGS OF THE BOARD.......................... 5
Section 1. Meetings................................... 5
Section 2. Annual Meeting............................. 5
Section 3. Regular Meetings........................... 5
Section 4. Special Meetings........................... 6
Section 5. Quorum..................................... 6
Section 6. Executive Committee........................ 6
Section 7. Other Committees........................... 6
Section 8. Action by Consent.......................... 7
Section 9. Compensation of Directors.................. 7
ARTICLE V - NOTICE OF MEETINGS.............................. 7
Section 1. Form of Notice............................. 7
Section 2. Waiver..................................... 7
Section 3. Telephone Meetings......................... 7
ARTICLE VI - OFFICERS....................................... 8
Section 1. In General................................. 8
Section 2. Election................................... 8
(i)
<PAGE>
Section 3. Salaries........................................ 8
Section 4. Term of Office and Removal...................... 8
Section 5. Chairman of the Board........................... 8
Section 6. Vice Chairman of the Board...................... 8
Section 7. President....................................... 8
Section 8. Chief Executive Officer......................... 9
Section 9. Vice Presidents................................. 9
Section 10. Secretary....................................... 10
Section 11. Assistant Secretaries........................... 10
Section 12. Treasurer....................................... 10
Section 13. Assistant Treasurers............................ 10
Section 14. Controller...................................... 10
Section 15. Bonding......................................... 10
ARTICLE VII - CERTIFICATES OF SHARES.............................. 11
Section 1. Form of Certificates............................ 11
Section 2. Lost Certificates............................... 11
Section 3. Transfer of Shares.............................. 11
Section 4. Registered Stockholders......................... 11
ARTICLE VIII - GENERAL PROVISIONS................................. 12
Section 1. Dividends....................................... 12
Section 2. Reserves........................................ 12
Section 3. Fiscal Year..................................... 12
Section 4. Seal............................................ 12
ARTICLE IX - INDEMNITY............................................ 12
Section 1. Damages and Expenses............................ 12
Section 2. Insurance, Contracts and Funding................ 13
ARTICLE X - AMENDMENTS............................................ 13
Section 1. By Stockholders................................. 13
Section 2. By the Board of Directors....................... 14
(ii)
<PAGE>
ARTICLE I
OFFICES
Section 1. Registered Office. The initial registered office of the
corporation shall be at such place as is designated in the Certificate of
Incorporation (herein, as amended from time to time, so called), or thereafter
the registered office may be at such other place as the Board of Directors may
from time to time designate by resolution.
Section 2. Other Offices. The corporation may also have offices at such
other places both within and without the State of Delaware as the Board of
Directors may from time to time determine or the business of the corporation may
require.
ARTICLE II
STOCKHOLDERS
Section 1. Meetings. All meetings of the stockholders for the election of
Directors shall be held at the principal office of the corporation, or at such
other place within or without the State of Delaware, as may be fixed from time
to time by the Board of Directors. Meetings of stockholders for any other
purpose may be held at such time and place, within or without the State of
Delaware, as shall be stated in the notice of the meeting or in a duly executed
waiver of notice thereof.
Section 2. Annual Meeting. An annual meeting of the stockholders shall be
held on such date in each fiscal year of the corporation after September 30,
1996 as the Board of Directors shall select, at which meeting the stockholders
shall elect members of the Board of Directors and transact such other business
as may properly be brought before the meeting. To be properly brought before an
annual meeting, business must be (a) specified in the notice of meeting (or any
supplement thereto) given by or at the direction of the Board of Directors, (b)
otherwise properly brought before the meeting by or at the direction of the
Board of Directors, or (c) otherwise properly brought before the meeting by a
stockholder. For business to be properly brought before an annual meeting by a
stockholder, the stockholder must have given timely notice thereof in writing to
the Secretary of the corporation. To be timely, a stockholder's notice must be
delivered or mailed to and received at the principal executive offices of the
corporation not less than sixty calendar days prior to the meeting; provided,
however, that in the event that less than sixty-five calendar days' notice or
prior public disclosure of the date of the meeting is given or made to
stockholders, notice by the stockholder to be timely must be so received not
later than the close of business on the tenth calendar day following the date on
which such notice of the date of the annual meeting was mailed or such public
disclosure was made. A stockholder's notice to the Secretary shall set forth as
to each matter the stockholder proposes to bring before the annual meeting (i) a
brief description of the business desired to be brought before the annual
meeting, (ii) the name and address, as they appear on the corporation's books,
of the stockholder proposing such business, (iii) the class and number of shares
of the corporation which are
-1-
<PAGE>
beneficially owned by the stockholder, and (iv) any material interest of the
stockholder in such business. In addition, a stockholder intending to nominate
one or more persons for election as a Director at an annual meeting must comply
with Section 2, Article III of these Bylaws (herein, as amended from time to
time, so called) for such nomination or nominations to be properly brought
before such meeting. No business shall be conducted at an annual meeting except
in accordance with the procedures set forth in this Section 2. The presiding
officer of an annual meeting shall, if the facts warrant, determine that
business was not properly brought before the meeting and in accordance with the
provisions of this Section 2 and, if such presiding officer should so determine,
such presiding officer shall so declare to the meeting and any such business not
properly brought before the meeting shall not be transacted.
Section 3. List of Stockholders. At least ten days before each meeting of
stockholders, a complete list of the stockholders entitled to vote at said
meeting, arranged in alphabetical order, with the address of and the number of
voting shares registered in the name of each, shall be prepared by the officer
or agent having charge of the stock transfer books. Such list shall be kept on
file either at a place within the city where the meeting is to be held, which
place shall be specified in the notice of the meeting, or, if not so specified
at the place where the meeting is to be held for a period of ten days prior to
such meeting and shall be subject to inspection by any stockholder at any time
during usual business hours. Such list shall be produced and kept open at the
time and place of the meeting during the whole time thereof, and shall be
subject to the inspection of any stockholder who may be present. The Board of
Directors may fix in advance a record date for the purpose of determining
stockholders entitled to notice of or to vote at a meeting of stockholders, such
record date to be not less than ten nor more than sixty days prior to such
meeting, or the Board of Directors may close the stock transfer books for such
purpose for a period of not less than ten nor more than sixty days prior to such
meeting. In the absence of any action by the Board of Directors, the close of
business on the date next preceding the day on which the notice is given shall
be the record date.
Section 4. Special Meetings. Special meetings of the stockholders, for
any purpose or purposes, unless otherwise prescribed by the General Corporation
Law of the State of Delaware (as from time to time in effect, herein called "the
Act"), or by the Certificate of Incorporation, may be called only (i) by the
Chairman of the Board, (ii) the President, or (iii) by the Secretary, within 10
calendar days after receipt of a written request of a majority of the total
number of Directors then in office. Business transacted at any special meeting
shall be confined to the purposes stated in the notice of the meeting and no
stockholder shall have the right to bring any additional business (whether
similar or dissimilar in nature) before, or to propose or nominate any person
for appointment or election to any position or office at, any special meeting
unless all stockholders entitled to vote are present and affirmatively consent
thereto.
Section 5. Notice. Written or printed notice stating the place, day and
hour of any meeting of the stockholders and, in case of a special meeting, the
purpose or purposes for which the meeting is called, shall be delivered not less
than ten nor more than sixty days before the date of the meeting, either
personally or by mail, by or at the direction of the Chairman of the Board, the
President or the Secretary, to each stockholder of record entitled to vote at
the meeting.
-2-
<PAGE>
Section 6. Quorum. At all meetings of the stockholders, the presence in
person or by proxy of the holders of a majority of the shares issued and
outstanding and entitled to vote shall be necessary and sufficient to constitute
a quorum for the transaction of business except as otherwise provided by the
Act, by the Certificate of Incorporation or by these Bylaws. If such quorum
shall not be present or represented at any meeting of the stockholders, the
stockholders entitled to vote thereat, present in person or represented by
proxy, shall have power to adjourn the meeting from time to time, without notice
other than announcement at the meeting, until a quorum shall be present or
represented. At such adjourned meeting at which a quorum shall be present or
represented, any business may be transacted which might have been transacted at
the meeting as originally notified.
Section 7. Voting. When a quorum is present at any meeting, the vote of
the holders of a majority of the shares having voting power present in person
or represented by proxy at such meeting shall decide any questions brought
before such meeting, unless the question is one upon which, by express provision
of the Act or of the Certificate of Incorporation or of these Bylaws, a
different vote is required, in which case such express provision shall govern
and control the decision of such question. Election of Directors at an annual or
special meeting shall be by plurality. The stockholders present in person or by
proxy at a duly convened meeting at which a quorum initially is present may
continue to transact business until the adjournment of such meeting,
notwithstanding any withdrawal of stockholders that results in a quorum ceasing
to be present.
