SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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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 December 31, 1996
|_| Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934.
For the transition period from _____ to_____
Commission file number: 0-27838
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FORTE SOFTWARE, INC.
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(Exact name of registrant as specified in its charter)
Delaware 94-3131872
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1800 Harrison Street
Oakland, California 94612
(510) 869-3400
(Address, including zip code, of Registrant's principal
executive offices and 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
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Common Stock, $0.01 par value 18,609,142
(Class of common stock) (Shares outstanding at December 31, 1996)
<PAGE>
<TABLE>
FORTE SOFTWARE, INC.
REPORT ON FORM 10-Q
Table of Contents
PART I FINANCIAL INFORMATION
<CAPTION>
Item 1. Financial Statements Page
<S> <C>
Condensed Consolidated Balance Sheets 3
At March 31, 1996 and December 31, 1996
Condensed Consolidated Statements of Operations 4
For the Three and Nine Months Ended December 31, 1995 and 1996
Condensed Consolidated Statements of Cash Flows 5
For the Nine Months Ended December 31, 1995 and 1996
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial 8
Condition and Results of Operations
PART II OTHER INFORMATION
Item 1. Legal Proceedings 21
Item 2. Changes in Securities 21
Item 3. Defaults on Senior Securities 21
Item 4. Submission of Matters to a Vote of Security Holders 21
Item 5. Other Information 22
Item 6. Exhibits and Reports on Form 8-K 22
Signatures 23
</TABLE>
2
<PAGE>
<TABLE>
PART 1.
ITEM 1. FINANCIAL STATEMENTS
FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
<CAPTION>
March 31, December 31,
1996 1996
-------- --------
(unaudited)
ASSETS
Current assets:
<S> <C> <C>
Cash and cash equivalents $ 35,081 $ 30,991
Short-term investments 6,236 12,194
Accounts receivable, net of allowances of $945 ($531 at March 31, 1996) 11,059 16,666
Prepaid expenses and other current assets 839 916
-------- --------
Total current assets 53,215 60,767
Equipment and leasehold improvements, net 3,903 5,354
Other assets 173 250
-------- --------
Total assets $ 57,291 $ 66,371
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,066 $ 1,252
Accrued expenses and other liabilities 5,410 8,666
Deferred revenue 5,941 7,646
Current portion of capital lease obligations 1,084 981
-------- --------
Total current liabilities 13,501 18,545
Capital lease obligations and notes payable, due after one year 1,714 1,038
Deferred revenue 2,032 725
Commitments
Stockholders' equity:
Common Stock 183 186
Additional paid-in capital 62,618 64,047
Accumulated deficit (22,735) (18,448)
Foreign currency translation adjustments (22) 248
Unrealized gain (loss) on short-term investments -- 30
-------- --------
Total stockholders' equity 40,044 46,063
-------- --------
Total liabilities and stockholders' equity $ 57,291 $ 66,371
======== ========
<FN>
See accompanying notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
3
<PAGE>
<TABLE>
FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts; unaudited)
<CAPTION>
Three months ended December 31, Nine months ended December 31,
1995 1996 1995 1996
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenues:
License fees $ 6,196 $ 12,205 $ 12,890 $ 30,061
Maintenance and service 2,530 5,368 6,013 13,406
-------- -------- -------- --------
Total revenues 8,726 17,573 18,903 43,467
Operating expenses:
Cost of license fees 127 228 332 494
Cost of maintenance and service 1,446 3,211 3,628 8,131
Sales and marketing 3,820 7,697 9,917 20,063
Product development and engineering 2,155 2,784 5,823 7,633
General and administrative 831 1,250 2,285 3,777
-------- -------- -------- --------
Total operating expenses 6,806 11,731 18,025 31,473
Income (loss) from operations 347 2,403 (3,082) 3,369
Interest income, net 10 488 174 1,497
-------- -------- -------- --------
Income (loss) before income taxes 357 2,891 (2,908) 4,866
Provision for income taxes (12) (342) (35) (579)
-------- -------- -------- --------
Net income (loss) $ 345 $ 2,549 $ (2,943) $ 4,287
======== ======== ======== ========
Pro forma net income (loss) per share $ 0.02 0.12 $ (0.17) $ 0.20
======== ======== ======== ========
Shares used in computing pro forma net
income (loss) per share 18,920 21,156 17,773 21,124
======== ======== ======== ========
<FN>
See accompanying notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
4
<PAGE>
<TABLE>
FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands; unaudited)
<CAPTION>
Nine Months Ended December 31,
----------------------------
1995 1996
-------- --------
<S> <C> <C>
Operating activities
Net income (loss) $ (2,943) $ 4,287
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 913 1,788
Changes in operating assets and liabilities:
Accounts receivable (5,379) (5,472)
Prepaid expenses and other assets 182 (154)
Accounts payable 522 321
Accrued expenses and other liabilities 872 3,256
Deferred revenue 1,800 398
-------- --------
Net cash provided by (used in) operating activities (4,033) 4,424
-------- --------
Investing activities
Purchases of equipment and leasehold improvements (848) (3,149)
Purchase of short-term investments -- (10,784)
Maturities of short-term investments 2,915 4,856
-------- --------
Net cash provided by (used in) investing activities 2,067 (9,077)
-------- --------
Financing activities
Payment on notes payable (729) --
Reduction in capital lease obligations (532) (869)
Proceeds from issuance of common stock 109 1,432
-------- --------
Net cash provided by (used in) financing activities (1,152) 563
-------- --------
Decrease in cash and cash equivalents (3,118) (4,090)
Cash and cash equivalents at beginning of period 9,860 35,081
-------- --------
Cash and cash equivalents at end of period $ 6,742 $ 30,991
======== ========
Supplemental disclosures:
Interest paid $ 207 $ 192
======== ========
Income taxes paid $ 40 $ 162
======== ========
Supplemental disclosures of noncash investing and financing activities:
Capital lease obligations incurred $ 1,752 $ 90
======== ========
<FN>
See accompanying notes to Condensed Consolidated Financial Statements.
