<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED OCTOBER 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 0-27772
METROWERKS INC.
(exact name of registrant as specified in its charter)
CANADA N/A
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
9801 METRIC BLVD., SUITE 100, AUSTIN, TEXAS 78758
(Address of principal executive offices) (zip code)
(512) 873-4700
Registrant's telephone number, including area code
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes [ x ] No [ ]
Number of shares of common stock outstanding as of December 14, 1998: 12,922,030
<PAGE>
METROWERKS INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
PART I: FINANCIAL INFORMATION
Item 1 Consolidated Financial Statements:
Consolidated Balance Sheets as of July 31 and October 31, 1998.........2
Consolidated Statements of Operations for the three month periods
ended October 31, 1997 and 1998........................................3
Consolidated Statements of Changes in Stockholders' Equity for the
three month period ended October 31, 1998..............................4
Consolidated Statements of Cash Flows for the three month periods
ended October 31, 1997 and 1998........................................5
Notes to Consolidated Financial Statements.............................6
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations..............................................8
Item 3 Quantitative and Qualitative Disclosures About Market Risk............13
PART II: OTHER INFORMATION
Item 1 Legal Proceedings.....................................................14
Item 2 Changes in Securities and Use of Proceeds.............................14
Item 3 Defaults Upon Senior Securities.......................................14
Item 4 Submission of Matters to a Vote of Securities Holders.................14
Item 5 Other Information.....................................................14
Item 6 Exhibits and Reports on Form 8-K......................................14
Signature.....................................................................14
1
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PART 1. FINANCIAL STATEMENTS
ITEM1. CONSOLIDATED FINANCIAL STATEMENTS
METROWERKS INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
================================================================================
<TABLE>
<CAPTION>
October 31,
ASSETS July 31, 1998
1998 (unaudited)
---------------- ----------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 6,708 $ 4,886
Short-term investments 400 400
Accounts receivable, net 6,650 8,031
Inventories 293 426
Income and other taxes recoverable 254 204
Prepaid expenses and other current assets 804 1,026
---------------- ----------------
Total current assets 15,109 14,973
Property and equipment, net 4,363 4,379
Long-term receivable 1,039 1,601
---------------- ----------------
Total assets $ 20,511 $ 20,953
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,859 $ 2,235
Accrued liabilities 1,712 1,551
Deferred revenue 722 1,225
---------------- ----------------
Total current liabilities 4,293 5,011
Stockholders' equity:
Capital stock
Preferred stock, Class A and B, no par value,
unlimited as to number; none outstanding - -
Common stock, no par value, unlimited as to number;
shares issued and outstanding 12,919,030 and
12,919,030, respectively 29,465 29,465
Accumulated deficit (12,881) (13,338)
Cumulative translation adjustment (366) (185)
---------------- ----------------
Total stockholders' equity 16,218 15,942
---------------- ----------------
Total liabilities and stockholders' equity $ 20,511 $ 20,953
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
2
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METROWERKS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
================================================================================
<TABLE>
<CAPTION>
Three Months
Ended
October 31,
1997 1998
---------------- ----------------
<S> <C> <C>
Revenue, net $ 6,153 $ 6,752
Cost of product sales 1,133 555
Operating expenses
Research and development 2,083 3,154
Selling, administrative and technical support 2,374 3,060
Depreciation 386 499
---------------- ----------------
Total operating expenses 4,843 6,713
Income (loss) from operations 177 (516)
Other income:
Interest income and other, net 60 59
---------------- ----------------
Net income (loss) $ 237 $ (457)
Net income (loss) per share, basic and diluted $ 0.02 $ (0.04)
Shares used in per share calculation:
Basic 11,555 12,919
Diluted 12,019 12,919
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
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METROWERKS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED)
(IN THOUSANDS)
================================================================================
<TABLE>
<CAPTION>
Three Months
Ended
October 31,
1997 1998
---------------- ----------------
<S> <C> <C>
COMMON STOCK AND PAID-IN CAPITAL
Balance, beginning of period $17,596 $ 29,465
Common stock issued 126
Issuance of special warrants 11,718
---------------- ----------------
