<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark one)
X Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934.
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000
OR
__ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934.
COMMISSION FILE NUMBER: 0-27696
GENSYM CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 04-2932756
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
125 CAMBRIDGEPARK DRIVE
CAMBRIDGE, MA 02140
(Address of principal executive offices)
TELEPHONE NUMBER (617) 547-2500
(Registrant's telephone number, including area code)
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
--- ---
As of October 31, 2000 there were 6,400,028 shares of the Registrant's
Common Stock outstanding.
1
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GENSYM CORPORATION
Form 10-Q INDEX
PART I. FINANCIAL INFORMATION
Page No.
--------
Item 1. Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets
September 30, 2000 and December 31, 1999 3
Condensed Consolidated Statements of Operations for the
three and nine months ended September 30, 2000 and 1999 4
Condensed Consolidated Statements of Cash Flows for the
nine months ended September 30, 2000 and 1999 5
Notes to Condensed Consolidated Financial Statements 6-9
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10-17
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17-18
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 19
Signatures 20
2
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Part I. Financial Information
Item 1. Condensed Consolidated Financial Statements
GENSYM CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
(in thousands) SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 5,835 $ 5,710
Short-term investments 1,697 5,975
Accounts receivable, net 5,153 9,528
Prepaid expenses 1,769 2,352
Deferred income taxes -- 1,261
-------- --------
Total current assets 14,454 24,826
Property and Equipment, net 1,292 1,295
Long-term deferred income taxes -- 612
Deposits and other assets 182 201
-------- --------
$ 15,928 $ 26,934
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 788 $ 387
Accrued expenses 5,225 4,694
Deferred revenue 5,274 6,931
-------- --------
Total current liabilities 11,287 12,012
Stockholders' Equity:
Preferred stock, $.01 par value -
Authorized - 2,000,000 shares
Issued and outstanding - none -- --
Common stock, $.01 par value -
Authorized - 20,000,000 shares
Issued - 6,901,328 shares Sept. 30, 2000
and 6,744,565 shares Dec. 31, 1999 69 67
Capital in excess of par value 21,501 20,923
Treasury stock (1,869) (1,869)
Accumulated deficit (13,343) (3,053)
Cumulative translation adjustment (1,717) (1,146)
-------- --------
Total stockholder's equity 4,641 14,922
-------- --------
$ 15,928 $ 26,934
======== ========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
<PAGE>
GENSYM CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
(in thousands, except for per share amounts)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
------- ------- -------- --------
<S> <C> <C> <C> <C>
REVENUES
Product $ 2,139 $ 5,205 $ 8,373 $ 14,602
Service 3,341 3,980 11,481 12,680
------- ------- -------- --------
Total revenues 5,480 9,185 19,854 27,282
COST OF REVENUES 1,929 2,113 6,291 6,438
------- ------- -------- --------
Gross profit 3,551 7,072 13,563 20,844
------- ------- -------- --------
OPERATING EXPENSES:
Sales and marketing 4,199 4,421 12,583 13,428
Research and development 1,959 1,631 5,721 4,956
General and administrative 1,062 926 3,668 3,207
------- ------- -------- --------
7,220 6,978 21,972 21,591
------- ------- -------- --------
Operating (loss) income (3,669) 94 (8,409) (747)
OTHER INCOME, NET 98 114 158 342
------- ------- -------- --------
(Loss) income before provision
for income taxes (3,571) 208 (8,251) (405)
PROVISION FOR INCOME TAXES 1,963 45 2,038 127
------- ------- -------- --------
Net (loss) income $(5,534) $ 163 $(10,289) $ (532)
======= ======= ======== ========
Basic and diluted (loss)
income per share $ (0.86) $ 0.03 $ (1.62) $ (0.09)
======= ======= ======== ========
Weighted average common shares
outstanding - Basic 6,400 6,146 6,342 6,132
======= ======= ======== ========
Weighted average common shares
outstanding - Diluted 6,400 6,153 6,342 6,132
======= ======= ======== ========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
GENSYM CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(in thousands)
NINE MONTHS ENDED
SEPTEMBER 30,
2000 1999
--------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(10,289) $ (532)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 638 856
Deferred taxes 1,873 --
Changes in assets and liabilities:
Accounts receivable 4,464 (1,211)
Prepaid expenses 733 (277)
Accounts payable 382 (49)
Accrued expenses 331 261
Deferred revenue (1,672) (99)
-------- --------
Net cash used in operating activities (3,540) (1,051)
-------- --------
CASH FLOW FROM INVESTING ACTIVITIES:
Sales (purchases) of short-term investments 4,278 (5,119)
Purchases of property and equipment (635) (327)
Decrease in other assets 28 5
-------- --------
Net cash provided by (used in) investing activities 3,671 (5,441)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Purchase of treasury stock -- (591)
Proceeds from exercise of stock options under stock plans 580 283
-------- --------
Net cash provided by (used in) financing activities 580 (308)
-------- --------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (586) (399)
-------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 3,665 (6,148)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 5,710 13,696
-------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 9,375 $ 7,548
======== ========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
<PAGE>
GENSYM CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Operations
Gensym Corporation (the Company) is a leading supplier of software products
and services for intelligent operations management in a broad range of
industries, including manufacturing, telecommunications, government, aerospace,
transportation, and financial services. Beginning in 2000, the Company
realigned its operations. The Company is now organized into two worldwide
business units: 1) the Expert Operations product line unit, which focuses on
expanding Gensym's presence in chemical, oil and gas, pharmaceutical, and other
manufacturing industries; and 2) the e-Infrastructure product line unit, which
focuses on Business-to-Business electronic infrastructure of networks, e-
marketplace entrants, and Fortune 1000 companies.