Section 8. Proxy. Each outstanding share, regardless of class, shall be
entitled to one vote on each matter submitted to a vote at a meeting of
stockholders, except to the extent that the voting rights of the shares of any
class or classes are limited or denied by the Certificate of Incorporation. At
any meeting of the stockholders, every stockholder having the right to vote
shall be entitled to vote in person or by proxy, but no such proxy shall be
voted after three years from its date unless it provides for a longer period.
Another person may be authorized to act as proxy for a stockholder by an
instrument in writing subscribed by such stockholder or his or her duly
authorized attorney in fact or by any other means authorized under the Act. Any
such proxy shall be filed with the Secretary prior to or at the time of the
meeting.
A duly executed proxy shall be irrevocable if, and only as long as, it is
coupled with an interest sufficient in law to support an irrevocable power. A
proxy may be made irrevocable regardless of whether the interest with which it
is coupled is an interest in the stock itself or an interest in the corporation
generally.
-3-
<PAGE>
ARTICLE III
BOARD OF DIRECTORS
Section 1. Board of Directors. The business and affairs of the
corporation shall be managed by, or under the direction of, its Board of
Directors, which may exercise all such powers of the corporation and do all such
lawful acts and things as are not by the Act or by the Certificate of
Incorporation or by these Bylaws directed or required to be exercised or done by
the stockholders.
Section 2. Number of Directors. Except as otherwise fixed pursuant to the
provisions of Article IV of the Certificate of Incorporation relating to the
rights of the holders of any class or series of stock having a preference over
the Common Stock as to dividends or upon liquidation to elect additional
directors under specified circumstances, the number of Directors (none of whom
need be stockholders or residents of the State of Delaware) shall be fixed by
resolution of the Board of Directors from time to time. The Directors, other
than those who may be elected by the holders of any class or series of stock
having a preference over the Common Stock as to dividends or upon liquidation,
shall be classified, with respect to the time for which they severally hold
office, into three classes, as nearly equal in number as possible, as determined
by the Board of Directors, one class to hold office initially for a term
expiring at the annual meeting of stockholders to be held in 1997, another class
to hold office initially for a term expiring at the annual meeting of
stockholders to be held in 1998, and another class to hold office initially for
a term expiring at the annual meeting of stockholders to be held in 1999, with
members of each class to hold office until their successors are elected and
qualified. At each annual meeting of the stockholders of the corporation, the
successors to the class of Directors whose term expires at that meeting shall be
elected to hold office for a term expiring at the annual meeting of stockholders
held in the third year following the year of their election.
Subject to the rights of holders of any class or series of stock having a
preference over the Common Stock as to dividends or upon liquidation,
nominations for the election of Directors may be made by the Board of Directors
or a committee appointed by the Board of Directors or, solely in the case of any
election that is to be held at an annual meeting of stockholders, by any
stockholder entitled to vote in the election of Directors generally. Any
stockholder entitled to vote in the election of Directors generally may nominate
one or more persons for election as Directors at an annual meeting of
stockholders only if written notice of such stockholder's intent to make such
nomination or nominations has been given, either by personal delivery or by
United States mail, postage prepaid, to the Secretary not later than ninety days
prior to the anniversary date of the immediately preceding annual meeting. Each
such notice shall set forth: (i) the name and address of the stockholder who
intends to make the nomination and of the person or persons to be nominated;
(ii) a representation that the stockholder is a holder of record of stock in the
corporation entitled to vote at such meeting and intends to appear in person or
by proxy at the meeting to nominate the person or persons specified in the
notice; (iii) a description of all arrangements or understandings between the
stockholder and each nominee and any other person or persons (naming such person
or persons) pursuant to which the nomination or
-4-
<PAGE>
nominations are to be made by the stockholder; (iv) such other information
regarding each nominee proposed by such stockholder as would be required to be
included in a proxy statement filed pursuant to the proxy rules of the
Securities and Exchange Commission; and (v) the consent of each nominee to serve
as a Director of the corporation if so elected. The presiding officer of the
meeting may refuse to acknowledge the nomination of any person not made in
compliance with the foregoing procedure.
Section 3. Newly Created Directorships and Vacancies. Subject to the
rights, if any, of the holders of any class or series of stock having a
preference over the Common Stock as to dividends or upon liquidation to elect
additional Directors under specified circumstances, newly created directorships
resulting from any increase in the number of Directors and any vacancies on the
Board of Directors resulting from death, resignation, disqualification, removal
or other cause shall be filled solely by the affirmative vote of a majority of
the remaining Directors then in office, even though less than a quorum of the
Board of Directors, by a sole remaining Director, or, if there is no remaining
Director, by the stockholders. Any Director elected in accordance with the
preceding sentence shall hold office for the remainder of the full term of the
class of Directors in which the new directorship was created or the vacancy
occurred and until such Director's successor has been elected and qualified. No
decrease in the number of Directors constituting the Board of Directors may
shorten the term of any incumbent Director.
Section 4. Removal. Subject to the rights, if any, of the holders of any
class or series of stock having a preference over the Common Stock as to
dividends or upon liquidation in respect of the election additional Directors
under specified circumstances, any director may be removed from office by the
stockholders only for cause and only in the manner provided in the Certificate
of Incorporation.
ARTICLE IV
MEETINGS OF THE BOARD
Section 1. Meetings. The Directors of the corporation may hold their
meetings, both regular and special, at such times and places as are fixed from
time to time by resolution of the Board of Directors.
Section 2. Annual Meeting. A meeting of the Board of Directors shall be
held without further notice immediately following the annual meeting of
stockholders, and at the same place, unless by unanimous consent of the
Directors then elected and serving such time or place shall be changed.
Section 3. Regular Meetings. Regular meetings of the Board of Directors
may be held without notice at such time and place as shall from time to time be
determined by resolution of the Board.
-5-
<PAGE>
Section 4. Special Meetings. Special meetings of the Board of Directors
may be called by the Chairman of the Board, the President or by a majority of
the total number of Directors then in office. The purpose of any special
meeting shall be specified in the notice or any waiver of notice. Each notice
of a meeting of the Board of Directors may be delivered personally or by
telephone to a Director not later than the day before the day on which the
meeting is to be held; sent to a Director at his or her residence or usual place
of business, or at any other place of which he or she shall have notified the
corporation, by telegram, telex, cable, wireless, facsimile or similar means at
least 24 hours before the time at which the meeting is to be held; or posted to
him or her at such place by prepaid first class or air mail, as appropriate, at
least three days before the day on which the meeting is to be held. Notice of a
meeting of the Board of Directors need not be given to any Director who submits
a signed waiver of notice, whether before or after the meeting, or who attends
the meeting without protesting, prior to or at its commencement, the lack of
notice to him or her.
Section 5. Quorum. At all meetings of the Board of Directors the presence
of a majority of the total number of Directors then in office shall be necessary
and sufficient to constitute a quorum for the transaction of business, and the
affirmative vote of at least a majority of the Directors present at any meeting
at which there is a quorum shall be the act of the Board of Directors except as
may be otherwise specifically provided by the Act or by the Certificate of
Incorporation or by these Bylaws. If a quorum shall not be present at any
meeting of Directors, the Directors present thereat may adjourn the meeting from
time to time without notice other than announcement at the meeting, until a
quorum shall be present.
Section 6. Executive Committee. The Board of Directors may, by resolution
passed by a majority of the total number of Directors then in office, designate
an Executive Committee, to consist of two or more Directors of the corporation,
one of whom shall be designated as chairman, who shall preside at all meetings
of such Committee. The Executive Committee shall have and may exercise all of
the powers and authority of the Board of Directors in the management of the
business and affairs of the corporation, and may authorize the seal of the
corporation to be affixed to all papers which may require it; provided, however,
that the Executive Committee shall not have power or authority in reference to
(i) approving or adopting, or recommending to the stockholders, any action or
matter expressly required by the Act to be submitted to stockholders for
approval, or (ii) adopting, amending or repealing any provision of these Bylaws.
The Executive Committee shall keep regular minutes of its proceedings and report
the same to the Board of Directors when required. Any member of the Executive
Committee may be removed, with or without cause, by the affirmative vote of a
majority of the total number of Directors then in office. If any vacancy or
vacancies occur in the Executive Committee caused by death, resignation,
retirement, disqualification, removal or other cause, the vacancy shall be
filled by the affirmative vote of a majority of the total number of Directors
then in office.
