<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 QUARTERLY PERIOD ENDED MARCH 31, 2000
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 000-22043
---------------
NEW ERA OF NETWORKS, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 84-1234845
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE GREENWOOD PLAZA
6550 SOUTH GREENWOOD PLAZA BOULEVARD
ENGLEWOOD, COLORADO 80111
(Address of principal executive offices)
Registrant's Telephone Number, Including Area Code: (303) 694-3933
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
April 30, 2000 was 35,349,840.
================================================================================
<PAGE> 2
<TABLE>
<CAPTION>
INDEX
PAGE
PART I FINANCIAL INFORMATION ----
<S> <C> <C>
Item 1. Financial Statements................................................ 3
Consolidated Balance Sheets......................................... 3
Consolidated Statements of Operations............................... 4
Consolidated Statements of Cash Flows............................... 5
Notes to Consolidated Financial Statements.......................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................... 10
Item 3. Quantitative and Qualitative Disclosures about
Market Risk....................................................... 20
PART II OTHER INFORMATION
Item 1. Legal Proceedings................................................... 22
Item 2. Changes in Securities............................................... 22
Item 3. Defaults Upon Senior Securities..................................... 22
Item 4. Submission of Matters to a Vote of Security Holders................. 22
Item 5. Other Information................................................... 22
Item 6. Exhibits and Reports on Form 8-K.................................... 22
Signatures........................................................................ 23
</TABLE>
<PAGE> 3
NEW ERA OF NETWORKS, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
ASSETS 2000 1999
--------------- --------------
(UNAUDITED)
<S> <C> <C>
Current assets:
Cash and cash equivalents .................................... $ 36,783,067 $ 49,796,989
Short-term investments in marketable securities .............. -- 7,682,786
Accounts receivable, net of allowance for uncollectible
accounts of $2,200,000 and $800,000, respectively ......... 43,700,952 38,492,822
Unbilled revenue ............................................. 3,493,896 3,251,144
Prepaid expenses and other ................................... 6,816,296 6,131,194
Note receivable--related party ............................... 23,853,473 19,666,135
--------------- ---------------
Total current assets ................................. 114,647,684 125,021,070
--------------- ---------------
Property and equipment:
Computer equipment and software .............................. 19,505,065 17,023,054
Furniture, fixtures and equipment ............................ 4,651,922 4,345,324
Leasehold improvements ....................................... 4,005,207 3,273,280
--------------- ---------------
28,162,194 24,641,658
Less--accumulated depreciation ............................... (8,702,560) (7,126,379)
--------------- ---------------
Property and equipment, net .................................. 19,459,634 17,515,279
Long-term investments in marketable securities ................. 37,251,740 37,335,205
Intangible assets, net ......................................... 199,600,195 170,565,822
Deferred income taxes, net ..................................... 9,407,763 7,700,765
Other assets, net .............................................. 1,450,389 1,382,354
--------------- ---------------
Total assets ......................................... $ 381,817,405 $ 359,520,495
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................................. $ 6,065,794 $ 6,118,010
Accrued liabilities .......................................... 14,647,075 19,111,975
Current portion of deferred revenue .......................... 17,250,071 13,570,715
--------------- ---------------
Total current liabilities ............................ 37,962,940 38,800,700
Deferred revenue ............................................... 78,437 78,437
--------------- ---------------
Total liabilities .................................... 38,041,377 38,879,137
--------------- ---------------
Stockholders' equity:
Common stock, $.0001 par value, 200,000,000 shares
authorized; 35,296,186 and 34,051,573 shares issued and
outstanding, respectively ................................. 3,531 3,405
Additional paid-in capital ................................... 419,260,284 389,199,732
Accumulated deficit .......................................... (72,237,015) (66,329,148)
Accumulated other comprehensive loss ......................... (2,706,730) (1,885,256)
Treasury stock ............................................... (347,375) (347,375)
Deferred stock-based compensation ............................ (196,667) --
--------------- ---------------
Total stockholders' equity ........................... 343,776,028 320,641,358
--------------- ---------------
Total liabilities and stockholders' equity ........... $ 381,817,405 $ 359,520,495
=============== ===============
</TABLE>
See notes to consolidated financial statements.
