UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
------------------ FORM 10-Q ------------------
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 27, 1997
( ) 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: 000-21067
TRUSTED INFORMATION SYSTEMS, INC.
(Exact Name of Registrant as specified in its charter)
Delaware 51-0375640
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3060 Washington Road (Rt. 97)
Glenwood, Maryland 21738
(Address of Principal Executive Offices and Zip Code)
(301) 854-6889
(Registrant's telephone number, including area code)
Indicate by check mark whether the issuer (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Exchange Act 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 last 90
days.
Yes X No
Indicate the number of shares of the issuer's classes of common stock
outstanding as of the latest practicable date: 11,611,851 shares of common stock
were outstanding as of July 31, 1997.
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<PAGE>
TRUSTED INFORMATION SYSTEMS, INC.
FORM 10-Q
Index
Page
PART I FINANCIAL INFORMATION Number
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets as of
December 27, 1996 and June 27, 1997 3
Condensed Consolidated Statements of Operations
for the three and six months ended June 28, 1996 and 4
June 27, 1997
Condensed Consolidated Statements of Cash Flows
for the six months ended June 28, 1996 and June 27, 1997 5
Notes to Condensed Consolidated
Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7
PART II OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders 15
Item 6. Exhibits and Reports on Form 8-K 16
SIGNATURES 18
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<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
<TABLE>
<CAPTION>
Trusted Information Systems, Inc.
Condensed Consolidated Balance Sheets
<S> <C> <C>
December 27, June 27,
1996 1997
(unaudited)
Assets
Current assets:
Cash and cash equivalents $1,838,787 $2,709,429
Marketable securities 39,127,069 32,529,229
Accounts receivable, net of allowance
of $174,592 and $416,589 for
December 27, 1996 and June 27, 1997, 5,803,361 7,665,152
respectively
Unbilled receivables 1,746,370 1,256,787
Prepaid expenses and other current assets 952,822 1,557,460
Refundable income taxes 1,507,121 2,811,845
Deferred income taxes -- 179,115
Total current assets 50,975,530 48,709,017
Property and equipment, net 6,695,524 7,067,453
Other assets 332,539 312,710
------------ ------------
Total assets $ 58,003,593 $ 56,089,180
============= =============
Liabilities and shareholders' equity
Current liabilities:
Accounts payable $906,706 $203,256
Other accrued expenses 4,332,077 6,480,682
Deferred income taxes 403,324 --
Deferred revenue 2,072,266 2,902,270
Notes payable, current portion 150,857 150,857
----------- ----------
Total current liabilities 7,865,230 9,737,065
Notes payable, net of current portion 2,424,355 2,343,378
Other non-current liabilities 47,365 46,693
----------- ----------
Total liabilities 10,336,950 12,127,136
Commitments
Shareholders' equity:
Preferred stock, $.01 par value;
5,000,000 shares authorized;
no shares issued or outstanding --- ---
Common stock, $.01 par value;
40,000,000 shares uthorized;
11,489,704 and 11,607,833 shares
issued and outstanding at December 27,
1996 and June 27, 1997 respectively 114,897 116,078
Additional paid-in capital 46,809,343 46,902,472
Unrealized gains, net of income taxes of
$932,838 nd $349,519 at December 27,
1996 and June 27, 1997, respectively 1,495,162 739,601
Foreign currency translation adjustment 12,663 (37,702)
Retained earnings (deficit) 178,861 (2,952,309)
Deferred stock compensation (944,283) (806,096)
----------- -----------
Total shareholders' equity 47,666,643 43,962,044
------------ -----------
Total liabilities and shareholders' equity $58,003,593 $56,089,180
============ ============
</TABLE>
See notes to unaudited condensed consolidated financial statements.
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<PAGE>
<TABLE>
<CAPTION>
Trusted Information Systems, Inc.
Condensed Consolidated Statements of Operations
(unaudited)
For the Three Months Ended For the Six Months Ended
<S> <C> <C> <C> <C>
June 28, June 27, June 28, June 27,
1996 1997 1996 1997
---- ---- ---- ----
Revenues:
Government contracts $2,919,403 $2,200,008 $5,351,676 $4,766,288
Commercial products 2,235,587 5,904,504 3,732,042 11,014,594
Commercial consulting services 286,827 914,520 533,977 1,711,705
----------- ----------- ----------- -----------
5,441,817 9,019,032 9,617,695 17,492,587
Cost of revenues:
Government contracts 2,089,529 1,461,003 3,864,383 3,279,545
Commercial products 725,780 763,716 1,197,877 1,863,316
Commercial consulting services
164,222 551,654 329,650 946,485
---------- ----------- ----------- -----------
2,979,531 2,776,373 5,391,910 6,089,346
---------- ----------- ----------- -----------
Gross profit 2,462,286 6,242,659 4,225,785 11,403,241
Operating expenses:
Selling, general and 2,633,789 6,736,777 4,677,648 13,025,016
administrative
Research and development 631,565 1,973,176 1,006,752 3,888,411
---------- ----------- ----------- -----------
3,265,354 8,709,953 5,684,400 16,913,427
---------- ----------- ----------- -----------
Loss from operations (803,068) (2,467,294) (1,458,615) (5,510,186)
Other income (expense):
Interest income 8,735 518,694 13,715 1,005,608
Interest expense (74,027) (55,743) (162,910) (106,316)
----------- ------------ ----------- -----------
(65,292) 462,951 (149,195) 899,292
----------- ------------ ----------- ------------
Loss before income taxes (868,360) (2,004,343) (1,607,810) (4,610,894)
Income tax benefit 371,843 643,233 687,593 1,479,724
----------- ------------ ----------- ------------
Net loss $(496,517) $ (1,361,110) $ (920,217) $(3,131,170)
=========== ============= ============ ============
Net loss per share $(0.06) $(0.12) $(0.11) $(0.27)
=========== ============= ============ ============
Weighted average shares
outstanding 8,364,491 11,565,188 8,110,496 11,536,372
=========== ============ =========== ===========
</TABLE>
See notes to unaudited condensed consolidated financial statements.