Balance, end of period 29,440 29,465
RETAINED EARNINGS AND CUMULATIVE TRANSLATION ADJUSTMENT
Balance, beginning of period (7,034) (13,247)
Net income (loss) 237 (457)
Foreign currency translation adjustments (11) 181
---------------- ----------------
Comprehensive income 226 (276)
---------------- ----------------
Balance, end of period (6,808) (13,523)
---------------- ----------------
TOTAL STOCKHOLDERS' EQUITY 22,632 15,942
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
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METROWERKS INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(IN THOUSANDS)
================================================================================
<TABLE>
<CAPTION>
Three Months
Ended
October 31,
1997 1998
---------------- -----------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ 237 $ (457)
Adjustments to reconcile net income (loss) to net
cash used in operating activities:
Depreciation of property and equipment 393 499
Foreign currency translation adjustment (7) -
Changes in assets and liabilities
Accounts receivable (2,600) (1,382)
Other current assets 144 (290)
Long-term receivables - (562)
Current liabilities 803 654
---------------- -----------------
Net cash used in operating activities (1,030) (1,538)
Cash flows from investing activities:
Additions to property and equipment (260) (377)
---------------- -----------------
Net cash used in investing activities (260) (377)
Cash flows from financing activities:
Proceeds from issuance of special warrants, net 11,593 -
Proceeds from exercise of stock options 126 -
---------------- -----------------
Net cash provided by financing activities 11,719 -
Effect of exchange rate changes on cash and cash equivalent (3) 93
Increase (decrease) in cash and cash equivalents 10,426 (1,822)
Cash and cash equivalents at beginning of period 5,042 6,708
---------------- -----------------
Cash and cash equivalents at end of period 15,468 4,886
Non-cash investing and financing activities:
Property and equipment financed by accounts payable - 139
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
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METROWERKS INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
================================================================================
Note 1 - Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles in the United States
and Canada for interim financial information and with the instructions to Form
10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, the
unaudited interim consolidated financial statements contain all adjustments,
consisting of normal recurring adjustments, considered necessary for a fair
presentation. Operating results for the three months ended October 31, 1998 are
not necessarily indicative of the results that may be expected for the year
ended July 31, 1999, or for any other interim period. For further information,
refer to the consolidated financial statements and footnotes thereto included in
Form 10-K for the year ended July 31, 1998 of Metrowerks Inc. and subsidiaries
(the "Company").
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiary, Metrowerks Corporation, a Texas corporation, and
Metrowerks Corporation's wholly owned subsidiary, Metrowerks Co. Ltd., a
Japanese corporation. All significant intercompany transactions and balances
have been eliminated.
Certain amounts have been reclassified in the October 31, 1997 consolidated
financial statements to conform to the current period classifications.
Note 2 - Inventories
Inventories are stated at the lower of cost (determined on a first-in, first-out
basis) or market. Inventories consist principally of finished goods, books and
third party hardware at July 31, 1998 and October 31, 1998.
Note 3 - Special Warrants
On October 21, 1997, the Company entered into an Underwriting Agreement for the
purpose of issuing to certain underwriters by way of private placement in
Canada, 1,500,000 special warrants ("Special Warrants") at a price of $10.08
each ($9.62 net of underwriters' fee). Upon the exercise of the 1,500,000
Special Warrants thereby sold, 1,250,000 shares were to have been issued from
treasury by the Company and 250,000 were to have been transferred by three
officers of the Company. These arrangements were modified in that the Company
agreed to assume two of the officers' obligations to deliver an aggregate of
225,000 Common Shares upon the exercise of the Special Warrants in consideration
of the payment by those officers of the proceeds received by them in connection
with the offering of the Special Warrants. The special warrants were exercised
in January 1998. Accordingly, 1,475,000 shares were issued from treasury by the
Company and 25,000 shares were transferred by an officer of the Company. The
225,000 Common Shares owned by the other two officers of the Company were
purchased by the Company for cancellation in December 1997. The Company
received net proceeds of $11,593 from the offering. The proceeds are net of
offering costs of $1,007.