3
<PAGE> 4
NEW ERA OF NETWORKS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
------------------------------
2000 1999
------------ ------------
Revenues:
<S> <C> <C>
Software licenses ................................................. $ 24,073,914 $ 17,366,335
Software maintenance .............................................. 5,264,256 3,096,519
Professional services ............................................. 12,753,646 9,147,877
------------ ------------
Total revenues ............................................ 42,091,816 29,610,731
------------ ------------
Cost of revenues:
Cost of software licenses ......................................... 554,717 145,668
Cost of software maintenance and
professional services .......................................... 10,069,275 6,198,786
------------ ------------
Total cost of revenues .................................... 10,623,992 6,344,454
------------ ------------
Gross profit ........................................................ 31,467,824 23,266,277
Operating expenses:
Sales and marketing ............................................... 17,476,531 9,824,956
Research and development .......................................... 9,367,223 6,887,822
General and administrative ........................................ 3,970,579 3,065,625
Stock-based compensation
and related payroll taxes ........................................ 560,996 --
Amortization of intangibles ....................................... 7,439,905 1,699,766
------------ ------------
Total operating expenses .................................. 38,815,234 21,478,169
------------ ------------
Income (loss) from operations ....................................... (7,347,410) 1,788,108
Other income, net ................................................... 1,640,292 2,184,363
------------ ------------
Income (loss) before income taxes.................................... (5,707,118) 3,972,471
Provision for income tax ............................................ 200,749 1,390,365
------------ ------------
Net income (loss) ................................................... $ (5,907,867) $ 2,582,106
============ ============
Net income (loss) per common
share, basic ...................................................... $ (0.17) $ 0.08
------------ ------------
Net income (loss) per common
share, diluted .................................................... $ (0.17) $ 0.08
============ ============
Weighted average shares of common
stock outstanding, basic .......................................... 34,691,960 30,632,010
============ ============
Weighted average shares of common
stock outstanding, diluted ........................................ 34,691,960 34,421,437
============ ============
</TABLE>
See notes to consolidated financial statements.
4
<PAGE> 5
NEW ERA OF NETWORKS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
------------------------------------
2000 1999
--------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) ................................................. $ (5,907,867) $ 2,582,106
Adjustments to reconcile net income (loss) to net cash
used in operating activities--
Depreciation and amortization ................................... 9,027,575 2,566,874
Amortization of deferred stock-based compensation ............... 98,333 --
Provision for deferred income taxes, net ........................ (1,630,924) --
Charge in lieu of income taxes .................................. 1,527,961 --
Option remeasurement, noncash employee severance charges ........ 148,703 --
Loss on asset disposition ....................................... 40,910 --
Changes in assets and liabilities--
Accounts receivable, net ........................................ (2,138,829) (1,192,097)
Unbilled revenue ................................................ (1,204,487) (983,040)
Prepaid expenses and other ...................................... (622,540) (2,376,484)
Other assets, net ............................................... 86,975 596,034
Accounts payable ................................................ (1,518,049) (923,172)
Accrued liabilities ............................................. (3,527,776) (399,220)
Accrued restructuring charges ................................... (1,286,975) --
Deferred revenue, current and long-term ......................... 3,679,356 (893,504)
--------------- ---------------
Net cash used in operating activities ...................... (3,227,634) (1,022,503)
--------------- ---------------
Cash flows from investing activities:
Purchases of short-term investments in marketable
securities ...................................................... -- (3,371,944)
Proceeds from sale of short-term investments in
marketable securities............................................ 7,725,419 8,158,492
Purchases of long-term investments in marketable
securities ...................................................... -- (11,308,894)
Proceeds from sale of long-term investments in
marketable securities............................................ -- 3,014,051
Purchases of developed software and other intangibles ............. (7,518) (4,248,583)
Business combinations, net of cash acquired ....................... (17,683,223) (2,727,399)
Purchases of property and equipment ............................... (3,371,258) (3,665,979)