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<PAGE>
<TABLE>
<CAPTION>
Trusted Information Systems, Inc.
Condensed Consolidated Statements of Cash Flows
(unaudited)
For the Six Months Ended
<S> <C> <C>
June 28, June 27,
1996 1997
-------- --------
OPERATING ACTIVITIES
Net Loss $(920,217) $(3,131,170)
Adjustments:
Depreciation 162,718 700,450
Deferred income taxes 3,530 --
Amortization of stock compensation 23,031 138,187
Changes in operating assets and liabilities:
Accounts receivable and unbilled 373,710 (1,372,208)
receivables
Prepaid expenses and other (636,662) (604,638)
current assets
Other assets (478,256) 19,829
Accounts payable 209,765 (703,450)
Other accrued expenses 1,228,489 2,148,605
Other non-current liabilities -- (672)
Income taxes refundable (1,029,473) (1,304,724)
Deferred revenues (93,287) 830,004
-------------- --------------
Net cash used in operating activities (1,156,652) (3,279,787)
INVESTING ACTIVITIES
Purchases of property and equipment (2,544,455) (1,072,379)
Net (purchase)/ redemption of
marketable securities (10,880) 5,259,840
-------------- --------------
Cash provided by (used in) investing
activities (2,555,335) 4,187,461
FINANCING ACTIVITIES
Proceeds from exercise of stock 305,318 94,310
options
Net short-term borrowings 2,156,500 --
Proceeds from issuance of notes 1,447,467 --
payable
Repayments of notes payable (69,086) (80,977)
-------------- ---------------
Net cash provided by financing
activities 3,840,199 13,333
Effect of foreign exchange rate
changes on cash (4,385) (50,365)
-------------- ---------------
Net change in cash and cash
equivalents 123,827 870,642
Cash and cash equivalents at
beginning of period 53,859 1,838,787
-------------- ---------------
Cash and cash equivalents at
end of period $ 177,686 $ 2,709,429
============= ==============
SUPPLEMENTAL DSICLOSURES OF
CASH FLOW INFORMATION
Interest paid during the period $ 161,031 $ 111,444
============= ===============
Income taxes paid during the period $ 325,537 $ --
============= ==============
</TABLE>
See notes to unaudited condensed consolidated financial statements.
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<PAGE>
Trusted Information Systems, Inc.
Notes to Condensed Consolidated Financial Statements
(unaudited)
June 27, 1997
Basis of Presentation
Trusted Information Systems, Inc. (the "Company" or "TIS") provides
comprehensive security solutions for the protection of computer networks,
including global Internet-based systems, internal networks and individual
workstations and laptops. The Company develops, markets, licenses, and supports
the Gauntlet family of firewall products and other network security products as
well as TIS' patented RecoverKey[TM] technology which is the first and only key
recovery system to meet current U.S. government requirements for exporting of
strong cryptography with key recovery technology. In addition to providing
leading edge information security products, TIS performs an array of services in
the areas of cryptography, security consulting, training, and advanced research
and engineering for commercial and government customers on a worldwide basis.
The accompanying unaudited condensed consolidated financial statements include
the accounts of Trusted Information Systems, Inc. and its subsidiaries, all of
which are wholly owned (collectively, "TIS" or the "Company"). Such financial
statements, including comparative information for the three and six month
periods ended June 28, 1996, where applicable, have been prepared pursuant to
the rules and regulations of the Securities and Exchange Commission ("SEC").
Certain information and footnote disclosures normally included in consolidated
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such SEC rules and
regulations. All material intercompany accounts and transactions have been
eliminated in consolidation.
In February 1997, the Financial Accounting Standards Board issued Statement No.
128, Earnings per Share, which is required to be adopted on December 31, 1997.
At that time, the Company will be required to change the method currently used
to compute earnings per share and to restate all prior periods. Under the new
requirements for calculating primary earnings per share, the dilutive effect of
stock options will be excluded. The impact of Statement No. 128 on the
calculation of basic earnings per share and fully diluted earnings per share for
these quarters is not expected to be material.
These unaudited condensed consolidated financial statements should be read in
conjunction with Company's audited financial statements and footnotes thereto
which are included in the Company's report on form 10-K that was filed with the
SEC on March 27, 1997. The accompanying unaudited condensed consolidated
financial statements reflect all the adjustments that, in the opinion of
management, are necessary for a fair presentation of results for the interim
periods presented. The results for interim periods are not necessarily
indicative of the results for the full year.
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<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Management's Discussion and Analysis of Financial Condition and Results of
Operations contains forward-looking statements which involve risks and
uncertainties. The Company's actual results could differ materially from the
results discussed in forward-looking statements.