Note 4- Line of Credit:
During April 1998, the Company entered into a line of credit agreement with a
bank. Borrowings under the agreement may aggregate up to $1,500 as of October
31, 1998 and bear interest at the bank's prime rate of interest plus one percent
(9.0% as of October 31, 1998). The agreement, which expires in January 2000, is
utilized to collateralize letters of credit issued to the Company's landlord for
leasehold improvements and to meet short-term working capital requirements which
may arise from time to time. Borrowings under the agreement are collateralized
by the assets of the Company except the Company's intellectual property. The
credit agreement contains certain minimum quarterly profitability and various
financial-ratio requirements. As of October 31, 1998, the Company was in
compliance with these covenants in all material respects. Under the agreement,
the Company may not pay dividends or make any other distribution payment on
account or in redemption, retirement or purchase of any capital stock, and the
Company must also limit the amount of funds transferred to any affiliate or
affiliated company.
6
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Note 5 - Computation of Net Loss Per Share
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share" which
establishes standards for computing and presenting earnings per share. SFAS No.
128 is effective for fiscal years ending after December 15, 1997.
Earnings per share calculated under SFAS No. 128 are as follows:
BASIC: Three Months Ended
October 31,
1997 1998
----------- -----------
Net income (loss) for the year $ 237 $ (457)
----------- -----------
Weighted average number of common shares
Issued and outstanding 11,555 12,919
----------- -----------
Earnings (loss) per share $ 0.02 $ (0.04)
DILUTED: Three Months Ended
October 31,
1997 1998
----------- -----------
Net income (loss) for the year $ 237 $ (457)
----------- -----------
Weighted average number of common shares
Issued and outstanding 11,555 12,919
Common stock equivalents:
Employee stock options 464
----------- -----------
Average common and common stock equivalents 12,019 12,919
----------- -----------
Earnings (loss) per share $ 0.02 $ (0.04)
Options to purchase the following shares of common stock at the indicated range
of price per share were outstanding during the three month periods ended October
31, 1997 and 1998, but were not included in the computation of diluted earnings
per share because the exercise price of the options was greater than the average
market price of the common shares for each period or the inclusion of the
options in the diluted per share calculation was antidilutive:
Options Range of
Excluded Exercise Prices
----------- ---------------
Three months ended:
October 31, 1997 52,500 $9.35 - $11.77
October 31, 1998 1,759,271 $1.03 - $11.77
Note 6 - Accounting Standards Adopted
As of August 1, 1998, the Company adopted the Accounting Standards Executive
Committee of the AICPA's Statement of Position 97-2 (SOP 97-2), Software Revenue
Recognition as amended on March 31, 1998, which delineates the accounting for
software product and maintenance revenues.
Also on August 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income". Comprehensive income is defined as the change in equity
of a company during a period from transactions and other events and
circumstances, excluding transactions resulting from investments by owners and
distributions to owners. For the Company, the primary difference between net
income and comprehensive income results from foreign currency translation
adjustments.
7
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Note 7 - Recent Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 131, "Disclosures about Segments of
an Enterprise and Related Information," which establishes standards for the way
that public business enterprises report information about operating segments in
annual financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas, and major customers. SFAS No. 131 is
effective for financial statements for periods beginning after December 15,
1997; however, it is not required in interim filings in the initial year of
adoption.
Management does not believe the implementation of SFAS No. 131 will have a
material effect on its consolidated financial statements.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion of the consolidated financial condition and results of
operations of the Company should be read in conjunction with the consolidated
financial statements and related notes thereto. Statements in this report
concerning expectations for the future constitute forward-looking statements
which are subject to a number of known and unknown risks, uncertainties and
other factors which may cause actual results, performance or achievements of the
Company or industry trends to differ materially from those expressed or implied
by such forward looking statements.