Investment in note receivable--related party ...................... (4,187,338) --
--------------- ---------------
Net cash used in investing activities ...................... (17,523,918) (14,150,256)
--------------- ---------------
Cash flows from financing activities:
Proceeds from issuance of common stock ............................ 7,897,671 2,262,414
--------------- ---------------
Net cash provided by financing activities .................. 7,897,671 2,262,414
Effect of exchange rate changes on cash ............................. (160,041) (151,044)
--------------- ---------------
Net decrease in cash and cash equivalents ........................... (13,013,922) (13,061,389)
Cash and cash equivalents, beginning of period ...................... 49,796,989 174,173,008
--------------- ---------------
Cash and cash equivalents, end of period ............................ $ 36,783,067 $ 161,111,620
=============== ===============
Supplemental cash flow information:
Cash paid during the period for--
Interest ........................................................ $ 3,674 $ 5,132
=============== ===============
Taxes ........................................................... $ 303,963 $ 616,845
=============== ===============
Supplemental disclosures of noncash transactions:
Common stock issued for business combinations ..................... $ 20,000,000 $ 4,115,000
=============== ===============
Accrued business combination costs ................................ $ 118,000 $ 30,181
=============== ===============
Option remeasurement, noncash employee severance charges .......... $ 148,703 $ --
=============== ===============
Accrued stock-based compensation................................ $ 196,667 $ --
=============== ===============
Accrued common stock offering costs ............................... $ -- $ 101,393
=============== ===============
</TABLE>
See notes to consolidated financial statements.
5
<PAGE> 6
NEW ERA OF NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying consolidated interim financial statements have been
prepared by New Era of Networks, Inc. (the "Company"), without audit, pursuant
to the rules and regulations of the Securities and Exchange Commission (the
"SEC"). Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been omitted pursuant to such rules and regulations. These
financial statements should be read in conjunction with the Company's audited
consolidated financial statements included in the Company's Annual Report on
Form 10-K for the fiscal year ended December 31, 1999. The consolidated results
of operations for the three months ended March 31, 2000 are not necessarily
indicative of the results to be expected for any subsequent period or for the
entire fiscal year ending December 31, 2000.
The accompanying unaudited consolidated interim financial statements
reflect, in the opinion of management, all adjustments that are of a normal and
recurring nature and that are necessary for a fair presentation of the financial
position and results of operations for the periods presented. The preparation of
financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates. Certain reclassifications have been made to prior period
financial statements to conform to the March 31, 2000 presentation.
2. BUSINESS COMBINATION
PaperFree Systems, Inc.
On March 24, 2000, the Company acquired all of the outstanding capital
stock of PaperFree Systems, Inc. ("PaperFree"), a Delaware corporation.
PaperFree is a leading provider of integration solutions concentrating on the
payor-side of the healthcare market.
The aggregate consideration paid by the Company was approximately
$40,000,000, of which $20,000,000 was paid or payable in cash and approximately
$20,000,000 was paid through the issuance of 283,881 shares of common stock of
the Company. The fees and expenses related to the acquisition are estimated to
be approximately $245,000. Additional shares of the Company's common stock may
be issued to the sellers based on the market price of the Company's common stock
at certain measurement dates after closing. The acquisition was accounted for
under the purchase method of accounting and, accordingly, the assets,
liabilities and operating results of PaperFree have been included in the
accompanying consolidated financial statements from March 24, 2000.
An independent valuation of PaperFree's net assets will be performed to
assist in the allocation of the purchase price. Upon the finalization of the
purchase price allocation in the second quarter of 2000, we anticipate recording
a deferred tax liability and corresponding increase to goodwill as values
assigned to the software products and other intangibles are not amortizable for
tax purposes.
3. NET INCOME (LOSS) PER COMMON SHARE
Under Statement of Financial Accounting Standards No. 128 "Earnings Per
Share", basic loss per common share is determined by dividing net income from
continuing operations available to common shareholders by the weighted average
number of common shares outstanding during each period. Diluted earnings per
common share includes the effects of potentially issuable common stock, but only
if dilutive. The treasury stock method, using the average price of the Company's
common stock for the period, is applied to determine dilution from options and
warrants.
