<PAGE> 1
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 Period Ended September 30, 1999
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the Transition Period From _______________ to ______________
Commission file number 0-20981
DOCUMENT SCIENCES CORPORATION
Delaware 33-0485994
(State or other jurisdiction of (I.R.S. Employer
incorporation or of organization) Identification No.)
6339 Paseo del Lago
Carlsbad, CA 92009
(Address of principal executive offices) (Zip Code)
(760) 602-1400
(Registrant's telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year,
if changed since last report)
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
periods 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 of the issuer's Common Stock outstanding as of October 31,
1999 was 10,918,019.
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DOCUMENT SCIENCES CORPORATION
<TABLE>
<CAPTION>
PAGE
NO.
----
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Consolidated balance sheets---September 30, 1999 and December 31, 1998 ........................3
Consolidated statements of operations---three and nine months ended September 30, 1999 and
1998 ..........................................................................................4
Consolidated statements of cash flows---nine months ended September 30, 1999 and
1998 ..........................................................................................5
Notes to consolidated financial statements.....................................................6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations ............................................................................8
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders...................................18
Signature.....................................................................................18
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1-FINANCIAL STATEMENTS (Unaudited)
DOCUMENT SCIENCES CORPORATION
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
------------- ------------
(Unaudited) (Note)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 3,058,212 $ 6,694,420
Short-term investments 13,682,382 13,220,581
Accounts receivable, net 3,250,424 4,251,460
Due from affiliates 1,752,928 1,592,349
Unbilled revenue 689,432 391,601
Income tax receivable 331,337 331,337
Other current assets 618,099 519,479
------------ ------------
Total current assets 23,382,814 27,001,227
Property and equipment, net 2,060,208 1,668,855
Capitalized computer software development costs, net 1,407,937 1,383,590
Goodwill, net 882,395 934,987
------------ ------------
Total assets $ 27,733,354 $ 30,988,659
============ ============
LIABILITIES
Current liabilities:
Accounts payable $ 109,016 $ 1,065,986
Accrued compensation 627,906 1,874,044
Other accrued liabilities 1,186,352 1,773,716
Deferred revenue 6,204,091 7,362,838
Current portion of obligations under capital leases 13,808 41,568
------------ ------------
Total current liabilities 8,141,173 12,118,152
Obligations under capital leases 4,226 12,618
Deferred revenue 336,074 448,099
STOCKHOLDERS' EQUITY
Common stock, $.001 par value;
Authorized--30,000,000 shares;
Issued and outstanding shares--10,916,970 at September
30, 1999 and 10,857,958 at December 31, 1998 10,917 10,858
Deferred compensation (24,927) (67,326)
Treasury stock (670,517) (686,989)
Additional paid-in-capital 25,424,939 25,409,399
Accumulated comprehensive income 25,651 204,071
Retained earnings (deficit) (5,514,182) (6,460,223)
------------ ------------
Total stockholders' equity 19,251,881 18,409,790
------------ ------------
Total liabilities and stockholders' equity $ 27,733,354 $ 30,988,659
============ ============
Note: The balance sheet at December 31, 1998 has been derived from the audited financial statements at that date but does not
include all of the information and footnotes required by generally accepted accounting principles for complete financial
statements. See notes to consolidated financial statements.
</TABLE>
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DOCUMENT SCIENCES CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
----------------------------- -----------------------------
September 30, September 30,
------------- -------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Revenues:
Initial license fees $ 2,404,746 $ 2,506,290 $ 6,311,600 $ 5,490,668
Annual renewal license and support
fees 1,898,331 1,452,139 5,631,749 4,324,680
Services and other 1,223,628 1,754,553 5,089,878 4,888,721
------------ ------------ ------------ ------------
Total revenues 5,526,705 5,712,982 17,033,227 14,704,069
Cost of revenues:
Initial license fees 373,520 599,536 930,067 1,079,142
Annual renewal license and support
fees 225,713 198,253 694,693 592,354
Services and other 802,684 1,070,866 2,777,818 3,062,649
------------ ------------ ------------ ------------
Total cost of revenues 1,401,917 1,868,655 4,402,578 4,734,145
------------ ------------ ------------ ------------
Gross margin 4,124,788 3,844,327 12,630,649 9,969,924
Operating expenses:
Research and development 712,322 1,132,434 3,505,724 3,062,297
Selling and marketing 1,865,038 2,756,771 5,396,382 8,136,692
General and administrative 1,234,399 1,369,332 3,303,208 3,510,725
------------ ------------ ------------ ------------
Total operating expenses 3,811,759 5,258,537 12,205,314 14,709,714
------------ ------------ ------------ ------------
Income (loss) from operations 313,029 (1,414,210) 425,335 (4,739,790)
Interest income, net 148,130 218,154 520,706 685,578
------------ ------------ ------------ ------------
Income (loss) before income taxes 461,159 (1,196,056) 946,041 (4,054,212)
Provision for (benefit from) income
taxes -- (240,000) -- (875,000)
------------ ------------ ------------ ------------
Net income (loss) $ 461,159 $ (956,056) $ 946,041 $ (3,179,212)
============ ============ ============ ============
Net income (loss) per share-basic $ 0.04 $ (0.09) $ 0.09 $ (0.30)
============ ============ ============ ============
Weighted average shares used in basic
calculation 10,705,680 10,637,041 10,685,411 10,715,536
============ ============ ============ ============
Net income (loss) per share-diluted $ 0.04 $ (0.09) $ 0.09 $ (0.30)
============ ============ ============ ============
Weighted average shares used in diluted
calculation 10,801,352 10,637,041 10,796,525 10,715,536
============ ============ ============ ============
</TABLE>
See notes to consolidated financial statements.
