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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 SEPTEMBER 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 0-20749
ASPECT DEVELOPMENT, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 25-1622857
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1300 CHARLESTON ROAD
MOUNTAIN VIEW, CALIFORNIA 94043
(Address of principal executive offices, including zip code)
(650) 428-2700
(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
---------- ----------
The number of shares outstanding of the registrant's common stock as of November
6, 1998 was 30,443,245.
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ASPECT DEVELOPMENT, INC.
FORM 10-Q
TABLE OF CONTENTS
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PART I. FINANCIAL INFORMATION PAGE
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Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets
as of September 30, 1998 and December 31, 1997 3
Condensed Consolidated Statements of Operations
for the three and nine months ended
September 30, 1998 and 1997 4
Condensed Consolidated Statements of Cash Flows
for the nine months ended September 30, 1998 and
1997 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 25
Item 6. Exhibits and Reports on Form 8-K 25
Signature 26
</TABLE>
<PAGE>
PART 1. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
ASPECT DEVELOPMENT, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
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ASSETS
September 30, December 31,
1998 1997 (1)
------------------ -----------------
(Unaudited)
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Current assets:
Cash and cash equivalents $ 18,554 $ 14,550
Short-term investments 51,992 40,506
Accounts receivable, net of allowance for doubtful 17,997 13,366
accounts of $421 and $295, respectively
Prepaid expenses and other current assets 3,846 3,234
---------------- --------------
Total current assets 92,389 71,656
Property and equipment, net 8,798 8,771
Other assets, net 1,208 1,293
================ ==============
Total assets $ 102,395 $ 81,720
================== ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,189 $ 2,009
Accrued bonuses and commissions 4,347 2,077
Accrued merger costs 116 2,883
Income taxes payable 4,039 1,608
Other accrued liabilities 5,674 3,076
Deferred revenue 8,879 11,136
Current portion of obligations under capital leases 40 346
---------------- --------------
Total current liabilities 25,284 23,135
Noncurrent portion of obligations under capital leases -- 11
Stockholders' equity:
Preferred stock, $0.001 par value per share;
2,000 shares authorized, issuable in series, no shares issued
or outstanding -- --
Common stock, $0.001 par value per share;
200,000 shares authorized, 30,349 and 28,866 issued and
outstanding at September 30, 1998 and December 31, 1997, respectively 90,082 81,627
Notes receivable from stockholders -- (320)
Deferred compensation (251) (376)
Accumulated translation adjustment (763) (302)
Accumulated deficit (11,957) (22,055)
------------------ ----------------
Total stockholders' equity 77,111 58,574
---------------- --------------
Total liabilities and stockholders' equity $ 102,395 $ 81,720
================== ================
</TABLE>
(1) Derived from audited financial statements as of December 31, 1997.
See accompanying notes to Condensed Consolidated Financial Statements.
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<TABLE>
<CAPTION>
ASPECT DEVELOPMENT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
Three months ended Nine months ended
September 30, September 30,
------------------------------------ ------------------------------------
1998 1997 (1) 1998 1997 (1)
--------------- ---------------- --------------- ----------------
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Revenues
License $ 14,472 $ 7,247 $ 36,089 $ 17,879
Subscription and maintenance 4,006 3,351 12,577 9,471
Service and other 4,346 2,463 12,240 5,736
--------------- ---------------- ---------------- ----------------
Total revenues 22,824 13,061 60,906 33,086
--------------- ---------------- ---------------- ----------------
Cost of revenues
License 506 24 828 298
Subscription and maintenance 1,048 721 2,724 1,831
Service and other 1,475 1,373 4,918 3,504
--------------- ---------------- ---------------- ----------------
Total cost of revenues 3,029 2,118 8,470 5,633
--------------- ---------------- ---------------- ----------------
Gross profit 19,795 10,943 52,436 27,453
Operating expenses
Research and development 4,037 2,934 11,491 7,918
Sales and marketing 8,707 6,754 24,392 18,099
General and administrative 2,076 1,409 5,555 3,736
--------------- ---------------- ---------------- ----------------
Total operating expenses 14,820 11,097 41,438 29,753
-------------- ------------- ------------- -------------
Operating income (loss) 4,975 (154) 10,998 (2,300)
Interest and other income, net 761 534 1,951 1,837
-------------- ------------- ------------- -------------
Income (loss) before income taxes 5,736 380 12,949 (463)
Provision for income taxes 1,262 624 2,851 1,593
--------------- ---------------- ---------------- ----------------
Net income (loss) $ 4,474 $ (244) $ 10,098 $ (2,056)
=============== ================ ================ ================
Net income (loss) per share-basic (2) $ 0.15 $ (0.01) $ 0.34 $ (0.08)
=============== ================ ================ ================
Net income (loss) per
share-diluted (2) $ 0.13 $ (0.01) $ 0.31 $ (0.08)
=============== ================ ================ ================
Shares used in computing per share
amounts-basic (2) 30,113 28,024 29,694 27,365
=============== ================ ================ ================
Shares used in computing per
share amounts-diluted (2) 33,380 28,024 33,027 27,365
=============== ================ ================ ================
</TABLE>
(1) Amounts reflect the combination of the Company with CADIS, Inc. in a
pooling of interests transaction which was consummated in the fourth
quarter of fiscal 1997.
(2) All shares and per-share amounts have been adjusted to reflect the two-
for-one stock split effected in the form of a stock dividend on August 14,
1998.
See accompanying notes to Condensed Consolidated Financial Statements.
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<TABLE>
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ASPECT DEVELOPMENT, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Nine months ended September 30,
1998 1997 (1)
------------------- --------------------
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CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ 10,098 $ (2,056)
Adjustments to reconcile net income (loss) to net cash from operating
activities:
Depreciation and amortization 3,532 1,826
Changes in assets and liabilities:
Accounts receivable (4,631) (1,895)
Prepaid expenses and other current assets (763) (1,554)
Accounts payable 180 695
Accrued bonuses and commissions 2,270 (58)
Accrued merger costs (2,767) --
Income taxes payable 2,431 1,691
Other accrued liabilities 1,867 225
Deferred revenue (2,258) 1,718
Other, net 271 (107)
------------------- --------------------
Net cash provided by operating activities 10,230 485
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment (3,559) (4,983)
Purchases of short-term investments (76,933) (43,383)
Proceeds from maturities of short-term investments 65,447 40,322
Decrease / (increase) in employee note receivable 151 (40)
Decrease/ (increase) in other assets 85 (1,224)
------------------- --------------------
Net cash used in investing activities (14,809) (9,308)
CASH FLOWS FROM FINANCING ACTIVITIES
Principal payments on capital lease obligations (317) (390)
Decrease in stockholders note receivable 320 ---
Proceeds from issuance of common stock 8,580 2,713
------------------- --------------------
Net cash provided by financing activities 8,583 2,323
Net increase/ (decrease) in cash and cash equivalents 4,004 (6,500)
Cash and cash equivalents at beginning of period 14,550 16,683
------------------- --------------------
Cash and cash equivalents at end of period $ 18,554 $ 10,183
=================== ====================
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for interest $ 11 $ 44
=================== ====================
Income taxes paid $ 16 $ 15
=================== ====================
</TABLE>
(1) Amounts reflect the combination of the Company with CADIS, Inc. in a
pooling of interests transaction which was consummated in the fourth
quarter of fiscal 1997.