Section 7. Other Committees. The Board of Directors may, by resolution
passed by a majority of the total number of Directors then in office, designate
other committees, each committee to consist of two or more Directors of the
corporation, which committees shall have such power and authority and shall
perform such functions as may be provided in such
-6-
<PAGE>
resolution. Such committee or committees shall have such name or names as may be
designated by the Board of Directors and shall keep regular minutes of their
proceedings and report the same to the Board of Directors when required.
Section 8. Action by Consent. Any action required or permitted to be
taken at any meeting of the Board of Directors, the Executive Committee or any
other committee of the Board of Directors may be taken without such a meeting if
a consent in writing, setting forth the action so taken, is signed by all the
members of the Board of Directors or the Executive Committee or such other
committee, as the case may be, and the writing or writings are filed with the
minutes of proceedings of the Board of Directors, the Executive Committee or
such other committee.
Section 9. Compensation of Directors. Directors, as such, shall not
receive any stated salary for their services, but may receive such compensation
and reimbursements as may be determined from time to time by resolution of the
Board of Directors; provided that nothing herein contained shall be construed to
preclude any Director from serving the corporation in any other capacity and
receiving compensation therefor.
ARTICLE V
NOTICE OF MEETINGS
Section 1. Form of Notice. Whenever notice is required to be given to any
Director or stockholder under the provisions of the Act or of the Certificate of
Incorporation or of these Bylaws, and no provision is made as to how such notice
shall be given, it shall not be construed to mean personal notice, but any such
notice may be given in writing, by mail, postage prepaid, addressed to such
Director or stockholder at such address as appears on the books of the
corporation. Any notice required or permitted to be given by mail shall be
deemed to be given at the time when the same is deposited in the United States
mail.
Section 2. Waiver. Whenever any written notice is required to be given to
any Director or stockholder under the provisions of the Act or of the
Certificate of Incorporation or of these Bylaws, a waiver thereof in writing
signed by the person or persons entitled to such notice, whether before or after
the time stated in such notice, shall be deemed equivalent to the giving of such
notice.
Section 3. Telephone Meetings. Stockholders, members of the Board of
Directors or members of any committee designated by the Board of Directors may
participate in and hold meetings of such stockholders, Board of Directors or
committee by means of conference telephone or similar communications equipment
by means of which all persons participating in the meeting can hear each other.
-7-
<PAGE>
ARTICLE VI
OFFICERS
Section 1. In General. The officers of the corporation shall be elected
by the Board of Directors and shall consist of a Chief Executive Officer, a
President, a Vice President, a Secretary and a Treasurer. The Board of
Directors may also elect additional Vice Presidents, Assistant Vice Presidents,
a Controller, and one or more Assistant Secretaries and Assistant Treasurers and
such other officers as the Board of Directors may from time to time determine.
Any two or more offices may be held by the same person.
Section 2. Election. The Board of Directors shall annually elect from its
members a Chairman of the Board and may elect from its members a Vice Chairman
of the Board. The Board of Directors shall also annually elect a Chief
Executive Officer, a President, one or more Vice Presidents, a Secretary and a
Treasurer, none of whom need be a member of the Board of Directors.
Section 3. Salaries. The salaries of all officers and agents of the
corporation shall be fixed by the Board of Directors or by the Executive
Committee or another committee, if so authorized by the Board of Directors;
provided that the Board of Directors may delegate to an officer of the Company
the power to fix the compensation of other officers and agents.
Section 4. Term of Office and Removal. Each officer of the corporation
shall hold office until his or her death, or his or her resignation or removal
from office, or the election or appointment and qualification of his or her
successor, whichever shall first occur. Any officer or agent elected or
appointed by the Board of Directors may be removed by the Board of Directors,
whenever in its judgment the best interests of the corporation will be served
thereby. If the office of any officer becomes vacant for any reason, the
vacancy may be filled by the Board of Directors.
Section 5. Chairman of the Board. The Chairman of the Board shall preside
at all meetings of the Board of Directors at which he or she may be present and
at all meetings of the stockholders and shall perform such other duties as may
be assigned to him or her by the Board of Directors.
Section 6. Vice Chairman of the Board. The Vice Chairman of the Board, if
any, shall have such powers and perform such duties as the Board of Directors or
the Executive Committee may from time to time prescribe or as the Chairman of
the Board may from time to time delegate to him. In the absence or disability
of the Chairman of the Board, the Vice Chairman of the Board shall perform the
duties and exercise the powers of the Chairman of the Board.
Section 7. President. The President shall be the chief administrative
officer of the corporation. In the absence of the Chairman of the Board and the
Vice Chairman of the Board, if any, he or she shall preside at all meetings of
the Board of Directors. The President shall
-8-
<PAGE>
perform such other duties as from time to time may be assigned to him by the
Board of Directors and by the Chief Executive Officer of the corporation.
Without limiting the generality or effect of the foregoing, the President shall
have full power and authority, except as otherwise required by law or directed
by the Board of Directors, (a) to execute, on behalf of the corporation, all
duly authorized contracts, agreements, promissory notes, deeds, assignments,
conveyances, applications, consents, proxies, powers of attorney and other
documents and instruments to which the corporation may be a party, and (b) to
vote and otherwise act on behalf of the corporation, in person or by proxy, at
any meeting of stockholders (or with respect to any action of such stockholders)
of any other corporation in which the corporation may hold securities and
otherwise to exercise any and all rights and powers which the corporation may
possess by reason of its ownership of securities of any such other corporation.
Section 8. Chief Executive Officer. The Chief Executive Officer of the
corporation shall have, subject only to the Board of Directors and the Executive
Committee, general and active management and supervision of the business and
affairs of the corporation and shall see that all orders and resolutions of the
Board of Directors and the Executive Committee are carried into effect. He or
she shall have all powers and duties of supervision and management usually
vested in the general manager of a corporation, including the supervision and
direction of all other officers of the corporation and the power to appoint and
discharge agents and employees. Without limiting the generality or effect of
the foregoing, the Chief Executive Officer shall have full power and authority,
except as otherwise required by law or directed by the Board of Directors, (a)
to execute, on behalf of the corporation, all duly authorized contracts,
agreements, promissory notes, deeds, assignments, conveyances, applications,
consents, proxies, powers of attorney and other documents and instruments to
which the corporation may be a party, and (b) to vote and otherwise act on
behalf of the corporation, in person or by proxy, at any meeting of stockholders
(or with respect to any action of such stockholders) of any other corporation in
which the corporation may hold securities and otherwise to exercise any and all
rights and powers which the corporation may possess by reason of its ownership
of securities of any such other corporation.
Section 9. Vice Presidents. Each Vice President shall have such powers
and perform such duties as the Board of Directors or the Executive Committee may
from time to time prescribe, or as the Chief Executive Officer may from time to
time delegate to him. In the absence or disability of the President, a Vice
President designated by the Board of Directors shall perform the duties and
exercise the powers of the President. Without limiting the generality or effect
of the foregoing, each Vice President, if any, designated as an "Executive Vice
President" shall have full power and authority, except as otherwise required by
law or directed by the Board of Directors, (a) to execute, on behalf of the
corporation, all duly authorized contracts, agreements, promissory notes, deeds,
assignments, conveyances, applications, consents, proxies, powers of attorney
and other documents and instruments to which the corporation may be a party, and
(b) to vote and otherwise act on behalf of the corporation, in person or by
proxy, at any meeting of stockholders (or with respect to any action of such
stockholders) of any other corporation in which the corporation may hold
securities and otherwise to exercise any and all
-9-
<PAGE>
rights and powers which the corporation may possess by reason of its ownership
of securities of any such other corporation.
Section 10. Secretary. The Secretary shall attend all meetings of the
stockholders and record all votes and the minutes of all proceedings in a book
to be kept for that purpose. The Secretary shall perform like duties for the
Board of Directors and the Executive Committee when required. He or she shall
give, or cause to be given, notice of all meetings of the stockholders and
special meetings of the Board of Directors and shall perform such other duties
as may be prescribed by the Board of Directors or the Chief Executive Officer,
under whose supervision he or she shall be. He or she shall keep in safe
custody the seal of the corporation.
Section 11. Assistant Secretaries. Each Assistant Secretary shall have
such powers and perform such duties as the Board of Directors may from time to
time prescribe. Unless otherwise provided by the Board of Directors, in the
absence or disability of the Secretary, any Assistant Secretary may perform the
duties and exercise the powers of the Secretary.
Section 12. Treasurer. The Treasurer shall have the custody of all
corporate funds and securities, shall keep full and accurate accounts of
receipts and disbursements of the corporation, and shall deposit all monies and
other valuable effects in the name and to the credit of the corporation in such
depositories as may be designated by the Board of Directors. He or she shall
disburse the funds of the corporation as may be ordered by the Board of
Directors, taking proper vouchers for such disbursements, shall render to the
Chief Executive Officer and Directors, at the regular meetings of the Board, or
whenever they may require it, an account of all his transactions as Treasurer
and of the financial condition of the corporation, and shall perform such other
duties as the Board of Directors may prescribe.
