<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 June 30, 1998
/ / 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
____________________
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 19,685,651
(Class of common stock) (Shares outstanding at June 30, 1998)
<PAGE>
FORTE SOFTWARE, INC.
FORM 10-Q QUARTERLY REPORT
Table of Contents
<TABLE>
<CAPTION>
PART I FINANCIAL INFORMATION
Page
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<S> <C> <C>
Item 1. Financial Statements
Condensed Consolidated Balance Sheet 3
At June 30, 1998 and March 31, 1998
Condensed Consolidated Results of Operations 4
For the Three Months Ended June 30, 1998 and 1997
Condensed Consolidated Statement of Cash Flow 5
For the Three Months Ended June 30, 1998 and 1997
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial 9
Condition and Results of Operations
Part II OTHER INFORMATION
Item 1. Legal Proceedings 25
Item 2. Changes in Securities 25
Item 3. Defaults on Senior Securities 25
Item 4. Submission of Matters to a Vote of Security Holders 25
Item 5. Other Information 25
Item 6. Exhibits, Financial Statement Schedules and Reports on 25
Signatures 26
</TABLE>
2
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PART 1.
ITEM 1. FINANCIAL STATEMENTS
FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(IN THOUSANDS)
<TABLE>
<CAPTION>
As of,
----------------------------
June 30, March 31,
1998 1998
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(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 17,979 $13,358
Short-term investments 14,247 20,802
Accounts receivable, net of allowances
of $1,097 ($1,151 at March 31, 1998) 17,226 20,277
Prepaid expense and other current assets 2,063 1,635
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Total current assets 51,515 56,072
Equipment and leasehold improvements, net 6,678 7,416
Other assets 250 250
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Total assets $58,443 $63,738
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,141 $ 1,530
Accrued expenses and other liabilities 9,736 11,503
Deferred revenue 10,656 12,312
Current portion of capital lease obligations 486 695
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Total current liabilities 22,019 26,040
Capital lease obligations, due after one year 123 123
Deferred revenue 232 265
Commitments
Stockholders' equity:
Common stock 199 195
Additional paid-in capital 67,928 66,851
Accumulated deficit (32,009) (29,663)
Foreign currency translation adjustments (49) (73)
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Total stockholders' equity 36,069 37,310
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Total liabilities and stockholders' equity $58,443 $63,738
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</TABLE>
See accompanying notes to Condensed Consolidated Financial Statements.
3
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FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED RESULTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA; UNAUDITED)
<TABLE>
<CAPTION>
Three months ended June 30,
---------------------------
1998 1997
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<S> <C> <C>
Revenue:
License fees $ 8,331 $ 7,965
Maintenance and services 9,825 6,709
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Total revenue 18,156 14,674
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Cost of revenue:
Cost of license fees 234 69
Cost of maintenance and services 4,934 4,129
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Total cost of revenue 5,168 4,198
Gross profit 12,988 10,476
Operating expense:
Sales and marketing 10,029 9,257
Product development and engineering 4,145 3,046
General and administrative 1,417 1,547
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Total operating expense 15,591 13,850
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Operating loss (2,603) (3,374)
Interest income, net 385 553
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Loss before income taxes (2,218) (2,821)
Provision (benefit) for income taxes 128 (575)
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Net loss $(2,346) $(2,246)
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Net loss per share---basic $ (0.12) $ (0.12)
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Net loss per share---diluted $ (0.12) $ (0.12)
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Shares used in per share calculation
Basic 19,686 19,105
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Diluted 19,686 19,105
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</TABLE>
See accompanying notes to Condensed Consolidated Financial Statements.
4
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FORTE SOFTWARE, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOW
(IN THOUSANDS; UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended June 30,
---------------------------
1998 1997
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<S> <C> <C>
OPERATING ACTIVITIES
Net loss $(2,346) $(2,246)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 1,035 884
Changes in operating assets and liabilities:
Accounts receivable 3,064 1,636
Prepaid expenses and other assets (428) (451)
Accounts payable (377) (1,493)
Accrued expenses and other liabilities (1,767) (2,859)
Deferred revenue (1,689) (1,087)
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Net cash used in operating activities (2,508) (5,616)
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INVESTING ACTIVITIES
Purchases of equipment and leasehold improvements (207) (1,204)
Purchases of short-term investments (6,836) (5,653)
Maturities of short-term investments 13,390 1,250
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Net cash provided by (used in) investing activities 6,347 (5,607)
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FINANCING ACTIVITIES
Reduction in capital lease obligations (299) (248)
Proceeds from issuance of common stock 1,081 1,403
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Net cash provided by financing activities 782 1,155
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Increase (decrease) in cash and cash equivalents 4,621 (10,068)
Cash and cash equivalents at beginning of period 13,358 35,103
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Cash and cash equivalents at end of period $17,979 $25,035
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Supplemental disclosures:
Interest paid $ 22 $ 62
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Income taxes paid $ 152 $ 128
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</TABLE>
See accompanying notes to Condensed Consolidated Financial Statements.