2. Basis of Presentation
The unaudited condensed consolidated financial statements included herein
have been prepared by the Company pursuant to the rules and regulations of the
Securities and Exchange Commission (the SEC). Certain information and footnote
disclosures, normally included in financial statements prepared in accordance
with generally accepted accounting principles, have been condensed or omitted
pursuant to such SEC rules and regulations; nevertheless, the management of the
Company believes that the disclosures herein are adequate to ensure that the
information presented is not misleading. In the opinion of management, the
condensed consolidated financial statements reflect all adjustments (of a normal
and recurring nature) which are necessary to present fairly the consolidated
financial position of the Company as of September 30, 2000 and the results of
its operations for the three- and nine-month periods ended September 30, 2000
and 1999 and its cash flows for the nine months then ended. These condensed
consolidated financial statements and notes thereto should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K filed with the SEC on March
29, 2000. The results of operations for the interim period are not necessarily
indicative of the results of operations for the full year.
3. Cash Equivalents and Investments
The Company accounts for investments under Statement of Financial
Accounting Standards (SFAS) No. 115, Accounting for Certain Investments in Debt
and Equity Securities. The Company's investments are classified as held-to-
maturity and are recorded at amortized cost at September 30, 2000 and December
31, 1999. Cash equivalents are short-term, highly liquid investments with
original maturity dates of three months or less. Short-term investments held as
of September 30, 2000 and December 31, 1999 consist of U.S. and municipal agency
bonds and commercial paper with original maturity dates greater than three
months that mature within one year.
4. Recently Issued Accounting Pronouncements
The Securities and Exchange Commission released Staff Accounting Bulletin
(SAB) No. 101, Revenue Recognition in Financial Statements, on December 3, 1999.
This SAB provides additional guidance on the accounting for revenue recognition,
including both broad conceptual discussions as well as certain industry-specific
guidance. The guidance is effective for the fourth quarter 2000. The Company
does not expect the adoption of SAB 101 to have a material impact on the
Company's results of operations.
In June 1998, the Financial Accounting Standards Board, (FASB), issued SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities. This
statement establishes accounting and reporting standards for derivative
instruments, including derivative instruments embedded in other contracts, and
for hedging activities. SFAS No. 133, as amended by SFAS Nos. 137 and 138, is
effective for all fiscal quarters of fiscal years beginning after June 15, 2000.
SFAS No. 133 is not expected to have a material impact on the Company's
consolidated financial statements.
6
<PAGE>
5. Revenue
Product revenues are recognized upon shipment or upon the completion of all
significant obligations by the Company, whichever is later, provided that the
fee is fixed or determinable and deemed collectible by management. If
conditions for acceptance exist subsequent to delivery, revenues are recognized
upon customer acceptance. Revenues from the sale of multi-copy licenses are
recognized upon the shipment of the product master or the first copy of the
software product if the product master is not to be delivered. Revenues derived
from consulting and training are recognized upon performance of the services
provided that the amounts due from customers are fixed or determinable and
deemed collectible by management. Software maintenance fees are recognized as
revenue ratably over the period to which they relate. Deferred revenue
primarily represents advance billings for software services, which include
maintenance, consulting, training and license prepayment fees.
The Company follows the provisions of the American Institute of Certified
Public Accountants (AICPA) Statement of Position (SOP) 97-2, Software Revenue
Recognition, as amended by SOP 98-9 in December of 1998. SOP 98-9 requires use
of the residual method of recognition of revenues when vendor-specific objective
evidence exists for undelivered elements but does not exist for delivered
elements of a software arrangement.
6. Income Taxes
Under SFAS No. 109, a deferred tax asset for the future benefit of a tax
loss carryforward should be recorded unless the company makes a determination
that it is "more likely than not" that such deferred tax asset would not be
realized. Accordingly, a valuation allowance would be provided against the
deferred tax asset to the extent that the Company cannot demonstrate that it is
"more likely than not" that the deferred tax asset will be realized. In
determining the amount of valuation allowance required, the Company considers
numerous factors, including historical profitability, estimated future taxable
income, the volatility of the historical earnings, and the volatility of
earnings of the industry in which it operates. The Company periodically reviews
its deferred tax asset to determine if such asset is realizable. At September
30, 2000, the Company concluded, in accordance with SFAS No. 109, that the
Company should not recognize the value of its deferred tax asset under the "more
likely than not' test and therefore increased the amount of its valuation
allowance to equal the entire deferred tax asset. The increase in the valuation
allowance resulted in a charge to the provision for income taxes of $1,873,000
in the period ended September 30, 2000. The primary factors considered in
evaluating the realizability of the deferred tax asset and the level of
valuation allowance were the continued operating losses through September 30,
2000 and that the Company expects a loss for the fourth quarter and for the year
ending December 31, 2000. Also included in the Company's provision for income
taxes are income taxes in foreign jurisdictions, where the Company does not have
operating loss carryforwards.