6
<PAGE> 7
4. ACCUMULATED OTHER COMPREHENSIVE LOSS
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 130 "Reporting Comprehensive Income"
("SFAS 130"). The purpose of SFAS 130 is to report a measure of all changes in
equity that result from recognized transactions and other economic events of the
period other than transactions with owners in their capacity as owners. The only
items of other comprehensive income reported by the Company are the cumulative
translation adjustment and unrealized loss on marketable securities available
for sale. The Company's comprehensive income for the three months ended March
31, 2000 and 1999 was as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
----------------------------
2000 1999
----------- -----------
<S> <C> <C>
Net income (loss) for the period .................. $(5,907,867) $ 2,582,106
Change in cumulative translation adjustment ....... 312,698 (238,168)
Unrealized loss on marketable securities .......... (1,134,172) --
----------- -----------
Accumulated other comprehensive income (loss) ..... $(6,729,341) $ 2,343,938
=========== ===========
</TABLE>
5. NOTE RECEIVABLE--RELATED PARTY
Since the second quarter of 1999, the Company funded approximately
$25,300,000 toward a short-term construction loan to Greenwood Plaza Partners,
LLP ("GPP") for construction of two buildings and a parking structure
("Structure") in Englewood, Colorado. GPP is principally owned by the Company's
Chief Executive Officer and Chairman of the Board. The Company has leased the
Structure from GPP for use as its principal corporate headquarters and intends
to sublease any unused excess capacity.
The short-term construction loan, which matured in April 2000 and
subsequently extended to May 2000, accrued interest at a floating interest rate
of 90-day LIBOR plus 2.05%. In May 2000, GPP obtained interim financing from a
third-party lender and used a portion of the loan proceeds to repay the amount
it owed the Company. Terms of the interim financing require the Company to
maintain up to $8.3 million of cash or investments with the lender. Such balance
represents one source of collateral to the lender in recognition that the
Company has a long term Master Lease on the entire Structure.
6. STOCKHOLDERS' EQUITY
On June 15, 1999, the Company's stockholders approved an amendment to
the Company's Certificate of Incorporation to increase the authorized shares of
common stock from 45,000,000 to 200,000,000. The Certificate of Amendment was
filed with the State of Delaware on August 11, 1999. In August 1999, the NEON
Board of Directors authorized the repurchase of up to 10% of NEON's outstanding
shares of common stock over a 12-month period. During the third quarter of 1999
and the second quarter of 2000, the Company repurchased 20,000 shares at an
average cost of $17.37 per share and 30,000 shares at an average cost of $30.48
per share, respectively.
7. RESTRUCTURING CHARGES
In July 1999, the Company's management and board of directors approved
restructuring plans, which included initiatives to integrate the operations of
the recently acquired companies, consolidate duplicative facilities, and reduce
overhead. Total accrued restructuring costs of $7,445,000 were recorded in the
third quarter related to these initiatives. With the exception of one facility
relocation, all restructuring efforts were finalized by March 2000. Management
expects the remaining restructuring efforts to be completed by September 2000.
Accrued restructuring charges included $3,301,000 representing the cost
of involuntary employee separation benefits related to approximately 150
employees worldwide. Employee separation benefits include severance, medical and
other benefits. Employee separations affected the majority of business
functions, job classes and geographies, with a majority of the reductions in
North America and Europe. The restructuring plans also included costs totaling
$4,149,000 associated with the closure and consolidation of office space,
principally in North America and Europe.
7
<PAGE> 8
The accrued restructuring costs and amounts charged against the
provision as of March 31, 2000 were as follows:
<TABLE>
<CAPTION>
TOTAL
ACCRUED REMAINING
AT CURRENT ACCRUAL AT
DECEMBER 31, QUARTER MARCH 31,
1999 SPENDING 2000
------------ ---------- -----------
<S> <C> <C> <C>
Employee separations ...................... $ 660,000 $ 257,000 $ 403,000
Facility closure costs .................... 2,628,000 1,030,000 1,598,000
---------- ---------- ----------
Total accrued restructuring costs ...... $3,288,000 $1,287,000 $2,001,000
========== ========== ==========
</TABLE>
8. SEGMENT INFORMATION
In the fourth quarter of 1998, the Company adopted Statement of Financial
Accounting Standards No. 131 "Disclosure about Segments of an Enterprise and
Related Information" ("SFAS 131"). SFAS 131 establishes standards for reporting
information about operating segments in annual financial statements and requires
selected information about operating segments in interim financial reports
issued to stockholders. It also establishes standards for related disclosures
about products and services and geographic areas. Operating segments are
components of an enterprise for which separate financial information is
available and is evaluated regularly by the chief operating decision maker, or
decision making group, in deciding how to allocate resources and assess
performance of the segments of an enterprise. The operating segments are managed
separately because each operating segment represents a strategic business unit
that offers products and services in different markets.