5
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FORTE SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements included herein
reflect all adjustments, consisting only of normal recurring accruals, which in
the opinion of management are necessary to fairly present the Company's
consolidated financial position, results of operations, and cash flow 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, 1998. 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 condensed consolidated results of
operations for the period ended June 30, 1998 are not necessarily indicative of
the results to be expected for any subsequent quarter or for the entire fiscal
year ending March 31, 1999. The March 31, 1998 condensed consolidated balance
sheet was derived from audited consolidated financial statements, but does not
include all disclosures required by generally accepted accounting principles.
NOTE 2. NET LOSS PER SHARE
Basic net loss per share is computed using the weighted average number of
shares outstanding during the period. Diluted net loss per share is computed
using the weighted average number of common shares plus the dilutive effect of
outstanding stock options using the "treasury stock" method. The following table
shows the computation of basic and diluted net loss per share.
<TABLE>
<CAPTION>
Three Months Ended June 30,
1998 1997
-------------------- ---------------
(in thousands, except per share data)
<S> <C> <C>
Net loss $(2,346) $(2,246)
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Shares used in computing basic net loss per share 19,686 19,105
Effect of diluted securities (The effect of
outstanding stock options is excluded from the
calculation of diluted net loss per share as
their inclusion would be antidiluted.) - -
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Shares used in computing diluted net loss per share 19,686 19,105
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Basic $ (0.12) $ (0.12)
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Diluted $ (0.12) $ (0.12)
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</TABLE>
6
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FORTE SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS CONTINUED
(UNAUDITED)
NOTE 3. SHORT-TERM INVESTMENTS
As of June 30, 1998, all short-term investments were classified as
available-for-sale securities pursuant to the provisions of Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities." Available-for-sale securities are stated at
estimated fair market value. Differences between the estimated fair market
value and cost were not material.
The following is a summary of the Company's investments and reconciliation
of the Company's investments to the condensed consolidated balance sheet at June
30, 1998 (in thousands).
<TABLE>
<CAPTION>
Estimated
Fair
Value
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<S> <C>
Commercial Paper $13,201
Treasury Notes 2,023
Medium Term Notes 7,823
Corporate Notes 2,487
Auction rate preferred stock 1,604
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Total investments $27,138
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-------
Estimated
Fair
Value
-----------
<S> <C>
Cash equivalents $12,891
Short-term investments 14,247
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Total investments 27,138
-------
-------
Cash 5,088
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Total cash, cash equivalents and
short-term investments $32,226
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-------
</TABLE>
7
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FORTE SOFTWARE, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS CONTINUED
(UNAUDITED)
NOTE 4. REVENUE RECOGNITION
Effective April 1, 1998, the Company adopted the American Institute of
Certified Public Accountants Statement of Position No. 97-2, "Software
Revenue Recognition," ("SOP 97-2") which supercedes SOP 91-1. SOP 97-2
addresses software revenue recognition matters primarily from a conceptual
level and detailed implementation guidelines have not been issued.
In March 1998, the American Institute of Certified Public Accountants
issued Statement of Position No. 98-4, "Deferral of the Effective Date of a
Provision of SOP 97-2, Software Revenue Recognition," which defers for one
year the application of certain provisions of SOP 97-2. These provisions
limit what is considered vendor-specific objective evidence of the fair value
of the various elements in a multiple-element arrangement. All other
provisions of SOP 97-2 remain in effect.
NOTE 5. COMPREHENSIVE INCOME
Effective April 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income," ("SFAS 130").
SFAS 130 requires the reporting of comprehensive income and its components
and requires foreign currency translation adjustment and unrealized gains or
losses on the Company's available-for-sale investments, which prior to
adoption were reported in stockholders' equity, to be included in other
comprehensive income. The Company has evaluated the impact of comprehensive
income components on the Company's financial statements and has determined
that the amounts are immaterial to the financial statements taken as a whole.
NOTE 6. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In 1997, the FASB issued Statement of Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related Information",
("SFAS 131") which establishes standards for the way public business
enterprises report information about operating segments in annual financial
statements and requires that those enterprises report selected information
about operating segments in interim financial reports issued to stockholders.
In addition, SFAS 131 establishes standards for related disclosures about
products and services, geographic areas and major customers. The Company
will comply with the requirements of SFAS 131 in its annual consolidated
financial statements for the year ending March 31, 1999.
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133 "Accounting for Derivative Instruments and Hedging
Activities," ("SFAS 133"). The Company is required to adopt this statement
for the year ending March 31, 2001. Statement 133 establishes methods of
accounting for derivative financial instruments and hedging activities
related to those instruments as well as other hedging activities. The
Company is not able to currently determine the effect, if any, that adoption
will have on its financial position, results of operations or cash flows.
8
<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
WHICH REFLECT THE COMPANY'S CURRENT VIEWS WITH RESPECT TO FUTURE EVENTS AND
FINANCIAL PERFORMANCE. IN THIS REPORT, THE WORDS "ANTICIPATE," "BELIEVES,"
"EXPECTS," "INTENDS," "FUTURE," AND OTHER SIMILAR EXPRESSIONS IDENTIFY
FORWARD-LOOKING STATEMENTS. THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT TO
CERTAIN RISKS AND UNCERTAINTIES, INCLUDING THOSE DISCUSSED IN "BUSINESS
RISKS" BELOW AND IN "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS," THAT COULD CAUSE ACTUAL RESULTS TO
DIFFER MATERIALLY FROM HISTORICAL RESULTS OR THOSE ANTICIPATED.