Section 13. Assistant Treasurers. Each Assistant Treasurer shall have
such powers and perform such duties as the Board of Directors may from time to
time prescribe. Unless otherwise provided by the Board of Directors, in the
absence or disability of the Treasurer, any Assistant Treasurer may perform and
exercise the powers of the Treasurer.
Section 14. Controller. The Controller shall share with the Treasurer
responsibility for the financial and accounting books and records of the
corporation, shall report to the Treasurer, and shall perform such other duties
as the Board of Directors or the Executive Committee or the Chief Executive
Officer may from time to time prescribe.
Section 15. Bonding. If required by the Board of Directors, all or
certain of the officers shall give the corporation a bond, in such form, in such
sum, and with such surety or sureties as shall be satisfactory to the Board of
Directors, for the faithful performance of the duties of their office and for
the restoration to the corporation, in case of their death, resignation,
retirement or removal from office, of all books, papers, vouchers, money and
other property of whatever kind in their possession or under their control
belonging to the corporation.
-10-
<PAGE>
ARTICLE VII
CERTIFICATES OF SHARES
Section 1. Form of Certificates. Certificates representing shares of
stock of the corporation will be in such form as may be determined by the Board
of Directors, subject to applicable legal requirements. Such certificates shall
be consecutively numbered and shall be entered in the stock book of the
corporation as they are issued. Each certificate shall state on the face
thereof the holder's name, the number, class of shares, and the par value of
such shares or a statement that such shares are without par value. Each
certificate shall be signed by the President or a Vice President and the
Secretary or an Assistant Secretary, and may be sealed with the seal of the
corporation or a facsimile thereof. All signatures upon such certificates may
be facsimiles. In case any officer or officers who have signed, or whose
facsimile signature or signatures have been used on such certificates, shall
cease to be such officer or officers of the corporation, whether because of
death, resignation or otherwise, before such certificates have been delivered by
the corporation or its agents, such certificates may nevertheless be issued and
delivered as though the person or persons who signed such certificates or whose
facsimile signature or signatures have been used thereon had not ceased to be
such officer or officers of the corporation.
Section 2. Lost Certificates. The Secretary or any Assistant Secretary
may direct that a new certificate be issued in place of any certificate
theretofore issued by the corporation alleged to have been lost, stolen or
destroyed, upon the making of an affidavit of that fact, satisfactory to the
Secretary or such Assistant Secretary, by the person claiming the certificate to
have been lost, stolen or destroyed, and the Secretary or such Assistant
Secretary may require the owner of such lost, stolen or destroyed certificate,
or his or her legal representative, to give the corporation a bond, in such
form, in such sum, and with such surety or sureties as the Secretary or such
Assistant Secretary may approve as indemnity against any claim that may be made
against the corporation with respect to the certificate alleged to have been
lost, stolen or destroyed.
Section 3. Transfer of Shares. Shares of stock shall be transferable only
on the books of the corporation by the holder thereof in person or by his or her
duly authorized attorney, lawfully constituted in writing.
Section 4. Registered Stockholders. The corporation shall be entitled to
treat the holder of record of any share or shares of stock as the holder in fact
thereof and, accordingly, shall not be bound to recognize any equitable or other
claim to or interest in such share or shares on the part of any other person,
whether or not it shall have express or other notice thereof, except as
otherwise provided by law.
-11-
<PAGE>
ARTICLE VIII
GENERAL PROVISIONS
Section 1. Dividends. Dividends upon the outstanding shares of the
corporation, subject to the provisions of the Certificate of Incorporation, if
any, may be declared by the Board of Directors at any regular or special
meeting. Dividends may be declared and paid in cash, in property, or in shares
of the corporation, subject to the provisions of the Act and the Certificate of
Incorporation. The Board of Directors may fix in advance a record date for the
purpose of determining stockholders entitled to receive payment of any dividend,
such record date to be not more than sixty days prior to the payment date of
such dividend, or the Board of Directors may close the stock transfer books for
such purpose for a period of not more than sixty days prior to the payment date
of such dividend. In the absence of any action by the Board of Directors, the
date upon which the Board of Directors adopts the resolution declaring such
dividend shall be the record date.
Section 2. Reserves. There may be created by resolution of the Board of
Directors out of the net profits of the corporation such reserve or reserves as
the Directors from time to time, in their discretion, think proper to provide
for contingencies, or to equalize dividends, or to repair or maintain any
property of the corporation, or for such other purpose as the Directors shall
think beneficial to the corporation, and the Directors may modify or abolish any
such reserve in the manner in which it was created.
Section 3. Fiscal Year. The fiscal year of the corporation shall be fixed
by resolution of the Board of Directors.
Section 4. Seal. The corporation shall have a seal, and said seal may be
used by causing it or a facsimile thereof to be impressed or affixed or
reproduced or otherwise. Any officer of the corporation shall have authority to
affix the seal to any document requiring it.
ARTICLE IX
INDEMNITY
Section 1. Damages and Expenses. Without limiting the generality or
effect of Article IX of the Certificate of Incorporation, the corporation shall
to the fullest extent permitted by applicable law as then in effect indemnify
any Director or officer of the corporation (each, an "Indemnitee") who is or was
or is threatened to be made to become involved in any manner (including without
limitation as a party or a witness) in any threatened, pending or completed
investigation, claim, action, suit or proceeding, whether of a civil, criminal,
administrative or investigative nature (including without limitation any action,
suit or proceeding by or in the right of the corporation to procure a judgment
in its favor) (each, a "Proceeding") by reason of the fact that such person is
or was a Director, officer, employee or agent of the corporation, or is or was
serving at the request of the Board of Directors or an officer of the
corporation as a director,
-12-
<PAGE>
officer, employee or agent of another corporation, partnership, joint venture,
trust or other enterprise (whether or not for profit), or by reason of anything
actually or allegedly done or not done by such person in any such capacity,
against any and all expenses (including attorneys' fees) actually and reasonably
incurred by, and any and all judgments, fines and penalties entered or assessed
against, and any and all amounts reasonably paid or payable in settlement by,
such person in connection with such Proceeding. Such indemnification shall be a
contract right and shall include the right to receive payment in advance of any
expenses incurred by an Indemnitee in connection with such Proceeding upon
receipt of an undertaking (which may be accepted by the corporation without any
security for the performance thereof and without regard to the financial
capacity of such person to perform it obligations thereunder) by or on behalf of
such person to repay such amount if it shall ultimately be determined that he or
she is not entitled to be indemnified by the corporation as authorized by this
Article IX or otherwise.
The indemnification and advancement of expenses provided by, or granted
pursuant to, this Article IX shall not be exclusive of any other rights to which
any person seeking indemnification may otherwise be entitled.
The rights to indemnification and advancement of expenses provided by, or
granted pursuant to, this Article IX shall continue as to a person who has
ceased to be a Director, officer, employee or agent of the corporation or any
other enterprise and shall inure to the benefit of the heirs, executors,
administrators and estate of such person.
In addition to the mandatory indemnification of Directors and officers of
the corporation provided by this Article IX, the corporation may, if and to the
extent authorized by the Board and permitted by the Act, indemnify any person or
entity against any liability whatsoever.
Section 2. Insurance, Contracts and Funding. The corporation may purchase
and maintain insurance to protect itself or any Indemnitee or other person
against any expenses, judgments, fines and amounts paid in settlement or
incurred by any Indemnitee or other person in connection with any Proceeding
referred to in Article IX or otherwise, to the fullest extent permitted by
applicable law as then in effect. The corporation may enter into contracts with
any person entitled to indemnification under Article IX or otherwise, and may
create a trust fund, grant a security interest, or use other means (including
without limitation procuring one or more letters of credit) to ensure the
payment of such amounts as may be necessary to effect indemnification as
provided in this Article IX.
ARTICLE X
AMENDMENTS
Section 1. By Stockholders. Except as otherwise provided by law or by the
Certificate of Incorporation or these Bylaws, these Bylaws may be amended or
repealed by the affirmative vote of the holders of at least a majority of the
voting power of all shares of the corporation entitled to
-13-
<PAGE>
vote thereon, at any regular or special meeting of the stockholders, duly
convened after notice to the stockholders of that purpose.
Section 2. By the Board of Directors. Except as otherwise provided by law
or by the Certificate of Incorporation or these Bylaws, these Bylaws may also be
amended or repealed by the Board of Directors by the vote of a majority of
Directors.