</FN>
</TABLE>
5
<PAGE>
FORTE SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Basis of Presentation
The unaudited condensed consolidated financial statements included herein
reflect all adjustments, consisting only of normal recurring adjustments, which
in the opinion of management are necessary to fairly present the Company's
consolidated financial position, results of operations, and cash flows for the
periods presented. These financial statements should be read in conjunction with
the Company's audited consolidated financial statements as included in the
Annual Report on Form 10-K for the year ended March 31, 1996. Certain
information and footnote disclosures normally included in audited financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the Securities and Exchange
Commission rules and regulations. The consolidated results of operations for the
period ended December 31, 1996 are not necessarily indicative of the results to
be expected for any subsequent quarter or for the entire fiscal year ending
March 31, 1997. The March 31, 1996 balance sheet was derived from audited
financial statements, but does not include all disclosures required by generally
accepted accounting principles.
Net Income (Loss) Per Share
Except as noted below, net income (loss) per share is computed using the
weighted average number of shares of common stock outstanding. Pursuant to the
Securities and Exchange Commission Staff Accounting Bulletins, common and common
equivalent shares issued by the Company at prices below the initial public
offering price during the twelve-month period prior to the Company's initial
public offering have been included in the calculation as if they were
outstanding for all periods presented through December 31, 1995 (using the
treasury stock method).
Net income (loss) per share information calculated on the above noted basis for
the three month period ended December 31, 1995 is $0.05 based on 6,890,000
weighted average shares outstanding, and $(0.51) based on 5,743,000 weighted
average shares outstanding for the nine month period ended December 31, 1995.
Pro forma net income (loss) per share has been computed as described above and
also gives effect, even if antidilutive, to common equivalent shares from
convertible preferred stock that automatically converted upon the closing of the
Company's initial public offering (using the as-if-converted method). All of the
convertible preferred stock outstanding as of the closing date, March 11, 1996,
was automatically converted into an aggregate of 12,029,883 shares of common
stock.
6
<PAGE>
FORTE SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS CONTINUED
(Unaudited)
Short-Term Investments
As of December 31, 1996, all short-term investments were classified as
available-for-sale securities pursuant to the provisions of Financial Accounting
Standards No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." Available-for-sale securities are stated at estimated fair value.
Differences between the estimated fair value and cost are included in the
balance sheet as an unrealized loss on short-term investments.
The following is a summary of the Company's investments and reconciliation of
the Company's investments to the balance sheet at December 31, 1996 (in
thousands).
Estimated
Fair
Value
------------------
Commercial Paper $ 27,271
Treasury Notes 2,892
Medium Term Notes 4,251
Corporate Notes and Bonds 5,272
----------------
Total investments $ 39,686
================
Estimated
Fair
Value
------------------
Cash equivalents $ 27,492
Short-term investments 12,194
----------------
Total investments 39,686
----------------
Cash 3,499
----------------
Total cash, cash equivalents and
short-term investments $ 43,185
================
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q may contain forward-looking
statements that involve risks and uncertainties. The Company's actual results
may differ materially from the results discussed in any such forward-looking
statements. Factors that might cause such a difference include, but are not
limited to, those discussed under the caption "Business Risks" herein and
elsewhere under the caption "Business Risks" in the fiscal 1996 Annual Report on
Form 10-K.
<TABLE>
The following table sets forth certain consolidated statement of
operations data as a percentage of total revenues for the three and the six
months ended December 31, 1995 and 1996.
<CAPTION>
Three months ended Nine months ended
December 31, December 31,
(unaudited) (unaudited)
1995 1996 1995 1996
----- ----- ----- -----
<S> <C> <C> <C> <C>
Revenues:
License 71.0% 69.4% 68.2% 69.2%
Maintenance and service 29.0 30.6 31.8 30.8
----- ----- ----- -----
Total revenues 100.0 100.0 100.0 100.0
Cost of revenues:
License 1.5 1.3 1.8 1.1
Maintenance and service 16.5 18.3 19.1 18.7
----- ----- ----- -----
Total cost of revenues 18.0 19.6 20.9 19.8
Gross profit 82.0 80.4 79.1 80.2
Operating expenses:
Sales and marketing 43.8 43.8 52.4 46.2
Product development and engineering 24.7 15.8 30.8 17.6
General and administrative 9.5 7.1 12.1 8.7
----- ----- ----- -----
Total operating expenses 78.0 66.7 95.3 72.5
Income (loss) from operations 4.0 13.7 (16.2) 7.7
Interest income, net 0.1 2.8 0.9 3.4
----- ----- ----- -----
Income (loss) before income taxes 4.1 16.5 (15.3) 11.1
Provision for income taxes (0.1) (1.9) (0.2) (1.3)
----- ----- ----- -----
Net income (loss) 4.0% 14.6% (15.5)% 9.8%
===== ===== ===== =====
</TABLE>
8
<PAGE>
Results of Operations
Revenues. The Company licenses software under non-cancelable license agreements
and provides services including maintenance, training and consulting. License
revenues are recognized when a non-cancelable license agreement has been signed,
the product has been shipped, the fees are fixed and determinable and
collectibility is probable. Fees for services are charged separately from the
license of the Company's software products. Maintenance revenues consist of fees
for ongoing support and product updates and are recognized ratably over the term
of the contract, which is typically twelve months. Revenues from training are
recognized upon completion of the related training class. Consulting revenues
are recognized as the services are performed. Allowances for credit risks and
for estimated future returns are provided for upon shipment. Returns to date
have not been material. Actual credit losses and returns may differ from the
Company's estimates and such differences could be material to the financial
statements.