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DOCUMENT SCIENCES CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
------------------------------
1999 1998
------------ ------------
<S> <C> <C>
OPERATING ACTIVITIES
Net income (loss) $ 946,041 $ (3,179,212)
Adjustments to reconcile net income (loss)
to net cash used in operating activities:
Depreciation and amortization 232,470 367,465
Amortization of goodwill 52,592 52,593
Amortization of computer software costs 473,562 149,434
Amortization of deferred compensation 42,399 82,503
Current income tax payable to affiliate -- (387,443)
Provision for doubtful accounts 97,355 392,294
Changes in operating assets and liabilities:
Accounts receivable 883,221 1,496,784
Due from affiliates (156,766) (909,370)
Unbilled revenue (297,831) (68,858)
Other current assets (99,586) (1,198,551)
Accounts payable (955,999) 310,135
Accrued compensation (1,241,539) 7,003
Other accrued liabilities (581,135) (90,125)
Deferred revenue (1,262,751) 2,127,570
------------ ------------
Net cash used in operating activities (1,867,967) (847,778)
INVESTING ACTIVITIES
Purchases of short-term investments (15,265,240) (12,269,863)
Sales of short-term investments 12,743,439 11,197,878
Maturities of short-term investments 2,060,000 2,760,000
Purchases of property and equipment, net (628,744) (432,424)
Unrealized gains (losses) on securities (178,420) 94,863
Additions to computer software development costs (497,909) (643,655)
------------ ------------
Net cash provided by (used in) investing activities (1,766,874) 706,799
FINANCING ACTIVITIES
Principal payments under capital lease obligations (36,152) (49,700)
Purchase of treasury stock 16,472 (494,251)
Issuance of common stock 15,599 9,091
------------ ------------
Net cash provided by (used in) financing activities (4,081) (534,860)
------------ ------------
Decrease in cash and cash equivalents (3,638,922) (675,839)
Effect of foreign currency translation on cash 2,714 43,551
Cash and cash equivalents at beginning of period 6,694,420 3,526,301
------------ ------------
Cash and cash equivalents at end of period $ 3,058,212 $ 2,894,013
============ ============
Supplemental disclosure of cash flow information:
Interest paid $ 2,645 $ 9,060
============ ============
</TABLE>
See notes to consolidated financial statements.
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DOCUMENT SCIENCES CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
September 30, 1999
Note A-Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. Certain amounts for 1998 have been reclassified to conform
with the 1999 presentation. The information included in this Form 10-Q should be
read in conjunction with the consolidated financial statements and notes
thereto, together with management's discussion and analysis of financial
condition and results of operations, included in our 1998 Annual Report on Form
10-K. Operating results for the three and nine-month periods ended September 30,
1999 are not necessarily indicative of the results that may be expected for the
year ending December 31, 1999.
We recognize revenue in accordance with AICPA Statement of Position (SOP) 97-2,
Software Revenue Recognition. Initial license revenue is recognized when a
contract exists, the fee is fixed or determinable, software delivery has
occurred and collection of the receivable is deemed probable. The portion of the
initial license revenue representing the software support for the first year is
deferred and recognized ratably over the contract period. Annual renewal license
and support fees are recognized ratably over the contract period. Revenues from
commissions paid by Xerox in connection with the sale of Xerox printer products
are recognized upon installation of the printer products. Revenues generated
from consulting services are recognized as the related services are performed.
However, when such consulting services are deemed to be essential to the
functionality of the delivered software product, revenue from the entire
arrangement is recognized either on a percentage of completion or completed
contract basis in accordance with SOP 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts, and Accounting Research
Bulletin (ARB) No. 45, Long-Term Construction-Type Contracts.
Note B-Transactions with Affiliates
Until September 30, 1999, we maintained a strategic marketing alliance with
Xerox Corporation (Xerox) under which both parties agreed to pay each other
commissions on referrals that led to the successful sale or licensing of each
other's products. Included in services and other revenues in the accompanying
consolidated statements of income are commissions earned from Xerox totaling
$58,500 and $56,800 for the three months ended September 30, 1999 and 1998,
respectively, and $255,200 and $211,600 for the nine months ended September 30,
1999 and 1998, respectively. We paid no referral commissions to Xerox for the
three and nine months ended September 30, 1999 and 1998. This arrangement was
terminated as of September 30, 1999.
We have distribution agreements with affiliates providing the non-exclusive
right to sub-license our software in Australia, New Zealand, Canada and Brazil.
The terms of the distributor agreements provide that the affiliates receive a
discount from the list price of our licensed products and annual license fees.
Revenues from the affiliates under these agreements, net of discounts, were
$655,700 and $413,500 for the three months ended September 30, 1999 and 1998,
respectively, and $1.6 million and $1.4 million for the nine months ended
September 30, 1999 and 1998, respectively. Included in accounts receivable are
$866,600 and $460,800 from these revenues at September 30, 1999 and 1998,
respectively.