See accompanying notes to Condensed Consolidated Financial Statements.
<PAGE>
ASPECT DEVELOPMENT, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Description of Business and Basis of Presentation
The Company develops, markets and supports enterprise client/server and
reference data products that enable manufacturers to improve product development
and business processes through component and supplier management. The Company
sells licensed software and reference data products to customers and provides
software and data services for customers both within and outside the United
States.
The unaudited condensed consolidated financial statements included herein
reflect all adjustments, consisting only of normal recurring adjustments which
in the opinion of management are necessary to fairly state the Company's
consolidated financial position, results of operations and cash flows for the
periods presented. These financial statements should be read in conjunction
with the Company's audited consolidated financial statements and notes thereto
as included in the Company's Form 10-KSB for the fiscal year ended December 31,
1997, filed with the Securities and Exchange Commission on March 31, 1998. The
consolidated results of operations for the period ended September 30, 1998 are
not necessarily indicative of the results to be expected for any subsequent
interim or annual period.
The condensed consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries. All significant intercompany
accounts and transactions have been eliminated. Investments in joint ventures
in which the Company has a 50% or less ownership interest are accounted for by
the equity method. Under such method, the Company's share of net earnings (or
losses) is included in interest and other income, net in the consolidated
statements of operations.
Assets and liabilities of the Company and its wholly owned foreign
subsidiaries are translated from the local currency to United States dollars at
period-end exchange rates. Income and expense items are translated on a
quarterly basis at the average rates of exchange prevailing during the quarter.
The adjustment resulting from translating the financial statements of the
Company and its foreign subsidiaries is reflected as an accumulated translation
adjustment in stockholders' equity. Foreign currency transaction gains and
losses are included in results of operations and were immaterial for all periods
presented.
2. Business Combination
On November 25, 1997, the Company acquired all of the outstanding shares of
CADIS, Inc. ("CADIS"), a privately held Delaware corporation which develops,
markets, and supports component and supplier management software, by issuing
approximately 1,411,000 shares of the Company's common stock. The acquisition
was accounted for as a pooling-of-interests transaction and the accompanying
consolidated financial statements have been restated for prior periods to
include the operating results of CADIS. In connection with the transaction, the
Company incurred approximately $4.3 million in merger related expenses in the
year ended December 31, 1997, including $0.9 million in
<PAGE>
consulting fees to financial advisors, $0.7 million for legal and other
professional fees, $0.7 million for personnel severance and outplacement
expenses and $0.6 million for facilities consolidation expense. Of the merger
expenses, a total of approximately $2.9 million was accrued at December 31,
1997. As of September 30, 1998, approximately $116,000 of the merger costs
remain unpaid and are expected to be paid prior to December 31, 1998.
There were no materially significant intercompany transactions between the
Company and CADIS prior to the merger and there were no significant accounting
reclassifications required to conform the financial reporting of the two
companies.
3. Stock Split
All shares and per-share amounts on the financial statements have been
adjusted to reflect the two-for-one stock split effected in the form of a stock
dividend on August 14, 1998.
4. Cash Equivalents and Short-Term Investments
The Company considers all highly liquid investments purchased with a
maturity of three months or less at date of acquisition to be cash equivalents.
Short-term investments generally mature within two years of purchase. Gross
realized and unrealized gains and losses are not material.
The Company's short-term investments consisted of various issuances of
commercial paper and are accounted for as available-for-sale securities at
September 30, 1998. The securities are carried at amortized cost which
approximates fair value, and therefore, there are no unrealized gains or losses
recorded to stockholders' equity.
5. Revenue Recognition
On January 1, 1998, the Company adopted Statement of Position No. 97-2,
"Software Revenue Recognition" (SOP 97-2) which superceded Statement of Position
91-1, "Software Revenue Recognition" (SOP 91-1). Arrangements with effective
dates prior to January 1, 1998 have been and will be accounted for under SOP 91-
1. Amendments after January 1, 1998 to arrangements with an original effective
date prior to January 1, 1998 will be accounted for under SOP 97-2. The
implementation of SOP 97-2 did not have a material adverse effect on the
Company's business or revenue accounting practices or on the Company's reported
revenues and earnings for the nine months ended September 30, 1998. In March
1998, the American Institute of Certified Public Accountants issued Statement of
Position 98-4, "Deferral of the Effective Date of a Provision of SOP 97-2" (SOP
98-4). SOP 98-4 is effective March 31, 1998 and defers for one year the
implementation of the provisions of SOP 97-2 that defines what constitutes
"vendor specific objective evidence" with regard to software revenue
recognition.
Licenses are comprised of perpetual license fees, which are recognized as
revenues if there is persuasive evidence of an arrangement, shipment of the
product has occurred and no significant vendor obligations remain, the fee is
fixed or determinable, and collection of the resulting receivables is deemed
probable. Where delivery involves significant installation obligations at
multiple sites, revenues are recognized on a per-site
<PAGE>
basis upon completion of installation. Product returns and sales allowances
(which were not significant through September 30, 1998) are estimated and
provided for at the time of sale.
Revenues from subscription and maintenance agreements are deferred and
recognized on a straight-line basis over the life of the related agreement,
which is typically one year.
Service and other revenues are comprised of service, consulting and
development fees. Service revenues from training and consulting are recognized
upon completion of the work to be performed. Development fees are recognized as
revenue in accordance with the terms of the agreements, generally when related
costs have been incurred. The Company retains complete ownership of all
technology developed under these agreements.
Four customers accounted for 13%, 13%, 12% and 10% of revenues for the
three months ended September 30, 1998 and one customer accounted for 15% of
revenues for the three months ended September 30, 1997. No customer accounted
for over 10% of revenues for the nine months ended September 30, 1998 and one
customer accounted for over 10% of revenues for the nine months ended September
30, 1997.
6. Comprehensive Income
As of January 1, 1998, the Company adopted Statement No. 130, "Reporting
Comprehensive Income" (SFAS 130). Statement No. 130 establishes new rules for
the reporting and display of comprehensive income and its components; however,
the adoption of this Statement had no impact on the Company's net income or
stockholders' equity. Statement No. 130 requires unrealized gains or losses on
the Company's available-for-sale securities and foreign currency translation
adjustments, which prior to adoption were reported separately in stockholders'
equity, to be included in other comprehensive income.