7. Comprehensive Income (Loss)
The Company applies SFAS No. 130, Reporting Comprehensive Income, which
requires that items defined as other comprehensive income, such as foreign
currency translation adjustments, be separately classified in the financial
statements and that the accumulated balance of other comprehensive income be
reported separately from accumulated deficit and capital in excess of par value
in the equity section of the balance sheet. The components of comprehensive
income for the three- and nine-month periods ended September 30, 2000 and 1999
are as follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
-------- ----- --------- -----
<S> <C> <C> <C> <C>
Comprehensive income (loss):
Net income (loss) $(5,534) $ 163 $(10,289) $(532)
Other comprehensive loss
Foreign currency adjustment (322) (99) (571) (449)
------- ----- -------- -----
Comprehensive income (loss) $(5,856) $ 64 $(10,860) $(981)
======= ===== ======== =====
</TABLE>
8. Earnings (Loss) Per Share
In accordance with SFAS No. 128, Earnings per Share, basic earnings (loss)
per share was computed by dividing net earnings (loss) by the weighted average
common shares outstanding during the three- and nine-month periods ended
September 30, 2000 and 1999. Diluted earnings (loss) per share was computed
using the weighted average number of common and potential common shares
outstanding in accordance with the treasury stock method. For the three- and
nine-month periods ended September 30, 2000, options to purchase 1,445,750
shares of the Company's common stock were not included in diluted weighted
average shares outstanding, as the effect would have been
7
<PAGE>
antidilutive. For the three months ended September 30, 1999, 7,205 potential
shares of common stock from stock options were included in the computation of
diluted earnings (loss) per share. For the nine-month period ended September 30,
1999, options to purchase 758,561 shares of the Company's common stock were not
included in diluted weighted average common shares outstanding, as their effect
would have been antidilutive.
9. Segment Reporting
On December 31, 1998, the Company adopted SFAS No. 131, Disclosure about
Segments of an Enterprise and Related Information. This pronouncement
established standards for public companies relating to the reporting of
financial and descriptive information about their operating segments in
financial statements. Operating segments are defined as components of an
enterprise about which separate financial information is available that is
evaluated regularly by management in deciding how to allocate resources and in
assessing performance of the business.
Beginning in 2000, the Company realigned the way it evaluates its
operations. The Company views its business as having two worldwide business
operations: 1) the Expert Operation product line unit, which focuses on
expanding Gensym's presence in chemical, oil and gas, pharmaceutical, and other
manufacturing industries; and 2) the e-Infrastructure product line unit, which
focuses on building Gensym's entrance into the Business-to-Business electronic
infrastructure of networks, e-marketplace entrants, and Fortune 1000 companies.
These business operations have their own specialized sales, business
development, consulting, and training resources to provide the level of
application and industry specific knowledge needed to achieve sustained growth
and profitability in their respective markets.
The Company markets and sells its products through its direct sales force
in the United States, Europe, Africa, and Asia, as well as through selected
distributors in other countries, including Japan. The Company also sells its
products through value-added resellers and systems integrators, who provide
consulting services and integrated solutions to their customers. The Company
further licenses technology to original equipment manufacturers, or OEMs, which
embed the technology within their product offerings.
The Company evaluates performance of its segments based on revenues and
segment profitability. Segment profitability is defined by the Company as net
contribution, which is computed based on gross profit less identifiable
operating costs--principally selling costs. Identifiable assets consist
primarily of: 1) accounts receivable in support of segment revenues, and 2)
prepaid expenses, property and equipment, and deposits in support of employees
dedicated to the specific segments. Unallocated corporate costs include
operating expenses and assets not specifically identifiable to the Company's
operating segments. Information as to the operations of the different segments
is set forth below:
<TABLE>
<CAPTION>
(in thousands)
Unallocated
Expert Corporate
Operation e-Infrastructure Costs Total
---------- ---------------- ----------- --------
<S> <C> <C> <C> <C>
Three months ended
September 30, 2000
Revenues $ 2,572 $ 2,908 $ 5,480
======== ======= ========
Net contribution $ (223) $ 186 $ (3,632) $ (3,669)
======== ======= ======== ========
Identifiable assets $ 3,502 $ 3,755 $ 8,671 $ 15,928
======== ======= ======== ========
Fixed asset depreciation $ 51 $ 55 $ 101 $ 207
======== ======= ======== ========
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
Unallocated
Expert Corporate
Operation e-Infrastructure Costs Total
---------- ---------------- ----------- --------
<S> <C> <C> <C> <C>
Three months ended
September 30, 1999
Revenues $ 4,059 $ 5,126 $ 9,185
======== ======== ========
Net contribution $ 1,218 $ 1,388 $ (2,512) $ 94
======== ======= ======== ========
Identifiable assets $ 5,032 $ 5,934 $ 16,025 $ 26,991
======== ======= ======== ========
Fixed asset depreciation $ 69 $ 75 $ 139 $ 283
======== ======= ======== ========
</TABLE>
<TABLE>
<CAPTION>
Unallocated
Expert Corporate
Operation e-Infrastructure Costs Total
---------- ---------------- ----------- --------
<S> <C> <C> <C> <C>
Nine months ended
September 30, 2000
Revenues $ 9,143 $10,711 $ 19,854
======== ======= ========
Net contribution $ 463 $ 2,315 $(11,187) $ (8,409)
======== ======= ======== ========
Identifiable assets $ 3,502 $ 3,755 $ 8,671 $ 15,928
======== ======= ======== ========
Fixed asset depreciation $ 158 $ 170 $ 310 $ 638
======== ======= ======== ========
</TABLE>
<TABLE>
<CAPTION>
Unallocated
Expert Corporate
Operation e-Infrastructure Costs Total
---------- ---------------- ----------- --------
<S> <C> <C> <C> <C>
Nine months ended
September 30, 1999
Revenues $ 11,930 $15,352 $ 27,282
======== ======= ========
Net contribution $ 2,670 $ 5,369 $ (8,786) $ (747)
======== ======= ======== ========
Identifiable assets $ 5,032 $ 5,934 $ 16,025 $ 26,991
======== ======= ======== ========
Fixed asset depreciation $ 216 $ 227 $ 413 $ 856
======== ======= ======== ========
</TABLE>
9
<PAGE>
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of section 21E of the Securities Exchange Act, as amended.