The Company classifies its business activities into three operating
segments: The Americas; Europe and Asia Pacific; and Corporate and Other.
Information regarding the Company's operations in these three operating
segments, which are managed separately, is set forth below. The accounting
policies of the operating segments are the same as those described in the
summary of significant accounting policies included in the Company's Annual
Report on Form 10-K for consolidated results. There are no significant
intersegment sales or transfers between the segments for the periods presented.
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 2000 THREE MONTHS ENDED MARCH 31, 1999
--------------------------------------------- --------------------------------------------
EUROPE EUROPE
THE AND ASIA CORPORATE THE AND ASIA CORPORATE
AMERICAS PACIFIC AND OTHER TOTAL AMERICAS PACIFIC AND OTHER TOTAL
-------- -------- --------- -------- -------- -------- --------- --------
(AMOUNTS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total revenues ............... $ 20,551 $ 9,456 $ 12,085 $ 42,092 $ 17,375 $ 8,206 $ 4,030 $ 29,611
Total cost of revenues ....... 4,224 2,816 3,584 10,624 3,663 1,536 1,145 6,344
-------- -------- -------- -------- -------- -------- -------- --------
Gross profit ................. 16,327 6,640 8,501 31,468 13,712 6,670 2,885 23,267
Selling and marketing ........ 8,075 4,746 4,656 17,477 5,768 2,464 1,593 9,825
Research and development ..... -- -- 9,367 9,367 -- -- 6,888 6,888
General and administrative ... -- -- 3,971 3,971 -- -- 3,066 3,066
-------- -------- -------- -------- -------- -------- -------- --------
Operating profit (loss) before
acquisition-related charges
and stock-based compensation
and related payroll taxes .. 8,252 1,894 (9,493) 653 7,944 4,206 (8,662) 3,488
Amortization of intangibles .. -- -- 7,440 7,440 -- -- 1,700 1,700
Stock-based compensation and
related taxes .............. -- -- 561 561 -- -- -- --
-------- -------- -------- -------- -------- -------- -------- --------
Operating profit (loss) ...... 8,252 1,894 (17,494) (7,348) 7,944 4,206 (10,362) 1,788
Other income, net ............ -- -- 1,640 1,640 -- -- 2,184 2,184
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) before tax.. 8,252 1,894 (15,854) (5,708) 7,944 4,206 (8,178) 3,972
Tax provision................. -- -- 201 201 -- -- 1,390 1,390
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) after tax .. $ 8,252 $ 1,894 $(16,055) $ (5,909) $ 7,944 $ 4,206 $ (9,568) $ 2,582
======== ======== ======== ======== ======== ======== ======== ========
</TABLE>
9. LITIGATION
The Company and certain of its executive officers are defendants in a
consolidated class action lawsuit alleging violation of the federal securities
laws. This action was filed in federal court in Colorado in July 1999. The
complaint asserts claims on behalf of purchasers of the Company's securities
from April 21, 1999 through July 6, 1999. The complaint alleges that the Company
and the other defendants made material misrepresentations and omissions
regarding the Company's business and prospects, causing harm to purchasers of
the Company's securities. The complaint does not specify the amount of damages
sought. This action is in the early stages and the Company has not yet formally
responded to the complaint. The Company believes this class action lawsuit is
without merit. The Company intends to deny all material allegations and to
defend itself vigorously. An adverse judgment or settlement in this lawsuit
could have a material adverse effect on the Company's financial condition or
results of operations. The ultimate outcome of this action cannot be presently
determined. Accordingly, no provision for any liability or loss that may result
from adjudication or settlement thereof has been made in the accompanying
consolidated financial statements.