Overview
Trusted Information Systems, Inc., founded in 1983, provides comprehensive
security solutions for protection of computer networks, including global
Internet-based systems, internal networks and individual workstations and
laptops and is a leading provider of firewall products. The Company currently
has two operating divisions: the Commercial Division and the Advanced Research
and Engineering ("AR&E") Division.
The Commercial Division
The Commercial Division derives revenues from the Company's Gauntlet[TM] family
of firewall products, from its commercial consulting services and from its
RecoverKey[TM] exportable cryptography enabling products. Revenues from the
Commercial Division accounted for approximately 73% of total company revenues
for the six months ended June 27, 1997 versus 44% of total Company revenues for
the six months ended June 28, 1996. The Company expects that the Commercial
Division will account for an increased percentage of total revenues over the
remainder of the current year and in future years.
Prior to 1996, the Company distributed its only revenue producing product, the
Gauntlet Internet Firewall which was introduced in 1994, exclusively through
resellers and a sales administration staff. The Company presently employs 103
persons to develop, promote, sell and deliver its network security products and
services, including the Gauntlet family of firewall products. The Company's
Gauntlet Internet Firewall is licensed as software or as software and hardware
on one platform and was previously frequently combined (or "bundled") with
installation for pricing purposes. Since April 15, 1996, installation for the
Gauntlet family of firewall products has been offered as a separate (or
"unbundled") optional service provided to customers.
During 1996 the Company began to incur and has continued to incur substantial
increases in its selling, general and administrative expenses as it builds its
commercial marketing and sales efforts to support the introduction of sales of
the Gauntlet Internet Firewall product and of its other products: the Gauntlet
Intranet Firewall, the Gauntlet Net Extender, the Gauntlet PC Extender, the
Gauntlet Internet Firewall for Solaris, the Gauntlet Internet Firewall for
Windows NT, The Gauntlet Forcefield, and certain of its RecoverKey[TM]
exportable cryptography products for multiple platforms such as Windows, NT and
Unix. In addition, the Company expects to continue to expand its research and
development organization and efforts, particularly with
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<PAGE>
regards to its RecoverKey[TM] exportable cryptography enabling products,
including key recovery centers ("KRC's") and cryptographic service providers
("CSP") tool kits. The amount and timing of these additional expenditures
are likely to result in fluctuations in operating margins. Any material
reduction in gross or operating margins could materially adversely affect the
Company's operating results.
The Company offers a full range of consulting in information security planning
and product support. The Company's commercial consulting practice offers expert
technology research services, consultation on security issues associated with
products and services, corporate information security policy development,
architectural and diagnostic security analysis services, firewall configuration
and maintenance support, and training for corporate network and security
administration personnel. These services are carried out by a staff of 26
persons with extensive information security experience in both commercial and
government organizations.
The Advanced Research and Engineering Division
The Advanced Research and Engineering Division conducts research, development
and consulting in computer and related security systems. Revenues for the AR&E
Division accounted for 27% of total Company revenues for the six monthes ended
June 27, 1997 versus 56% of total Company revenues for the six months ended June
28, 1996. The Division currently has major contracts that are with or are funded
by three agencies of the U.S. government: the National Security Agency ("NSA"),
Air Force Rome Laboratories ("RL") and Defense Advanced Research Projects Agency
("DARPA"), formerly the Advanced Research Projects Agency ("ARPA"). Revenues
from the AR&E Division decreased 11% in the first half of 1997 versus the same
period of 1996, primarily due to completion of a major contract with the NSA,
partially offset by revenues from other contracts of approximately $600,000.
This contract had an aggregate award value of approximately $14.8 million. Total
revenues from this contract were $.9 million and $2.2 million for the six months
ending June 27, 1997 and June 28, 1996, respectively.
The aggregate award value of the Company's nine major active government
contracts is approximately $24.3 million as of June 27, 1997. Six of these
contracts are funded by DARPA and range in value from $1.5 million to $9.1
million. One of these contracts expires during 1997, four will expire during
1998, and one will expire in 2000. The Company expects to continue to obtain
government contracts for its AR&E Division. Excluding the major NSA contract
which ended on March 31, 1997, the Company anticipates revenues from such new
contracts will attain the level realized in 1996. The Company was recently
notified that several of its pending proposals with DARPA were selected for
contract award. Specific contract terms and values will be negotiated between
the Company and DARPA over the next several months and are subject to the
successful completion of such negotiations and the availability of funding.
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<PAGE>
Most of the Company's government contracts provide for compensation to the
Company in the form of reimbursement of costs plus a fee. Gross profit under
government contracts generally represents the fee plus recovered operating
expenses. Under these government contracts, the Company is entitled to recover
associated direct labor costs, overhead and selling, general and administrative
expenses, including allowable research and development expenses. Selling,
general and administrative expenses allowable under government contracts include
salaries and benefits, marketing, bid and proposal costs, management,
accounting, legal and contract administration and certain other administrative
expenses.
Under its government contracts, the Company bears the risk that recoverable
expenses billed by the Company are subject to review and audit by the Defense
Contract Audit Agency (the "DCAA"). The DCAA has audited the Company's cost
accounting system through 1993 without any significant disallowances and is
currently performing a similar audit of the Company's cost accounting system for
the years 1994 and 1995. Pursuant to their terms, these contracts are also
subject to termination at the convenience of the applicable governmental agency.