The Company's total revenues increased 101% to $17.6 million from $8.7 million
for the quarters ended December 31, 1996 and 1995, respectively. For the nine
months ended December 31, 1996 total revenues increased 130% to $43.5 million
compared to $18.9 million for the nine months ended December 31, 1995. The
Company's license revenues increased 97% to $12.2 million, or 69% of total
revenues, from $6.2 million, or 71% of total revenues, for the quarters ended
December 31, 1996 and 1995, respectively. For the nine months ended December 31,
1996, license revenues increased 133% to $30.1 million from $12.9 million for
the corresponding period in 1995. Total license revenues increased primarily as
a result of an increase in the number of licenses sold reflecting increased
market awareness, acceptance of the Company's products in the market place,
expansion of the Company's direct sales organization, and growing revenues from
international distributors and value added resellers.
Maintenance and service revenues increased 112% to $5.4 million, or 31% of total
revenues, from $2.5 million, or 29% of total revenues, for the quarters ended
December 31, 1996 and 1995, respectively. Maintenance and service revenues for
the nine months ended December 31, 1996 increased by 123% to $13.4 million, or
31% of total revenues in 1996 from $6.0 million, or 32% of total revenues for
the same period in 1995. These increases in total maintenance and service
revenues were primarily a result of the growing installed base of the Company's
software products and the associated increase in demand for maintenance,
training and consulting services. Service revenues as a percentage of total
revenues may vary between periods due to changes in demand for the Company's
services and changes in the rate of growth in license revenue.
International revenues include all revenues other than from the United States.
International revenues consist of sales from the Company's direct sales
organizations in Europe and Australia and export sales through distributors and
resellers in Europe and other areas of the world, as well as international sales
made by the domestic direct sales organization. International revenues increased
271% to $7.8 million for the quarter ended December 31, 1996 compared to $2.1
million for the quarter ended December 31, 1995 representing 44% and 24% of
total revenues, respectively. For the nine months ended December 31, 1996
international revenues increased 268% to $16.2 million from $4.4 million for the
same period in 1995, representing 37% and 23% of total revenues, respectively.
The increase in international revenues reflects a growing direct sales presence
in Europe, Australia and Canada through the Company's foreign subsidiaries and
branches as well as
9
<PAGE>
growth from distributors in Asia, Europe and South America. The Company expects
that international license and related maintenance and service revenues will
continue to account for a significant portion of its total revenues in the
future. The Company believes that in order to increase sales opportunities and
profitability it will be required to expand its international operations. The
Company has committed and continues to commit significant management time and
financial resources to developing direct and indirect international sales and
support channels. There can be no assurance, however, that the Company will be
able to maintain or increase international market demand for the Company's
products. To the extent that the Company is unable to do so in a timely manner,
the Company's international sales will be limited, and the Company's business,
operating results and financial condition would be materially adversely
affected.
Cost of Revenues
Cost of License Revenues. Cost of license revenues consist primarily of
royalties paid to third-party vendors, product packaging, documentation and
production. Cost of license revenues was $127,000 and $228,000 for the quarters
ended December 31, 1995 and 1996, respectively, representing 2% of license
revenues. Cost of license revenues was $322,000 and $494,000 representing 3% and
2% of total license fee revenue for the nine month periods ended December 31,
1995 and 1996, respectively. The Company has experienced economies of scale
related to cost of licenses as a result of revenue growth.
Cost of Maintenance and Service Revenues. Cost of maintenance and service
revenues consist primarily of personnel-related and facilities costs incurred in
providing customer support, training and consulting services, as well as
third-party costs incurred in providing training and consulting services. Cost
of maintenance and service revenues was $1.4 million and $3.2 million for the
quarters ended December 31, 1995 and 1996, respectively, representing 57% and
60% of maintenance and service revenues, respectively. Cost of maintenance and
services for the nine months ended December 31, 1995 and 1996 was $3.6 million
and $8.1 million, representing 60% and 61% of maintenance, respectively. The
cost of services as a percentage of service revenues may vary between periods
depending on the mix of services provided by the Company and the extent to which
external contractors are used to provide those services.
Operating Expenses
Sales and Marketing. Sales and marketing expenses consist primarily of salaries,
commissions and bonuses earned by sales and marketing personnel, field office
expenses, travel and entertainment, promotional expenses and advertising. Sales
and marketing expenses increased from $3.8 million for the quarter ended
December 31, 1995 to $7.7 million for the quarter ended December 31, 1996, and
increased from $9.9 million for the nine months ended December 31, 1995 to $20.1
million for the nine months ended December 31, 1996. These increases reflect the
hiring of additional sales and marketing personnel, and their related costs, as
well as increased costs associated with expanded promotional activities. Sales
and marketing expenses represented 44% of total revenues for each of the
quarters ended December 31, 1995 and 1996, respectively, and represented 52% and
46% of total revenues for the nine months ended December 31, 1995 and 1996,
respectively. The decrease in sales and marketing expenses for nine months ended
December 31, 1996 as a percentage of total revenue was primarily due to the more
rapid growth in revenues.
10
<PAGE>
The Company expects that sales and marketing expenses will continue to increase
in dollar amount as the Company continues to hire additional sales and marketing
personnel and increase promotional activities in the future.
Product Development. Product development expenses consist primarily of salaries
and other personnel-related expenses and depreciation of development equipment.
The Company believes that a significant level of investment for product
development is required to remain competitive. Product development expenses
increased from $2.2 million for the quarter ended December 31, 1995 to $2.8
million for the quarter ended December 31, 1996. Product development expenses
increased from $5.8 million to $7.6 million for the nine months ended December
31, 1995 and 1996, respectively. These increases were primarily attributable to
additional hiring of product development personnel. Product development expenses
represented 25% and 16% of total revenues for the quarters ended December 31,
1995 and 1996, respectively, and represented 31% and 18% for the nine months
ended December 31, 1995 and 1996, respectively. The decrease in product
development expenses for nine months ended December 31, 1996 as a percentage of
total revenue was primarily due to the more rapid growth in revenues. The
Company anticipates that it will continue to devote substantial resources to
product development and that product development expenses will increase in
dollar amount in the future. Because all costs incurred in the research and
development of software products and enhancements to existing software products
have been expensed as incurred, cost of license revenues includes no
amortization of capitalized software development costs.