During the three months ended September 30, 1998 and 1997, total comprehensive
income (loss) amounted to $4.4 million and $(385,000), respectively. During the
nine months ended September 30, 1998 and 1997, total comprehensive income (loss)
amounted to $9.6 million and $(2.3) million, respectively. The components of
comprehensive income, net of related tax, for the three months ended September
30, 1998 and 1997, and for the nine months ended September 30, 1998 and 1997 are
as follows:
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Three months ended Nine months ended
September 30, September 30,
-------------------------- ----------------------
1998 1997 1998 1997
------ ----- ------- -------
(In thousands)
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Net income (loss) $4,474 $(244) 10,098 (2,056)
Foreign currency translation adjustment (50) (141) (459) (256)
------ ----- ------- -------
Comprehensive income (loss) $4,424 $(385) $ 9,639 $(2,312)
====== ===== ======= =======
</TABLE>
<PAGE>
The components of accumulated comprehensive income (loss), net of related tax,
at September 30, 1998 and December 31, 1997 are as follows:
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<CAPTION>
(In thousands) 1998 1997
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Foreign currency translation adjustment (763) (302)
----- -------
Accumulated comprehensive income (loss) $(763) $ (302)
===== =======
</TABLE>
7. Net Income Per Share
Effective December 31, 1997, the Company adopted the provisions of
Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings per
Share." As required by SFAS No. 128, the earnings per share for the three
months and nine months ended September 30, 1997 have been restated.
Under the new requirements for calculating EPS, the dilutive effect of
stock options and convertible securities is excluded from a new EPS measure,
basic EPS. Diluted EPS is computed using the weighted average number of common
shares outstanding after the issuance of common stock upon exercise of stock
options (using the treasury stock method).
STATEMENT OF COMPUTATION OF EARNINGS PER SHARE
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
--------------------- -------------------------
1998 1997 1998 1997
------- ------- -------- -------
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Basic:
Total weighted average common and
common equivalent shares outstanding 30,113 28,024 29,694 27,365
Net income (loss) $ 4,474 $ (244) $10,098 $(2,056)
Net income (loss) per share $ 0.15 $ (0.01) $ 0.34 $ (0.08)
Diluted:
Weighted average common stock outstanding 30,113 28,024 29,694 27,365
Common stock equivalents (treasury stock
method) 3,268 --- 3,333 ---
------- ------- -------- -------
Total weighted average common and common
equivalent shares outstanding 33,381 28,024 33,027 27,365
Net income (loss) $ 4,474 $ (244) $10,098 $(2,056)
Net income (loss) per share $ 0.13 $ (0.01) $ 0.31 $ (0.08)
</TABLE>
8. Foreign Exchange Hedging
The Company has established a hedging program to manage its exposure to
foreign currency rate changes on customer receivables. The Company does not use
derivative financial instruments for speculative or trading purposes. The
Company had no hedging contracts open at September 30, 1998. If considered
appropriate, the Company will enter into hedging contracts in the future.
<PAGE>
9. EDTN Joint Venture
The Company entered into a joint venture agreement with CMP Media, Inc.
("CMP") dated April 4, 1997. The joint venture was established for the creation
of the Electronic Design Technology Network ("EDTN"). EDTN is an Internet
supersite using push technology to provide electronic designers with up-to-date
information on components and suppliers, and related news, reviews, product
demonstrations and company announcements. EDTN revenues are generated primarily
from advertising sponsorships. The equity ownership of this joint venture is
split 50% to CMP and 50% to the Company. Included within interest and other
income, net for the three months and nine months ended September 30, 1998, are
charges of $87,000 and $378,000, respectively representing the Company's share
of losses in this joint venture.
10. Legal Matters
In connection with its investigation of certain potential antitrust issues
arising out of the CADIS acquisition, the Federal Trade Commission (the "FTC")
has issued a civil investigative demand and a subpoena requesting certain
information and documentation with respect to the Company's business. Although
no premerger notification was required under the Hart-Scott-Rodino Antitrust
Improvements Act of 1976 for the CADIS acquisition because of the size of the
parties, the FTC's demand is similar in scope to that of a request for
information by the FTC that may follow such a premerger notification. While the
Company intends to cooperate with the FTC's investigation, it does not believe
that the CADIS acquisition was in violation of federal antitrust laws. The
Company cannot accurately estimate the cost of responding to and complying with
the FTC's subpoena, but believes that such cost may be significant. The Company
does not believe that the outcome of the FTC's investigation will have a
material adverse effect on the Company's business or results of operations,
although there can be no assurance of such outcome.
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The discussion in this Report contains forward-looking statements that
involve risks and uncertainties. The Company's actual results could differ
materially from those discussed herein. Factors that could cause or contribute
to such differences include, but are not limited to, those discussed under the
caption "Factors That May Affect Future Results" as well as those discussed
below and elsewhere in this Report, and the risks discussed in the "Business
Factors" section included in the Company's Annual Report on Form 10-KSB for the
fiscal year ended December 31, 1997, filed with the Securities and Exchange
Commission on March 31, 1998.
RESULTS OF OPERATIONS
In November 1997, the Company acquired CADIS, a developer of CSM solutions.
In the acquisition, the Company issued approximately 1.4 million shares of its
Common Stock in exchange for all of the outstanding Common Stock and options of
CADIS. The acquisition was accounted for as a pooling of interests transaction,
and, except where specified, the financial statements of the Company and the
information herein includes the results of CADIS for all periods.
REVENUES
The Company's revenues are divided into three categories: license revenues,
subscription and maintenance revenues, and service and other revenues. License
revenues are comprised principally of perpetual license fees for the Company's
client/server software and reference data products. Subscription and
maintenance revenues are comprised principally of annual subscription and
maintenance fees for the Company's products, including its Explore client/server
software, its family of component, supplier and MRO Reference Databases and the
CAPS reference data product. Service and other revenues are comprised
principally of fees for consulting, development and training services performed
by the Company. License revenues are recognized if there is persuasive evidence
of an arrangement, shipment of the product has occurred and no significant
vendor obligations remain, the fee is fixed or determinable, and collection of
the resulting receivables is deemed probable. Product returns and sales
allowances (which were not significant through September 30, 1998) are estimated
and provided for at the time of sale. When delivery involves significant
obligations at multiple sites, revenues are recognized on a per-site basis upon
completion of installation. Revenues from subscription and maintenance
agreements are deferred and recognized on a straight-line basis over the life of
the related agreement, which is typically twelve months. Service revenues from
training and consulting are recognized upon completion of the work to be
performed. Development revenues are recognized in accordance with the terms of
the agreements, generally when related costs have been incurred. U.S. and
international sales accounted for approximately 93% and 7% of the Company's
total revenues for the three months ended September 30, 1998, respectively,
compared to 78% and 22% for the three months ended September 30, 1997,
respectively. U.S. and international sales accounted for approximately 89% and
11% of the Company's total revenues for the nine months ended September 30,
1998, respectively, compared to 74% and 26% for the nine months ended September
30, 1997. The Company generally derives a significant portion
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of its international revenues in each quarter from a small number of relatively
large sales. For the three and nine month periods ended September 30, 1998 fewer
than anticipated international orders closed. The Company believes that
international revenues will increase as a percentage of worldwide revenues as
the Company continues to grow its international sales channel. However, there
can be no assurance that such growth will be attained or if attained will be
consistent on a quarter-to-quarter basis, particularly if a significant
transaction should fail to close.