If the contract is terminated, the Company would typically be reimbursed for its
costs to the date of termination plus the cost of any orderly termination and
would be paid a portion of the fee.
Results of Operations
The following tables present for the periods indicated certain unaudited
Statements of Operations' data as a percentage of the Company's revenues:
<TABLE>
<CAPTION>
Consolidated Statements of Operations
as a Percentage of Revenues
<S> <C> <C> <C> <C>
Three months Three months Six months Six months
ended ended ended ended
June 28, June 27, June 28, June 27,
1996 1997 1996 1997
(unaudited) (unaudited) (unaudited) (unaudited)
Revenues:
Government contracts 53.7% 24.4% 55.6% 27.2%
Commercial products 41.1% 65.5% 38.8% 63.0%
Commercial consulting services 5.2% 10.1% 5.6% 9.8%
Total Revenues 100.0% 100.0% 100.0% 100.0%
Total Costs of revenues 54.8% 30.8% 56.1% 34.8%
Gross profit 45.2% 69.2% 43.9% 65.2%
Operating expenses:
Selling, general and 48.4% 74.7% 48.6% 74.5%
administrative
Research and development 11.6% 21.9% 10.5% 22.2%
Total Operating expenses 60.0% 96.6% 59.1% 96.7%
Loss from operations (14.8)% (27.4)% (15.2)% (31.5)%
Interest and other income and (1.2)% 5.2% (1.6)% 5.1%
expense
Loss before income taxes (16.0)% (22.2)% (16.8)% (26.4)%
Income tax benefit 6.9% 7.1% 7.1% 8.5%
---------- --------- --------- ----------
Net loss (9.1)% (15.1)% (9.7)% (17.9)%
========== ========= ========= ==========
</TABLE>
-9-
<PAGE>
<TABLE>
<CAPTION>
Selected Information
as a Percentage of Related Revenues
<S> <C> <C> <C> <C>
Three months Three months Six months Six months
ended ended ended ended
June 28, June 27, June 28, June 27,
1996 1997 1996 1997
(unaudited) (unaudited) (unaudited) (unaudited)
Cost of revenues:
Government contracts 71.6% 66.4% 72.2% 68.8%
Commercial products 32.5% 12.9% 32.1% 16.9%
Commercial consulting services 57.3% 60.3% 61.7% 55.3%
Gross profit:
Government contracts 28.4% 33.6% 27.8% 31.2%
Commercial products 67.5% 87.1% 67.9% 83.1%
Commercial consulting services 42.7% 39.7% 38.3% 44.7%
</TABLE>
Three Months Ended June 27, 1997 Compared to Three Months Ended June 28, 1996
Revenues. The Company's total revenues increased 66% to $9,019,032 in the three
months ended June 27, 1997 ("the second quarter of 1997") from $5,441,817 in the
three months ended June 28, 1996 ("the second quarter of 1996"), primarily due
to strong performance by the Company's Commercial Division. Commercial product
revenues increased 164% to $5,904,504 in the second quarter of 1997 from
$2,235,587 in the second quarter of 1996 as a result of increased shipments of
the Company's Gauntlet firewall products and sales of licenses of Gauntlet
Internet Firewalls directly to customers and through the Company's resellers.
Commercial consulting services revenues increased 219% to $914,520 in the second
quarter of 1997 from $286,827 in the second quarter of 1996 primarily because of
the Company's increased dedication of resources to its commercial consulting
business and the completion of a substantial number of commercial consulting
contracts in the second quarter of 1997. Government contract revenues decreased
25% to $2,200,008 in the second quarter of 1997 from $2,919,043 in the same
period last year primaily due to completion of a major contract with the NSA.
Gross Profit. Gross profit increased 154% to $6,242,659 in the second quarter of
1997 from $2,462,286 in the second quarter of 1996, due to the increase in the
Company's commercial product and consulting services sales. The gross profit on
commercial products increased 240% to $5,140,788 in the second quarter of 1997
from $1,509,807 in the second quarter of 1996 because of an increase in
shipments of Gauntlet firewall products and increased sales of licenses which
are higher margin products. As a percentage of related revenues, gross profit on
commercial products increased to 87.1% in the second quarter of 1997 from 67.5%
in the same period in 1996.
Gross profit from the Company's commercial consulting services increased 196% to
$362,866 in the second quarter of 1997 from $122,605 in the second quarter of
1996, because of increased revenues and an increase in opportunities for
contracts with higher margins. As a percentage of related revenues, gross profit
on commercial consulting services decreased to 39.7% in the second quarter of
1997 from 42.7% in the second quarter of 1996 because of slightly higher
contract costs in the second quarter of 1997.
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<PAGE>
Gross profit from the Company's government contracts decreased 11% to $739,005
in the second quarter of 1997 from $829,874 in the second quarter of 1996,
primarily due to lower revenues associated with completion of a major contract.
As a percentage of related revenues, gross profit on government contracts
increased to 33.6% in the second quarter of 1997 from 28.4% in the second
quarter of 1996 primaily due to the recognition of revenues from award fees in
the second quarter of 1997 which bear no related costs.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 156% to $6,736,777 in the second quarter of
1997 from $2,633,789 in the second quarter of 1996, due primarily to the
substantial increase in personnel and related operating costs associated with
the increase in the Company's commercial products sales, as well as the
Company's efforts towards developing the infrastructure to support future
commercial product revenue growth.