Adopted: May 31, 1998
- ----------------------
Jeannette P. Meier
Secretary
-14-
<PAGE>
EXHIBIT 10.9
CHAIRMAN/CONSULTING/SEVERANCE AGREEMENT
THIS CHAIRMAN/CONSULTING/SEVERANCE AGREEMENT ("Agreement") is made and
entered into as of the 31st day of May, 1998 by and between Sterling Commerce,
Inc., a Delaware corporation ("Sterling Commerce"), and Sterling L. Williams, an
individual ("Williams").
WHEREAS, Williams has until the date hereof been an executive officer and
employee of Sterling Commerce;
WHEREAS, Williams and Sterling Commerce are parties to that certain
Chairman Agreement (the "Existing Agreement") which the parties wish to
terminate on the date hereof and replace with this Agreement;
WHEREAS, Sterling Commerce considers Williams' knowledge of Sterling
Commerce, its business and the electronic commerce and software industries to be
of great strategic value to Sterling Commerce; and
WHEREAS, Sterling Commerce therefore desires to maintain Williams' role as
Chairman of the Board of Directors ("Chairman"), to retain Williams as a
strategic consultant and to substitute the terms of this Agreement for certain
employment, consulting and severance rights Williams has under the Existing
Agreement, and Williams is willing to agree to such arrangements;
NOW, THEREFORE, in consideration of the premises and covenants contained
herein and other good and valuable consideration, the sufficiency of which is
hereby acknowledged, the parties hereto agree as follows:
AGREEMENTS:
1. WILLIAMS' OBLIGATIONS. During the term of this Agreement, Williams
shall consult in an advisory capacity to the Executive Committee of the Board of
Directors of Sterling Commerce (the "Board") and the Chief Executive Officer of
Sterling Commerce and, for so long as the Board elects Williams as Chairman, he
shall serve as Chairman. As consultant and Chairman, Williams shall provide to
the Chief Executive Officer, the Executive Committee of the Board and the Board
operational, strategic and financial advice and recommendations affecting the
general welfare and business of Sterling Commerce, including but not limited to
advice and counseling as to general business matters and strategies, analysis of
strategic acquisition opportunities, analysis of particular acquisition
candidates, advice and counseling with respect to executive compensation matters
and other personnel matters, and advice and counseling with respect to customer
relationships and opportunities, and shall attend major management business
strategy meetings and customer conferences, as well as preside at meetings of
the Board. Williams shall make himself available for reasonable amounts of time
to perform such services during normal business hours and upon reasonable
notice, at such times and places as shall be
<PAGE>
mutually agreed upon. In no event shall Williams be required to expend in excess
of thirty (30) days per year performing such services for Sterling Commerce. In
the event Williams becomes disabled during the term of this Agreement and as a
result of such disability is unable to perform the services provided for in this
Section 1, the compensation provided for in Section 2 shall nonetheless continue
and all other terms and conditions of this Agreement shall remain in full
effect.
2. COMPENSATION. As consideration for Williams' agreement to enter into
this Agreement and the services to be performed hereunder, Williams shall be
paid annual fees of $800,000, in equal bi-monthly installments, in arrears,
commencing June 1, 1998, which amount may be increased from time to time as
mutually agreed. Mr. Williams shall also be reimbursed for all other authorized
expenses, such as food and first class travel and lodging, incurred at the
direction of Sterling Commerce in providing services under this Agreement. All
compensation and expense reimbursements described in the preceding two sentences
shall be paid by Sterling Commerce (Northern America), Inc. In addition, Mr.
Williams shall be entitled to participate in Sterling Commerce's cash incentive
bonus program, Stock Option Plan and deferred compensation plan; provided,
however, that nothing in this Section 2 shall be construed to require Sterling
Commerce to make any new grants of options to Williams under Sterling Commerce's
1996 Stock Option Plan. During the term of this Agreement, Sterling Commerce
shall make available to Williams office facilities of Sterling Commerce,
including secretarial, telephone and office space, or, at Williams' option,
reimburse Williams for the cost of obtaining comparable facilities from third
parties. Williams agrees that the compensation under this Agreement includes
full compensation for serving as Director of Sterling Commerce and that during
the term of this Agreement he will not be paid, and waives any claim to, other
fees and other compensation paid to non-employee directors of Sterling Commerce.
3. CONFIDENTIAL INFORMATION. Any and all confidential information of
Sterling Commerce to which Williams may become privy in the performance of his
services shall be treated as confidential by him and shall not be communicated
to or discussed with any party who is not an officer or director of Sterling
Commerce, unless Williams is specifically authorized to do so by the Executive
Committee of the Board. Williams shall not use any information delivered to him
by Sterling Commerce for his personal gain, nor shall Williams act as a
financial consultant or advisor to any other person, partnership, corporation or
other business association in the computer industry (software, hardware or
services) during the term of this Agreement without the prior written consent of
Sterling Commerce, such consent not to be unreasonably withheld. Sterling
Commerce acknowledges that it is aware Williams is an executive officer and
director of Sterling Software, Inc. and INPUT, a California corporation, and
hereby consents to employment by Sterling Software, Inc. and INPUT of Williams
as an officer, director, consultant or in any other capacity. Williams'
obligations under the second sentence of this Section 3 shall terminate 24
months after the giving of the earlier of (i) any notice of termination under
Section 4 hereof and (ii) the Acceleration Notice (as defined in Section 5
hereof).
4. TERM AND TERMINATION. This Agreement will commence on the date first
set above and shall remain in effect until terminated as hereinafter provided.
Notice of termination of this Agreement may be given at any time by Williams and
at any time after Williams ceases to be Chairman by Sterling Commerce. Upon
delivery of such notice of termination in writing, the term
2
<PAGE>
of this Agreement shall automatically become a term of seven years, commencing
on the date such notice of termination is given; provided however, that
Williams' duty as Chairman shall cease and terminate upon his ceasing to be
Chairman. In addition, Williams shall have the right to terminate this Agreement
and accelerate all payment obligations of Sterling Commerce hereunder in
accordance with, and with the effects provided for in, Section 5 hereof. This
Agreement shall also terminate upon Williams' death. Any compensation paid or
payable by Sterling Commerce on or prior to the termination of this Agreement
shall be deemed to have been earned, amounts payable shall be paid to Williams
or his estate and there shall be no repayment of sums paid prior to termination
of this Agreement.
5. CHANGE-IN-CONTROL.
(a) At any time after a Change-in-Control (as defined in Section 6
hereof) of Sterling Commerce, Williams shall be entitled to terminate this
Agreement by giving a notice of termination and acceleration (the "Acceleration
Notice") in writing (whether or not a prior notice of termination has been given
under Section 4 hereof), whereupon this Agreement, if it has not previously done
so, shall automatically convert into the seven-year term agreement provided for
in Section 4 hereof. Upon giving the Acceleration Notice, (i) Williams shall
have no further obligations to Sterling Commerce under Section 1 hereof and (ii)
Williams shall be entitled to receive in one lump sum the aggregate of all
unpaid amounts pursuant to Section 2 of this Agreement through the unexpired
portion of such seven-year term, calculated as provided in clause (b) of this
Section 5 (the "Lump Sum Payment"). The Lump Sum Payment shall be payable
within ninety (90) days following the Acceleration Notice under this Section 5.
Upon receipt by Williams of the Lump Sum Payment, this Agreement shall
immediately terminate.
(b) The Lump Sum Payment shall be in an amount equal to seven (7)
times the sum of (i) the annual fee provided for in Section 2 of this Agreement
(at the highest rate in effect at any time prior to Williams' Acceleration
Notice under Section 5 hereof) and (ii) the amount of the highest annual cash
incentive bonus awarded to Williams with respect to any Sterling Commerce Fiscal
Year after Fiscal Year 1996; provided, however, that, if this Agreement shall
have been converted into a seven-year term agreement under Section 4 hereof
prior to the Acceleration Notice by Williams following a Change-in-Control, the
Lump Sum Payment shall be reduced by the aggregate amount of fees, if any,
previously paid to Williams under this Agreement with respect to the period
after such conversion.
(c) In the event of a Change-in-Control (as defined in Section 6
hereof), all outstanding unvested Sterling Commerce stock options held by
Williams shall immediately and automatically, without further action by any
person, become and remain immediately vested and exercisable.