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We have distribution agreements with affiliates providing the non-exclusive
right to sub-license our software in Europe. Revenues under these agreements
totaled $537,800 and $765,600 for the three months ended September 30, 1999 and
1998, respectively, and $1.6 million and $1.9 million for the nine months ended
September 30, 1999 and 1998, respectively. Related accounts receivable are
$737,700 and $717,100 at September 30, 1999 and 1998, respectively. On September
30, 1999, we signed a new 3-year non-exclusive distribution agreement with Xerox
Limited to provide coverage in Europe and portions of Asia.
Note C-Net Income Per Share
We present our earnings per share information in accordance with FAS No. 128,
"Earnings per Share". Basic earnings per share excludes any dilutive effects of
options, warrants and convertible securities. Diluted earnings per share
includes the dilutive effects of options, warrants and convertible securities.
The following table reconciles the shares used in computing basic and diluted
earnings per share for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Weighted average common shares
outstanding used in basic earnings per
share calculation 10,705,680 10,637,041 10,685,411 10,715,536
Effect of dilutive stock options
95,672 -0- 111,114 -0-
---------- ---------- ---------- ----------
Shares used in diluted earnings per 10,801,352 10,637,041 10,796,525 10,715,536
share ========== ========== ========== ==========
</TABLE>
Note D-Restructuring Charges
In December 1998, our board of directors approved a plan of restructuring and we
recorded a charge of approximately $2.0 million. Through September 30, 1999, we
had paid for all of the costs which had been accrued in December 1998, and
therefore we had no remaining restructuring reserve.
Note E-Sales Commitments
In 1999, we began selling non-cancelable three-year software licenses and
non-cancelable three-year maintenance agreements, under which the customer is
allowed to make payments quarterly or annually over the license or maintenance
period. We recognize revenue on licenses when invoices come due and on
maintenance agreements ratably over the service period. SOP 97-2 precludes us
from recognizing the portion of these licenses and agreements that is not
currently due from the customer. The following table summarizes license and
maintenance agreement activity for the year:
<TABLE>
<CAPTION>
Unrecognized Revenue Backlog
---------------------------------------------
Maintenance
-----------
Licenses Agreements Totals
----------- ----------- -----------
<S> <C> <C> <C>
Balances at December 31, 1998 $ -0- $ -0- $ -0-
First quarter additions 70,345 31,655 102,000
First quarter revenue recognition (6,345) (2,655) (9,000)
----------- ----------- -----------
</TABLE>
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<TABLE>
Unrecognized Revenue Backlog
----------------------------
Maintenance
-----------
Licenses Agreements Totals
----------- ----------- -----------
<S> <C> <C> <C>
Balances at March 31, 1999 64,000 29,000 93,000
Second quarter additions 926,743 844,065 1,770,808
Second quarter revenue recognition (355,872) (29,687) (385,559)
----------- ----------- -----------
Balances at June 30, 1999 634,871 843,378 1,478,249
Third quarter additions 454,459 1,432,418 1,886,877
Third quarter revenue recognition (237,741) (99,245) (336,986)
----------- ----------- -----------
Balances at September 30, 1999 $ 851,589 $ 2,176,551 $ 3,028,140
=========== =========== ===========
</TABLE>
All revenue from the unrecognized revenue backlog will have been recognized by
the end of the third quarter of 2002.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion may contain certain trend analysis and other
forward-looking statements which involve risks and uncertainties. Our actual
results could differ materially from those discussed herein, including those set
forth in this discussion, under "Risk Factors" and other risks detailed from
time to time in our SEC reports. In addition, the discussion of our results of
operations should be read in conjunction with the sections entitled "Risk
Factors" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations" in our 1998 Annual Report on Form 10-K.
OVERVIEW
Document Sciences Corporation develops, markets and supports a family of
document automation software products and services used in high volume
electronic publishing applications. We were incorporated in Delaware in October
1991 as a wholly-owned subsidiary of Xerox, and following our initial public
offering of stock in September 1996, Xerox' ownership was reduced to
approximately 62%.
RESULTS OF OPERATIONS
The following table sets forth the percentage of total revenues for certain
items in our consolidated statements of operations for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues:
Initial license fees 44% 44% 37% 37%
Annual renewal license and support fees 34 25 33 30
Services and other 22 31 30 33
---- ---- ---- ----
Total revenues 100% 100% 100% 100%
Cost of revenues:
Initial license fees 7% 10% 6% 7%
Annual renewal license and support fees 4 4 4 4
Services and other 14 19 16 21
---- ---- ---- ----
Total cost of revenues 25% 33% 26% 32%
---- ---- ---- ----
Gross profit 75% 67% 74% 68%
Operating expenses:
Research and development 13% 20% 20% 21%
</TABLE>
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<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Selling and marketing 34 48 32 57
General and administrative 22 24 19 22
---- ---- ---- ----
Total operating expenses 69% 92% 71% 100%
---- ---- ---- ----
Income (loss) from operations 6% (25)% 3% (32)%
Interest income, net 2 4 3 5
---- ---- ---- ----
Income (loss) before income taxes 8% (21)% 6% (27)%
Provision for (benefit from) income
taxes 0 (4) 0 (6)
---- ---- ---- ----
Net income (loss) 8% (17)% 6% (21)%
==== ==== ==== ====
</TABLE>
Revenues
Total revenues decreased 4% to $5.5 million for the three months ended September
30, 1999 from $5.7 million for the three months ended September 30, 1998, and
increased 16% to $17.0 million for the nine months ended September 30, 1999 from
$14.7 million for the nine months ended September 30, 1998. The decrease for the
quarter was primarily in services and other revenue. We expect the relationship
of initial and renewal license fees to professional fees to continue to shift
toward software revenues as we further develop our indirect sales model.