For this purpose, any statements contained herein that are not statements of
historical fact may be deemed to be forward-looking statements. These
forward-looking statements involve risks and uncertainties and are not
guarantees of future performance. Without limiting the foregoing, the words
"believes," "anticipates," "plans," "expects," "intends" and similar expressions
are intended to identify forward-looking statements. There are a number of
important factors that could cause the Company's actual results to differ
materially from those indicated by such forward-looking statements. These
factors include, without limitation, those set forth below under the caption
"Certain Factors That May Affect Future Results".
OVERVIEW
The Company was incorporated in 1986 to deliver adaptive software products
for modeling and managing complex business processes. The Company's core
product, G2, and G2-based products are sold to customers for a broad array of
intelligent operations management applications in a wide range of industries,
including manufacturing, telecommunications, government, aerospace,
transportation, and financial services. In addition, the Company derives
significant service revenues from maintenance contracts, consulting services,
and training courses related to its software products.
The Company markets and sells its products through its direct sales force
in the United States, Europe, Africa, and Asia, as well as through selected
distributors in other countries, including Japan. The Company also sells its
products through value-added resellers and systems integrators, who provide
consulting services and integrated solutions to their customers. The Company
further licenses technology to OEMs, which embed the technology within their
product offerings.
Beginning in 2000, the Company realigned its organization to create two
worldwide business units, each of which is responsible for it's own sales,
technical support, and consulting services. The Expert Operations product line
unit serves Gensym's core customers in the chemical, oil and gas, pharmaceutical
and other manufacturing-intensive industries with such leading products as G2
and NeurOn-Line. The new e-Infrastructure product line unit focuses on the
business-to-business electronic infrastructure of networks, e-marketplace
entrants and Fortune 1000 companies by offering both current technology
platforms, such as Integrity (formerly known as OpEx), and new products such as
e-SCOR, which will further address customers' Web-based, dynamic supply chains,
and NetSleuth, which facilitates the discovery, mapping and analysis of IP
networks.
10
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of total revenues, condensed
consolidated statements of operations data for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
-------- ------- ------- -------
<S> <C> <C> <C> <C>
REVENUES:
Product 39.0% 56.7% 42.2% 53.5%
Service 61.0% 43.3% 57.8% 46.5%
-------- -------- ------- -------
Total revenues 100.0% 100.0% 100.0% 100.0%
COST OF REVENUES 35.2% 23.0% 31.7% 23.6%
-------- -------- ------- -------
Gross profit 64.8% 77.0% 68.3% 76.4%
-------- -------- ------- -------
OPERATING EXPENSES:
Sales and marketing 76.6% 48.1% 63.4% 49.2%
Research and development 35.8% 17.8% 28.8% 18.2%
General and administration 19.4% 10.1% 18.4% 11.8%
-------- -------- ------- -------
131.8% 76.0% 110.6% 79.2%
Operating (loss) income (67.0%) 1.0% (42.3%) (2.8%)
OTHER INCOME, NET 1.8% 1.3% 0.8% 1.3%
-------- -------- ------- -------
(Loss) income before provision
for income taxes (65.2%) 2.3% (41.5%) (1.5%)
PROVISION FOR INCOME TAXES 35.8% 0.5% 10.3% 0.5%
-------- -------- ------- -------
Net (loss) income (101.0%) 1.8% (51.8%) (2.0%)
======== ======== ======= =======
</TABLE>
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
Revenues
The Company's operating revenues are derived from two sources: product
licenses and services. Product revenues include revenues from sales of licenses
for use of the Company's software products. Service revenues consist of fees
for maintenance contracts, consulting services, and training courses related to
the Company's products.
Total revenues for the three and nine months ended September 30, 2000 were
$5.5 million and $19.9 million, respectively. This represents a decrease of $3.7
million, or 40.3%, for the three-month period ended September 30, 2000 as
compared to the same period in 1999 and a decrease of $7.4 million, or 27.2%,
for the nine month period ended September 30, 2000 as compared to the same
period in 1999. For the three and nine month periods ended September 30, 2000,
compared to the same periods of fiscal 1999, the decrease in total revenue was
primarily attributable to decreased sales of product licenses.