6. DEFINITION OF CHANGE IN CONTROL: "Change in Control" means the
occurrence during the term of the Agreement of any of the following events:
(i) Sterling Commerce is merged, consolidated or reorganized into or
with another corporation or other legal person, and as a result of such merger,
consolidation or reorganization less than two thirds of the combined voting
power of the then-outstanding
3
<PAGE>
securities entitled to vote generally in the election of directors ("Voting
Stock") of such corporation or person immediately after such transactions are
held in the aggregate by the holders of Voting Stock of Sterling Commerce
immediately prior to such transaction;
(ii) Sterling Commerce sells or otherwise transfers all or
substantially all of its assets to another corporation or other legal person,
and as a result of such sale or transfer less than two-thirds of the combined
voting power of the then-outstanding Voting Stock of such corporation or person
immediately after such sale or transfer is held in the aggregate by the holders
of Voting Stock of Sterling Commerce immediately prior to such sale or transfer;
(iii) There is a report filed on Schedule 13D or Schedule 14D-1 (or
any successor schedule, form or report), each as promulgated pursuant to the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), disclosing
that any person (as the term "person" is used in Section 13(d)(3) or Section
14(d)(2) of the Exchange Act) has become the beneficial owner (as the term
"beneficial owner" is defined under Rule 13d-3 or any successor rule or
regulation promulgated under the Exchange Act) of securities representing 20% or
more of the combined voting power of the then-outstanding Voting Stock of
Sterling Commerce.
(iv) Sterling Commerce files a report or proxy statement with the
Securities and Exchange Commission pursuant to the Exchange Act disclosing in
response to Form 8-K or Schedule 14A (or any successor schedule, form or report
or item therein) that a change in control of Sterling Commerce has occurred or
will occur in the future pursuant to any then-existing contract or transaction;
or
(v) If, during any period of two consecutive years, individuals who
at the beginning of any such period constitute the Directors of Sterling
Commerce cease for any reason to constitute at least a majority thereof;
provided, however, that for purposes of this clause (v) each Director who is
first elected, or first nominated for election by Sterling Commerce's
stockholders, by a vote of at least two-thirds of the Directors of Sterling
Commerce (or a committee thereof) then still in office who were Directors of
Sterling Commerce at the beginning of any such period will be deemed to have
been a Director of Sterling Commerce at the beginning of such period.
Notwithstanding the foregoing provisions of Sections 6(iii) or 6(iv),
unless otherwise determined in a specific case by majority vote of the Board, a
"Change in Control" shall not be deemed to have occurred for purposes of Section
6(iii) or 6(iv) solely because (A) Sterling Commerce, (B) an entity in which
Sterling Commerce directly or indirectly beneficially owns 50% or more of the
outstanding Voting Stock (a "Subsidiary"), or (C) any employee stock ownership
plan sponsored by Sterling Commerce or any other employee benefit plan of
Sterling Commerce or any Subsidiary, either files or becomes obligated to file a
report or a proxy statement under or in response to Schedule 13D, Schedule 14D-
1, Form 8-K or Schedule 14A (or any successor schedule, form or report or item
therein) under the Exchange Act disclosing beneficial ownership by it of shares
of Voting Stock of Sterling Commerce, whether in excess of 20% or otherwise, or
because Sterling Commerce reports that a change in control of Sterling Commerce
has occurred or will occur in the future by reason of such beneficial ownership
or any increase or decrease thereof.
4
<PAGE>
7. CERTAIN ADDITIONAL PAYMENTS BY STERLING COMMERCE:
(a) In the event that it shall be determined (as hereafter provided)
that all or any portion of any payment or distribution by Sterling Commerce or
any of its affiliates to or for the benefit of Williams pursuant to the terms of
this Agreement or otherwise, including under any stock option or other
agreement, plan, policy, program or arrangement (a "Payment"), would be subject
to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986,
as amended (the "Code") (or any successor provision thereto), by reason of being
considered "contingent on a change in ownership or control" of Sterling
Commerce, within the meaning of Section 280G of the Code (or any successor
provision thereto), or to any similar tax imposed by state or local law, or any
interest or penalties with respect to such tax (such tax or taxes, together
with any such interest and penalties, being hereafter collectively referred to
as the "Excise Tax"), then Williams shall be entitled to receive an additional
payment or payments (collectively, a "Gross-Up Payment"). The Gross-Up Payment
shall be in an amount such that, after payment by Williams of all taxes
(including any interest or penalties imposed with respect to such taxes),
including any Excise Tax imposed upon the Gross-Up Payment, Williams retains an
amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payment.
(b) Subject to the provisions of Section 7(f), all determinations
required to be made under this Section 7, including whether an Excise Tax is
payable by Williams and the amount of such Excise Tax and whether a Gross-Up
Payment is required to be paid by Sterling Commerce to Williams and the amount
of such Gross-Up Payment, if any, shall be made by a nationally recognized
accounting firm (the "Accounting Firm") selected by Williams in his sole
discretion. Williams shall direct the Accounting Firm to submit its
determination and detailed supporting calculations to both Sterling Commerce and
Williams within 30 calendar days after any applicable termination date and any
such other time or times as may be requested by Sterling Commerce or Williams.
If the Accounting Firm determines that any Excise Tax is payable by Williams,
Sterling Commerce shall pay the required Gross-Up Payment to Williams within
five business days after receipt of such determination and calculations with
respect to any Payment to Williams. If the Accounting Firm determines that no
Excise Tax is payable by Williams, it shall, at the same time as it makes such
determination, furnish Sterling Commerce and Williams a written opinion to the
effect that Williams has substantial authority not to report any Excise Tax on
his federal, state or local income or other tax return. As a result of the
uncertainty in the application of Section 4999 of the Code (or any successor
provision thereto) and the possibility of similar uncertainty regarding
applicable state or local tax law at the time of any determination by the
Accounting Firm hereunder, it is possible that Gross-Up Payments which will not
have been made by Sterling Commerce should have been made (an "Underpayment"),
consistent with the calculations required to be made hereunder. In the event
that Sterling Commerce exhausts or fails to pursue its remedies pursuant to
Section 7(f) and Williams thereafter is required to make a payment of any Excise
Tax, Williams shall direct the Accounting Firm to determine the amount of the
Underpayment that has occurred and to submit its determination and detailed
supporting calculations to both Sterling Commerce and Williams as promptly as
possible. Any such Underpayment shall be promptly paid by Sterling Commerce to,
or for the benefit of, Williams within five business days after receipt of such
determination and calculations.
5
<PAGE>
(c) Sterling Commerce and Williams shall each provide the Accounting
Firm access to and copies of any books, records and documents in the possession
of Sterling Commerce or Williams, as the case may be, reasonably requested by
the Accounting Firm, and otherwise cooperate with the Accounting Firm in
connection with the preparation and issuance of the determinations and
calculations contemplated by Section 7(b). Any determination by the Accounting
Firm as to the amount of the Gross-Up Payment shall be binding upon Sterling
Commerce and Williams.
(d) The federal, state and local income or other tax returns filed by
Williams shall be prepared and filed on a consistent basis with the
determination of the Accounting Firm with respect to the Excise Tax payable by
Williams. Williams shall make proper payment of the amount of any Excise
Payment, and at the request of Sterling Commerce, provide to Sterling Commerce
true and correct copies (with any amendments) of his federal income tax return
as filed with the Internal Revenue Service and corresponding state and local tax
returns, if relevant, as filed with the applicable taxing authority, and such
other documents as are reasonably requested by Sterling Commerce, evidencing
such payment. If prior to the filing of Williams' federal income tax return, or
corresponding state or local tax return, if relevant, the Accounting Firm
determines that the amount of the Gross-Up Payment should be reduced, Williams
shall within five business days pay to Sterling Commerce the amount of such
reduction.
(e) The fees and expenses of the Accounting Firm for its services in
connection with the determinations and calculations contemplated by Section 7(b)
shall be borne by Sterling Commerce. If such fees and expenses are initially
paid by Williams, Sterling Commerce shall reimburse Williams the full amount of
such fees and expenses within five business days after receipt from Williams of
a statement therefor and reasonable evidence of his payment thereof.