License Revenue. License revenues increased from $7.2 million for the
three months ended September 30, 1997 to $14.5 million for the three months
ended September 30, 1998 and increased from $17.9 million for the nine months
ended September 30, 1997 to $36.1 million for the nine months ended September
30, 1998. These increases were due primarily to sales to five significant
customers and the introduction of a new product solution for process
manufacturing customers that has expanded the potential market for the Company's
products.
Subscription and Maintenance Revenue. Subscription and maintenance
revenues increased from $3,351,000 for the three months ended September 30, 1997
to $4.0 million for the three months ended September 30, 1998 and increased from
$9.5 million for the nine months ended September 30, 1997 to $12.6 million for
the nine months ended September 30, 1998. These increases were due primarily to
renewals of subscription and maintenance agreements from the increased installed
base of customers.
Service and Other Revenue. Service and other revenues increased from
$2,463,000 for the three months ended September 30, 1997 to $4.3 million for the
three months ended September 30,1998 and increased from $5.7 million for the
nine months ended September 30, 1997 to $12.2 million for the nine months ended
September 30, 1998. These increases were due primarily to an increase in the
number and size of consulting contracts in 1998. The Company is increasing its
focus on consulting services due to their leverage in increasing future license
revenues.
COST OF REVENUES
Cost of Licenses. Cost of licenses consists primarily of license fees and
royalties paid to third-party vendors and shipping expenses. Cost of licenses
increased from $24,000 for the three months ended September 30, 1997 to $506,000
for the three months ended September 30, 1998, representing 0.3% and 3.4% of
license revenues for the three months ended September 30, 1997 and 1998,
respectively. Cost of licenses increased from $298,000 for the nine months ended
September 30, 1997 to $828,000 for the nine months ended September 30, 1998,
representing 1.6% and 2.2% of license revenues for the nine months ended
September 30, 1997 and 1998, respectively. These increases in absolute dollars
and as a percentage of revenues for the three and nine months ended September
30, 1998 were due primarily to a royalty payment to a third-party vendor and to
an increase in the number of customers requiring the Company to provide for
their database software licenses.
Cost of Subscription and Maintenance Revenues. Cost of subscription and
maintenance revenues consists primarily of personnel-related costs incurred in
providing centralized telephone support and related technical support to
customers and license fees
<PAGE>
and royalties paid to third-party vendors, primarily Information Handling
Systems for the CAPS reference data product. Cost of subscription and
maintenance revenues increased from $721,000 for the three months ended
September 30, 1997 to $1.0 million for the three months ended September 30,
1998, representing 21.5% and 26.1% of subscription and maintenance revenues for
the three months ended September 30, 1997 and 1998, respectively. Cost of
subscription and maintenance revenues increased from $1.8 million for the nine
months ended September 30, 1997 to $2.7 million for the nine months ended
September 30, 1998, representing 19.3% and 21.6% of subscription and maintenance
revenues for the nine months ended September 30, 1997 and 1998, respectively.
The increase in absolute dollars and as a percentage of related revenues in 1998
was due to an increase in the customer support infrastructure required to
provide an increased level of support to customers and the assimilation of CADIS
support personnel and infrastructure.
Cost of Service and Other Revenues. Cost of service and other revenues
consist primarily of personnel-related costs incurred in providing consulting
services, development services and training to customers. Cost of service and
other revenues increased from $1.4 million for the three months ended September
30, 1997 to $1.5 million for the three months ended September 30, 1998,
representing 55.7% and 33.9% of service and other revenues for the three months
ended September 30, 1997 and 1998, respectively. Cost of service and other
revenues increased from $3.5 million for the nine months ended September 30,
1997 to $4.9 million for the nine months ended September 30, 1998, representing
61.0% and 40.1% of service and other revenues for the nine months ended
September 30, 1997 and 1998, respectively. The increases in absolute dollars are
due primarily to an increase in the number and size of consulting contracts. The
decreases in percentages of related revenues are due primarily to the increasing
profit margin associated with each individual contract due to increased
management efficiencies and an increasing percentage of the fulfillment of these
contracts from the lower cost of labor in India.
OPERATING EXPENSES
Research and Development. Research and development expenses consist
primarily of engineering personnel costs. Research and development expenses
increased from $2.9 million for the three months ended September 30, 1997 to
$4.0 million for the three months ended September 30, 1998, representing 22.4%
and 17.6% of total revenues for the three months ended September 30, 1997 and
1998, respectively. Research and development expenses increased from $7.9
million for the nine months ended September 30, 1997 to $11.5 million for the
nine months ended September 30, 1998, representing 23.9% and 18.8% of total
revenues for the nine months ended September 30, 1997 and 1998, respectively.
The decrease in research and development expenses as a percent of total revenues
was due principally to the Company's growth in total revenues, partially offset
by increased development staffing. The dollar increase in research and
development expenses was due to this increased development staffing. The
Company expects research and development expenses to continue to increase in
absolute dollars while remaining approximately level or decreasing as a percent
of total revenues.
Sales and Marketing. Sales and marketing expenses include salaries,
commissions, advertising, travel, trade shows, public relations and other
selling and
<PAGE>
marketing-related expenses. Sales and marketing expenses increased from $6.8
million for the three months ended September 30, 1997 to $8.7 million for the
three months ended September 30, 1998, representing 51.7% and 38.1% of total
revenues for the three months ended September 30, 1997 and 1998, respectively.
Sales and marketing expenses increased from $18.1 million for the nine months
ended September 30, 1997 to $24.4 million for the nine months ended September
30, 1998, representing 54.7% and 40.0% of total revenues for the nine months
ended September 30, 1997 and 1998, respectively. The dollar increase in sales
and marketing expenses was primarily due to the addition of sales and marketing
personnel and increased marketing activities, including trade shows and
promotional expenses, and to growth in international sales and marketing
channels. The decrease in such expenses as a percent of total revenues was due
to significant increases in total revenues during the periods. The Company
believes that such expenses will continue to increase in dollar amounts and may
increase as a percentage of total revenues in the future as the Company expands
its sales and marketing staff and enters new markets, worldwide.