General and Administrative. General and administrative expenses increased from
$831,000 for the quarter ended December 31, 1995 to $1.3 million for the quarter
ended December 31, 1996. General and administrative expenses increased from $2.3
million for the nine months ended December 31, 1995 to $3.8 million for the nine
months ended December 31, 1996. These increases were primarily due to increased
staffing and associated expenses necessary to manage and support the Company's
increased scale of operations. General and administrative expenses represented
10% and 7% of total revenues for the quarters ended December 31, 1995 and 1996,
respectively, and represented 12% and 9% of total revenues for the nine months
ended December 31, 1995 and 1996, respectively. The decreases in general and
administrative expenses for the nine months ended December 31, 1996 as a
percentage of total revenue was primarily due to the more rapid growth in
revenues. The Company believes that its general and administrative expenses will
increase in dollar amount in the future as a result of the expansion of the
Company's administrative staff to support its growing operations and as a result
of the increased expense associated with being a public company.
Interest Income, Net. Interest income, net, represents interest earned by the
Company on its cash and cash equivalents and short-term investments offset by
interest expense and capitalized leases. Interest income, net, increased from
$10,000 for the quarter ended December 31, 1995 to $488,000 for the quarter
ended December 31, 1996. Interest income, net, increased from $174,000 for the
nine months ended December 31, 1995 to $1.5 million for the nine months ended
December 31, 1996. These increases are primarily a result of interest income
from the Company investing proceeds of the Company's initial public offering
completed on March 11, 1996.
11
<PAGE>
Provision for Income Taxes. The effective tax rate for the third quarter and the
nine months ended December 31, 1996 was 12%. The provision for income taxes was
due to state and federal alternative minimum taxes and foreign withholding
taxes. The Company expects its fiscal 1997 effective tax rate to be
approximately 12%. This rate differs from the federal statutory rate primarily
due to the utilization of net operating loss carryovers and tax credits. This
rate could change based on a change in the estimated geographic mix of the
Company's earnings, the amount of permanent reinvestment offshore of a portion
of the Company's earnings for the nine months ended December 31, 1996 or changes
in the U.S. tax law.
Liquidity and Capital Resources
The Company completed an initial public offering of common stock on March 11,
1996 with net proceeds of $34.3 million. The common stock is trading on the
Nasdaq National Market under the symbol FRTE.
The Company generated cash of $4.4 million from operating activities for the
nine months ended December 31, 1996 compared to cash used in operations of $4.0
million for the nine months ended December 31, 1995. For the nine months ended
December 31, 1996, the increase in cash flow from operations resulted primarily
from net income for the period, an increase in accrued expenses and other
liabilities, an increase in depreciation and amortization, partially offset by
an increase in accounts receivable. For the nine months ended December 31, 1995,
the net cash used in operating activities was primarily due to net losses for
the period, an increase in accounts receivable partially offset by an increase
in deferred revenue, accrued liabilities and depreciation and amortization.
The Company's investing activities consisted of the purchases of
interest-bearing securities, as well as purchases of property and equipment.
Capital expenditures were $3.1 million for the nine months ended December 31,
1996 compared to $848,000 for the nine months ended December 31, 1995. Capital
expenditures consisted of purchases of computer equipment and office furniture
to support the Company's growing employee base. The Company expects that its
capital expenditures will increase as the Company's employee base grows. At
December 31, 1996, the Company did not have any material commitments for capital
expenditures.
At December 31, 1996, the Company had $43.2 million in cash, cash equivalents
and short term investments and $42.2 million in working capital. The Company has
an equipment lease line, which at December 31, 1996, provided up to $5.8 million
of leasing capacity at 12% interest and is repayable over 42 months through the
year 2000. Approximately $1.5 million was available under the equipment lease
line as of December 31, 1996.
The Company believes that its existing cash, cash equivalents and short-term
investments will be adequate to meet its cash needs for at least the next 12
months. Thereafter, the Company may require additional funds to support its
working capital requirements or for other purposes and may seek to raise such
additional funds through public or private equity financings or from other
sources. There can be no assurance that additional financing will be available
or that, if available, such financing will be obtainable on terms favorable to
the Company and would not be dilutive.
12
<PAGE>
BUSINESS RISKS
This Quarterly Report on Form 10-Q may contain forward-looking
statements that involve risks and uncertainties. The Company's actual results
may differ materially from the results discussed in any such forward-looking
statements. Factors that might cause such a difference include, but are not
limited to, those discussed below and elsewhere under the caption "Business
Risks" in the fiscal 1996 Annual Report on Form 10-K.
Limited Operating History; History of Operating Losses. The Company was founded
in February 1991 and first shipped product in August 1994. Although the
Company's revenues have increased in each of the last ten quarters and the
Company had net income in each of the quarters ended December 31, 1995 through
December 31, 1996, the Company incurred net losses in each quarter from
inception through the quarter ended December 31, 1995, and had an accumulated
deficit of $18.4 million as of December 31, 1996. A substantial portion of the
accumulated deficit is due to the significant commitment of resources to the
Company's product development and sales organizations. The Company expects to
continue to devote substantial resources in these areas and as a result will
need to recognize significant quarterly revenues to achieve and maintain
profitability. There can be no assurance that any of the Company's business
strategies will be successful or the Company will be profitable in any future
quarter or period.