Sales Channels. We sell our products principally through a direct sales force
domestically, and internationally through distributors and value added resellers
or VARS. Revenues from export sales and sales through our foreign subsidiary
decreased 6% to $1.5 million for the three months ended September 30, 1999 from
$1.6 million for the three months ended September 30, 1998, and decreased 9% to
$4.3 million for the nine months ended September 30, 1999 from $4.7 million for
the nine months ended September 30, 1998. These decreases are primarily the
result of decreased activity associated with an internal realignment of our
foreign subsidiary. Revenues from export sales were 27% and 28% of total
revenues for the three months ended September 30, 1999 and 1998, respectively,
and 25% and 32% of total revenues for the nine months ended September 30, 1999
and 1998, respectively.
We maintain distributorship agreements with various Xerox foreign affiliates to
remarket our products internationally. Our revenues from such distributorship
agreements related to the licensing, maintenance and support of our products
remained at $1.2 million for the three months ended September 30, 1999 and 1998,
and decreased 3% to $3.2 million for the nine months ended September 30, 1999
from $3.3 million for the nine months ended September 30, 1998. These decreases
are due principally to decreased activity through our European and Canadian VAR
affiliates.
Initial license fees. Initial license fee revenues decreased 4% to $2.4 million
for the three months ended September 30, 1999 from $2.5 million for the three
months ended September 30, 1998, but have increased 15% to $6.3 million for the
nine months ended September 30, 1999 from $5.5 million for the nine months ended
September 30, 1998. The decrease in initial license fee revenue for the three
months ended September 30, 1999 reflects a change in our 1999 sales model. In
1999, we began selling non-cancelable three-year software licenses and
non-cancelable three-year maintenance agreements, under which the customer is
allowed to make payments quarterly or annually over the license or maintenance
period. We recognize revenue on licenses when invoices come due and on
maintenance agreements ratably over the service period. SOP 97-2 precludes us
from recognizing the portion of these licenses and agreements that is not
currently due from the customer. This new sales model results in recognition of
revenue over a longer period. The increase in the 1999 nine-month period versus
the 1998 period is due primarily to increased sales activity in the United
States, Brazil and Australia.
Annual renewal license and support fees. Revenues from annual renewal license
and support fees increased 27% to $1.9 million for the three months ended
September 30, 1999 from $1.5 million for the
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three months ended September 30, 1998, and increased 30% to $5.6 million for the
nine months ended September 30, 1999 from $4.3 million for the nine months ended
September 30, 1998. These increases are due primarily to the increasing
installed base of customers.
Services and other. Revenues from services and other decreased 33% to $1.2
million for the three months ended September 30, 1999 from $1.8 million for the
three months ended September 30, 1998. While services and other revenue has
increased 4% to $5.1 million for the nine-month period ended September 30, 1999
versus $4.9 million for the same period in 1998, the increase reflects the
completion of two 1998 contracts accounted for under the completed-contract
method of accounting.
Cost of Revenues
Total cost of revenues was 25% and 33% of total revenues for the three months
ended September 30, 1999 and 1998, respectively, and 26% and 32% of total
revenues for the nine months ended September 30, 1999 and 1998, respectively.
The decrease in total cost of revenues as a percentage of total revenues
resulted from reduced consulting headcount resulting from our 1998 restructuring
and lower royalty fees.
Operating Expenses
Research and development. Research and development expenses decreased 35% to
$712,300 for the three months ended September 30, 1999 from $1.1 million for the
three months ended September 30, 1998, and increased 13% to $3.5 million for the
nine months ended September 30, 1999 from $3.1 million for the nine months ended
September 30, 1998. We capitalized $497,900 of software costs for the three and
nine months ended September 30, 1999, and $97,900 and $643,700 for the three and
nine months ended September 30, 1998, respectively. Notwithstanding capitalized
software costs, research and development expenditures decreased approximately
$20,000 or 2% for the three months ended September 30, 1999 and increased
$298,000 or by 8% for the nine months ended September 30, 1999. The increase is
due primarily to the increased use of outside consultants.
Selling and marketing. Selling and marketing expenses decreased 32% to $1.9
million for the three months ended September 30, 1999 from $2.8 million for the
three months ended September 30, 1998, and decreased 33% to $5.4 million for the
nine months ended September 30, 1999 from $8.1 million for the nine months ended
September 30, 1998. These decreases are, primarily, the result of savings
realized from our restructuring and, secondly, the aligning of our commission
structure with our revenue stream.
General and administrative. General and administrative expenses decreased 14% to
$1.2 million for the three months ended September 30, 1999 from $1.4 million for
the three months ended September 30, 1998, and decreased 6% to $3.3 million for
the nine months ended September 30, 1999 from $3.5 million for the nine months
ended September 30, 1998. The decreases for the three and nine months ended
September 30, 1999 are due primarily to savings realized from our restructuring
offset partially by an increase in professional services and outside
consultants.