General and Administrative. General and administrative expenses include
personnel costs for administration, finance, human resources and general
management, along with legal and accounting expenses and other professional
services. General and administrative expenses increased from $1.4 million for
the three months ended September 30, 1997 to $2.1 million for the three months
ended September 30, 1998, representing 10.7% and 9.0% of total revenues for the
three months ended September 30, 1997 and 1998, respectively. General and
administrative expenses increased from $3.7 million for the nine months ended
September 30, 1997 to $5.6 million for the nine months ended September 30, 1998,
representing 11.2% and 9.1% of total revenues for the nine months ended
September 30, 1997 and 1998, respectively. The dollar increase of general and
administrative expenses was primarily the result of increased staffing and
associated expenses necessary to manage and support the Company's growth. The
decrease in such expenses as a percent of total revenues was due to the
significant increase in total revenues during the periods. The Company expects
general and administrative expenses to increase in absolute dollars while
remaining approximately level or decreasing as a percent of total revenues.
INTEREST AND OTHER INCOME, NET
Interest and other income, net, represents interest income earned on the
Company's cash, cash equivalents and short-term investments, the Company's share
of losses of the EDTN joint venture and other items. Interest and other income,
net, increased from $534,000 for the three months ended September 30, 1997 to
$761,000 for the three months ended September 30, 1998, representing 4.0% and
3.3% of total revenues for the three months ended September 30, 1997 and 1998,
respectively. Interest and other income, net, increased from $1.8 million for
the nine months ended September 30, 1997 to $2.0 million for the nine months
ended September 30, 1998, representing 5.5% and 3.2% of total revenues for the
nine months ended September 30, 1997 and 1998, respectively. The dollar increase
from September 30, 1997 to the comparable periods in 1998 was primarily due to a
higher level of investment in short-term securities offset by losses in the EDTN
joint venture.
<PAGE>
PROVISION FOR INCOME TAXES
The Company has provided income taxes at an effective tax rate of 22% for
the three and nine months ended September 30, 1998. The rate reflects the
utilization of certain prior year CADIS net operating losses not previously
benefited. The income tax provisions for the prior year comparable periods were
computed without benefiting CADIS losses, resulting in extraordinary high
effective tax rates. The Company's provision for income taxes and effective tax
rate may vary in future periods based upon a variety of factors, including the
geographic mix of income.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1998, the Company had approximately $70.5 million in
cash, cash equivalents and short-term investments, representing an increase of
$15.5 million from December 31, 1997. The increase is primarily a result of
cash from operations and financing activities, mainly the exercise of employee
stock options which generated $8.6 million in cash. Net cash provided by
operating activities was $10.2 million for the nine months ended September 30,
1998, primarily due to net income of $10.1 million, an increase in accrued
bonuses and commissions of $2.3 million, income taxes payable of $2.4 million
and accrued liabilities of $1.7 million, offset by an increase in accounts
receivable of $4.6 million, a decrease in deferred revenue of $2.3 million, and
a decrease in accrued merger costs of $2.8 million.
As of September 30, 1998, the Company's principal commitments consisted of
obligations under operating and capital leases. As of September 30, 1998, the
Company had $40,000 in outstanding borrowings under capital leases which are
payable through 1999.
The Company believes that its current cash balances and the cash flows
generated from operations, if any, will be sufficient to meet its working
capital and capital expenditure requirements for at least the next 12 months.
In addition, the Company from time to time evaluates potential acquisitions of
businesses, products and technologies and may in the future require additional
equity or debt financing to consummate such potential acquisitions. There can be
no assurance such financing will be available on favorable terms or at all. In
addition, issuances of additional equity securities could be dilutive to the
Company's stockholders.
IMPACT OF THE YEAR 2000
Many older computer software programs use two digits in their date fields,
identifying years by the last two digits only. Such programs may interpret the
year 2000 as 1900 instead, causing such systems to fail or create erroneous
results after 1999.
The Company has assembled a Year 2000 (Y2K) internal task force to determine the
impact, if any, of the Year 2000 issues related to the Company's products, third
party databases embedded in the Company's products, internal computer and
information systems, office equipment, customers' internal management systems,
and third party suppliers. Although testing is ongoing, the Company believes
that all of the Company's supported products, which will be in use after
December 31, 1999, will be Y2K compliant.
<PAGE>
The Company is in the process of obtaining questionnaires or certificates of
compliance from significant third-party vendors as to their Y2K compliance. If
any of these vendors are determined to be non-compliant, the internal task force
will develop plans to correct problems once they are identified.
The costs to address the Year 2000 compliance issues to date have been minimal
and have been financed through operating cash flow. The Company has not
determined the total estimated cost of the Year 2000 compliance program but does
not anticipate that the cost will be material. The estimate of costs will be
determined as the Company continues its assessments and additional information
is known. These costs will not include internal resource costs or the costs of
software and systems that are being replaced or upgraded in the normal course of
business. There can be no assurance that these costs will not be greater than
expected, or that corrective action will be successful or completed in the
requisite timeframe. The Company will continue to expend appropriate resources
to address this issue on a timely basis.
The Company believes that it will be substantially complete with its Y2K
compliance work prior to December 31, 1999. Contingency plans will be developed
if it appears the Company, its key customers or its key suppliers will not be
Year 2000 compliant, and such noncompliance is expected to have a material
adverse impact on the Company's operations.
FACTORS THAT MAY AFFECT FUTURE RESULTS
FLUCTUATIONS IN OPERATING RESULTS
The Company's revenues and results of operations have varied on a quarterly
and an annual basis in the past and are expected to vary significantly in the
future. The Company's revenues and results of operations are difficult to
forecast and could be materially adversely affected by many factors, some of
which are outside the control of the Company, including, among others, the
relatively long sales and implementation cycles for the Company's products; the
size and the timing of individual license transactions; seasonality of revenues;
changes in the Company's operating expenses; changes in the mix of products and
services sold; timing of introduction or enhancement of products by the Company
or its competitors; market acceptance of new products; technological changes in
software or database technology; personnel changes and difficulties in
attracting and retaining qualified sales, marketing, technical and consulting
personnel; changes in customers' budgeting cycles; changes in reselling channel
partners programs; adverse FTC rulings that could delay sales cycles; foreign
currency exchange rates; quality control of products sold; and economic
conditions generally and in specific industry segments.
The Company's business has experienced and is expected to continue to
experience seasonality, in part due to customer buying patterns and the
Company's expense patterns. In recent years, the Company has generally had
stronger demand for its products during the quarter ending December 31, and has
incurred higher personnel costs in the quarter ending March 31. The Company
believes that these patterns will continue for the foreseeable future.