8
<PAGE> 9
In January 2000, the Company and VIE Systems, Inc. were named as
defendants in a lawsuit filed by New Paradigm Software Corp. ("New Paradigm") in
U.S. District Court for the Southern District of New York. The complaint alleges
breach of contract, interference with contract and unjust enrichment, and seeks
compensatory and punitive damages as well as rescission. The Company has filed a
motion to dismiss various claims, including the claim for punitive damages. The
Company believes the lawsuit is without merit. The Company intends to deny all
material allegations and to defend itself vigorously. An adverse judgment or
settlement in the lawsuit could have a material adverse effect on the Company's
financial condition or results of operations. The ultimate outcome of the action
cannot be presently determined. Accordingly, no provision for any liability or
loss that may result from adjudication or settlement thereof has been made in
the accompanying consolidated financial statements.
10. SUBSEQUENT EVENT
In April 2000, the Company acquired all of the outstanding capital
stock of Secco GmbH ("Secco"). The aggregate purchase price of Secco was $15
million, of which $12 million was paid in cash and $3 million was paid through
the issuance of 86,925 shares of the Company's common stock. Additional shares
of the Company's common stock may be issued based on the market price of the
Company's common stock at certain measurement dates after closing. The
acquisition will be accounted for under the purchase method of accounting.
9
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The discussion in this Report on Form 10-Q contains certain trend
analysis and other forward-looking statements. Words such as "anticipate,"
"believe," "plan," "estimate," "expect," "seek," and "intend," and words of
similar import are intended to identify such forward-looking statements. These
statements are not guarantees of future performance and are subject to business
and economic risks and uncertainties which are difficult to predict. Therefore,
our actual results of operations may differ materially from those expressed or
forecasted in the forward-looking statements as a result of a number of factors,
including, but not limited to, those set forth in this discussion under "Factors
That May Affect Future Results" and other risks detailed from time to time in
reports filed with the SEC. In addition, the discussion of our results of
operations should be read in conjunction with matters described in detail in our
1999 Form 10-K Report.
OVERVIEW
We began operations in January 1994 to develop, market and support
enterprise software for application integration. In 1994 and 1995, our company
was in the development stage and was principally focused on product development
and assembling its management team and infrastructure. Software license revenues
were not significant until the commercial release of our NEONet software in
January 1996. Since such time, a substantial portion of our revenues has been
attributable to licenses of NEONet and follow-on products such as MQIntegrator
and e-Biz Integrator and related services. In December 1997, we entered into a
license agreement with IBM for the joint development of a product designed to
integrate IBM's MQSeries product with certain of our products. Under the terms
of the agreement, both NEON and IBM began selling the resulting MQIntegrator or
MQSeries Integrator products.
In June 1997, we completed our initial public offering and issued
6,348,000 shares of common stock, and received net proceeds of approximately
$34.3 million. In May and December 1998, we completed follow-on offerings and
issued 4,757,000 and 4,780,000 shares of our common stock, respectively, and
received net proceeds of approximately $50.6 million and $153.7 million,
respectively.
RECENT ACQUISITIONS
In March 2000, we acquired all of the outstanding capital stock of
PaperFree Systems, Inc. ("PaperFree"). PaperFree is a leading provider of
integration solutions concentrating on the payor-side of the healthcare market.
The aggregate purchase price of PaperFree was $40 million, of which
approximately $20 million was paid in cash and $20 million was paid through the
issuance of 283,881 shares of common stock. Additional shares of our common
stock may be issued based on the market price of our common stock at certain
measurement dates after closing. The acquisition was accounted for under the
purchase method of accounting.
In April 2000, we acquired all of the outstanding capital stock of
Secco GmbH ("Secco"). The aggregate purchase price of Secco was $15 million, of
which $12 million was paid in cash and $3 million was paid through the issuance
of 86,925 shares of our common stock. Additional shares of our common stock may
be issued based on the market price of our stock at certain measurement dates
after closing. The acquisition will be accounted for under the purchase method
of accounting.