Provision for income taxes. For the three and nine months ended September 30,
1999, we have recorded no income tax expense as a result of the utilization of
the net operating loss carryforward generated in 1998.
LIQUIDITY AND CAPITAL RESOURCES
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Our cash and cash equivalents and short-term investments totaled $16.7 million
at September 30, 1999, representing 60% of total assets. We intend to continue
to invest in short-term, interest-bearing, investment grade securities.
We believe that our existing cash balances and anticipated cash flows from
operations will be sufficient to meet our anticipated cash needs for working
capital and capital expenditures for at least the next twelve months.
We have no capital spending or purchase commitments other than normal purchase
commitments and commitments under facilities and capital leases.
RISK FACTORS
The following is a discussion of certain factors which currently impact or may
impact our business, operating results and/or financial condition. Anyone making
an investment decision with respect to our common stock or other securities is
cautioned to carefully consider these factors.
If any of the following risks actually occurs, our business or financial
condition could suffer. In such case, the trading price of our common stock
could decline, and you may lose all or part of your investment.
OUR QUARTERLY RESULTS FLUCTUATE SIGNIFICANTLY, AND WE MAY NOT BE ABLE TO
MAINTAIN OUR EXISTING GROWTH RATES.
Our total revenues and operating results can vary, sometimes substantially, from
quarter to quarter and we expect them to vary significantly in the future. Our
revenues and operating results are difficult to forecast; and our future results
will depend upon many factors, including the following:
- the demand for our products;
- the level of product competition and price competition that we
face;
- the length of our sales cycle;
- the size and timing of individual license transactions;
- the delay or deferral of customer implementations;
- the budget cycles of our customers;
- our success in expanding our direct sales force and indirect
distribution channels;
- the timing of our new product introductions and product
enhancements, as well as those of our competitors;
- our mix of products and services;
- our level of international sales; - the activities of our
competitors;
- our timing of new hires; - changes in foreign currency exchange
rates;
- our ability to develop and market new products and to control
costs; and
- general domestic and international economic conditions.
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Our initial license fee revenue depends on when orders are received, shipped and
billed. However, because of our sales model, our customers' implementation
schedule and the complexity of the implementation process, revenue from some
software shipments may not be recognized in the same quarter as the shipment
occurs. Our operating expenses are primarily based on anticipated revenue
levels. Since a high percentage of those expenses are relatively fixed, a delay
in the recognition of revenue from license transactions could cause significant
variations in operating results from quarter to quarter and we may sustain
losses as a result.
As a result of these factors, results from operations for any quarter are
subject to significant variation, and we believe that period-to-period
comparisons of our results of operations are not necessarily meaningful and you
should not rely upon them as an indication of our future performance.
Furthermore, our operating results in some future quarter may fall below the
expectations of public market analysts and investors. If this occurs, the price
of our common stock would likely fall.
WE ARE SUBSTANTIALLY CONTROLLED BY XEROX.
Xerox owns approximately 62% of the outstanding shares of our common stock.
Consequently, Xerox controls Document Sciences, is able to elect our entire
board of directors and could have significant input into our operations. In
addition, Xerox is able to determine the outcome of all corporate actions
requiring stockholder approval, including potential mergers, acquisitions,
consolidations and sales of all or substantially all of our assets. Xerox's
voting power could delay or prevent a change in control of Document Sciences and
may prevent or discourage tender offers for our common stock at a premium price
by another person or entity. Xerox affiliates currently hold two of the five
seats on our board of directors.
OUR BUSINESS IS DEPENDENT ON MAINTAINING OUR RELATIONSHIPS WITH XEROX.
We currently have a variety of contractual and informal relationships with Xerox
and affiliates of Xerox, including a Cooperative Marketing Agreement, a Transfer
and License Agreement and various distribution agreements. We rely on these
relationships and agreements for a significant portion of our total revenues.
- For the three months ended September 30, 1999, revenues derived
from relationships with Xerox and affiliates of Xerox accounted
for approximately $1.3 million, representing 24% of our total
revenues;
- For the three months ended September 30, 1998, revenues derived
from relationships with Xerox and affiliates of Xerox accounted
for approximately $1.5 million, representing 26% of our total
revenues;
- For the nine months ended September 30, 1999, revenues derived
from relationships with Xerox and affiliates of Xerox accounted
for approximately $3.6 million, representing 21% of our total
revenues;
- For the nine months ended September 30, 1998, revenues derived
from relationships with Xerox and affiliates of Xerox accounted
for approximately $3.9 million, representing 27% of our total
revenues.
Included above were commissions that we received from sales of Xerox printers
under our Cooperative Marketing Agreement with Xerox. These commissions for the
nine months ended September 30 were:
- 1999: $255,200;
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<PAGE> 13
- 1998: $211,200.
These commissions have little or no associated costs and have contributed a
substantial portion of our income from operations for recent operating periods.
These commissions were terminated by Xerox effective September 30, 1999.
Furthermore, there can be no assurance that existing and potential customers
will continue to do business with us because of these relationships or our
historical ties with Xerox and its affiliates. Though we intend to continue our
existing relationships with Xerox, our strategy is to lessen our dependence on
Xerox. However, there can be no assurance that we will be able to do so and,
because of our current level of dependence on Xerox, there can be no assurance
that our move to become more independent will not adversely affect our business,
results of operations or financial condition. Our failure to maintain these
relationships, particularly with Xerox and its affiliates, or to establish new
relationships in the future, could have a material adverse effect on our
business, operating results and financial condition.