Licenses of the Company's client/server software and reference content
products have historically accounted for a substantial majority of the Company's
revenues, and the Company anticipates that this trend will continue for the
foreseeable future. The Company
<PAGE>
generally ships its products within a short period of time after execution of a
license. As a result, the Company typically does not have a material backlog of
unfilled license orders, and revenues in any quarter are substantially dependent
on license contracts signed in that quarter. The Company's expense levels are
based, in part, on its expectations as to future revenues and to a large extent
are fixed in the short term. Accordingly, the Company may be unable to adjust
spending in a timely manner to compensate for any unexpected shortfall in
revenues, and any significant shortfall of demand in relation to the Company's
expectations or any material delay of customer orders would have an almost
immediate material adverse effect on the Company's business, financial condition
and results of operations. As a result, it is likely that in some future period
the Company's results of operations could fail to meet the expectations of
public market analysts or investors. In such event, or in the event that adverse
conditions prevail or are perceived to prevail generally or with respect to the
Company's business, the price of the Company's Common Stock would likely drop
significantly.
LENGTHY SALES AND IMPLEMENTATION CYCLES
The licensing of the Company's client/server software and reference content
products generally requires the Company to engage in a sales cycle lasting six
to twelve months or longer, during which the Company typically provides a
significant level of education to prospective customers regarding the use and
benefits of the Company's products. In addition, the implementation of the
Company's standard products typically involves a significant commitment of
resources by its customers over an extended period of time and is commonly
associated with reengineering of product development and business processes. For
these reasons, sales and customer implementation cycles are susceptible to a
number of significant delays over which the Company may have little or no
control. Any delay in the sale or customer implementation of a larger license
or a number of smaller licenses would have a material adverse effect on the
Company's business, financial condition and results of operations and cause the
Company's operating results to vary significantly from quarter to quarter.
RELIANCE ON ACCEPTANCE OF CSM SOLUTION
Substantially all of the Company's revenues are derived from fees for licensed
products and for services which enable CSM by manufacturers. The Company's
future financial performance will depend to a large extent on the growth in the
number of organizations adopting client/server software and reference content
solutions for CSM and engaging outside vendors to provide and maintain such
solutions. The Company's future growth, if any, will also depend upon the
extent to which such organizations choose to implement CSM solutions across
their enterprises and on their continued reliance on the Company's subscription,
maintenance and support offerings. Because the CSM market is relatively new and
evolving, it is difficult to assess or predict with any assurance its size or
growth rate. There can be no assurance that the market for CSM products and
services will continue to develop, or that the Company's CSM products or
services will continue to achieve market acceptance. If the CSM market develops
more slowly than expected or fails to attract new customers, or if the Company's
products do not continue to achieve broader market acceptance, the Company's
business, financial condition and results of operations would be materially
adversely affected.
<PAGE>
DEPENDENCE ON FEW PRODUCTS
The Company currently derives substantially all of its revenues from the
licensing of its Explore client/server software and family of reference
databases and fees from related services. These products and services are
expected to continue to account for substantially all of the Company's revenues
for the foreseeable future. The Company first made its Explore client/server
software and family of reference databases generally commercially available in
the second quarter of 1995, and has issued regular updates since then. While
the Company believes that to date its customers have not experienced significant
problems with such products, if the Company's customers were to do so in the
future or if they were dissatisfied with product functionality or performance,
the Company's business, financial condition and results of operations would be
materially adversely affected.
There can be no assurance that the Company's products will achieve broader
market acceptance or that the Company will be successful in marketing its
products or product enhancements. In the event that the Company's current or
future competitors release new products that have more advanced features, offer
better performance or are more price competitive than the Company's products,
demand for the Company's products would decline. A decline in demand for the
Explore client/server software or the VIP family of reference databases as
result of competition, technological change, evolution of the Internet or other
factors would have a material adverse effect on the Company's business,
financial condition and results of operations.
MANAGEMENT OF EXPANDING OPERATIONS; KEY PERSONNEL
The Company's business has grown rapidly in recent years, and the Company has
experienced significant growth in the number of its employees, the scope of its
operating and financial systems and the geographic area of its operations, which
has placed a significant strain on the Company's management. The Company's
future results of operations will depend in part on the ability of its officers
and other key employees to continue to implement and expand its operational,
customer support and financial control systems and to grow, train and manage its
employee base. Should the Company's business continue to expand, there can be
no assurance that the Company will be able to manage this expansion
successfully, and any inability to do so would have a material adverse effect on
the Company's business, financial condition or results of operations. In
addition, the Company believes that its future success will also depend to a
significant extent upon its ability to attract, train and retain highly skilled
technical, management, sales, marketing and consulting personnel. Competition
for such personnel is intense, and the Company expects that such competition
will continue for the foreseeable future. The Company has from time to time
experienced difficulty in locating candidates with appropriate qualifications.
There can be no assurance that the Company will be successful in attracting or
retaining such personnel, and the failure to attract or retain such personnel
could have a material adverse effect on the Company's business, financial
condition and results of operation.
RISKS RELATED TO ACQUISITIONS
The Company acquired CADIS in November 1997. The successful integration of
CADIS has required substantial attention from management. The majority of the
costs
<PAGE>
associated with the acquisition have already been incurred, but the anticipated
benefits of the acquisition derived from the successful integration of the CADIS
operations are just now being accrued. The diversion of the attention of
management from the day-to-day operations of the Company, or difficulties
encountered in the transition and integration process, could have a material
adverse effect on the business, financial condition and results of operations of
the Company.
In connection with the Merger, the Company terminated current or potential
contractual relationships between CADIS and certain customers of CADIS. Although
the Company believes that this action was not in breach of contractual
obligations of CADIS or any rights of other parties that may have existed at the
time, there can be no assurance that any of these customers will not bring an
action against CADIS or the Company claiming contract or tort damages arising
out of the Company's termination of these relationships, or that, in the event
any such action is brought, the Company will be successful in defending it.
In connection with its investigation of certain potential antitrust issues
arising out of the Merger, the Federal Trade Commission (the "FTC") has issued a
civil investigative demand and a subpoena requesting certain information and
documentation with respect to the Company's business. Although no premerger
notification was required under the Hart-Scott-Rodino Antitrust Improvements Act
of 1976 for the CADIS Merger because of the size of the parties, the FTC's
demand is similar in scope to that of a request for information by the FTC that
may follow a premerger notification. While the Company intends to cooperate with
the FTC's investigation, it does not believe that the Merger was in violation of
federal antitrust laws. Although the Company could incur significant expenses in
cooperating with the investigation, the Company does not believe that the
outcome of the FTC's investigation will have a material adverse effect on the
Company's business or results of operations. However, there can be no assurance
of such outcome.