Relevant risks and uncertainties include, among others, potential fluctuations
in the Company's quarterly results, risks relating to the Company's ability to
the development of new products, technological change, the Company's entry into
the embedded systems market, the dependence on key personnel, the Company's
ability to protect its proprietary technology, the quality of the Company's
software products, reliance on international sales, which involves numerous
risks, increased competition, the Company's limited history of profitability,
the management of growth, potential litigation, the need for additional funds,
and the Company's dependence on third-party distribution channels. Other risk
factors which should be read in conjunction with the consolidated financial
condition and results of operations are included from time to time in the
Company's other filings with the securities commissions in Canada and the United
States Securities and Exchange Commission, press releases and other
communications.
The Company undertakes no obligation to publicly release the results of any
revisions to these forward-looking statements that may be made to reflect any
future events or circumstances.
THE COMPANY
The Company's principal line of business is the research, design, development,
marketing and support of computer software development tools. The Company's
products are used primarily by professional software programmers and by
programmers in the academic community to develop applications software for
platforms using a variety of operating systems ("OS") including desktop
operating systems such as Windows 95/98/NT and Mac(R) OS and commercial off-the-
shelf embedded operating systems, such as VxWorks, QNX, Nucleus OS(TM) and
Windows CE. CodeWarrior is also used by programmers for many proprietary
platforms such as 3Com's Palm Computing platform, Sony PlayStation,(TM) Nintendo
64 and AG Communications' (a Lucent subsidiary) GTD-5 operating system.
The Company derives substantially all of its revenue from a limited number of
products, principally its CodeWarrior products. The Company's future revenue is
substantially dependent upon the continued acceptance of its CodeWarrior
products in the Windows 95/98/NT, embedded systems, and Mac OS markets. The
Company is also in the process of developing a number of new products and
believes that its future revenue will depend upon the commercial success of
these new products. There can be no assurance that the Company will be able to
introduce these products in a timely manner or that these new products will be
commercially successful.
8
<PAGE>
The Company also derives a significant portion of its revenue from third party
product development agreements pursuant to which the Company receives payments
from a third party for developing programming tools for a particular platform,
operating system or programming language. The amount of revenue the Company
receives from this particular source will depend upon the number of such
agreements to which the Company is a party during such quarter period. Further,
there can be no assurance that the Company will be able to continue to enter
into such development agreements in the future. The Company's product
development efforts (both internally and for third parties) have also entailed
significant research and development expenditures. In addition, to enhance its
competitive position in the future, it will be necessary for the Company to
broaden its product offerings. This objective may require expansion of the
Company's internal product development efforts or acquisitions of or investments
in complementary businesses, products or technologies. Furthermore, if the
Company were unable to enter into new software development agreements in the
future, the Company would, at a minimum, have to increase its internal research
and development expenditures. These higher expense levels combined with
fluctuations in revenue could affect the Company's quarterly and annual results
and result in fluctuations in its operating results.
The Company intends to continue to invest significant amounts to expand its
product line and accordingly may continue to experience losses and volatility of
revenue and operating results in future periods. The Company believes that the
recent growth rates reflected in results of operations for prior periods should
not be relied upon as an indication of growth rates for future periods.
RECENT EVENTS
In the first quarter of fiscal 1999, the Company released the fourth version of
CodeWarrior Professional, which combines Windows-hosted and Mac-hosted versions
of the Company's desktop tools in one product. The release included the newest
version of the Company's integrated development environment ("IDE"), CodeWarrior
IDE 2.1. The new IDE includes improved project management capabilities and
debugger support.