The following table sets forth certain condensed consolidated results of
operations data as a percentage of total revenue for the three months ended
June 30, 1998 and 1997.
<TABLE>
<CAPTION>
Three months ended June 30,
1998 1997
--------------- ------------
(unaudited) (unaudited)
<S> <C> <C>
Revenue:
License fees 45.9% 54.3%
Maintenance and services 54.1 45.7
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Total revenue 100.0 100.0
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Cost of revenue:
Cost of license fees 1.3 0.5
Cost of maintenance and services 27.2 28.1
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Total cost of revenue 28.5 28.6
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Gross profit 71.5 71.4
Operating expense:
Sales and marketing 55.2 63.1
Product development and engineering 22.8 20.8
General and administrative 7.8 10.5
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Total operating expense 85.8 94.4
Operating loss (14.3) (23.0)
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Interest income, net 2.1 3.8
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Loss before income taxes (12.2) (19.2)
Provision (benefit) for income taxes 0.7 (3.9)
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Net loss (12.9)% (15.3)%
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</TABLE>
9
<PAGE>
RESULTS OF OPERATIONS
REVENUE. The Company's total revenue consists of license fees for its
Forte Application Environment and related products as well as associated
maintenance and services revenue. The Company licenses software under
non-cancelable license agreements and provides services including
maintenance, training and consulting. License fees revenue is recognized when
a non-cancelable license agreement has been signed, the product has been
shipped, the fees are fixed and determinable and collectibility is reasonably
assured. License fees revenue from distributors is generally recognized as
sales to end users are reported, the product is shipped and collectibility is
assured. Fees for services are charged separately from the license of the
Company's software products. Maintenance revenue consists of fees for ongoing
support and product updates and is recognized ratably over the term of the
contract, which is typically twelve months. Revenue from training is
recognized upon completion of the related training class. Consulting revenue
is recognized as the services are performed. Allowances for credit risks and
for estimated future returns are provided for upon product 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
consolidated financial statements.
The Company's license agreements typically require the payment of a
nonrefundable, one-time license fee for a license of perpetual term.
Customers make separate payments for annual maintenance and other services.
The Company can terminate the license agreement only upon a material breach
by the other party, provided that the breach is not cured within a specified
cure period.
The Company's total revenue increased 24 percent to $18.2 million from
$14.7 million for the quarter ended June 30, 1998 and 1997, respectively.
United States revenue increased by 2 percent to $8.6 million from $8.4 million
for the quarter ended June 30, 1998 and 1997, respectively. International
revenue increased by 53 percent to $9.5 million from $6.2 million for the
quarter ended June 30, 1998 and 1997, respectively. The United States
revenue increase was primarily due to an increase in maintenance and services
revenue. The International revenue increase was due to an increased license,
maintenance and services revenue as the Company continued to expand its
International sales organization. During the quarter ended June 30, 1998,
sales offices in Belgium, Canada and Switzerland were added to the direct
International sales organization.
The Company's license fees revenue increased 5 percent to $8.3 million
from $8.0 million for the quarter ended June 30, 1998 and 1997, respectively.
The Company believes that United States license fees revenue has been
impacted by a slowdown in the overall market for enterprise application
development software, and the extended sales productivity ramp up needed for
the Company's new sales representatives. The Company believes the market
slowdown resulted from several factors, including but not limited to (1) a
diversion of customer resources from enterprise application development to
the Year 2000 Problem, (2) a general shortage of qualified programmers and a
shift of available programming resources from corporate users to systems
integrators, (3) market confusion caused by the complex and rapidly changing
mix of alternative technologies for enterprise application development, and
(4) the increased availability and popularity of packaged software
applications. The Company believes market factors have resulted in
progressively longer and more complex sales cycle for the Company's products.
10
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The Company believes that companies in its target market have
significantly shifted from building internal enterprise applications to using
system integrators to develop and deploy their enterprise applications. Also
see "Dependence on Key Personnel, Product Concentration," "Dependence on
Emerging Market" and "Risks Associated with the Year 2000 Problem," in the
section entitled "Business Risks."
The Company's services revenue increased 46 percent to $9.8 million from
$6.7 million for the quarter ended June 30, 1998 and 1997, respectively. The
increase in total maintenance and services revenue was primarily a result of
the growing installed base in the Company's software products and the
associated increase in demand for maintenance, training and consulting
services. Services revenue as a percentage of total revenue may vary between
periods as a result of changes in demand for the Company's services and
changes in the rate of growth of license fees revenue.
International revenue includes all revenue other than from the United
States. International revenue includes sales from the Company's direct sales
organizations in Europe, Canada and Australia and export sales through
distributors and resellers in Europe, Asia and other areas of the world.