Potential Fluctuations in Quarterly Results; Uncertainty of Future Operating
Results; Seasonality. The Company's quarterly operating results have varied
significantly in the past and are likely to vary significantly in the future,
depending on factors such as the size and timing of significant orders and their
fulfillment, demand for the Company's products, changes in pricing policies by
the Company or its competitors, the number, timing and significance of product
enhancements and new product announcements by the Company and its competitors,
the ability of the Company to develop, introduce and market new and enhanced
versions of the Company's products on a timely basis, changes in the level of
operating expenses, changes in the Company's sales incentive plans, budgeting
cycles of its customers, customer order deferrals in anticipation of
enhancements or new products offered by the Company or its competitors, the
cancellation of licenses during the warranty period or nonrenewal of maintenance
agreements, product life cycles, software bugs and other product quality
problems, personnel changes, changes in the Company's strategy, the level of
international expansion, seasonal trends and general domestic and international
economic and political conditions, among others. A significant portion of the
Company's revenues have been, and the Company believes will continue to be,
derived from a limited number of orders placed by large organizations, and the
timing of such orders and their fulfillment has caused and could continue to
cause material fluctuations in the Company's operating results, particularly on
a quarterly basis. In addition, the Company intends to continue to expand its
domestic and international direct sales force. The timing of such expansion and
the rate at which new sales people become productive could also cause material
fluctuations in the Company's quarterly operating results. Due to the foregoing
factors, quarterly revenues and operating results are difficult to forecast.
Revenues are also difficult to forecast because the market for client/server
application development software is rapidly evolving, and the Company's sales
cycle, from initial evaluation to purchase and the provision of support
services, is lengthy and varies substantially from customer to customer. Product
orders are typically shipped shortly after receipt, and consequently, order
backlog at the
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<PAGE>
beginning of any quarter has in the past represented only a small portion of
that quarter's revenues. As a result, license revenues in any quarter are
substantially dependent on orders booked and shipped in that quarter. Due to all
of the foregoing, revenues for any future quarter are not predictable with any
significant degree of accuracy. Accordingly, the Company believes that
period-to-period comparisons of its operating results are not necessarily
meaningful and should not be relied upon as indications of future performance.
Although the Company has recently experienced revenue growth, such growth should
not be considered indicative of future revenue growth, if any, or of future
operating results. Failure by the Company, for any reason, to increase revenues
would have a material adverse effect on the Company's business, operating
results and financial condition.
To achieve its quarterly revenue objectives, the Company is dependent upon
obtaining orders in any given quarter for shipment in that quarter. Furthermore,
the Company has often recognized a substantial portion of its revenues in the
last month, or even weeks or days, of a quarter. The Company's expense levels
are based, in significant part, on the Company's expectations as to future
revenues and are therefore relatively fixed in the short term. If revenue levels
fall below expectations, net income is likely to be disproportionately adversely
affected because a proportionately smaller amount of the Company's expenses
varies with its revenues. There can be no assurance that the Company will be
able to achieve or maintain profitability on a quarterly or annual basis in the
future. Due to all the foregoing factors, it is likely that in some future
quarter the Company's operating results will be below the expectations of public
market analysts and investors. In such event, the price of the Company's Common
Stock would likely be materially adversely affected.
The operating results of many software companies reflect seasonal trends, and
the Company expects to be affected by such trends in the future. The Company
believes that it is likely that it will experience relatively higher revenues in
the Company's quarter ended March 31 and relatively lower or flat revenues in
its quarter ended June 30, as a result of efforts by its direct sales force to
meet fiscal year-end sales quotas. As a result, the Company could incur a
decline in net income for the quarter ended June 30, 1997 compared to the prior
quarter. The Company also anticipates that it may experience relatively weaker
demand in the quarter ended September 30 as a result of reduced sales activity
in Europe during the summer months.
Product Concentration; Dependence on Emerging Market for High-End Client/Server
Applications. All of the Company's revenues have been attributable to sales of
FORTE and related products and services. The Company currently expects FORTE and
related products and services to account for all or substantially all of the
Company's future revenues. As a result, factors adversely affecting the pricing
of or demand for FORTE and related products such as competition or technological
change, could have a material adverse effect on the Company's business,
operating results and financial condition. The Company's future financial
performance will depend, in significant part, on the successful development,
introduction and customer acceptance of new and enhanced versions of FORTE and
related products. There can be no assurance that the Company will continue to be
successful in marketing the FORTE products or other products. Although the
Company has recently experienced growth in sales of FORTE and related products,
there can be no assurance that the market for high-end client/server application
development software will continue to grow. If the high-end client/server market
fails to grow, or grows more slowly than the Company currently anticipates, the
Company's business, operating results and financial condition would be
14
<PAGE>
materially and adversely affected.
Risks Associated with Expanding Distribution. To date, the Company has sold its
products through its direct sales force, distributors and value added resellers.
The Company's ability to achieve significant revenue growth in the future will
depend in large part on its success in recruiting and training sufficient direct
sales personnel and establishing and maintaining relationships with
distributors, resellers and system integrators. Although the Company is
currently investing, and plans to continue to invest, significant resources to
expand its direct sales force and to develop distribution relationships with
third-party distributors and resellers, the Company has at times experienced and
continues to experience difficulty in recruiting qualified sales personnel and
in establishing necessary third-party relationships. There can be no assurance
that the Company will be able to successfully expand its direct sales force or
other distribution channels or that any such expansion will result in an
increase in revenues. Any failure by the Company to expand its direct sales
force or other distribution channels would materially adversely affect the
Company's business, operating results and financial condition.
Lengthy Sales Cycle. The Company's products are typically used to develop
applications that are critical to a customer's business and the purchase of the
Company's products is often part of a customer's larger business process
reengineering initiative or implementation of client/server computing. As a
result, the license and implementation of the Company's software products
generally involves a significant commitment of management attention and
resources by prospective customers. Accordingly, the Company's sales process is
often subject to delays associated with a long approval process that typically
accompanies significant initiatives or capital expenditures. For these and other
reasons, the sales cycle associated with the license of the Company's products
is often lengthy and subject to a number of significant delays over which the
Company has little or no control. There can be no assurance that the Company
will not experience these and additional delays in the future. Therefore, the
Company believes that its quarterly operating results are likely to vary
significantly in the future.