Xerox has strategic alliances and other business relationships with other
companies who supply software and services used in high volume electronic
publishing applications and who now or in the future may be our competitors.
There can be no assurance that Xerox or one of its affiliated companies will not
engage in business that directly competes with us. In addition, Xerox has
ongoing internal development activities that could in the future lead to
products that compete with us. Xerox could in the future expand these
relationships or enter into additional ones, and as a result our business could
suffer.
OUR GROWTH IS DEPENDENT UPON SUCCESSFULLY FOCUSING OUR DISTRIBUTION CHANNELS.
We have streamlined our worldwide sales and distribution channels by focusing on
key target industry market segments where our current and planned products enjoy
a significant competitive advantage and a current, high market demand. We
continue to leverage our existing relationships with Xerox Corporation, IBM
Corporation and their channels and affiliates by launching targeted joint
marketing and value added reseller programs and by introducing new product
offerings that are optimized for selected target markets and marketing channels.
In addition, we intend to form additional partnerships with system integrators
and consultants in order to broaden our capacity to deliver complete document
automation solutions that incorporate significant services content, while also
maintaining our core domain expertise. We cannot assure you that we will be able
to successfully streamline and focus our worldwide channels, leverage our
existing relationships or form new alliances. If we fail to do so, it will have
a material adverse effect on our business, operating results and financial
condition.
OUR PROFITABILITY AND FUTURE GROWTH MAY BE DEPENDENT ON MAINTAINING OUR
PROFESSIONAL SERVICES EXPERTISE.
We provide professional services to assist customers in the planning and
implementation of enterprise-wide, mission-critical document automation
applications. This is dependent on retaining and hiring professionals to perform
these consulting services. Should we be unable to maintain the necessary
services workforce, our business would be harmed.
OUR GROWTH DEPENDS ON OUR INTRODUCTION OF NEW PRODUCTS AND ENHANCEMENTS TO
EXISTING PRODUCTS.
Our future business, operating results and financial condition will depend upon
our ability to develop new products that address the future needs of our target
markets and to respond to emerging industry standards and practices. Our
Document Sciences Autograph family of products has been applied mainly to
document automation applications producing paper-based documents. We believe
that our core
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<PAGE> 14
technology can be extended to the Internet, intranets and commercial on-line
services. We cannot assure you that we will be successful in developing,
introducing and marketing new products or product enhancements, including new
products or the extension of existing products for the Internet, intranets and
commercial on-line services, on a timely and cost effective basis, if at all. In
addition, we cannot assure you that our new products and product enhancements
will adequately meet the requirements of the marketplace or achieve market
acceptance. Delays in our commercial shipments of new products or enhancements
may result in client dissatisfaction and a delay or loss of product revenues.
If we are unable, for technological or other reasons, to develop and introduce
new products or enhancements of existing products in a timely manner in response
to changing market conditions or client requirements, then our business,
operating results and financial condition will be materially adversely affected.
In addition, we cannot assure you that our new products or new versions of our
existing products will achieve market acceptance. We recently released two new
products, CompuSet 7.0 and DLS 5.0, and are unsure at this time if either
product will achieve market acceptance. In order to provide our customers with
integrated product solutions, our future success will also depend in part upon
our ability to maintain and enhance relationships with our technology partners,
such as JetForm Corporation and New Dimension Software.
A LONGER THAN EXPECTED SALES CYCLE MAY AFFECT OUR REVENUES AND OPERATING
RESULTS.
The licensing of our software products is often an enterprise-wide decision by
prospective customers and generally involves a sales cycle of three to twelve
months in order to educate our prospective customers regarding the use and
benefits of our products. In addition, the implementation of our products by
customers involves a significant commitment of their resources over an extended
period of time, and is commonly associated with substantial customer business
process reengineering efforts. For these and other reasons, our sales and
customer implementation cycles are subject to a number of significant delays
over which we have little or no control. Any delay in the sale or customer
implementation of a limited number of license transactions could have a material
adverse effect on our business and results of operations and cause our operating
results to vary significantly from quarter to quarter.
OUR OPERATING RESULTS ARE SUBSTANTIALLY DEPENDENT ON SALES OF A SMALL NUMBER OF
PRODUCTS IN HIGHLY CONCENTRATED INDUSTRIES.
We derived 70% of our initial license revenues from licenses of CompuSet and
related CompuSet option products for the nine months ended September 30, 1999.
Our DLS and DVS products comprised 25% and 5%, respectively, of total initial
license fees for the nine months ended September 30, 1999. As a result, factors
that may adversely impact the pricing of or demand for CompuSet and related
products, such as competition from other products, negative publicity or
obsolescence of the hardware or software environments in which our products run,
could harm our business and financial condition. Our financial performance will
continue to depend significantly on the successful development, introduction and
customer acceptance of new and enhanced versions of our CompuSet software and
related products.
Licenses to end users in the insurance industry accounted for 52% of domestic
initial license revenues. Our future success will depend on our ability to
continue to successfully market our products in this and other industries. We
cannot assure you that we will continue to be successful in developing and
marketing CompuSet products and related services. Our failure to do so would
have a material adverse effect on our business, results of operations and
financial condition.