The Company also released new versions of CodeWarrior for Palm OS and
CodeWarrior Discover Programming as well as initial releases of CodeWarrior for
Solaris, CodeWarrior Nucleus for MIPS, CodeWarrior Nucleus for PowerPC,
CodeWarrior VxWorks, CodeWarrior Discover DSP, CodeWarrior NEC V8xx and
CodeWarrior Nintendo in the first quarter of fiscal 1999.
The Company also announced in the first quarter of fiscal 1999 that the company
has signed a worldwide distribution agreement with Northern Networks (Nortel)
which will simplify the process by which Nortel developers can purchase and use
Metrowerks' CodeWarrior. CodeWarrior for PowerPC Embedded Systems, CodeWarrior
for MIPS Embedded Systems and CodeWarrior Professional have all been chosen by
Nortel's Software Engineering Assurance Laboratories (SEAL) to be a part of a
program within Nortel that distributes software to all of its design sites.
In the first quarter of fiscal 1999 the Company began shipping its CodeWarrior
Analysis Tools (CATS(TM)) which is the Company's latest addition to its line of
software development and analysis tools. The new product is a result of
technology obtained by the Company which was previously developed by Digital
Equipment Corporation's Western Research Laboratories (DECWRL) and by TracePoint
Technology, formerly a Digital Company. CATS includes a hierarchical profiling
tool that developers use to identify and eliminate bottlenecks in software to
increase software performance. CATS also includes a graphical code coverage tool
that assists quality assurance groups in properly testing software packages
prior to deployment. The CATS product release in the first quarter of fiscal
1999 is intended for developers writing software for Windows 95/98/NT and can be
used with code generated by CodeWarrior or Microsoft Visual C++. The Company
intends on releasing similar products for selected embedded microprocessors and
platforms in the future.
9
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth certain items from the Company's consolidated
statement of operations as a percentage of revenue for the periods indicated:
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
--------------------------
OCTOBER 31, 1997 OCTOBER 31, 1998
------------------ ------------------
<S> <C> <C>
Revenue, net............................................ 100.0% 100.0%
Cost of product sales................................... 18.4 8.2
Operating expenses:
Research and development.......................... 33.9 46.7
Selling, administrative and technical support..... 38.6 45.3
Depreciation of property and equipment............ 6.3 7.4
Total operating expenses................. 78.8 99.4
Operating income (loss)................................ 2.8 (7.6)
Other income:
Interest income and other......................... 1.0 0.8
Net earnings (loss).................................... 3.8 (6.8)
</TABLE>
REVENUE
The Company recognizes revenue from the sale of its products upon the later of
shipment or the satisfaction of all significant Company obligations. The
Company sells its products through its direct sales force and indirectly through
distributors. All revenue is derived from unaffiliated customers. Product
returns are estimated and provided for at the time of sale. Such return
allowances as a percentage of revenues have varied significantly over recent
years and periods, reflecting the Company's experience in product returns as it
has significantly expanded the proportion of its sales through third-party
distribution channels and increased its product portfolio. The Company expects
return allowances will continue to vary in the future. The Company's agreements
with its distributors generally provide the distributors with limited rights to
return unsold inventories under a stock balancing program. The Company monitors
activities of its distributors in an effort to minimize excessive returns and
establishes its reserves based on its estimates of expected returns. While
historically the Company's returns have been within expectations, the setting of
return allowances requires judgments regarding such factors as future
competitive conditions and product acceptance, which can be difficult to
predict.
The Company also derives revenue from product development agreement fees.
Product development agreement fees related to software development are
recognized on a percentage of completion basis over the term of the contract,
and are included in revenue in the income statement.