11
<PAGE>
Product. Product revenues for the three and nine months ended September
30, 2000 were $2.1 million and $8.4 million, respectively, a decrease of $3.1
million, or 58.9%, and a decrease of $6.2 million, or 42.7%, from the comparable
periods of fiscal 1999. The decrease in product revenues for the three and nine
month periods ended September 30, 2000 for the Expert Operations segment were
$1.1 million and $1.9 million and was mainly the result of decreased sales to
the process manufacturing industry, and the Company's new pricing and
packaging policies as implemented by the Company in the third quarter 2000.
Effective July 10, 2000, the Company announced a new pricing and product line
packaging policy, which resulted in some delays in the implementation of new
business. The e-Infrastructure segment revenues decreased $2.0 million and $4.4
million for the respective periods. This occurred primarily in the
telecommunications sector which, in the first nine months of 1999 included $2.9
million from a single customer, BMC Software Inc. The remaining decrease
occurred mainly in the aerospace and transportation industries.
Service. Service revenues for the three and nine months ended September 30,
2000 were $3.3 million and $11.5 million, respectively, a decrease of $0.6
million, or 16.1%, and a decrease $1.2 million, or 9.5%, from the comparable
periods of fiscal 1999. The decrease in service revenues for both the three and
nine month periods ended September 30, 2000 was primarily due to decreases in
application consulting revenues and training fees.
Cost of Revenues
Cost of revenues primarily consists of consulting labor, technical support
costs, and the costs of material and labor involved in producing and
distributing the Company's software. These costs for the three and nine months
ended September 30, 2000 were $1.9 million and $6.3 million, respectively. This
was a decrease of $0.2 million, or 8.7%, and a decrease of $0.1 million, or
2.3%, from the comparable periods of 1999. The decrease was due primarily to a
decrease in costs related to delivering consulting services in line with the
decrease in consulting revenues. Gross margin of 64.8% for the three months
ended September 30, 2000 declined from 77.0% for the comparable quarter in
fiscal 1999. Gross margin for the nine months ended September 30, 2000 of 68.3%
declined from the 76.4 % gross margin for the comparable period in fiscal 1999.
The decreases in gross margin resulted primarily from declines in the higher
margin product revenues for both comparable periods.
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist primarily of
costs associated with personnel involved in the sales and marketing process,
sales commissions, sales facilities, travel and lodging, trade shows and
seminars, advertising, and promotional materials. These expenses for the three
and nine months ended September 30, 2000 were $4.2 million and $12.6 million,
respectively. The decrease in both periods, $0.2 million, or 5.0%, for the
quarter, and $0.8 million, or 6.3%, for the nine months, as compared to the same
periods in 1999, was primarily due to lower commission expenses related to lower
sales volume. This was partially offset by increased recruitment and
compensation expenses. Sales and marketing expenses, as a percent of revenue
were 76.6% and 63.4%, respectively, for the three and nine months ended
September 30, 2000 as compared to 48.1% and 49.2% for the same periods in 1999.
The increase was primarily due to the impact of lower revenue.
Research and Development. Research and development expenses consist
primarily of costs of personnel, equipment, and facilities. These expenses for
the three and nine months ended September 30, 2000 were $2.0 million and $5.7
million, respectively. These expenses increased $0.3 million, or 20.1%, and
$0.8 million, or 15.4%, from the comparable periods in 1999. The increase was
primarily due to an increase in subcontracted labor for product development. As
a percent of revenue, research and development expenses were 35.8% and 28.8%,
respectively, for the three and nine months ended September 30, 2000 as compared
to 17.8% and 18.2% for the same periods in 1999. The increase was primarily due
to the impact of lower revenue as well as increased costs.
12
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General and Administrative. General and administrative expenses consist
primarily of personnel costs for finance, administration, operations, and
general management, as well as legal and accounting expenses. These expenses
for the three and nine months ended September 30, 2000 were $1.1 million and
$3.7 million, respectively. These expenses increased $0.1 million, or 14.7%,
and $0.5 million, or 14.4%, from the comparable periods in 1999. The increases
are primarily due to increases in recruitment costs. General and administrative
expenses were 19.4% and 18.4%, respectively, as a percent of revenue for the
three and nine months ended September 30, 2000 as compared to 10.1% and 11.8%
for the same periods in 1999. The increase was primarily due to the impact of
lower revenue.
Other Income, Net
Other income, net consists primarily of interest income and foreign
exchange transaction gains and losses. Other income for the three and nine
months ended September 30, 2000 was $98,000 and $158,000, respectively, as
compared to $114,000 and $342,000 for the comparable periods in 1999. The
decrease in other income for both periods was a result of increased losses from
foreign exchange transactions and decreased interest income due to lower cash
balances.
Income Taxes
Under SFAS No. 109, a deferred tax asset for the future benefit of a tax
loss carryforward should be recorded unless the company makes a determination
that it is "more likely than not" that such deferred tax asset would not be
realized. Accordingly, a valuation allowance would be provided against the
deferred tax asset to the extent that the Company cannot demonstrate that it is
"more likely than not" that the deferred tax asset will be realized. In
determining the amount of valuation allowance required, the Company considers
numerous factors, including historical profitability, estimated future taxable
income, the volatility of the historical earnings, and the volatility of
earnings of the industry in which it operates. The Company periodically reviews
its deferred tax asset to determine if such asset is realizable. At September
30, 2000, the Company concluded, in accordance with SFAS No. 109, that the
Company should not recognize the value of its deferred tax asset under the "more
likely than not' test and therefore increased the amount of its valuation
allowance to equal the entire deferred tax asset. The increase in the valuation
allowance resulted in a charge to the provision for income taxes of $1,873,000
in the period ended September 30, 2000. The primary factors considered in
evaluating the realizability of the deferred tax asset and the level of
valuation allowance were the continued operating losses through September 30,
2000 and that the Company expects a loss for the fourth quarter and for the year
ending December 31, 2000. Also included in the Company's provision for income
taxes are income taxes in foreign jurisdictions, where the Company does not have
operating loss carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
The Company currently finances its operations, along with capital
expenditures, primarily through cash flows from operations and its current cash
and short-term investment balances. The Company's lease commitments consist of
operating leases primarily for the Company's facilities and computer equipment.