(f) Williams shall notify Sterling Commerce in writing of any claim by
the Internal Revenue Service or any other taxing authority that, if successful,
would require the payment by Sterling Commerce of a Gross-Up Payment. Such
notification shall be given as promptly as practicable but no later than 10
business days after Williams actually receives notice of such claim and Williams
shall further apprise Sterling Commerce of the nature of such claim and the date
on which such claim is requested to be paid (in each case, to the extent known
by Williams). Williams shall not pay such claim prior to the earlier of (i) the
expiration of the 30-calendar-day period following the date on which he gives
such notice to Sterling Commerce and (ii) the date that any payment of amount
with respect to such claim is due. If Sterling Commerce notifies Williams in
writing prior to the expiration of such period that it desires to contest such
claim, Williams, subject to the provisions of Section 7(h) of this Agreement,
shall:
i. provide Sterling Commerce with any written records or documents
in his possession relating to such claim reasonably requested by
Sterling Commerce;
ii. take such action in connection with contesting such claim as
Sterling Commerce shall reasonably request in writing from time
to time, including without limitation accepting legal
representation with respect to such claim
6
<PAGE>
by an attorney competent in respect of the subject matter and
reasonably selected by Sterling Commerce;
iii cooperate with Sterling Commerce in good faith in order
effectively to contest such claim; and
iv. permit Sterling Commerce to participate in any proceedings
relating to such claim;
provided, however, that Sterling Commerce shall bear and pay directly all costs
and expenses (including interest and penalties) incurred in connection with such
contest and shall indemnify and hold harmless Williams, on an after-tax basis,
for and against any Excise Tax or income tax, including interest and penalties
with respect thereto, imposed as a result of such representation and payment of
costs and expenses. Without limiting the foregoing provisions of this Section
7(f), Sterling Commerce shall control all proceedings taken in connection with
the contest of any claim contemplated by this Section 7(f) and, at its sole
option, may pursue or forego any and all administrative appeals, proceedings,
hearings and conferences with the taxing authority in respect of such claim
(provided, however, that Williams may participate therein at his own cost and
expense) and may, at its option, either direct Williams to pay the tax claimed
and sue for a refund or contest the claim in any permissible manner, and
Williams agrees to prosecute such contest to a determination before any
administrative tribunal, in a court of initial jurisdiction and in one or more
appellate courts, as Sterling Commerce shall determine; provided further,
however, that if Sterling Commerce directs Williams to pay the tax claimed and
sue for a refund, Sterling Commerce shall advance the amount of such payment to
Williams on an interest-free basis and shall indemnify and hold Williams
harmless, on an after-tax basis, from any Excise Tax or income or other tax,
including interest or penalties with respect thereto, imposed with respect to
such advance; and provided further, however, that any extension of the statute
of limitations relating to payment of taxes for the taxable year of Williams
with respect to which the contested amount is claimed to be due is limited
solely to such contested amount. Furthermore, Sterling Commerce's control of
any such contested claim shall be limited to issues with respect to which a
Gross-Up Payment would be payable hereunder and Williams shall be entitled to
settle or contest, as the case may be, any other issue raised by the Internal
Revenue Service or any other taxing authority.
(g) If, after the receipt by Williams of an amount advanced by
Sterling Commerce pursuant to Section 7(f), Williams receives any refund with
respect to such claim, Williams shall (subject to Sterling Commerce's complying
with the requirements of Section 7(f)) promptly pay to Sterling Commerce the
amount of such refund (together with any interest paid or credited thereon after
any taxes applicable thereto). If, after the receipt by Williams of an amount
advanced by Sterling Commerce pursuant to Section 7(f), a determination is made
that Williams shall not be entitled to any refund with respect to such claim and
Sterling Commerce does not notify Williams in writing of its intent to contest
such denial or refund prior to the expiration of 30 calendar days after such
determination, then such advance shall be forgiven and shall not be required to
be repaid and the amount of any such advance shall offset, to the extent
thereof, the amount of Gross-Up Payment required to be paid by Sterling Commerce
to Williams pursuant to this Section 7.
7
<PAGE>
(h) Any information provided by Williams to Sterling Commerce under
this Section 7 shall be treated confidentially by Sterling Commerce and will not
be provided by Sterling Commerce to any other person than Sterling Commerce's
professional advisors without Williams' prior written consent except as required
by law.
8. LEGAL FEES AND EXPENSES. It is the intent of Sterling Commerce that
Williams not be required to incur legal fees and the related expenses associated
with the interpretation, enforcement or defense of Williams' rights under this
Agreement by litigation or otherwise because the cost and expense thereof would
substantially detract from the benefits intended to be extended to Williams
hereunder. Accordingly, if it should appear to Williams that Sterling Commerce
has failed to comply with any of its obligations under this Agreement or in the
event that Sterling Commerce or any other person takes or threatens to take any
action to declare this Agreement void or unenforceable, or institutes any
litigation or other action or proceeding designed to deny, or to recover from,
Williams the benefits provided or intended to be provided to Williams hereunder,
Sterling Commerce irrevocably authorizes Williams from time to time to retain
counsel of Williams' choice, at the expense of Sterling Commerce as hereafter
provided, to advise and represent Williams in connection with any such
interpretation, enforcement or defense, including without limitation the
initiation or defense of any litigation or other legal action, whether by or
against Sterling Commerce or any Director, officer, stockholder or other person
affiliated with Sterling Commerce, in any jurisdiction. Notwithstanding any
existing or prior attorney-client relationship between Sterling Commerce and
such counsel, Sterling Commerce irrevocably consents to Williams' entering into
an attorney-client relationship with such counsel, and in that connection
Sterling Commerce and Williams agree that a confidential relationship shall
exist between Williams and such counsel. Without respect to whether Williams
prevails, in whole or in part, in connection with any of the foregoing, Sterling
Commerce will pay and be solely financially responsible for any and all
attorneys' and related fees and expenses incurred by Williams in connection with
any of the foregoing.
9. DEFAULT INTEREST. Without limiting the rights of Williams at law or
in equity, if Sterling Commerce fails to make any payment or provide any benefit
required to be made or provided under this Agreement on a timely basis, Sterling
Commerce will pay interest on the amount or value thereof at an annualized rate
of interest equal to the so-called composite "prime rate" as quoted from time to
time during the relevant period in the Southwest Edition of The Wall Street
Journal. Such interest will be payable as it accrues on demand. Any change in
such prime rate will be effective on and as of the date of such change.
10. NO EFFECT ON EMPLOYMENT COMPENSATION. Nothing herein shall be
construed to affect in any way compensation amounts paid or payable to Williams,
including bonus amounts, whether or not determined on or prior to the date
hereof, with respect to his employment by Sterling Commerce prior to the date
hereof; provided, that Williams shall receive his Fiscal Year 1998 cash
incentive bonus for the full Fiscal Year 1998, payable in accordance with
Sterling Commerce's usual bonus procedures and at the usual time of such bonus
payments.
11. TERMINATION OF CERTAIN PRIOR AGREEMENTS. Williams and Sterling
Commerce hereby agree that the Chairman Agreement, dated as of February 12,
1996, between Williams and
8
<PAGE>
Sterling Commerce, as amended as of December 1, 1997, shall be, upon execution
and delivery of this Agreement, canceled and of no further force and effect.
12. INDEMNIFICATION BY STERLING COMMERCE. In consideration of Williams
rendering the services contemplated in this Agreement, Sterling Commerce shall
indemnify Williams during the term of this Agreement to the extent and in
accordance with the terms and conditions of Attachment I to this Agreement.
13. SURVIVAL OF CERTAIN PROVISIONS. Sections 3 (except as otherwise
provided therein), 5, 6, 7, 8, 9,10, 12, 13 and 14 of this Agreement shall
survive the expiration, by termination or otherwise, of the term of this
Agreement.
14. SUCCESSORS AND BINDING AGREEMENT:
(a) Sterling Commerce will require any successor (whether direct or
indirect, by purchase, merger, consolidation, reorganization or otherwise) to
all or substantially all of the business or assets of Sterling Commerce, by
agreement in form and substance satisfactory to Williams, expressly to assume
and agree to perform this Agreement in the same manner and to the same extent
Sterling Commerce would be required to perform if no such succession had taken
place. This Agreement will be binding upon and inure to the benefit of Sterling
Commerce and any successor to Sterling Commerce, including without limitation
any persons acquiring directly or indirectly all or substantially all of the
business or assets of Sterling Commerce whether by purchase, merger,
consolidation, reorganization or otherwise, but will not otherwise be
assignable, transferable or delegable by Sterling Commerce.
(b) This Agreement will inure to the benefit of and be enforceable by
Williams' personal or legal representatives, executors, administrators,
successors, heirs, distributees and legatees.
(c) This Agreement is personal in nature and neither of the parties
hereto shall, without the consent of the other, assign, transfer or delegate
this Agreement or any rights or obligations hereunder except as expressly
provided in Sections 14(a) and 14(b). Without limiting the generality or effect
of the foregoing, Williams' right to receive payments hereunder will not be
assignable, transferable or delegable, whether by pledge, creation of a security
interest, or otherwise, other than by a transfer by Williams' will or by the
laws of descent and distribution and, in the event of any attempted assignment
or transfer contrary to this Section 14(c), Sterling Commerce shall have no
liability to pay any amount so attempted to be assigned, transferred or
delegated.