Research and Development Expenses. The Company's research and development
expenses, which do not include such expenses directly reimbursed under
government contracts, increased 212% to $1,973,176 in the second quarter of 1997
from $631,565 in the second quarter of 1996. This increase reflects costs
associated with development of the next generation of the Gauntlet Firewall,
Gauntlet Firewall Version 4.0, the Gauntlet Internet for Firewalls on NT version
1.1, RecoverKey[TM] exportable cryptography enabling products and technology,
and additional members of the Gauntlet family of firewall products.
Other Income and Expense. Other income totalled $462,951 in the second quarter
of 1997 and consists of interest income generated from the proceeds of the
Company's initial public offering, offset by interest expense on the Company's
long-term debt associated with its Glenwood, Maryland headquarters facilities.
The Company's other expense totalled $65,292 in 1996 and consisted primarily of
interest expense from borrowings under the Company's revolving and other credit
lines prior to the Company's initial public offering.
Six Months Ended June 27, 1997 Compared to Six Months Ended June 28, 1996
Revenues. The Company's total revenues increased 82% to $17,492,587 in the six
months ended June 27, 1997 from $9,617,695 in the six months ended June 28,
1996, primarily due to strong performance by the Company's Commercial Division.
Commercial product revenues increased 195% to $11,014,594 in the six months
ended June 27, 1997 from $3,732,042 in the six months ended June 28, 1996,
primarily because product revenues from direct customers doubled and reseller
revenues grew by over 520% in the first half of 1997 over the first half of
1996. Commercial consulting revenues increased 221% to $1,711,705 in the six
months ended June 27, 1997 from $533,977 in the six months ended June 28,
1996, primarily because of the Company's completion of a substantial number
of commercial consulting contracts in the six months ended June 27, 1997.
Government contract revenues decreased 11% to $4,766,288 in the six months
ended June 27, 1997 from $5,351,676 in the same period last year primarily due
to reallocation of government contract research personnel to the Company's
Commercial Division activities and completion of a major contract with the
NSA.
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<PAGE>
Gross Profit. Gross profit increased 170% to $11,403,241 in the six months ended
June 27, 1997 from $4,225,785 in the six months ended June 28, 1996, primarily
due to increased commercial product sales. The gross profit on commercial
products increased 261% to $9,151,278 in the six months ended June 27, 1997 from
$2,534,165 in the six months ended June 28, 1996 because of an increase in
shipments of Gauntlet firewall products. As a percentage of related revenues,
gross profit on commercial products increased to 83.1% in the six months ended
June 27, 1997 from 67.9% in the six months ended June 28, 1996.
Gross profit from the Company's commercial consulting services increased 275% to
$765,220 in the six months ended June 27, 1997 from $204,327 in the six months
ended June 28, 1996. As a percentage of related revenues, gross profit on
commercial consulting services increased to 44.7% in the six months ended June
27, 1997 from 38.3% in the six months ended June 28, 1996 because of increased
revenues from higher margin consulting business in the six months ended June 28,
1996.
Gross profit from the Company's government contracts decreased slightly to
$1,486,743 in the six months ended June 27, 1997 from $1,487,293 in the six
months ended June 28, 1996. As a percentage of related revenues, gross profit on
government contracts increased to 31.2% in the six months ended June 27, 1997
from 27.8% in the six months ended June 28, 1996 because of greater revenues
received in 1997 from contracts with proportionately higher fees.
Selling General and Administrative Expenses. Selling, general and administrative
expenses increased 178% to $13,025,016 in the six months ended June 27, 1997
from $4,677,648 in the six months ended June 28, 1996, due primarily to the
substantial increase in personnel and related operating costs associated with
the increase in the Company's commercial products sales, as well as the
Company's efforts towards developing the infrastructure to support future
commercial product revenue growth.
Research and Development Expenses. The Company's research and development
expenses, which do not include such expenses directly reimbursed under
government contracts, increased 286% to $3,888,411 in the six months ended June
27, 1997 from $1,006,752 in the six months ended June 28, 1996, due primarily to
the Company's efforts in developing the new members of the Gauntlet family of
firewall products announced in April 1996, the development of its Microsoft
Windows NT, Sun Microsystems' Solaris firewall product versions, and its
RecoverKey[TM] exportable cryptography enabling products, the Company's
reallocation of government contract research personnel to its Commercial
Division activities, and the further development and evaluation of its Trusted
Mach[TM] technology.
Other Income and Expense. Other income totalled $899,292 in the six months ended
June 27, 1997 and consisted primarily of interest income on cash generated in
the Company's initial public offering. Other expense totalled $149,195 for the
six months ended June 28, 1996 and consisted primarily of interest expense from
borrowings under the Company's revolving and other credit lines prior to the
Company's initial public offering.