International sales accounted for 52 percent and 42 percent of total revenue
for the quarter ended June 30, 1998 and 1997, respectively. Direct sales
through the Company's European, Canadian and Austrailian subsidiaries totaled
$6.9 million and $4.2 million for the quarter ended June 30, 1998 and 1997,
respectively. The table below sets forth the Company's export sales data from
the United States for the first quarter ended June 30, 1998 and 1997.
<TABLE>
<CAPTION>
(in thousands)
Three months ended June 30,
1998 1997
-----------------------------
<S> <C> <C>
Total export revenue $2,630 $1,988
Total direct revenue 6,890 4,221
-----------------------------
Total International $9,520 $6,209
-----------------------------
-----------------------------
</TABLE>
The increase in international revenue reflects growing direct sales
presence in Europe through the Company's international direct sales
organization, partially offset by lower revenue in Asia and Latin America.
The economic crises in Asia has not had a material impact on the Company's
revenue. Revenue from Asian markets were less then five percent of total
revenue for each of the quarters presented. The Company expects that
international license and related maintenance and services revenue will
continue to account for a significant portion of its total revenue in the
future. The Company believes that in order to increase sales opportunities
and market share, it will be required to continue expanding its international
sales organization. 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 Forte and related 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.
11
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COST OF REVENUE
COST OF LICENSE FEES REVENUE. Cost of license fees revenue consists
primarily of royalties paid to third-party vendors, product packaging,
documentation and production. Cost of license fees revenue was $234,000 and
$69,000 for the quarter ending June 30, 1998 and 1997 respectively,
representing 3 percent and 1 percent of license fees revenue, respectively.
The increase is primarily due to royalties paid to third-party vendors.
Additionally, cost of license fees revenue varies as a percentage of license
fees revenue because costs of media production and product packaging have not
been material and have been expensed as incurred. Such costs are dependent
on the number of new releases in a given quarter.
COST OF MAINTENANCE AND SERVICES REVENUE. Cost of maintenance and
services revenue consists 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 services revenue was $4.9 million and $4.1
million for the quarter ending June 30, 1998 and 1997 respectively,
representing 50 percent and 62 percent of maintenance and services revenue,
respectively. The decrease in cost of maintenance and services revenue for
the quarter ended June 30, 1998 as a percentage of maintenance and services
revenue was primarily due to improved economies of scale of the technical
support center and increased productivity from training, support and
consulting personnel. The Company does not expect its cost of maintenance and
services revenue to continue to materially decrease as a percentage of
maintenance and services revenue. The cost of services as a percentage of
services revenue may vary between periods due to the mix of services provided
by the Company and the extent to which external contractors are used to
provide those services.
OPERATING EXPENSE
SALES AND MARKETING. Sales and marketing expense consists primarily of
salaries, commissions and bonuses earned by sales and marketing personnel,
field office expenses, travel and entertainment and promotional expenses and
advertising. Sales and marketing expense increased to $10.0 million for the
quarter ended June 30, 1998 from $9.3 million for the quarter ended June 30,
1997. This increase reflects the hiring of additional sales and marketing
personnel, and their related costs, as well as increased costs associated
with expanded promotional and advertising activities. Sales and marketing
expense represented 55 percent and 63 percent of total revenue for the
quarter ended June 30, 1998 and 1997, respectively. While decreasing as a
percentage of total revenue, sales and marketing expense increased in
absolute dollars due to expansion of the Company's international direct sales
organization. The Company has announced a re-organization of its US sales
organization. The direct sales organization is being reduced to reflect the
Company's anticipated short-term revenue opportunities and the
partnering/channel organization is being emphasized to leverage this channel
of distribution. The re-organization was completed prior to July 31, 1998
and did not result in a significant charge to expense for severance and
other costs associated with the re-organization. The Company anticipates
that sales and marketing expense will decrease as a percentage of revenue
over the next several quarter.
PRODUCT DEVELOPMENT. Product development expense consists primarily of
salaries and other personnel-related expense and depreciation of development
equipment. The Company
12
<PAGE>
believes that a significant level of investment for product development is
required to remain competitive. Product development expense increased to
$4.1 million for the quarter ended June 30, 1998 from $3.0 million for the
quarter ended June 30, 1997. This increase was primarily attributable to
additional hiring of product development personnel. Product development
expense represented 23 percent and 21 percent of total revenue for the
quarter ended June 30, 1998 and 1997, respectively. The increase in product
development expense as a percentage of total revenue was primarily due to the
Company's continued investment in significant Internet, Java and mainframe
development activities, the increase in the number of product development
personnel, and the outsourcing of certain development work. The Company
anticipates that it will continue to devote substantial resources to product
development activities. All costs incurred in the research and development of
software products and enhancements to existing software products have been
expensed as incurred; accordingly, cost of license fees revenue includes no
amortization of capitalized software development costs.
GENERAL AND ADMINISTRATIVE. General and administrative expense consists
of costs for the Company's human resources, finance, information technology
and general management functions. General and administrative expense
decreased to $1.4 million for the quarter ended June 30, 1998 from $1.5
million for the quarter ended June 30, 1997. General and administrative
expense represented 7.8 percent and 10.5 percent of total revenue for the
quarter ended June 30, 1998 and 1997, respectively. The Company believes that
its general and administrative expense 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.