Limited Deployment; Dependence on System Integrators. The Company first shipped
FORTE in August 1994. To date, only a limited number of the Company's customers
have completed the development and deployment of high-end client/server
applications using FORTE. If any of the Company's customers are not able to
successfully develop and deploy high-end client/server applications with FORTE,
the Company's reputation could be damaged, which could have a material adverse
effect on the Company's business, operating results and financial condition. In
addition, the Company expects that a significant percentage of its future
revenues will be derived from sales to existing customers. If existing customers
have difficulty deploying applications built with FORTE or for any other reason
are not satisfied with FORTE, the Company's business, operating results and
financial condition would be materially adversely affected. The Company's
customers and potential customers often rely on third-party system integrators
to develop, deploy and manage high-end client/server applications. If the
Company is unable to adequately train a sufficient number of system integrators
or if, for any reason, a large number of such integrators adopt a product or
technology other than FORTE, the Company's business, operating results and
financial condition would be materially and adversely affected.
15
<PAGE>
Competition. The market for high-end software used in the development,
deployment and management of client/server applications is intensely competitive
and characterized by rapidly changing technology, evolving industry standards,
frequent new product introductions and rapidly changing customer requirements.
High-end client/server applications that can be developed and deployed using the
Company's FORTE environment can also be implemented using a combination of first
generation application development tools and more powerful server programming
techniques such as stored procedures in relational databases, C or C++
programming, and networking and database middleware to connect the various
components. As such, the Company effectively experiences its primary competition
from potential customers' decisions to pursue this type of approach as opposed
to utilizing an application environment such as FORTE. As a result, the Company
must continuously educate existing and prospective customers as to the
advantages of the Company's products. There can be no assurance that these
customers or potential customers will perceive sufficient value in the Company's
products to justify purchasing them.
The Company has experienced and expects to continue to experience increased
competition from current and future competitors, many of whom have significantly
greater financial, technical, marketing and other resources than the Company.
The Company's current direct competitors include, among others, Dynasty
Technologies, Inc., NAT Systems, Inc., Seer Technologies, Inc. and Texas
Instruments, Inc. The Company expects to compete increasingly with IBM
Corporation, Informix Corporation, Microsoft Corporation, Oracle Corporation,
Powersoft (a subsidiary of Sybase, Inc.) and others. The Company's competitors
may be able to respond more quickly to new or emerging technologies and changes
in customer requirements or devote greater resources to the development,
promotion and sale of their products than the Company. Also, many current and
potential competitors have greater name recognition and more extensive customer
bases that could be leveraged, thereby gaining market share to the Company's
detriment. The Company expects to face additional competition as other
established and emerging companies enter the client/server application
development market and new products and technologies are introduced. Increased
competition could result in price reductions, fewer customer orders, reduced
gross margins and loss of market share, any of which could materially adversely
affect the Company's business, operating results and financial condition. In
addition, current and potential competitors may make strategic acquisitions or
establish cooperative relationships among themselves or with third parties,
thereby increasing the ability of their products to address the needs of the
Company's prospective customers. Accordingly, it is possible that new
competitors or alliances among current and new competitors may emerge and
rapidly gain significant market share. Such competition could materially
adversely affect the Company's ability to sell additional licenses and
maintenance and support renewals on terms favorable to the Company. Further,
competitive pressures could require the Company to reduce the price of FORTE
licenses and related services, which could materially adversely affect the
Company's business, operating results and financial condition. There can be no
assurance that the Company will be able to compete successfully against current
and future competitors, and the failure to do so would have a material adverse
effect upon the Company's business, operating results and financial condition.
Risk Associated with New Versions and New Products; Rapid Technological Change.
The software market in which the Company competes is characterized by rapid
technological change, frequent introductions of new products, changes in
customer demands and evolving industry
16
<PAGE>
standards. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
not marketable. For example, the Company's customers have adopted a wide variety
of hardware, software, database and networking platforms, and as a result, to
gain broad market acceptance, the Company has had to support its products on
many of such platforms. The Company's future success will depend upon its
ability to address the increasingly sophisticated needs of its customers by
supporting existing and emerging hardware, software, database and networking
platforms and by developing and introducing enhancements to FORTE and new
products on a timely basis that keep pace with such technological developments
and emerging industry standards and customer requirements. There can be no
assurance that the Company will be successful in developing and marketing
enhancements to FORTE and related products that respond to technological change,
evolving industry standards or customer requirements, that the Company will not
experience difficulties that could delay or prevent the successful development,
introduction and sale of such enhancements and related products or that such
enhancements or related products will adequately meet the requirements of the
marketplace and achieve any significant degree of market acceptance. The Company
has in the past experienced delays in the release dates of enhancements to
FORTE. If release dates of any future FORTE enhancements and related products or
new products are delayed or if when released they fail to achieve market
acceptance, the Company's business, operating results and financial condition
would be materially adversely affected. In addition, the introduction or
announcement of new product offerings or enhancements by the Company or the
Company's competitors may cause customers to defer or forgo purchases of current
versions of the Company's products, which could have a material adverse effect
on the Company's business, operating results and financial condition.
Risk of Software Defects. Software products as internally complex as those
offered by the Company frequently contain errors or defects, especially when
first introduced or when new versions or enhancements are released. Despite
extensive product testing by the Company, the Company has discovered software
errors in versions of FORTE after their introduction. Although the Company has
not experienced material adverse effects resulting from any such defects or
errors to date, there can be no assurance that, despite testing by the Company
and by current and potential customers, defects and errors will not be found in
current versions, new versions or enhancements after commencement of commercial
shipments, resulting in loss of revenues or delay in market acceptance, which
could have a material adverse effect upon the Company's business, operating
results and financial condition.
Product Liability. The Company markets its products to customers for the
development, deployment and management of high-end client/server applications.
The Company's license agreements with its customers typically contain provisions
designed to limit the Company's exposure to potential product liability claims.