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<PAGE> 15
WE MAY BE EXPOSED TO RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS.
Our revenues from export sales, including sales through our foreign subsidiary,
accounted for the following:
~ 27% and 25% of our total revenues for the three and nine months
ended September 30, 1999, respectively, and
~ 28% and 32% of our total revenues for the three and nine months
ended September 30, 1998, respectively.
Our wholly owned subsidiary, Document Sciences Europe, markets and supports our
products in Europe. We license our products in Europe through value added
resellers and to a lesser extent, direct sales. Our value added resellers are
principally Xerox affiliates who re-market our products. Revenues generated by
this subsidiary were $852,900 and $1.2 million for the three months ended
September 30, 1999 and 1998, respectively, and $2.7 million and $3.3 million for
the nine months ended September 30, 1999 and 1998, respectively. Net income from
this subsidiary was $277,300 and $461,800 for the three months ended September
30, 1999 and 1998, respectively, and $1.2 million and $ 1.1 million for the nine
months ended September 30, 1999 and 1998, respectively. In Australia, Canada and
Brazil we distribute our products through Fuji Xerox Co., Ltd., Xerox Canada,
Ltd. and Xerox Brazil, Ltd., respectively. Revenues generated by these Xerox
affiliates were $655,700 and $413,500 for the three months ended September 30,
1999 and 1998, respectively, and $1.6 million and $1.4 million for the nine
months ended September 30, 1999 and 1998, respectively. In order to successfully
expand export sales, we must establish additional foreign operations, hire
additional personnel or develop relationships with additional international
resellers. If we are unable to do so in a timely manner, our growth in
international export sales could be limited, and our business, operating results
and financial condition could be materially adversely affected. In addition, we
cannot assure you that we will be able to maintain or increase international
market demand for our products.
Additional risks inherent in our international business activities include:
~ currency fluctuations;
~ unexpected changes in regulatory requirements;
~ tariffs and other trade barriers;
~ our limited experience in localizing products for foreign
countries;
~ lack of acceptance of our localized products in foreign
countries;
~ longer accounts receivable payment cycles;
~ difficulties in managing our international operations;
~ potentially adverse tax consequences including restrictions on
the repatriation of earnings; and
~ the burdens of complying with a wide variety of foreign laws.
A portion of our business is conducted in currencies other than the U.S. dollar,
primarily the French franc. Although exchange rate fluctuations have not had a
significant impact on us, fluctuations in the value of the currencies in which
we conduct our business relative to the U.S. dollar could cause currency
transaction gains and losses in future periods. We do not currently engage in
currency hedging transactions, and we cannot assure you that fluctuations in
currency exchange rates in the future will not have a material adverse impact on
our international revenues and our business, operating results or financial
condition.
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<PAGE> 16
OUR BUSINESS IS DEPENDENT ON THE EMERGING MARKET FOR DOCUMENT AUTOMATION
SOFTWARE.
The market for document automation software is relatively new, intensely
competitive, highly fragmented, underdeveloped and subject to rapid change.
Marketing and sales techniques in the document automation software marketplace,
as well as the bases for competition, are not well established. We cannot assure
you that the market for document automation software will develop or that, if it
does develop, organizations will adopt our products. We have spent, and intend
to continue to spend, significant resources educating potential customers about
the benefits of our products. However, we cannot assure you that such
expenditures will enable our products to achieve further market acceptance, and
if the document automation software market fails to develop or develops more
slowly than we currently anticipate, our business and financial condition would
suffer.
In addition, the commercial market for automation of electronic documents
designed for use with the Internet, intranets and commercial on-line services
has only recently begun to develop, and the success of our products designed for
this market will depend in part on their compatibility with such services. It is
difficult to predict whether the Internet, intranets and commercial on-line
services will be a viable commercial marketplace or whether the demand for
related products and services will increase or decrease in the future. Since the
increased commercial use of the Internet, intranets and commercial on-line
services could require substantial modification and customization of certain of
our products and services as well as the introduction of new products and
services, we cannot assure you that we will be able to effectively or
successfully compete in this emerging market.
OUR ABILITY TO MANAGE OUR GROWTH WILL AFFECT OUR BUSINESS.
We have recently experienced a period of growth in total revenues. Our ability
to compete effectively and to manage future change will require us to continue
to improve our financial and management controls, reporting systems and
procedures on a timely basis and to train and manage our work force. We cannot
assure you that we will be able to do so successfully. Our failure to do so
could have a material adverse effect on our business, operating results and
financial condition.
OUR EXECUTIVE OFFICERS AND CERTAIN KEY PERSONNEL ARE CRITICAL TO OUR BUSINESS,
AND THESE OFFICERS AND KEY PERSONNEL MAY NOT REMAIN WITH US IN THE FUTURE.
Our future performance depends in significant part upon the continued service of
our key technical, sales and senior management personnel. The loss of the
services of one or more of our executive officers could have a material adverse
effect on our business, operating results and financial condition. Our future
success also depends on our continuing ability to attract and retain highly
qualified product development, sales and management personnel. Competition for
such personnel is intense, and there can be no assurance that we will be able to
retain our key employees or that we will be able to attract, assimilate or
retain other highly qualified product development, sales and managerial
personnel in the future.