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<PAGE>
Liquidity and Capital Resources
Since its inception, the Company has financed its operations and the purchase of
property and equipment through the issuance of common stock, borrowings under
short-term lines of credit, secured notes payable, and stockholder loans, and
the generation of cash from operations. Cash and cash equivalents were
$2,709,429 at June 27, 1997 and $1,838,787 at December 27, 1996, and marketable
securities were $32,529,229 at June 27, 1997 and $39,127,069 at December 27,
1996. The Company used cash in operating activities of $3,279,787 and $1,156,652
in the six months ended June 27, 1997 and June 28, 1996, respectively. The
increase in cash used in operating activities in 1997 is primarily due to the
use of funds for selling, general and administrative expenses associated with
Company expansion of commercial activities and introduction of new products. The
Company financed these operating activities primarily through the redemption of
marketable securities. In the six months ended June 28, 1996, operating
activities were financed primarily by proceeds from short-term borrowings and
notes payable.
Capital expenditures totalled $1,072,379 and $2,544,455 in the six months ended
June 27, 1997 and June 28, 1996, respectively. Higher expenditures in 1996 were
due to construction costs associated with expansion of the Company's Glenwood,
Maryland headquarters facility.
At December 29, 1995, the Company had various short-term line of credit
arrangements with Mercantile-Safe Deposit and Trust Company ("Mercantile Bank")
aggregating $2 million. During 1996, the Company arranged for additional credit
agreements and modified existing credit agreements with Mercantile Bank to
provide for additional borrowings to fund the Company prior to its initial
public offering. Subsequent to September 27, 1996, in conjunction with the
Company's initial public offering, the Company paid off and terminated these
line of credit arrangements.
As of June 27, 1997, the Company had no material commitments for capital
expenditures.
In 1995 the Company negotiated a construction loan in the amount of $1.8 million
to provide for the expansion of its facilities at its Glenwood, Maryland
location. At the end of May 1996, the Company had completed its expansion and
substantially drawn down the total amount of its construction loan which was
converted in December, 1996 into mortgage notes payable to Mercantile Bank with
a fixed interest rate. In conjunction with these mortgage notes, the Company is
required to meet a minimum liquidity level of $5 million and a minimum tangible
net worth of $20 million.
-13-
<PAGE>
The Company intends from time to time to evaluate potential acquisitions of
businesses, products and technologies that could complement or expand the
Company's business. At the current time, the Company has no plans, agreements or
commitments for any such acquisitions and is not engaged in any negotiations
with respect thereto.
The Company has not engaged in any hedging activities to date.
While the Company may require additional financing to fund development of new
products and expansion of its domestic and international operations, it believes
that the net proceeds from its initial public offering, together with existing
cash and cash equivalents, cash generated from operations and cash available
through its credit and note payable arrangements, will be sufficient to finance
its product development and operating needs at least through December 1998.
-14-
<PAGE>
TRUSTED INFORMATION SYSTEMS, INC.
FORM 10 - Q
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
(a) The Company held its Annual Meeting of Stockholders on May 27, 1997.
(b) At the Annual Meeting of Stockholders, Harvey L. Weiss, an Executive Vice
President of the Company, President of the Commercial Division and a Director
of the Company since March 1996, was elected to serve until the 2000 Annual
Meeting of Stockholders. The following directors continued their terms of
office after the Meeting: Martha A. Branstad; Charles W. Stein; Stephen T.
Walker, and Gerald J. Popek.
(c) The following matters were voted upon at the Annual Meeting of
Stockholders:
(i) Election of Harvey L. Weiss as a director to serve until the 2000
Annual Meeting of Stockholders, and until his successor is elected and duly
qualified. Votes for: 8,683,146; votes against or withheld: 74,733; number of
abstentions and broker non-votes: 0.
(ii) Adoption of the Trusted Information Systems, Inc. 1997 Employee Stock
Purchase Plan and the reservation of 400,000 shares of Common Stock for issuance
thereunder. Votes for: 8,710,049; votes against or withheld: 44,320; number of
abstentions and broker non-votes: 3,510. (iii) Ratification of the appointment
of Ernst & Young L.L.P. as the Company's independent auditors for the fiscal
year ending December 26, 1997. Votes for: 8,755,579; votes against or withheld:
2,000; number of abstentions and broker non-votes: 300.
-15-
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3.1* Certificate of Incorporation of the Company.
3.1.1* Certificate of Amendment to Certificate of Incorporation, as
filed with the Delaware Secretary of State on October 2, 1996.
3.2* Amended and Restated Bylaws of the Company.
4.1* Specimen stock certificate for shares of Common Stock of the Company.
10.1* Amended and Restated Employee Stock Option Plan.
10.2* Amended and Restated 1996 Stock Option Plan.
10.2.1* Form of Incentive Stock Option Agreement pursuant to 1996 Stock
Option Plan.
10.2.2* Form of Non-Qualified Stock Option Agreement pursuant to 1996 Stock
Option Plan.
10.3* Amended and Restated 1996 Directors'Stock Option Plan.
10.3.1 1997 Employee Stock Purchase Plan.***
10.4* Form of Employee Agreement Regarding Confidentiality and Inventions.
10.5* Form of Software License and Reseller Agreement.
10.6* Form of Consulting Services Agreement.
10.7* Form of Indemnification Agreement by and between the Company and its
directors and officers.
10.8* Construction Loan Agreement dated July 26, 1995, by and between the
Company and Mercantile-Safe Deposit and Trust Company.
10.9* Construction Loan Promissory Note dated July 26, 1995, by and
between the Company and Mercantile-Safe Deposit and Trust Company.
10.10* Deed of Trust and Security Agreement dated July 26, 1995, by and
between the Company and Mercantile-Safe Deposit and Trust Company.