To implement its business plans, the Company may make further acquisitions in
the future, which will require significant financial and management resources
both at the time of the transaction and during the process of integrating the
newly-acquired business into the Company's operations. The Company's operating
results could be adversely affected if it is unable to successfully integrate
such new companies into its operations. There can be no assurance that any
acquired products, technologies or businesses will contribute at anticipated
levels to the Company's sales or earnings, or that sales and earnings from
combined businesses will not be adversely affected by the integration process.
Certain acquisitions or strategic transactions may be subject to approval by the
other party's board of directors or stockholders, domestic or foreign
governmental agencies or other third parties. Accordingly, there is a risk that
important acquisitions or transactions could fail to be concluded as planned.
Future acquisitions by the Company could also result in issuances of equity
securities or the rights associated with the equity securities, which could
potentially dilute earnings per share. In addition, future acquisitions could
result in the incurrence of additional debt, taxes, contingent liabilities,
amortization expenses related to goodwill and other intangible assets and
expenses incurred to align the accounting policies and practices of the acquired
companies with those of the Company. These factors could adversely affect the
Company's future operating results, financial position and cash flows. As some
of the Company's competitors have pursued a strategy of growth through
acquisition, there is a risk that future acquisitions could be more expensive
due to competition among bidders for target companies.
<PAGE>
CUSTOMER CONCENTRATION
Historically, a relatively small number of customers has accounted for a
significant percentage of the Company's total revenues, and the Company expects
that it will continue to experience significant customer concentration for the
foreseeable future. In the year ended December 31, 1997 sales to one customer
accounted for 11% of the Company's revenues. No other customer in any of the
three years ended December 31, 1997 accounted for more than 10% of revenues.
There can be no assurance that such customers or any other customers will in the
future continue to license or purchase products or services from the Company at
levels that equal or exceed those prior periods, or at all.
COMPETITION
The market for the Company's products is highly competitive, subject to rapid
change and significantly affected by new product introductions and other market
activities of industry participants. The Company's products are targeted at the
emerging market for open, client/server software solutions, and the Company's
competitors offer a variety of products and services to address this market.
Among the Company's principal competitors is the Information Handling Systems
division of IHS Group, Inc. ("IHS"), a privately held software and data
publishing company. The Company had licensed a reference data product, CAPS,
from IHS from 1992 until the license expired in October 1997. Prior to October
1997, the Company offered CAPS on a limited basis to certain current and
potential customers who typically use it in addition to the Company's family of
reference databases. Further, the Company currently faces indirect competition
from third-party professional service organizations and internal management
information systems and computer-aided design departments of potential customers
that develop custom internal software.
In the future, in light of relatively low barriers to entry in the software
industry, the Company could experience additional competition from other
established or emerging companies as the client/server application software
market continues to develop and expand. In particular, Relational Database
Management Systems ("RDBMS") vendors, enterprise resource planning ("ERP")
firms, PDM vendors, supply chain management companies, computer aided design
("CAD") distributors or professional service providers may in the future enter
the Company's market with competitive products. To the extent that the Company
expands into Internet-based or other forms of delivery of data, the Company may
encounter additional competition from its existing competitors and other
established or emerging companies. Many of these potential competitors have
well-established relationships with the Company's current and potential
customers, have extensive knowledge of the client/server industry, better name
recognition and significantly greater financial, technical, sales, marketing and
other resources and are capable of offering single vendor solutions that span
multiple industries. It is also possible that new competitors or alliances
among competitors may emerge and rapidly acquire significant market share. The
Company also expects that competition will increase as a result of software
industry consolidations. The Company's competitors may be able to respond more
quickly to new or emerging technologies and changes in customer requirements, or
to devote greater resources to the development, promotion and sale of their
products.
<PAGE>
DISTRIBUTION RISKS
An integral part of the Company's strategy is to expand its direct sales force
and to establish marketing, selling and consulting relationships both
domestically and internationally. In addition, the Company intends to leverage
its relationships with hardware and software vendors and systems integrators to
encourage these parties to recommend or distribute the Company's products. The
Company has invested resources and may invest additional resources to develop
these channels. The ability of the Company to achieve revenue growth in the
future will depend on its success in adding a substantial number of direct sales
employees and establishing marketing, selling and consulting relationships
during 1998 and future periods. There can be no assurance that the Company will
be able to attract sufficient direct sales personnel, software vendors, systems
integrators or other marketing or selling partners to market the Company's
products effectively. There can be no assurance that the cost of the Company's
investment in direct and indirect sales channels will not exceed the revenues
generated from such investment, if any, or that the Company's sales and
marketing organization will successfully compete against the sales and marketing
organizations of the Company's competitors.
INTERNATIONAL SALES
In fiscal 1995, 1996 and 1997, and the first nine months of 1998,
international sales accounted for approximately 18.9%, 20.3%, 17.0% and 10.9% of
the Company's revenues, respectively. In addition, although the Company records
revenues based on the billing location, certain domestic billings include
licenses that may be deployed by customers or resold through indirect channels
into international locations. The Company expects that international sales will
continue to account for a significant percentage of the Company's revenues for
the foreseeable future. However, there can be no assurance that the Company will
achieve any significant degree of penetration in any international market.
There are a number of risks inherent in the Company's international business
activities, including unexpected changes in regulatory requirements, tariffs and
other trade barriers, costs and risks of localizing products for foreign
countries, longer accounts receivable payment cycles, potentially adverse tax
consequences, repatriation of earnings and the burdens of complying with a wide
variety of foreign laws. International sales are denominated and collected in
both U.S. and foreign currency. Accordingly, a portion of the Company's
international revenues are subject to currency fluctuation risks. In those
jurisdictions in which the Company's sales are denominated in foreign currency,
fluctuations in such currencies could adversely affect the profitability of
sales made in such jurisdictions and therefore adversely affect the Company's
business, financial condition or results of operations. Further, an increase in
the value of the U.S. dollar relative to foreign currencies could make the
Company's products more expensive and, therefore, potentially less competitive
in those markets where the Company's sales are denominated in U.S. dollars. The
Company to date has engaged in foreign currency hedging denominated in U.S.
dollars only to a limited extent. In addition, the Company's revenues earned in
various countries in which the Company does business may be subject to taxation
by more than one jurisdiction, thereby adversely affecting the Company's
earnings. There can be no assurance that any of the foregoing factors will not
have a material adverse effect
<PAGE>
on the revenues from the Company's future international sales and, consequently,
the Company's financial condition and results of operations.
Significant fluctuations in currency exchange rates against the U.S. dollar,
such as the recent significant fluctuations in Asian currencies, may cause
deferrals, delays and cancellation of orders. The financial systems in Japan,
South Korea, Taiwan, Singapore, and other Asian nations have experienced
significant turmoil. Recently announced financial failures by leading Asian
financial institutions have increased concerns over Asian economic stability.
Such turmoil in the financial markets has caused manufacturers in these
countries to delay or defer capital expenditures. Diminished economic growth in
Asia could reduce consumer demand for the Company's products and related
services.