OUR FAILURE TO ADEQUATELY LIMIT OUR EXPOSURE TO PRODUCT LIABILITY CLAIMS MAY
ADVERSELY AFFECT US.
Our license agreements with our customers typically contain provisions designed
to limit our exposure to potential product liability claims. However, it is
possible that the limitation of liability provisions contained in our license
agreements may not be effective under the laws of certain jurisdictions.
Although we have not experienced any product liability claims to date, sale and
support of our products may entail the risk of such claims in the future. A
successful product liability claim brought against us or a claim
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<PAGE> 17
arising as a result of our professional services could have a material adverse
effect upon our business, operating results and financial condition.
OUR PRODUCTS MAY SUFFER FROM DEFECTS OR ERRORS.
Software products as complex as those we offer, particularly our new Visual
CompuSet and Data Prep Tool products, may contain undetected defects or errors
when first introduced or as new versions are released. As a result, we could in
the future lose or delay recognition of revenues as a result of software errors
or defects. In addition, our products are typically intended for use in
applications that may be critical to a customer's business. As a result, we
expect that our customers and potential customers have a greater sensitivity to
product defects than the market for software products generally. Although our
business has not been adversely affected by any such errors to date, we cannot
assure you that, despite our testing and testing by current and potential
customers, errors will not be found in our new products or releases. If these
errors are discovered after the commencement of commercial shipments, it could
result in any of the following:
~ loss of revenue or delay in market acceptance;
~ diversion of our development resources;
~ damage to our reputation; or
~ increased service and warranty costs.
If any of these factors occur, it would have a material adverse effect upon our
business, operating results and financial condition.
WE MAY FACE RISKS OF YEAR 2000 NONCOMPLIANCE.
The Year 2000 Issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any of our computer
programs or hardware that have date-sensitive software or embedded chips may
recognize a date using "00" as the year 1900 rather than the year 2000. This
could result in a system failure or miscalculations causing disruptions of
operations, including, among other things, a temporary inability to process
transactions, send invoices or engage in similar activities.
Based on recent assessments, we have determined that our information technology,
or IT, and non-IT systems, software, hardware and equipment, are currently
purported by the software and hardware vendors to be able to utilize dates
beyond December 31, 1999. However, if testing disconfirms readiness, the Year
2000 Issue could have a material impact on our operations.
We have queried our significant suppliers and subcontractors that do not share
information systems with us. To date, we are not aware of any external agent
with a Year 2000 issue that would materially impact our results of operations,
liquidity or capital resources. However, we have no means of ensuring that
external agents will be Year 2000 ready. The inability of external agents to
complete their Year 2000 resolution process in a timely fashion could materially
impact us. The effect of non-compliance by external agents is not determinable.
We have not yet completed the final phase of the Year 2000 program. In the event
that we do not complete the testing phase to confirm readiness and the systems
believed to be ready are not, we might be unable to sell merchandise and might
be unable to use our financial systems to operate the finance and accounting
functions. In addition, disruptions in the economy generally resulting from Year
2000 issues could also materially adversely affect us. We could be subject to
litigation for computer systems product failure, for example, equipment shutdown
or failure to properly date business records. The amount of potential liability
and lost revenue cannot be reasonably estimated at this time.
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<PAGE> 18
WE MAY FACE RISKS FROM THE EURO
A new currency called the "euro" was introduced in January 1999 in certain
Economic and Monetary Union, or EMU, countries. During 2002, all EMU countries
are expected to be operating with the euro as their single currency. Uncertainty
exists as to the effects the euro currency will have on the marketplace.
Additionally, all of the final rules and regulations have not yet been defined
and finalized by the European Commission with regard to the euro currency. We
are still assessing the impact the EMU formation will have on our internal
systems and the sale of our products. We expect to take appropriate actions
based on the results of such assessment. We have not yet determined any
potential costs.
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the third quarter
of fiscal year 1999.
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.
Document Sciences Corporation
(Registrant)
Date: November 9, 1999 /S/ John H. Wilson
- ----------------------- ------------------
John H. Wilson
Vice President, Finance
(Duly Authorized and Principal Financial
Officer)
18
<PAGE> 19
EXHIBIT INDEX
Exhibit
No. Description
- ------- -----------
27 Financial Data Schedule
19
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 3,058,212
<SECURITIES> 13,682,382
<RECEIVABLES> 5,792,942
<ALLOWANCES> 789,590
<INVENTORY> 0
<CURRENT-ASSETS> 23,382,814
<PP&E> 3,314,520
<DEPRECIATION> 1,254,312
<TOTAL-ASSETS> 27,733,354
<CURRENT-LIABILITIES> 8,141,173
<BONDS> 0
0
0
<COMMON> 10,917
<OTHER-SE> 19,240,964
<TOTAL-LIABILITY-AND-EQUITY> 27,733,354
<SALES> 11,943,349
<TOTAL-REVENUES> 17,033,227
<CGS> 1,624,760
<TOTAL-COSTS> 4,402,578
<OTHER-EXPENSES> 12,205,314
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 2,645
<INCOME-PRETAX> 946,041
<INCOME-TAX> 0
<INCOME-CONTINUING> 946,041
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 946,041
<EPS-BASIC> .09
<EPS-DILUTED> .09
</TABLE>