10.11* Security Agreement, dated July 26, 1995, by and among the Company,
Mercantile-Safe Deposit and Trust Company and Stephen T. Walker.
10.12* Personal Guaranty Agreement dated July 26, 1995, by and between
Stephen T. Walker and Mercantile-Safe Deposit and Trust Company.
10.13* Revolving Note issued by the Company on April 4, 1996, to
Mercantile-Safe Deposit and Trust Company.
10.14* Security Agreement dated April 4, 1996, by and between the
Company and Mercantile-Safe Deposit and Trust Company.
10.15* Revolving Note issued by the Company on April 4, 1996, to
Mercantile-Safe Deposit and Trust Company.
10.16.1* Security Agreement as of August 27, 1996, by and between the
Company and Mercantile-Safe Deposit and Trust Company.
10.16.2* Revolving Note issued by the Company as of August 27, 1996,
to Mercantile-Safe Deposit and Trust Company.
10.17* Office Building Lease dated February 1, 1990, by and between the
Company and Perini Investment Properties, Inc.
10.18* Lease Amendment I dated May 26, 1994, by and between the Company and
Robert R. Walker, Jr., Receiver (relating to exhibit 10.17).
10.19* Standard Lease dated April 12, 1989, by and between the Company
and R&B Property Holding Company.
10.20* Amendment to Lease effective November 1, 1992, by and between the
Company and R&B Property Holding Company (relating to exhibit 10.19).
10.21* Lease Agreement dated as of October 3, 1995, by and between Trusted
Information Systems (UK) Limited and Theale Estates Limited.
-16-
<PAGE>
10.22* Deed dated July 17, 1996, by and between the Company and Glenwood
Associates Limited Partnership.
10.22.1* Promissory Note issued by the Company on July 17, 1996, to Glenwood
Associates Limited Partnership.
10.22.2* Deed of Trust and Security Agreement dated December 1, 1993, by
and between Glenwood Associates Limited Partnership and
Mercantile-Safe Deposit and Trust Company.
10.22.3* Promissory Note issued by Glenwood Associates Limited Partnership
on December 1, 1993 to Mercantile-Safe Deposit and Trust Company.
10.23* Deed and Confirmatory Deed dated July 26, 1995, by and between the
Company and Stephen T. Walker.
10.24* Agreement and Plan of Merger dated May 30, 1996.
10.25**+ Patent and Software License Agreement dated January 24, 1997,
by and between the Company and International Business Machine
Corporation.
11.1 Statement of computation of earnings per share.
21.1* Subsidiaries of the Registrant.
27 Financial Data Schedule.
- -------------------
* Previously filed as an exhibit to the Company's Registration Statement
Number 333-5419 on Form S-1 and incorporated herein by reference.
** Previously filed as an exhibit to the Company's Form 10-K for the
fiscal year ended December 27, 1996 and incorporated herein by
reference.
*** Previously filed on April 24, 1997 as an exhibit to the Company's
Schedule 14A and incorporated herein by reference.
+ Portions of this Exhibit were omitted and have been filed separately
with the Secretary of the Commission on March 27, 1997 pursuant to the
Registrant's Application Requesting Confidential Treatment under Rule
24b-2 of the Securities Exchange Act of 1934, as amended.
(b) Reports on Form 8-K
None.
-17-
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
TRUSTED INFORMATION SYSTEMS, INC.
Date: August 11, 1997 By: Stephen T. Walker
-----------------------
Stephen T. Walker,
President and CEO
Date: August 11, 1997 By: Ronald W. Kaiser
----------------------
Ronald W. Kaiser,
Chief Financial Officer
-18-
<PAGE>
EXHIBIT INDEX
3.1* Certificate of Incorporation of the Company.
3.1.1* Certificate of Amendment to Certificate of Incorporation, as
filed with the Delaware Secretary of State on October 2, 1996.
3.2* Amended and Restated Bylaws of the Company.
4.1* Specimen stock certificate for shares of Common Stock of the
Company.
10.1* Amended and Restated Employee Stock Option Plan.
10.2* Amended and Restated 1996 Stock Option Plan.
10.2.1* Form of Incentive Stock Option Agreement pursuant to 1996
Stock Option Plan.
10.2.2* Form of Non-Qualified Stock Option Agreement pursuant to 1996
Stock Option
Plan.
10.3* Amended and Restated 1996 Directors' Stock Option Plan.
10.3.1 1997 Employee Stock Purchase Plan.***
10.4* Form of Employee Agreement Regarding Confidentiality and
Inventions.
10.5* Form of Software License and Reseller Agreement.
10.6* Form of Consulting Services Agreement.
10.7* Form of Indemnification Agreement by and between the Company
and its
directors and officers.
10.8* Construction Loan Agreement dated July 26, 1995, by and
between the Company and Mercantile-Safe Deposit and Trust
Company.
10.9* Construction Loan Promissory Note dated July 26, 1995, by and
between the Company and Mercantile-Safe Deposit and Trust
Company.
10.10* Deed of Trust and Security Agreement dated July 26, 1995, by
and between the Company and Mercantile-Safe Deposit and Trust
Company.
10.11* Security Agreement, dated July 26, 1995, by and among the
Company, Mercantile-Safe Deposit and Trust Company and
Stephen T. Walker.