PROVISION FOR INCOME TAXES. There was no provision for federal or state
income taxes for the quarter ended June 30, 1998 as the Company incurred net
operating losses, and there can be no assurance that the Company will realize
the benefit of the net operating loss carryforwards. The Company recorded
$128,000 in foreign income tax withholdings on certain license and services
fees paid to the Company by foreign licensees.
LIQUIDITY AND CAPITAL RESOURCES
The Company has funded its operations and investments in furniture and
equipment through an initial public offering of common stock on March 11,
1996 with net proceeds of $34.3 million. The Company used cash of $2.5
million in operating activities for the quarter ended June 30, 1998 compared
to cash used in operating activities of $5.6 million for the quarter ended
June 30, 1997. The net cash used in operating activities resulted primarily
from the net loss for the quarter and decreases in accounts payable, accrued
expense, other liabilities and deferred revenue, partially offset by a
decrease in accounts receivable. At June 30, 1998, Company's accounts
receivable days sales outstanding ("DSO") decreased by 13 percent to 86 days
from 99 days at June 30, 1997. This decrease resulted primarily from the
timing of payments received and increased revenue during the current quarter.
The Company's DSO could vary significantly on a quarterly or yearly basis.
The Company's investing activities consisted of the purchases of
interest-bearing securities representing a shift from cash equivalents to
short-term investments, as well as purchases of property and equipment.
Capital expenditures were $0.2 million for the quarter ended June 30, 1998
compared to $1.2 million for the quarter ended June 30, 1997. Capital
expenditures consisted
13
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of purchases of computer equipment and office furniture. For the quarter
ended June 30, 1997, the Company was in the process of expanding its
headquarter offices, thus incurring significant leasehold improvements and
furniture additions compared to the quarter ended June 30, 1998. At June 30,
1998, the Company did not have any material commitments for capital
expenditures.
At June 30, 1998, the Company had $32.2 million in cash and cash
equivalents and short-term investments and $29.5 million in working capital.
The Company believes that its existing cash and 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 at all or that, if available, such financing will be obtainable
on terms favorable to the Company and would not be dilutive.
14
<PAGE>
BUSINESS RISKS
IN EVALUATING THE COMPANY'S BUSINESS, READERS SHOULD CAREFULLY CONSIDER
THE BUSINESS RISKS DISCUSSED IN THIS SECTION IN ADDITION TO THE OTHER
INFORMATION PRESENTED IN THIS QUARTERLY REPORT ON FORM 10-Q. THIS REPORT ON
FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS WHICH REFLECT THE COMPANY'S
CURRENT VIEWS WITH RESPECT TO FUTURE EVENTS AND FINANCIAL PERFORMANCE. IN
THIS REPORT, THE WORDS "ANTICIPATE," "BELIEVES," "EXPECTS," "INTENDS,"
"FUTURE," AND OTHER SIMILAR EXPRESSIONS IDENTIFY FORWARD-LOOKING STATEMENTS.
THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT TO CERTAIN RISKS AND
UNCERTAINTIES, INCLUDING THOSE DISCUSSED BELOW, THAT COULD CAUSE ACTUAL
RESULTS TO DIFFER MATERIALLY FROM HISTORICAL RESULTS OR THOSE ANTICIPATED.
LIMITED OPERATING HISTORY; HISTORY OF OPERATING LOSSES. The Company was
founded in February 1991 and first shipped product in August 1994. After
achieving profitability from December 1995 through March 31, 1997, the
Company incurred net losses for each subsequent quarter through the quarter
ended June 30, 1998. At June 30, 1998, the Company had an accumulated deficit
of $32.0 million. A substantial portion of the accumulated deficit is due to
the deployment of significant resources to the Company's product development,
sales and marketing organizations. The Company expects to continue to devote
substantial resources in these areas and as a result will need to
significantly increase revenue to return to 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 OPERATING RESULTS; UNCERTAINTY OF
FUTURE OPERATING RESULTS; SEASONALITY; EXPECTED LOSS IN QUARTER ENDING
SEPTEMBER 30, 1998. 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, the rate of adoption and use of the Company's products by third-party
system integrators and value added resellers, changes in the level of
operating expense, changes in the Company's sales incentive plans, budgeting
cycles of its customers, customer order deferrals due to intervening
information technology projects of a higher priority such as, the Year 2000
Problem, or in anticipation of enhancements or new products offered by the
Company or its competitors or other causes, the cancellation of licenses
during the warranty period or non-renewal 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 total revenue has 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, competition for sales
personnel is intense, and there can be no assurance that the Company can
retain its existing sales personnel or that it can attract, assimilate and
retain highly qualified sales personnel in the future. The timing of the
Company's hiring of new sales personnel and the rate at which new sales
people become
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productive could also cause material fluctuations in the Company's quarterly
operating results. Due to the foregoing factors, quarterly revenue and
operating results are difficult to forecast. Revenue is also difficult to
forecast because the market for distributed enterprise 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 beginning of any quarter has in the past represented only a small
portion of that quarter's total revenue. As a result, license fees revenue in
any quarter is substantially dependent on orders booked and shipped in that
quarter. Due to all of the foregoing, revenue for any future quarter is 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. The prior revenue growth experienced by the Company 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 total
revenue 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
revenue 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 revenue 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 expense varies with its revenue. There can be no
assurance that the Company will be able to return to 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 and
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.