The Company's September 30, 2000 cash and cash equivalents balance of $5.8
million increased $125,000 from the period ended December 31, 1999. This
increase was due to $4.3 million received from the sales of short-term
securities and $580,000 received from the exercise of stock options and from
issuance of stock under the Company's Employee Stock Purchase Plan offset by
$3.5 million used by operating activities (primarily due to the Company's net
loss in the nine months ended September 30, 2000), $635,000 used to purchase
equipment and other assets, and a decrease of $586,000 due to the effect of
currency fluctuation.
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At September 30, 2000, the Company had cash, cash equivalents, and short-
term investments of $7.5 million. The Company regularly invests excess funds in
highly rated money market funds, government securities, and commercial paper.
The Company believes that its existing funds and working capital may be
sufficient to fund its operating and capital requirements as currently planned
at least through the next twelve-month period. However, the Company's actual
cash requirements may vary materially from those now planned because of changes
in expectations of the Company's results of operations due to the market's
acceptance of its products and other factors. The Company may need additional
funds for product development or operations. These additional funds may be
raised from time to time through public or private sales of equity, through
borrowings, or through other financings. There are no assurances that the
Company will be able to obtain any additional funding that it may require on
acceptable terms, if at all.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
The following important factors, among other things, could cause our actual
operating results to differ materially from those indicated or suggested by
forward-looking statements in this Form 10-Q or presented elsewhere by
management from time to time.
Emerging Market for Intelligent Operations Management Systems. The
majority of the Company's revenues are derived from the licensing and support of
software products that enable organizations to implement intelligent operations
management systems for decision support and control. Although many organizations
have begun to deploy, or have announced plans to deploy, intelligent operations
management systems, these systems are different from the basic monitoring and
control systems that are traditionally employed by these organizations. There
can be no assurance that these organizations will be able to introduce
intelligent operations management systems successfully, nor that such systems
will gain widespread acceptance. In addition, the timing of the implementation
of intelligent operations management systems by organizations may be affected by
economic factors, government regulations, and other factors. Delays in the
introduction of intelligent operations management systems or the failure of
these systems to gain widespread market acceptance would materially and
adversely affect the Company's business, results of operations, or financial
condition. In addition, the Company believes that end-users in its markets are
increasingly seeking application-specific products and components as well as
complete solutions, rather than general software tools with which to develop
application-specific functionality and solutions. Meeting this demand has
required the Company to modify its sales approach. The Company is also
increasingly reliant on value-added resellers and systems integrators to satisfy
market requirements. The modified sales approach may also lengthen the Company's
average sales cycle. Failure by the Company to respond appropriately to shifts
in market demand could have a material adverse effect on the Company's business,
results of operations, or financial condition.
Dependence Upon Development of Sales and Marketing Force. The Company's
future success will depend, in part, upon the productivity of its sales and
marketing personnel and the ability of the Company to continue to attract,
integrate, train, motivate and retain new sales and marketing personnel. There
can be no assurance that the Company's investment in sales and marketing will
ultimately prove to be successful. In addition, there can be no assurance that
the Company's sales and marketing personnel will be able to compete successfully
against the significantly more extensive and better funded sales and marketing
operations of many of the Company's current and potential competitors. The
Company's inability to manage its sales and marketing personnel effectively
could have a material adverse effect on the Company's business, operating
results or financial condition.
Variability of Quarterly Operating Results. The Company has experienced,
and may experience in the future, significant quarter-to-quarter fluctuations in
its operating results. The Company has, on occasion, recorded quarterly losses,
and there can be no assurance that revenue growth or profitable operations can
be attained on a quarterly or annual basis in the future. The Company's sales
cycle typically ranges from six to 12 months, and the cost of acquiring the
Company's software, building and
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deploying applications, and training users represents a significant expenditure
for customers. The Company's relatively long sales cycle and high license fees,
together with fixed short-term expenses, can cause significant variations in
operating results from quarter to quarter, based on a relatively small variation
in the timing of major orders. Factors such as the timing of new product
introductions and upgrades and the timing of significant orders could contribute
to this quarterly variability. In addition, the Company ships software products
within a short period after receipt of an order and typically does not have a
material backlog of unfilled orders of software products. Therefore, revenues
from software licenses in any quarter are substantially dependent on orders
booked in that quarter. Historically, a majority of each quarter's revenues from
software licenses has come from license contracts that have been effected in the
final weeks of that quarter. The revenues for a quarter typically include a
number of large orders. If the timing of any of these orders is delayed, it
could result in a substantial reduction in revenues for that quarter. The
Company's expense levels are based in part on expectations of future revenue
levels. A shortfall in expected revenues could therefore result in a
disproportionate decrease in the Company's net income.