RISK OF INDIAN OPERATIONS
The Company has operations in Bangalore, India with 319 employees as of
September 30, 1998. The Company is dependent to a significant extent upon the
ability of its Indian operations to successfully maintain and upgrade its
reference data products. The Company believes that the success of its Indian
operations will depend in large part upon its ability to attract, train and
retain highly skilled technical and management personnel in India. Competition
for such personnel in India is intense, and there can be no assurance that the
Company will be successful in attracting a sufficient number of qualified
personnel. The Company is directly affected by the political and economic
conditions to which India is subject. In addition, many of the Company's
expenses in India are paid in Indian currency, thereby subjecting the Company to
the risk of foreign currency fluctuations. Any difficulties in coordinating or
managing the Indian operations due to cultural, geographic, communication or
other reasons could have a material adverse effect on the Company's business,
financial condition or results of operations.
<PAGE>
NEED TO DEVELOP, MAINTAIN AND IMPROVE REFERENCE CONTENT PRODUCTS
The Company's family of component reference content products are comprised of
a large amount of information supplied by component suppliers that requires
frequent updating and expansion. As a result, the Company must continue to
invest substantial resources in its reference content products. The information
regarding components and suppliers contained in the Company's family of
component reference content products is derived from supplier information and is
not proprietary to the Company. Therefore, other parties may independently
create similar reference content products. Furthermore, the Company currently
plans to develop, license or acquire reference content products for additional
global vertical markets, which will impose significant additional burdens on its
content product development efforts. As the information contained in the
Company's reference content products expands or if the Company's customer base
demands more frequent updates, unforeseen problems with entering, updating,
managing or delivering the data could arise. Because the Company's customers
rely on the information contained in the Company's family of component reference
content products to design and procure components for their products, the
accuracy, completeness and currency of the information in those content products
is critical. To the extent that the Company is unable to keep its reference
content products accurate, complete or current, its customers may become
dissatisfied with these products and discontinue their purchase of the Company's
products and services. In the event that the Company's family of component
reference content products is or is perceived to be inaccurate, incomplete or
out-of-date, the Company's business, financial condition and results of
operations could be materially adversely affected.
RISK OF PRODUCT DEFECTS
Software and reference content products as complex as those offered by the
Company frequently contain undetected errors or failures when first introduced
or when new versions are released. The Company has in the past discovered
software bugs and data errors in certain of its products and enhancements, both
before and after initial shipment. There can be no assurance that, despite
testing by the Company and its customers, errors will not occur in products,
data or releases after commencement of commercial shipments, resulting in loss
of or delay in market acceptance, which could have a material adverse effect
upon the Company's business, financial condition and results of operations.
RISKS ASSOCIATED WITH EMERGING INTERNET MARKET
A portion of the Company's strategy is to leverage the Web to provide access
to its family of reference databases, as well as to additional value-added
content. The Company may devote substantial resources to developing products
designed for use with the Web, and there can be no assurance that the revenues
generated, if any, from the use of the Web will be greater than the costs of
developing and modifying products for such use. Further, the Company's
solutions may be rendered obsolete by, or less valuable in comparison to,
competitive solutions made possible by future development of the Web. If this
were to occur, the Company's business, financial condition and results of
operations would be materially adversely affected.
<PAGE>
DEPENDENCE ON PROPRIETARY AND LICENSED TECHNOLOGY
The Company's success is heavily dependent upon proprietary technology. The
Company relies primarily on a combination of copyright, trademarks, trade
secrets, confidentiality procedures and contractual provisions with its
employees, consultants and business partners and in its license agreements to
protect its proprietary rights. The Company seeks to protect its software,
published data, documentation and other written materials under trade secret and
copyright laws, which afford only limited protection. 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.
The Company has submitted patent applications for various technology
innovations in its client/server software. In addition, certain patent
applications have been filed by CADIS, of which three patents have been issued .
There can be no assurance that all patents will be issued or that any patent,
once issued, will provide sufficiently broad protection or will prove
enforceable in actions against alleged infringements.
While the Company is not aware that any of its products infringes the
proprietary rights of third parties, there can be no assurance that third
parties will not claim infringement by the Company with respect to current or
future products. The Company expects that it may increasingly be subject to
infringement claims as the number of products and competitors in the Company's
industry segment grows and the functionality of products in different industry
segments overlaps. Any such claims, with or without merit, could be time-
consuming, result in costly litigation, 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
Company or at all, which could have a material adverse effect upon the Company's
business, financial condition or results of operations.
In addition, the Company relies on certain software and data that it licenses
from third parties, including software and data that are used in the Company's
products to perform certain functions. There can be no assurance that such
firms will remain in business, that they will continue to support their products
or that their products will otherwise continue to be available to the Company on
commercially reasonable terms. The Company believes that substantially all of
the software it licenses is available from vendors other than the Company's
current vendors and could be replaced with equivalent software in a timely
manner. However, it is possible that the loss of or inability to maintain any
of these software licenses could result in delays or cancellations in products
shipments until equivalent software can be identified and licensed or developed
and integrated with the Company's products. Any such delay or cancellation
could materially adversely affect the Company's business, financial condition
and results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In April 1998, the Federal Trade Commission (the "FTC") issued a civil
investigative demand and subpoena requesting certain information and
documentation with respect to the Company's business in connection with an
investigation of potential antitrust issues arising out of the Company's
acquisition of CADIS, Inc. Although the CADIS acquisition required no premerger
notification under the Hart-Scott-Rodino Antitrust Improvements Act of 1976
because of the size of the parties involved in the transaction, the FTC's demand
is similar in scope to that of a request for information by the FTC that may
follow such a premerger notification.
While the Company intends to cooperate with the FTC's investigation, it
does not believe that its acquisition of CADIS was in violation of federal
antitrust laws. The Company cannot accurately estimate the cost of responding to
and complying with the FTC's subpoena, but believes that such cost may be
significant. The Company does not believe that the outcome of the FTC's
investigation will have a material adverse effect on the Company's business or
results of operation, although there can be no assurance of such outcome.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27.1--Financial Data Schedule (filed electronically)
(b) Reports on Form 8-K
The Company filed a report on Form 8-K, dated August 14, 1998, disclosing the
effect of a two-for-one stock split in the form of a stock dividend, effective
August 14, 1998, on certain financial information included in the Company's
Annual Report on Form 10-KSB for the year ended December 31, 1997 and in its
Quarterly Reports on Form 10-Q for the quarters ended March 31 and June 30,
1998.
The Company filed a report on Form 8-K dated September 1, 1998, relating to
adoption of a rights plan and a dividend distribution of preferred share
purchase rights to shareholders of record on October 11, 1998.
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Aspect Development, Inc.
November 12, 1998 /s/ David S. Dury
----------------------------------------------
David S. Dury
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
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