Revenue, a substantial portion of which has been derived from sales of the
Company's CodeWarrior professional programming tools, increased 10% from $6.15
million in the first quarter of fiscal 1998 to $6.75 million in the first
quarter of fiscal 1999. The increase in revenues is due in large part to an
increase in net product sales of $1.73 million from $4.60 million in the first
quarter of fiscal 1998 to $6.33 million in the first quarter of fiscal 1999. The
Company released the fourth version of it's flagship product, CodeWarrior
Professional, during the quarter ended October 31, 1998. The Company entered
into several OEM agreements during the quarter, which contributed significantly
to first quarter revenues. These OEM agreements typically allow platform vendors
to use and distribute versions of CodeWarrior tools, which support their
platforms. The Company anticipates that OEM arrangements, as described above,
will be a significant percentage of revenue for fiscal 1999. However, there can
be no assurance that the Company will be able to enter into future agreements or
that the existing or future agreements will result in sales of the CodeWarrrior
products. Product development agreement revenues for the first quarter of fiscal
1999 were $420,000, or 6.2% of total revenues, compared to $1.55 million, or
25.2% of total revenues in the first quarter of fiscal 1998. The decrease in
product agreement revenue occurred as many of the agreements entered into by the
Company were reaching final stages and the Company began to shift its focus
towards the sales of these newly developed products.
10
<PAGE>
COST OF PRODUCT SALES AND PRODUCT MARGINS
Cost of product sales consists primarily of the cost of product media and
duplication, the cost of packaging materials, fulfillment, amortization of
capitalized software development costs, royalties and shipping expenses. Costs
associated with product development agreement revenue are included in research
and development expense and not separately identified and approximate the
related contract revenue. Cost of product sales decreased from $1.13 million in
the first quarter of fiscal 1998 to $555,000 in the first quarter of fiscal
1999. Of these amounts, the cost of gross software sales was $950,000 in the
first quarter of fiscal 1998 and $520,000 in the first quarter of fiscal 1999,
representing 21.5% and 8.3% of gross software sales, respectively. Product
margins have decreased from the first quarter of fiscal 1998 to the first
quarter of fiscal 1999 due to an increase in large site license sales which have
higher margins than the sale of shrink-wrapped software to individual end-users.
These site license sales have increased with the Company's penetration of the
embedded market. The Company's decision to bring in-house its packaging,
fulfillment and shipping operations in 1997 has also contributed to improved
product margins on product sales.
OPERATING EXPENSES
Selling, administrative and technical support. Selling, administrative and
technical support costs increased from $2.37 million in the first quarter of
fiscal 1998 to $3.06 million in the first quarter of fiscal 1999, representing
38.6% and 45.3% of net revenues, respectively. This increase in selling,
administrative and technical support costs year over year is due to an increase
headcount from 82 employees at October 31, 1997 to 105 employees at October 31,
1998. Selling, administrative and technical support costs in the first quarter
of fiscal 1998 were consistent with the selling, administrative and technical
support costs of $3.10 million (61.4% of net revenues) in the fourth quarter of
fiscal 1998.
Research and Development. Research and development costs are expensed as
incurred. Eligible software costs incurred between the time a product achieves
technological and financial feasibility until its general release to customers
are capitalized and amortized on a straight-line basis over the economic life of
the product, which is generally three years. The Company evaluates the
realizable value of capitalized software on an ongoing basis, relying on a
number of factors, including operating results, business plans, budgets and
economic projections. In addition, the Company evaluates non-financial data
such as market trends and product development cycles. Research and development
costs are reduced by related grants and investment tax credits.
Research and development costs increased from $2.08 million in the first quarter
of fiscal 1998 to $3.15 million in the first quarter of fiscal 1999,
representing 33.9% and 46.7% of net revenues, respectively. Research and
development expenditures consist primarily of personnel-related costs.
Increases in expenses were due primarily to the growth of the Company's research
and development team from 97 employees at October 31, 1997 to 140 employees at
October 31, 1998. Research and development expenses in the fourth quarter of
fiscal 1998 were $2.90 million or 57.5% of net revenues. Research and
development costs in the first quarter of fiscal 1999 increased 8.6% over the
fourth quarter of fiscal 1998. The increase in research and development costs
from the fourth quarter of fiscal 1998 to the first quarter of fiscal 1999 is
the result of increased use of third party contract developers in the first
quarter of fiscal 1999. This was partially offset by a reduction in R&D
headcount from 143 at July 31, 1998 to 140 at October 31, 1998.