15. NOTICES: For all purposes of this Agreement (except as otherwise
expressly provided in this Agreement with respect to notice periods), all
communications, including without limitation notices, consents, requests or
approvals, required or permitted to be given hereunder will be in writing and
will be deemed to have been duly given when hand delivered or dispatched by
electronic facsimile transmission (with receipt thereof orally confirmed), or
ten business days after having been mailed by United States registered or
certified mail, return receipt requested, postage prepaid, or five business days
after having been sent by a nationally recognized overnight
9
<PAGE>
courier service such as Federal Express, UPS, or Purolator, addressed to
Sterling Commerce at Sterling Commerce, Inc., 4600 Lakehurst Court, Dublin, Ohio
43016 (to the attention of the Senior Vice President and General Counsel) and to
Williams at Sterling Software, Inc., 300 Crescent Court, Suite 1200, Dallas,
Texas 75201 (to the attention of Williams), with a copy to Williams at his
principal residence, or to such other address as any party may have furnished to
the other in writing and in accordance herewith, except that notices of changes
of address shall be effective only upon receipt.
16. GOVERNING LAW. The substantive laws of the State of Texas shall
govern the validity, construction, enforcement and interpretation of the
provisions of this Agreement.
Executed by the parties hereto as of the date first set forth above.
/s/ Sterling L. Williams
-------------------------------------
Sterling L. Williams
STERLING COMMERCE, INC.
By /s/
---------------------------------
Name
-----------------------------
Title
----------------------------
10
<PAGE>
EXHIBIT 10.14.3
SECOND AMENDMENT
TO
STERLING COMMERCE, INC.
DEFERRED COMPENSATION PLAN
This Second Amendment to the Sterling Commerce, Inc. Deferred Compensation
Plan (the "Plan") is made as of the 1st day of June, 1998, with reference to
the following facts:
A. Sterling Commerce, Inc. adopted the Plan effective as of February 1,
1997, and previously amended the Plan on October 30, 1997.
B. The Administrative Committee appointed to administer the Plan wishes to
amend the Plan and both the Committee and the Plan trustee have been furnished
with an opinion of counsel, as required by Section 8.4(e) of the Plan, to the
effect that the amendments set forth below comply with the amendment
requirements of Section 8.4 of the Plan.
NOW, THEREFORE, it is agreed as follows:
1. Section 1.2 of the Plan is amended by the addition of the following new
definition:
(x) "Acquired Employee" means, with respect to the calendar year in which
the Company acquires a business (whether by purchase of stock or assets or
by merger or by any other means), an individual who becomes a common law
employee of the Company as a result of such acquisition, provided the
individual was employed in such business on the date of such acquisition.
2. The first two sentences of Section 1.2(k) of the Plan are amended in
their entirety to read as follows:
"Eligible Individual" for a Plan Year means (i) a common law employee of
the Company whose Compensation is paid on a United States payroll in United
States dollars and whose Compensation equaled or exceeded the Threshold
Amount in the immediately preceding calendar year or, in the case of an
employee employed only during a portion of such prior calendar year, whose
annualized Compensation would have equaled or exceeded the Threshold
Amount, (ii) an Acquired Employee whose Compensation is paid on a United
States payroll in United States dollars and whose salary and incentive
bonus from the acquired business (determined in a manner consistent with
Section 1.2(h)) equaled or exceeded the Threshold Amount in the immediately
preceding calendar year or, in the case of an Acquired Employee employed by
such business only during a portion of such prior calendar year, whose
annualized salary and incentive bonus would have equaled or exceeded the
Threshold Amount, (iii) a member of the Board of Directors who is not a
common law employee of the Company or (iv) a
<PAGE>
consultant who is not a common law employee of the Company and who is
designated by the Committee as eligible to participate in the Plan.
Except for an Acquired Employee, an individual's status as an Eligible
Individual for a Plan Year shall be determined prior to the first day of
such Plan Year.
3. The second sentence of Section 3.1 of the Plan (relating to elections
to defer compensation) is amended in its entirety to read as follows:
For each subsequent Plan Year, (i) an Eligible Individual other than an
Acquired Employee may make an election to defer Compensation by filing
an Election Form with the Committee on or before the December 31
preceding the Plan Year for which the election is to be effective and
(ii) an Eligible Individual who is an Acquired Employee may, with the
consent of the Committee, make an election to defer Compensation for the
Plan Year in which the Eligible Individual becomes an Acquired Employee
by filing an Election Form with the Committee on or before the first day
of the second full payroll period beginning after the date on which such
Eligible Individual becomes an Acquired Employee, such election to be
effective as of such second full payroll period.
4. The foregoing amendments will be effective as of the date first set
forth above.
STERLING COMMERCE
By /s/ ALBERT K. HOOVER
--------------------------------------
Albert K. Hoover
Senior Vice President and
General Counsel
2
<PAGE>
EXHIBIT 21.1
STERLING COMMERCE, INC.
LIST OF SUBSIDIARIES
<TABLE>
<CAPTION>
JURISDICTION
OF INCORPORATION
NAME ----------------
<S> <C>
Sterling Commerce, Inc., a Wyoming corporation................. Wyoming
Sterling Commerce (America), Inc............................... Delaware
Sterling Commerce (U.S.), LP.................................
Sterling Commerce (Mid America), Inc......................... Michigan
Sterling Commerce (South West), Inc........................ Delaware
Sterling Commerce (U.S.A.), Inc............................ Delaware
Sterling Commerce (U.S.), Inc.................................. Delaware
Sterling Commerce (Eastern), Inc............................... Delaware
Sterling Commerce (Northern America), Inc...................... Delaware
Sterling Commerce (North West), Inc.......................... Delaware
Sterling Commerce Leasing, Inc................................. Delaware
Sterling Commerce International, Inc........................... Delaware
Sterling Commerce EU, Inc...................................... Delaware
Sterling Commerce (Mid West), Inc.............................. Delaware
Sterling Commerce (Southern), Inc.............................. Delaware
Remoteware, Inc.............................................. Georgia
Xventures, Inc............................................... Georgia
XcelleNet Integration Services, Inc.......................... North Carolina
Sterling Electronic Commerce (Barbados), Inc................. Barbados
Sterling Electronic Commerce GmbH............................ Germany
Sterling Electronic Commerce (U.K.) Limited.................. United Kingdom
XcelleNet Australia Pty Ltd.................................. Australia
XcelleNet Canada, Limited.................................... Canada
XcelleNet SARL............................................... France
Sterling Commerce B.V.......................................... Netherlands
Sterling Electronic Commerce (Canada), Inc..................... Canada
Sterling Commerce (France), SARL............................... France
Sterling Commerce GmbH......................................... Germany
Sterling Commerce International Sales Corporation.............. Barbados
Sterling Commerce International SARL........................... France
Sterling Commerce K.K.......................................... Japan
Sterling Commerce (Singapore) Pte. Ltd......................... Singapore
Sterling Commerce (UK) Limited................................. United Kingdom
Sterling Commerce (Australia) Pty Limited...................... Australia
Sterling Commerce (Sweden) AB.................................. Sweden
Sterling Commerce (Switzerland) AG............................. Switzerland
Sterling Commerce (Belgium) BVBA............................... Belgium
Sterling Commerce do Brasil Ltda............................... Brazil
Sterling Commerce (Hong Kong) Limited.......................... Hong Kong
Sterling Commerce (Italy) S.r.l................................ Italy
</TABLE>
NOTES:
1. Indented names are subsidiaries of the subsidiary listed immediately above
such subsidiary.
2. Inclusion in this exhibit is not a representation that the subsidiary is a
significant subsidiary.
3. The voting shares of all subsidiaries are 100% owned by Sterling Commerce,
Inc., its subsidiaries or employee nominees.
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
on Form S-3 (File No. 333-13955 and No. 333-13959) and in the Registration
Statement on Form S-8 (File No. 333-37523) of Sterling Commerce, Inc., and in
the related Prospectuses of our report dated November 17, 1998, with respect
to the consolidated financial statements and schedule of Sterling Commerce,
Inc. included in this Annual Report on Form 10-K for the year ended September
30, 1998.
Ernst & Young LLP
Dallas, Texas
November 19, 1998
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM STERLING
COMMERCE, INC. FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> SEP-30-1998
<CASH> 354,958
<SECURITIES> 183,451
<RECEIVABLES> 151,256
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 719,295
<PP&E> 131,932
<DEPRECIATION> 57,541
<TOTAL-ASSETS> 967,004
<CURRENT-LIABILITIES> 174,181
<BONDS> 0
0
0
<COMMON> 945
<OTHER-SE> 746,970
<TOTAL-LIABILITY-AND-EQUITY> 967,004
<SALES> 490,302
<TOTAL-REVENUES> 490,302
<CGS> 96,161
<TOTAL-COSTS> 511,463
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 2,991
<INCOME-TAX> 64,147
<INCOME-CONTINUING> (61,156)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (61,156)
<EPS-PRIMARY> (.67)
<EPS-DILUTED> (.67)
</TABLE>