Economic Factors. Because capital expenditures are often viewed as
discretionary by organizations, sales of the Company's products for capital
budget projects are subject to general economic conditions. Future recessionary
conditions in the industries that use the Company's products may adversely
affect the Company's business, results of operations, or financial condition.
Product Concentration. The Company's main product offerings are G2, an
object-oriented development and deployment environment for building intelligent
operations management systems, and software application products which operate
in conjunction with G2. Accordingly, the Company's business and financial
results are substantially dependent upon the continued customer acceptance and
deployment of G2 and related products. The timing of major G2 releases may
affect the timing of purchases of the Company's products. The Company has
introduced several G2-based products for building applications and is developing
others. The Company believes that market acceptance of these products will be
important to the Company's future growth. There can be no assurance that such
products will achieve market acceptance or that new products will be
successfully developed. In addition, the Company relies on many of its
marketing partners to develop G2-based products for specialized markets.
Accordingly, the Company's business and financial results are also linked to the
continued successful product development by its marketing partners and market
acceptance of such G2-based products. Any decline in the demand for G2 and
related products, whether as a result of competitive products, price
competition, the lack of success of the Company's marketing partners,
technological change, the shift in customer demand toward complete solutions, or
other factors, could have a material adverse effect on the Company's business,
results of operations, or financial condition.
New Products and Rapid Technological Change. The market for the Company's
products is relatively new and is characterized by rapid technological change,
evolving industry standards, changes in end-user requirements, and frequent new
product introductions and enhancements. The Company's future success will
depend in part upon its ability to enhance its existing products, to introduce
new products and features to meet changing customer requirements and emerging
industry standards, and to manage transitions from one product release to the
next. The Company has from time to time experienced delays in introducing new
products and product enhancements. There can be no assurance that the Company
will not experience difficulties that could delay or prevent the successful
development, introduction and marketing of these new products and product
enhancements. Also there can be no assurance that the Company will successfully
complete the development of new or enhanced products, that the Company will
successfully manage the transition to future versions of G2, or to successor
technology, or that the Company's future products will achieve market
acceptance. In addition, the introduction of products embodying new
technologies and the emergence of new industry standards could render the
Company's existing products and products currently under development obsolete
and unmarketable. From time to time, new products, capabilities, or
technologies may be announced that have the potential to replace or shorten the
life cycle of the Company's existing product offerings. There can be no
assurance that announcements of currently planned or other new product offerings
will not cause customers to defer purchasing existing Company products. See
"Emerging Market for Intelligent Operations Management Systems."
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Reliance Upon Indirect Distribution Channels and Risks Associated with
Strategic Partner Relationships. The Company sells its products in part through
value-added resellers, systems integrators, OEMs and distributors, who are not
under the control of the Company. Sales of the Company's products by value-
added resellers and systems integrators represented 32% and 37% of the Company's
product revenues in the first nine months of 2000 and 1999, respectively. The
loss of major OEMs or resellers of the Company's products, a significant decline
in their sales, or difficulty on the part of such third-party developers or
resellers in developing successful G2-based products and applications could have
a material adverse effect on the Company's business, results of operations, or
financial condition. There can be no assurance that the Company will be able to
attract or retain additional qualified third-party resellers or that third-party
resellers will be able to effectively sell and implement the Company's products.
In addition, the Company relies on third-party resellers to provide post-sales
service and support to its customers, and any deficiencies in such service and
support could adversely affect the Company's business, results of operations, or
financial condition.
Risks Associated With International Operations. The Company's
international revenues represented 44% and 42% of total revenues in the first
nine months of 2000 and 1999, respectively. Revenues are categorized by the
Company according to product shipment destination and therefore do not
necessarily reflect the ultimate country of installation. The international
portion of the Company's business is subject to a number of inherent risks,
including difficulties in building and managing international operations,
difficulties in localizing products and translating documentation into local
languages, fluctuations in the value of international currencies, fluctuating
import/export duties and quotas, and unexpected regulatory, economic, or
political changes in international markets. There can be no assurance that these
factors will not adversely affect the Company's business, results of operations,
or financial condition.
Competition. A number of companies offer products that perform certain
functions of G2 for specific applications. In all of the Company's markets,
there is competition from "point solutions", real-time and expert system
products, and internally-developed software. At the fundamental level, there
are commercially available software development tools that software application
developers or potential customers could use to build software having
functionality similar to the Company's products.
Certain companies such as Objective Systems Integrators, Inc., Micromuse,
and Systems Management Arts (SMARTS), sell "point solutions" that compete with
the Company's products with respect to specific applications or uses. Several
companies, including Ilog S.A. and SMARTS, offer products with limited real-
time, expert system, or fault isolation capabilities at lower price points than
those provided by the Company. These products often require extensive
programming with languages such as C or C++ for complete implementation. Certain
competitors in this category have greater financial and other resources than the
Company and might introduce new or improved products to compete with G2,
possibly at lower prices.
The Company's software is also integrated into industry-specific solutions
by value-added resellers. A number of software companies offer products that
compete in specific application areas addressed by these value-added resellers,
such as cement kiln control and refinery scheduling, and they could be
successful in supplying alternatives to products based on the Company's
software.