Due to the market slowdown and other factors discussed above in the "Results
of Operations" section of the Management's Discussion and Analysis of
Financial Condition and Results of Operations, the Company expects to incur a
net loss for the quarter ended September 30, 1998. The Company believes that
it is likely that it will experience lower revenue in its quarter ending June
30 as a result of efforts by its direct sales organization to meet the March
31 fiscal year-end sales quotas. Since international operations constitute a
significant percentage of the Company's total revenue, the Company
anticipates that it may also experience relatively weaker demand in the
quarter ending September 30 as a result of reduced sales activity in Europe
during the summer months.
PRODUCT CONCENTRATION; IMPACT OF MARKET FACTORS. All of the Company's
revenue has 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
revenue. 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
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no assurance that the Company will continue to be successful in marketing the
Forte product, related products or other products. The Company's prior
revenue growth should not be considered indicative of future revenue growth,
as there can be no assurance that the market for Forte and related products,
or the market for products used in the development, deployment and management
of distributed applications, will continue to grow. Recently, industry
analysts and competitors have noted that market demand in the enterprise
application development sector appears to be slowing, and predicted that the
prior success achieved by that sector may not continue in future periods, due
to a variety of factors including but not limited to (1) a diversion of
customer resources from enterprise application development to the Year 2000
Problem and other higher priority information technology projects, (2) a
general shortage of qualified programmers and a shift of available
programming resources from corporate users to systems integrators, (3) market
confusion caused by the complex and rapidly changing mix of alternative
technologies for enterprise application development, and (4) the increased
availability and popularity of packaged software applications. Additionally,
recent instability in the economies and financial markets in the Asia-Pacific
region, which had previously been regarded as a potentially strong source of
revenue growth for enterprise software vendors, has introduced additional
uncertainty concerning the sector. If the market for Forte and related
products or enterprise application development products used in the
development, deployment and management of distributed applications fails to
grow, or grows more slowly than the Company currently anticipates, the
Company's business, operating results and financial condition would be
materially and adversely affected.
DEPENDENCE ON KEY PERSONNEL. The Company's success depends to a
significant degree upon the continuing contributions of its key management,
sales, marketing, software development and customer support personnel, and
its ability to attract and retain such highly-skilled personnel. The loss of
key personnel could materially and adversely affect the Company. Competition
for qualified personnel is intense, particularly in the sales and software
development areas, and there can be no assurance that the Company can retain
its existing personnel or that it can attract, assimilate and retain
additional highly qualified personnel in the future. The timing of the
Company's hiring of new sales personnel and the rate at which new sales
people become productive could also cause material fluctuations in the
Company's quarterly operating results. The Company has at times experienced
and continues to experience difficulty in recruiting and retaining qualified
personnel. The Company has experienced significant turnover in its North
America sales organization during fiscal year 1998 and the first quarter in
fiscal 1999. 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.
RISKS ASSOCIATED WITH EXPANDING DISTRIBUTION. To date, the Company has
sold its products through its direct and indirect sales force, systems
integrators, distributors and value added resellers. The Company's customers
and potential customers often rely on third-party system integrators and
value added resellers to develop and deploy distributed applications. The
Company's ability to achieve significant revenue growth in the future will
depend in large part on its success in recruiting, training and retaining
sufficient sales personnel and establishing and maintaining relationships
with distributors, resellers and systems integrators. Although the Company is
currently investing, and plans to continue to invest significant resources to
maintain and selectively expand its sales force and to develop relationships
with third-party distributors, resellers and systems integrators, the Company
has at times experienced and continues to experience difficulty in recruiting
and retaining qualified sales personnel and in establishing
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necessary third-party relationships. There can be no assurance that the
Company will be able to successfully hire, train and retain needed sales
personnel or develop and maintain sufficient third-party relationships, or
that such efforts will result in an increase in revenue. Any failure by the
Company to maintain a sufficiently large and trained sales force and continue
to establish other distribution channels would materially and adversely
affect the Company's business, operating results and financial condition.
COMPETITION. The market for distributed software used in the
development, deployment and management of distributed applications is
intensely competitive and characterized by rapidly changing technology,
evolving industry standards, frequent new product introductions and rapidly
changing customer requirements. Distributed applications that can be
developed and deployed using the Company's Forte environment can also be
implemented by integrating a combination of application development tools and
more powerful server programming techniques such as stored procedures in
relational databases and C or C++ programming, along with 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, and third-party
systems integrators on whom prospective customers are increasingly relying
for expertise, on the advantages of the Company's products over the approach
of integrating a combination of products. There can be no assurance that
these customers, potential customers or systems integrators will perceive
sufficient value in the Company's products to justify purchasing or
recommending them.