Depreciation. Depreciation expense totaled $386,000 in the first quarter of
fiscal 1998, $492,000 in the fourth quarter of fiscal 1998, and $499,000 in the
first quarter of fiscal 1999. The increase in depreciation expense is due to
the Company's investment in property and equipment necessary to provide support
for the Company's personnel growth during these periods.
LIQUIDITY AND CAPITAL RESOURCES
On October 21, 1997, the Company entered into an Underwriting Agreement for the
purpose of issuing to certain underwriters by way of private placement,
1,500,000 special warrants ("Special Warrants") at a price of $10.08 each ($9.62
net of underwriters' fee). Upon the exercise of the 1,500,000 Special Warrants
thereby sold, 1,250,000 shares were to have been issued from treasury by the
Company and 250,000 were to have been transferred by three officers of the
Company. These arrangements were modified in that the Company agreed to assume
two of the officers' obligations to deliver an aggregate of 225,000 Common
Shares upon the exercise of the Special Warrants in consideration of the payment
by those officers of the proceeds received by them in connection with the
offering of the Special Warrants. The Special Warrants were exercised in January
1998.
11
<PAGE>
Accordingly, 1,475,000 shares were issued from treasury by the Company
and 25,000 shares were transferred by an officer of the Company. The 225,000
Common Shares owned by the other two officers of the Company were purchased by
the Company for cancellation in December 1997. The Company received net
proceeds of $12.02 million from the offering. The proceeds are net of
underwriter's fees of $580,938 and were further reduced by anticipated offering
costs of $426,000 which were included in accrued liabilities at October 31,
1997.
During April 1998, the Company entered into a line of credit agreement with a
bank. Borrowings under the agreement may aggregate up to $1,500 as of October
31, 1998 and bear interest at the bank's prime rate of interest plus one percent
(9.0% as of October 31, 1998). The agreement, which expires in January 2000, is
utilized to collateralize letters of credit issued to the Company's landlord for
leasehold improvements and to meet short-term working capital requirements which
may arise from time to time. Borrowings under the agreement are collateralized
by the assets of the Company except the Company's intellectual property. The
credit agreement contains certain minimum quarterly profitability and various
financial-ratio requirements. Under the agreement, the Company may not pay
dividends or make any other distribution payment on account or in redemption,
retirement or purchase of any capital stock, and the Company must also limit the
amount of funds transferred to any affiliate.
Net cash used in operating activities was $1.03 million and $1.54 million for
the three-month periods ended October 31, 1997 and 1998, respectively. The
decrease in cash from operations is primarily due to the growth in receivables
during the quarter. Net cash used in investing activities was $260,000 and
$377,000 for the three-month periods ended October 31, 1997 and 1998,
respectively. During the three months ended October 31, 1997, the expenditures
were primarily for the acquisition of furniture and equipment to support the
increase in headcount. The expenditures during the three-month period ended
October 31, 1998 consisted primarily of investments in furniture and leasehold
improvements related to the Company's corporate headquarters in Austin, Texas.
Net cash provided by financing activities was $11.72 million and $-0- for the
three-month periods ended October 31, 1997 and 1998, respectively. As
mentioned above, the Company completed a financing in the first quarter of
fiscal 1998 resulting in an increase in cash of $12.02 million before offering
costs of $426,000.
YEAR 2000 COMPLIANCE
The Company is aware of the issues associated with the programming code in
existing computer systems as the millennium ("Year 2000") approaches. Many
currently installed computer systems and software products are unable to
distinguish between twentieth century dates and twenty-first century dates
because such systems may have been developed using two digits rather than four
to determine the applicable year. For example, computer programs that have date-
sensitive software may recognize a date using "00" as the year 1900 rather than
the year 2000. This error could result in system failures, generation of
erroneous data or miscalculations causing disruption of operations, including,
among other things, a temporary inability to process transactions, send invoices
or engage in similar normal business activities. As a result, many companies'
software and computer systems may need to be upgraded or replaced to comply with
such Year 2000 requirements. The Year 2000 problem is pervasive and complex.