Many of the Company's customers have significant investments in their
existing solutions and have the resources necessary to enhance existing products
and to develop future products. These customers may develop and incorporate
competing technologies into their systems or may outsource responsibility for
such systems to others who do not use the Company's products. There is no
assurance that the Company can successfully persuade development personnel
within these customers' organizations to use G2-based products that can cost
effectively compete with their internally-developed products. This would reduce
the need for the Company's products and services and limit future opportunities
for the Company.
The Company believes that continued investment in research and development
and sales and marketing will be required to maintain its competitive position.
There can be no assurance that competitors will not develop products or provide
services that are superior to the Company's products or services or achieve
greater market acceptance. Competitive pressures faced by the Company could
force the Company to reduce its prices, which could result in reduced operating
results. There
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can be no assurance that the Company will be able to compete successfully
against current and future sources of competition or that such competition will
not have a material adverse effect on the Company's business, results of
operations, or financial condition.
Potential for Undetected Errors. Complex software products such as those
offered by the Company may contain unintended errors or failures commonly
referred to as "bugs". There can be no assurance that, despite significant
testing by the Company and by current and potential customers, errors will not
be found in new products after commencement of commercial shipments. Although
the Company has not experienced material adverse effects resulting from any such
errors or defects to date, there can be no assurance that errors or defects will
not be discovered in the future that could cause delays in product introduction
and shipments or require design modifications that could adversely affect the
Company's business, results of operations, or financial condition.
Dependence Upon Proprietary Technology. The Company's success is heavily
dependent upon its proprietary technology. The Company relies upon a
combination of trade secret, contract, copyright, patent, and trademark law to
protect its proprietary rights in its products and technology. The Company
enters into confidentiality and/or license agreements with its employees, third-
party resellers, and end-users and limits access to and distribution of its
software, documentation, and other proprietary information. In addition, the
Company has placed technical inhibitors in its software that prevents such
software from running on unauthorized computers. However, effective patent,
copyright, and trade secret protection may not be available in every country in
which the Company's products are distributed. There can be no assurance that
the steps taken by the Company to protect its proprietary technology will be
adequate to prevent misappropriation of its technology by third parties, or that
third parties will not be able to develop similar technology independently. In
addition, there can be no assurance that third parties will not assert
infringement claims in the future or that such claims will not be successful.
Dependence on Key Personnel. The Company's success depends in large part
upon certain key employees, including its executive officers, the loss of any of
whom could have a material adverse effect on the Company. The Company's key
employees are not bound by employment agreements that require them to remain
with the Company. The Company's success will depend in significant part upon its
ability to attract and retain highly-skilled management, technical, and sales
and marketing personnel. Competition for such personnel in the software industry
is intense, and there can be no assurance that the Company will be successful in
attracting and retaining such personnel, or that new key personnel will
integrate successfully into the senior management team. The loss of certain key
employees or the Company's inability to attract and retain other qualified
employees or to adequately replace key personnel who depart the Company could
have a material adverse effect on the Company's business, results of operations,
or financial condition.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not use derivative financial instruments in its investing
portfolio. The Company places its investments in instruments that meet high
credit quality standards such as money market funds, government securities, and
commercial paper. The Company limits the amount of credit exposure to any one
issuer. The Company does not expect any material loss with respect to its
investment portfolio. The following table provides weighted average interest
rates and dates of maturity for the Company's investment portfolio; the
investment portfolio excludes operating cash held in both interest bearing and
non-interest bearing demand deposit accounts. The fair value of the marketable
securities portfolio is affected by changes in short-term U.S. dollar interest
rates.
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Principal amounts by expected maturity in U.S. dollars
(in thousands, except interest rates)
<TABLE>
<CAPTION>
Investments
maturing in:
------------------------------
Fair value at
Sept. 30, 2000 FY 2000 FY 2001
-------------- -------------- -------------
<S> <C> <C> <C>
Cash equivalents $ 1,506 $ 1,506 -
Weighted average interest rate 6.58% 6.58% -
Short-term investments $ 1,697 $ 1,000 $ 697
Weighted average interest rate 6.65% 6.22% 7.28%
Total Portfolio $ 3,203 $ 2,506 697
Weighted average interest rate 6.62% 6.44% 7.28%
</TABLE>
The Company conducts business in various foreign currencies, primarily in
Canada, Europe, Middle East, Australia, Japan and other Asian countries. As a
result, the Company is exposed to the effect of foreign currency exchange rate
fluctuations on the U.S. dollar value of foreign currency-denominated revenues
and expenses. Moreover, to the extent that the Company's foreign subsidiaries
maintain large intercompany payable balances with the U.S. parent, the potential
exists for significant cumulative translation adjustments in the equity section
of the consolidated balance sheets. The Company does not use foreign exchange
forward contracts to hedge its foreign currency denominated receivables.
Furthermore, there can be no assurance that, in the future, changes in foreign
currency rates, relative to the U.S. dollar, will not materially adversely
affect the consolidated results of the Company.
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PART II - OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS OF FORM 8-K
(a) Exhibits
27 Financial Data Schedule
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SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
GENSYM CORPORATION
By: /s/ Patrick Courtin
-------------------------
Dated: November 9, 2000 Patrick Courtin
Chief Executive Officer and President
(Principal Executive Officer)
By: /s/ Jeffrey A. Weber
-------------------------
Dated: November 9, 2000 Jeffrey A. Weber
Vice President of Finance and
Administration, and Chief Financial
Officer
(Principal Financial and Accounting
Officer)
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