The Company has also experienced and expects to continue to experience
increased competition from a number of vendors that market software products
specifically targeted for building distributed applications. Actual and
potential competitors include: providers of application development software,
such as Compuware/Uniface, Dynasty Technologies, Inc., International Business
Machines Corporation, Microsoft Corporation, NAT Systems, Inc., Oracle
Corporation, Seer Technologies, Inc., Sterling Software, Inc., and the
Powersoft unit of Sybase, Inc.; web-based development tools targeting
production enterprise Internet applications; middleware companies advocating
a middleware-centric approach to building enterprise applications; developers
of packaged applications and application components, templates and
frameworks; and integration software vendors.
Many of these competing vendors have or will have significantly greater
financial, technical, marketing and other resources than the Company, and may
be able to respond more quickly to new or emerging technologies. 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 distributed
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 and 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
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competitors may emerge and rapidly gain significant market share. Such
competition could materially and 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 products and
services, which could materially and 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.
The principal competitive factors affecting the market for Forte are
ease of application development, deployment and management functionality and
features, product architecture, product performance, reliability and
scaleability, product quality, price and customer support. The Company
believes it presently competes favorably with respect to each of these
factors. However, the Company's market is still evolving and 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 successfully will
have a material adverse effect upon the Company's business, operating results
and financial condition.
NEW ACCOUNTING STANDARDS. Statement of Position ("SOP") 97-2, "Software
Revenue Recognition," as amended by Statement of Position 98-4, was issued in
October 1997 and addresses software revenue recognition matters. The SOP
supersedes SOP 91-1 and is effective for transactions entered into for fiscal
years beginning after December 15, 1997. The Company was required to adopt
this SOP in its first quarter of fiscal year 1999 and restatement of prior
financial statements was prohibited. Based upon its reading and
interpretation of SOP 97-2, the Company believes its current revenue
recognition policies and practices are materially consistent with the SOP.
However, implementation guidelines for this standard have not yet been issued
and a wide range of potential interpretations are being discussed by the
accounting profession. Once available, such implementation guidance could
lead to unanticipated changes in the Company's current revenue accounting
practices, and such changes could materially and adversely affect the
Company's future revenue and operating results.
Such implementation guidance may necessitate substantial changes in the
Company's business practices in order for the Company to continue to
recognize a substantial portion of its license fees revenue upon delivery of
its software products. Such changes may reduce demand, extend sales cycles,
increase administrative costs and otherwise adversely affect operations. In
addition, the Company may be put at a competitive disadvantage relative to
foreign based competitors not subject to U.S. generally accepted accounting
principles.
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 distributed
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. In addition, there are a large number of alternative methods or
technologies to develop applications which can require significant time for
potential customers to evaluate, and implementation of a favorable decision
to license the Company's products may be subject to delay due to higher
priority
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projects such as Year 2000 compliance. 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.
RISKS ASSOCIATED WITH THE YEAR 2000. Many currently installed computer
systems and software products are coded to accept only two digit entries in
the date code field. These date code fields will need to accept four digit
entries to distinguish 21st century dates from 20th century dates. As a
result, in less than two years, computer systems and/or software used by many
companies may need to be upgraded to comply with such Year 2000 requirements.
There are several aspects to the Year 2000 issue, as follows:
a. IMPACT ON REVENUE. The Company believes that the purchasing
patterns of customers and potential customers may be affected by Year 2000
issues in a variety of ways. Many companies are expending significant
resources to correct or patch their current software systems for Year 2000
compliance. These expenditures may result in reduced funds available to
purchase enterprise application software products such as those offered by
the Company. Conversely, Year 2000 issues may cause other companies to
accelerate purchases of application development and deployment software to
replace non-Year 2000 compliant applications, causing a short-term increase
in demand for the Company's products. There is no assurance that such
increase in demand will be realized, or that companies will resume
application development if and when they resolve their Year 2000 problems.
Either of the foregoing could have a material adverse effect upon the
Company's business, operating results and financial condition.
b. YEAR 2000 COMPLIANCE. The Company believes that its products are
fully Year 2000 compliant. All Forte products use four digit years for all
internal manipulations and representations. In addition, for customers who
require the storage and manipulation of two digit years, the Company's
current products provide the ability to specify a range of years for
comparison and calculation. For example, the customer may specify that the
years 0-39 are interpreted as 2000-2039 and the years 40-99 are interpreted
as 1940-1999. Using this feature a customer can save on the amount of data
stored and manipulated by Forte. The Company regularly runs regression tests
on its software, including tests for the above functionality at the Year
2000 rollover. Based on the above, it is not expected that the Company's
products will be adversely affected by date changes in the year 2000.
However there can be no assurance that the Company's products contain and
will contain all features and functionality considered necessary by
customers, distributors, resellers and systems integrators to be Year 2000
compliant.
c. INTERNAL SYSTEMS. Although the Company is not aware of any material
operational issues or costs associated with preparing its internal systems
for the Year 2000, there can be no assurance that the Company will not
experience serious unanticipated negative consequences and /or material costs
caused by undetected errors or defects in the technology used in its internal
systems, which include third-party software and hardware technology.
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 standards. The introduction
of products embodying new technologies and the emergence of new
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industry standards can render existing products obsolete and unmarketable.