Significant uncertainty exists in the software industry concerning the potential
impact of Year 2000 problems. The Company is assessing the potential overall
impact of the impending century change on the Company's business, financial
condition and results of operations.
The products provided by the Company process dates only to the extent that these
products use date data provided by the host or target operating system for date
representations used in internal processes, such as file modifications. Any Year
2000 Compliance issues resulting from the operation of the products are
therefore necessarily subject to the Year 2000 Compliance of the relevant host
or target operating system. The Company has directed its customers to the
relevant statements of Microsoft Corporation, Sun Microsystems, Inc., Apple
Computer, Inc., and other host or target operating systems relating to the Year
2000 Compliance of their operating systems. Except as expressly described above,
the products, in themselves, do not process date data, and therefore the Company
believes that the products do not implicate Year 2000 Compliance issues.
Although the Company believes the current versions of its products are year 2000
compliant, there can be no assurances that the current product versions do not
contain undetected errors or defects associated with year 2000 date functions.
12
<PAGE>
With respect to the Company's internal information technology systems, the
Company's year 2000 internal readiness program primarily covers taking inventory
of hardware and software systems, determining the level of year 2000 compliance
of such systems, assessing business risks associated with such systems, creating
action plans to address known risks, executing and monitoring action plans, and
contingency planning. The Company is currently reviewing and addressing year
2000 issues in its mission critical information technology systems such as
finance, order processing, customer service, project management, and sales
management. The Company is also currently reviewing and addressing year 2000
issues in its network servers, network software and widely used desktop software
applications. The Company expects to substantially complete year 2000 readiness
preparations by the first or second quarter of calendar 1999. In each case, the
Company expects to continue implementation and testing through calendar 1999.
The Company has no current plans to perform an assessment of embedded technology
outside of its information technology systems, and believes that the failure to
be year 2000 compliant of imbedded technology in systems such as photocopiers,
HVAC and cardkey readers will not have a material effect on the Company's
business.
Although the Company has not experienced and does not believe that it will incur
any material costs or experience material disruptions in its business associated
with preparing its internal systems for the year 2000, there can be no
assurances 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 are composed of third party
software, third party hardware and internally developed software, or in the
internal systems of its vendors or customers. The most reasonably likely worst
case scenarios would include: (i) loss or corruption of data contained in the
Company's internal information systems, (ii) hardware failure, (iii) the failure
of infrastructure services provided by government agencies and other third
parties (e.g., electricity, phone service, water transport, internet services,
etc.); (iv) the failure of the internal systems of the Company's vendors or
customers, resulting in problems with providing services or making payments to
the Company. The Company is in the early phases of contingency planning at this
time and expects to undertake more in depth contingency planning after following
the completion of its analysis and correction of its internal year 2000 issues.
The Company expects its contingency plans to include, among other things, manual
work-arounds for software and hardware failures, as well as substitution of
systems or vendors, if necessary.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information," which establishes standards for the way
that public business enterprises report information about operating segments in
annual financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas, and major customers. SFAS No. 131 is
effective for financial statements for periods beginning after December 15,
1997; however, it is not required in interim filings in the initial year of
adoption.
Management does not believe the implementation of SFAS No. 131 will have a
material effect on its consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
13
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF OPERATIONS ON PAGE 2
AND 3 OF THE COMPANY'S FORM 10-Q QUARTERLY REPORT FOR THE QUARTER ENDED OCTOBER
31, 1998 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 15,
1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
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<PERIOD-END> OCT-31-1998
<CASH> 1,547
<SECURITIES> 3,739
<RECEIVABLES> 8,121
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