It is possible, however, that the limitation of liability provisions contained
in the Company's license agreements may not be effective as a result of existing
or future federal, state or local laws or ordinances or unfavorable judicial
decisions. Although the Company has not experienced any product liability claims
to date, the sale and support of its products by the Company may entail the risk
of such claims, which are likely to be substantial in light of the use of such
products in business-critical applications. A successful product liability claim
brought against the Company could have a material adverse effect upon the
Company's business, operating results and financial condition.
17
<PAGE>
Risks Associated with International Operations. Revenues from foreign
subsidiaries and export sales accounted for 24% and 44% of the Company's total
revenue for the quarters ended December 31, 1995 and 1996, respectively, and 23%
and 37% for the nine months ended December 31, 1995 and 1996, respectively. The
Company currently has international sales offices located in the United Kingdom,
France, Australia, Germany, Canada and Switzerland, which have generated
substantially all direct international revenues recognized by the Company to
date. The Company believes that in order to increase sales opportunities and
profitability it will be required to expand its international operations. The
Company has committed and continues to commit significant management time and
financial resources to developing direct and indirect international sales and
support channels. There can be no assurance, however, that the Company will be
able to maintain or increase international market demand for its products. To
the extent that the Company is unable to do so in a timely manner, the Company's
international sales will be limited, and the Company's business, operating
results and financial condition would be materially and adversely affected.
International operations are subject to inherent risks, including the impact of
possible recessionary environments in economies outside the United States, costs
of localizing products for foreign markets, longer receivables collection
periods and greater difficulty in accounts receivable collection, unexpected
changes in regulatory requirements, difficulties and costs of staffing and
managing foreign operations, reduced protection for intellectual property rights
in some countries, potentially adverse tax consequences and political and
economic instability. There can be no assurance that the Company or its
distributors or resellers will be able to sustain or increase international
revenues from licenses or from maintenance and service, or that the foregoing
factors will not have a material adverse effect on the Company's future
international revenues and, consequently, on the Company's business, operating
results and financial condition. The Company's direct international revenues are
generally denominated in local currencies. The Company does not currently engage
in hedging activities. Revenues generated by the Company's distributors and
resellers are generally paid to the Company in United States dollars. Although
exposure to currency fluctuations to date has been insignificant, there can be
no assurance that fluctuations in currency exchange rates in the future will not
have a material adverse impact on revenues from international sales and thus the
Company's business, operating results and financial condition.
Proprietary Rights, Risks of Infringement and Source Code Release. The Company
relies primarily on a combination of patent, copyright and trademark laws, trade
secrets, confidentiality procedures and contractual provisions to protect its
proprietary rights. The Company also believes that factors such as the
technological and creative skills of its personnel, new product developments,
frequent product enhancements, name recognition and reliable product maintenance
are essential to establishing and maintaining a technology leadership position.
The Company seeks to protect its software, documentation and other written
materials under trade secret and copyright laws, which afford only limited
protection. The Company currently has one issued United States patent that
expires in 2012 and corresponding patent applications pending in Canada,
Australia, Japan and several member countries within the European Patent
Organization. There can be no assurance that the Company's patent will not be
invalidated, circumvented or challenged, that the rights granted thereunder will
provide competitive advantages to the Company or that any of the Company's
pending or future patent applications, whether or not being currently challenged
by applicable governmental patent examiners, will be issued with the scope of
the claims sought by the Company, if at all. Furthermore, there can be no
assurance that others will not develop technologies
18
<PAGE>
that are similar or superior to the Company's technology or design around the
patents owned by the Company. The Company has registered the trademark FORTE in
the United Kingdom, and trademark registration applications for FORTE are
pending in the United States and several other countries. 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. Policing unauthorized use of the Company's
products is difficult, and while the Company is unable to determine the extent
to which piracy of its software products exists, software piracy can be expected
to be a persistent problem. In addition, the laws of some foreign countries do
not protect the Company's proprietary rights as fully as do the laws of the
United States. There can be no assurance that the Company's means of protecting
its proprietary rights in the United States or abroad will be adequate or that
competition will not independently develop similar technology. The Company has
entered into source code escrow agreements with a limited number of its
customers and resellers requiring release of source code in certain
circumstances. Such agreements generally provide that such parties will have a
limited, non-exclusive right to use such code in the event that there is a
bankruptcy proceeding by or against the Company, if the Company ceases to do
business or if the Company fails to meet its support obligations. In addition,
Digital Equipment Corporation ("Digital"), Sequent Computer Systems, Inc.
("Sequent") and Mitsubishi Corporation ("Mitsubishi") each currently possesses
copies of FORTE source code for certain limited purposes, subject to the terms
of separate written agreements each company has entered into with the Company.
Digital and Sequent each has an option to purchase a non-exclusive, fully-paid
license of the FORTE source code. Digital's option becomes exercisable if the
Company is acquired and the acquiror fails to agree to assume the Company's
contractual obligations to Digital, and Sequent's option is exercisable if the
Company is acquired by certain Sequent competitors. The provision of source code
may increase the likelihood of misappropriation by third parties.
The Company is not aware that it is infringing any proprietary rights of third
parties. There can be no assurance, however, that third parties will not claim
infringement by the Company of their intellectual property rights. The Company
expects that software product developers will increasingly be subject to
infringement claims as the number of products and competitors in the Company's
industry segment grows and the functionality of products in different industry
segments overlaps. Any such claims, with or without merit, could be time
consuming to defend, result in costly litigation, divert management's attention
and resources, cause product shipment delays or require the Company to enter
into royalty or licensing agreements. Such royalty or licensing agreements, if
required, may not be available on terms acceptable to the Company, if at all. In
the event of a successful claim of product infringement against the Company and
failure or inability of the Company to license the infringed or similar
technology, the Company's business, operating results and financial condition
would be materially adversely affected.