For example, the Company's customers have adopted a wide variety of hardware,
software, database, networking and Internet-based platforms, and as a result,
to gain broad market acceptance, the Company has had to support Forte on many
of such platforms. The Company's customers use the Company's proprietary
development language to develop applications using the Company's products,
and customers may desire to utilize other widely-used programming languages
to develop Internet-based and other distributed applications. 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, programming language, database, networking and
Internet-based platforms and by developing and introducing enhancements to
Forte, related products and new products on a timely basis that keep pace
with such technological developments and emerging industry standards and
changing 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 changing customer requirements, that the Company will not
experience difficulties that could delay or prevent the successful
development, introduction and sale of such enhancements or that such
enhancements 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 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 and
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 Forte
and related products, which could have a material adverse effect on the
Company's business, operating results and financial condition.
LIMITED DEPLOYMENT; DEPENDENCE ON SYSTEM INTEGRATORS AND VALUE ADDED
RESELLERS. 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 distributed applications using Forte and related products. If
any of the Company's customers are not able to successfully develop and
deploy distributed applications with Forte and related products, 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
revenue will be derived from sales to existing customers. If existing
customers have difficulty deploying applications built with Forte and related
products or for any other reason are not satisfied with Forte products, the
Company's business, operating results and financial condition would be
materially and adversely affected. The Company's customers and potential
customers often rely on third-party system integrators and value added
resellers to develop and deploy distributed applications. If the Company is
unable to adequately train a sufficient number of system integrators and
value added resellers or if, for any reason, a large number of such
integrators and value added resellers adopt a product or technology other
than Forte, the Company's business, operating results and financial condition
would be materially and adversely affected.
RISK OF SOFTWARE DEFECTS. Software products as internally complex as
Forte and related products frequently contain errors or defects, especially
when first introduced or when new versions or enhancements are released. The
Company introduced Release 2.0 of Forte in November 1995, Release 3.0 of
Forte in August in 1997 and the initial release of Forte Conductor in
September
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1997. Despite extensive product testing by the Company, the Company has
discovered software errors in its releases 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, new product or
enhancements to existing products after commencement of commercial shipments,
resulting in loss of revenue 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 Forte to customers for the
development, deployment and management of distributed 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 Forte by the
Company may entail the risk of such claims, which are likely to be
substantial in light of the use of Forte 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.
RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. Revenue from foreign
subsidiaries and export sales accounted for 52 percent and 42 percent of the
Company's total revenue for the quarter ended June 30, 1998 and 1997,
respectively. The Company currently has international sales offices located
in Australia, Belgium, Canada, France, Germany, Holland, Switzerland, and the
United Kingdom which have generated substantially all direct international
revenue recognized by the Company to date. The Company believes that in order
to increase sales opportunities and regain profitability, it will be required
to continue 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 Forte and related 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 accounts
receivable 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 revenue 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 revenue and, consequently, on
the Company's business, operating results and financial condition. The
Company's direct international revenue is generally denominated in local
currencies. The Company does not currently engage in hedging activities.
Revenue generated by the Company's distributors and resellers are generally
paid to the Company in United States dollars. Although exposure to currency
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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 revenue 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 that are similar or superior to the Company's technology
or design around the patents owned by the Company. The Company has obtained
registration of the FORTE trademark in two countries and has trademark
registration applications pending in numerous additional 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") 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 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. 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
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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 and 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 and adversely
affect the Company's business, operating results and financial condition.
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
Common Stock.
EFFECT OF CERTAIN CHARTER PROVISIONS; ANTI-TAKEOVER EFFECTS OF RIGHTS
PLAN, CERTIFICATE OF INCORPORATION, DELAWARE LAW AND CERTAIN AGREEMENTS. The
Company's Board of Directors has the authority to issue up to 5,000,000
shares of Preferred Stock and to determine the price, rights, preferences,
privileges and restrictions, including voting and conversion rights of such
shares, without any further vote or action by the Company's stockholders.
The rights of the holders of Common Stock will be subject to, and may be
adversely affected by, the rights of the holders of any Preferred Stock that
may be issued in the future. The issuance of Preferred Stock could have the
effect of making it more difficult for a third-party to acquire a majority of
the outstanding voting stock of the Company. The Company has no current
plans to issue shares of Preferred stock. Further, the Company has adopted a
stockholder rights plan that, in conjunction with certain provisions of the
Company's Certificate of Incorporation and of Delaware law, could delay or
make more difficult a merger, tender offer, or proxy contest involving the
Company.
24
<PAGE>
PART II
ITEM 1. LEGAL PROCEEDINGS
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
Not applicable.
ITEM 3. DEFAULTS ON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 Financial data schedule
(b) REPORTS ON FORM 8-K
No reports on Form 8-K have been filed during the quarter ended June
30, 1998.
25
<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 12th day of August, 1998.
FORTE SOFTWARE, INC.
By: /s/ BOB L. COREY
Bob L. Corey
SENIOR VICE PRESIDENT, FINANCE AND ADMINISTRATION,
CHIEF FINANCIAL OFFICER AND SECRETARY
26
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