10.12* Personal Guaranty Agreement dated July 26, 1995, by and
between Stephen T. Walker and Mercantile-Safe Deposit and
Trust Company.
10.13* Revolving Note issued by the Company on April 4, 1996, to
Mercantile-Safe Deposit and Trust Company.
10.14* Security Agreement dated April 4, 1996, by and between the
Company and Mercantile-Safe Deposit and Trust Company.
10.15* Revolving Note issued by the Company on April 4, 1996, to
Mercantile-Safe Deposit and Trust Company.
10.16.1* Security Agreement as of August 27, 1996, by and between the
Company and Mercantile-Safe Deposit and Trust Company.
10.16.2* Revolving Note issued by the Company as of August 27, 1996,
to Mercantile-Safe Deposit and Trust Company.
10.17* Office Building Lease dated February 1, 1990, by and between
the Company and Perini Investment Properties, Inc.
10.18* Lease Amendment I dated May 26, 1994, by and between the
Company and Robert R. Walker, Jr., Receiver (relating to
exhibit 10.17).
10.19* Standard Lease dated April 12, 1989, by and between the
Company and R&B Property Holding Company.
10.20* Amendment to Lease effective November 1, 1992, by and between
the Company and R&B Property Holding Company (relating to
exhibit 10.19).
10.21* Lease Agreement dated as of October 3, 1995, by and between
Trusted Information Systems (UK) Limited and Theale Estates
Limited.
10.22* Deed dated July 17, 1996, by and between the Company and
Glenwood Associates Limited Partnership.
-19-
<PAGE>
10.22.1* Promissory Note issued by the Company on July 17, 1996, to
Glenwood Associates Limited Partnership.
10.22.2* Deed of Trust and Security Agreement dated December 1, 1993,
by and between Glenwood Associates Limited Partnership and
Mercantile-Safe Deposit and Trust Company.
10.22.3* Promissory Note issued by Glenwood Associates Limited
Partnership on December 1, 1993 to Mercantile-Safe Deposit
and Trust Company.
10.23* Deed and Confirmatory Deed dated July 26, 1995, by and between
the Company and Stephen T. Walker.
10.24* Agreement and Plan of Merger dated May 30, 1996.
10.25**+ Patent and Software Agreement dated January 24, 1997, by and
between the Company and International Business Machines
Corporation.
11.1 Statement of computation of earnings per share.
21.1* Subsidiaries of the Registrant.
27 Financial Data Schedule.
- -------------------
* Previously filed as an exhibit to the Company's Registration Statement
Number 333-5419 on Form S-1 and incorporated herein by reference.
** Previously filed as an exhibit to the Company's form 10-K for the
fiscal year ended December 27, 1996 and incorporated herein by
reference.
*** Previously filed on April 24, 1997 as an exhibit to the Company's
Schedule 14A and incorporated herein by reference.
+ Portions of this Exhibit were omitted and have been filed separately
with the Secretary of the Commission on March 27, 1997 pursuant to the
Registrant's Application Requesting Confidential Treatment under Rule
24b-2 of the Securities Exchange Act of 1934, as amended.
-20-
<PAGE>
Exhibit 11.1
<TABLE>
<CAPTION>
Trusted Information Systems, Inc.
Statement of Computation of Earnings (Loss) Per Share
For the Three Months Ended For the Six Months Ended
<S> <C> <C> <C> <C>
June 28, June 27, June 28, June 27,
1996 1997 1996 1997
----------------------------------------------------------------------
Common Stock Outstanding 7,498,315 11,565,188 7,244,320 11,536,372
Issuance of Cheap Stock 866,176 -- 866,176 --
---------- ---------- ---------- ----------
Weighted average
shares outstanding 8,364,491 11,565,188 8,110,496 11,536,372
========== ========== ========== ==========
</TABLE>
-21-
<PAGE>
Exhibit 27
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS AS OF AND FOR THE SIX MONTH PERIOD
ENDED JUNE 27, 1997 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
CONSOLIDATED FINANCIAL STATEMENTS OF THE COMPANY.
PERIOD TYPE 6-MOS
FISCAL YEAR END DEC-26-1997
PERIOD START DEC-28-1996
PERIOD END JUN-27-1997
CASH 2,709,429
SECURITIES 32,529,229
RECEIVABLES 8,081,741
ALLOWANCES 416,589
INVENTORY 0
CURRENT ASSETS 48,709,017
PP&E 9,433,097
DEPRECIATION 2,365,644
TOTAL ASSETS 56,089,180
CURRENT LIABILITIES 9,737,065
BONDS 2,343,378
PREFERRED - MANDATORY 0
PREFERRED 0
COMMON 116,078
OTHER - SE 43,845,966
TOTAL LIABILITIES AND EQUITY 56,089,180
SALES 17,492,587
TOTAL REVENUES 17,492,587
COGS 6,089,346
TOTAL COSTS 6,089,346
OTHER EXPENSES 16,913,427
LOSS PROVISION 0
INTEREST EXPENSE 106,316
INCOME PRETAX (4,610,894)
INCOME TAX (1,479,724)
INCOME CONTINUING (3,131,170)
DISCONTINUED 0
EXTRAORDINARY 0
CHANGES 0
NET INCOME (3,131,170)
EPS PRIMARY (.27)
EPS DILUTED (.27)
-22-