The Company relies upon certain software that it licenses from third parties,
including software that is integrated with the Company's internally developed
software and used in FORTE to perform key functions. There can be no assurance
that these third-party software licenses will continue to be available to the
Company on commercially reasonable terms. The loss of, or inability to maintain,
any such software licenses could result in shipment delays or reductions until
equivalent software could be developed, identified, licensed and integrated
which would materially adversely affect the Company's business, operating
results and financial condition.
19
<PAGE>
Volatility of Stock Price. The Company's Common Stock has experienced
significant price volatility and such volatility may occur in the future.
Factors, such as announcements of the introduction of new products by the
Company or its competitors and quarter-to-quarter variations in the Company's
operating results, as well as market conditions in the technology and emerging
growth company sectors, may have a significant impact on the market price of the
Company's Common Stock. Further, the stock market has experienced extreme
volatility that has particularly affected the market prices of equity securities
of many high technology companies and that often has been unrelated or
disproportionate to the operating performance of such companies. These market
fluctuations may adversely affect the price of the Company's Common Stock.
Need to Manage a Changing Business. The Company has recently experienced a
period of significant revenue growth and an expansion in the number of its
employees, the scope of its operating and financial systems and geographic area
of its operations. This growth has resulted in new and increased
responsibilities for management personnel and has placed significant strain upon
the Company's management, operating and financial systems and resources. To
accommodate recent growth, compete effectively and manage potential future
growth, the Company must continue to implement and improve information systems,
procedures and controls and expand, train, motivate and manage its work force.
These demands will require the addition of new management personnel. The
Company's future success will depend to a significant extent on the ability of
its current and future management personnel to operate effectively, both
independently and as a group. There can be no assurance that the Company's
personnel, systems, procedures and controls will be adequate to support the
Company's future operations. Any failure to implement and improve the Company's
operational, financial and management systems or to expand, train, motivate or
manage employees could have a material adverse effect on the Company's business,
operating results and financial condition.
Dependence on Key Personnel. The Company's success depends to a significant
degree upon the continuing contributions of its key management, sales,
marketing, customer support and product development personnel. The loss of key
management or technical personnel could adversely affect the Company. None of
the Company's employees is subject to an employment agreement with the Company.
The Company believes that its future success will depend in large part upon its
ability to attract and retain highly-skilled managerial, sales, customer support
and product development personnel. The Company has at times experienced and
continues to experience difficulty in recruiting qualified personnel.
Competition for qualified software development, sales and other personnel is
intense, and there can be no assurance that the Company will be successful in
attracting and retaining such personnel. Competitors and others have in the past
and may in the future attempt to recruit the Company's employees. Failure to
attract and retain key personnel could have a material adverse effect on the
Company's business, operating results and financial condition.
20
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
The Company is a party to one litigation involving claims brought by a former
employee. The Company intends to defend such litigation vigorously, and does not
believe that such litigation will have a material adverse effect upon the
Company's business, operating results or financial condition. The Company is not
aware of any pending or threatened litigation that could have a material adverse
effect upon the Company's business, operating results or financial condition.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS ON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
21
<PAGE>
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit 11.1 Statement Regarding Computation of Earnings Per Share
Exhibit 27 Financial Data Schedule
(b) No reports on Form 8-K have been filed during the quarter ended
December 31, 1996.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, as amended,
the Registrant has duly caused this Report on Form 10-Q to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of Oakland,
State of California, on this 10th day of February, 1997.
FORTE SOFTWARE, INC.
By: /s/ RODGER E. WEISMANN
---------------------------------------
Rodger E. Weismann
Vice President, Finance and Administration,
Chief Financial Officer and Secretary
23
<TABLE>
Exhibit 11.1
FORTE SOFTWARE, INC.
COMPUTATION OF INCOME (LOSS) PER SHARE
(in thousands, except per share data)
<CAPTION>
Three Months Ended Nine months Ended
December 31, December 31,
1995 1996 1995 1996
(unaudited) (unaudited) (unaudited)
------- ------- ------- -------
<S> <C> <C> <C> <C>
Computation of weighted average common and common
equivalent shares outstanding:
Weighted average common shares outstanding 4,135 18,452 4,046 18,371
Weighted average common shares attributable
to stock options and warrants 1,058 2,704 -- 2,753
Stock related to SAB 83 1,697 -- 1,697 --
------- ------- ------- -------
Total common and SAB 83 weighted average
shares outstanding 6,890 21,156 5,743 21,124
Net income (loss) $ 345 $ 2,549 $(2,943) $ 4,287
======= ======= ======= =======
Net income (loss) per share $ 0.05 $ 0.12 $ (0.51) $ 0.20
======= ======= ======= =======
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C> <C>
<PERIOD-TYPE> 9-MOS 3-MOS
<FISCAL-YEAR-END> MAR-31-1997 MAR-31-1997
<PERIOD-START> APR-01-1997 OCT-02-1996
<PERIOD-END> DEC-31-1996 DEC-31-1996
<CASH> 30,991 30,991
<SECURITIES> 12,194 12,194
<RECEIVABLES> 17,612 17,612
<ALLOWANCES> 946 946
<INVENTORY> 0 0
<CURRENT-ASSETS> 60,767 60,767
<PP&E> 9,299 9,299
<DEPRECIATION> 3,945 3,945
<TOTAL-ASSETS> 66,371 66,371
<CURRENT-LIABILITIES> 18,545 18,545
<BONDS> 0 0
<COMMON> 186 186
0 0
0 0
<OTHER-SE> 45,877 45,877
<TOTAL-LIABILITY-AND-EQUITY> 66,371 66,371
<SALES> 43,476 17,573
<TOTAL-REVENUES> 43,476 17,573
<CGS> 8,625 3,439
<TOTAL-COSTS> 8,625 3,439
<OTHER-EXPENSES> 31,473 11,731
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 191 64
<INCOME-PRETAX> 4,866 2,891
<INCOME-TAX> 579 342
<INCOME-CONTINUING> 4,287 2,549
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 4,287 2,549
<EPS-PRIMARY> .20 .12
<EPS-DILUTED> .20 .12
</TABLE>