10
<PAGE> 11
RESULTS OF OPERATIONS FOR THREE MONTHS ENDED MARCH 31, 2000 AND 1999
The following table sets forth the percentages that selected items in the
Consolidated Statements of Operations bear to total revenues:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
MARCH 31,
---------------
2000 1999
---- ----
<S> <C> <C>
Revenues:
Software licenses ....................................... 57% 59%
Software maintenance .................................... 13 10
Professional services ................................... 30 31
---- ----
Total revenues .................................. 100 100
Cost of revenues:
Cost of software licenses(1) ............................ 2 1
Cost of software maintenance and professional
services(2) .......................................... 56 51
---- ----
Total cost of revenues .......................... 25 21
---- ----
Gross profit .............................................. 75 79
Operating expenses:
Sales and marketing ..................................... 42 33
Research and development ................................ 22 23
General and administrative .............................. 9 10
Stock-based compensation and related payroll taxes ...... 1 --
Amortization of intangibles.............................. 18 6
---- ----
Total operating expenses ........................ 92 72
---- ----
Income (loss) from operations ............................. (17) 6
Other income, net ......................................... 4 7
---- ----
Income (loss) before income taxes ......................... (13) 13
Provision for income taxes ................................ -- 5
---- ----
Net income (loss) ............................... (13)% 9%
==== ====
Net income excluding stock-based compensation
and amortization of intangibles, net of tax
effect if taxed at a 35% rate ................. 4% 12%
==== ====
- ----------
(1) As a percentage of software licenses revenue.
(2) As a percentage of software maintenance and professional services revenue.
</TABLE>
REVENUES
Our revenues grew by 42% to $42.1 million for the quarter ended March
31, 2000 from $29.6 million for the quarter ended March 31, 1999. Software
license revenues and professional services revenues grew 39% and software
maintenance revenues grew 70%. The revenue increase resulted from the growth of
our direct sales force and professional services organizations, contribution
from indirect channel partners, and from acquisitions.
Software license revenue grew from $17.4 million in the three months
ended March 31, 1999 to $24.1 million, or 57% of total revenues, in the three
months ended March 31, 2000. The increase in software license revenue reflected
growth in our revenues from indirect channels including IBM royalty income. A
new arrangement with IBM, which provides for a fixed minimum royalty, is payable
in each quarter of 2000 and followed by a variable royalty which is payable on a
one quarter lag basis. In the second quarter of 1999, we began selling the
MQSeries Integrator product through an IBM reseller arrangement known as
Passport Advantage. Based on our interpretation of Staff Accounting Bulletin No.
101, we record only the net reseller margin we realize as license revenue. The
growth in license revenue is also due to sales of new products such as e-Biz
Integrator and e-Biz 2000 sold by our direct sales force. We expect that future
software license revenue will reflect continued strength in the indirect
channels, as well as include an increasing amount of software license revenue
from the sale of the NEON e-Biz platforms and applications.
Software maintenance revenue grew from $3.1 million or 10% of total
revenues in the three months ended March 31, 1999, to $5.3 million or 13% of
total revenues in the three months ended March 31, 2000. The increase in
maintenance revenue is due primarily to maintenance sales to new customers and
maintenance renewals on license contracts historically sold by companies
acquired by NEON during 1997 through 1999, most notably Century Analysis, Inc.
("CAI"), which was acquired in September 1998. Professional services revenue
grew from $9.1 million or 31% of total revenues in the three months ended March
31, 1999, to $12.8 million or 30% of total revenues in the three months ended
March 31, 2000. The growth from 1999 to 2000 was due primarily to the
acquisition of professional service organization SLI International AG in April
2000.
11
<PAGE> 12
For the three months ended March 31, 1999 and 2000, excluding royalties from
IBM, our largest customer accounted for 10% and 7% of total revenues,
respectively. To date, a significant portion of our revenues has been derived
from sales to large banks and financial institutions. For the three months ended
March 31, 1999 and 2000, sales to banks and financial institutions accounted for
40% and 27% of total revenues, respectively.
COST OF REVENUES
Cost of revenues consists of costs of software licenses and costs of
services and maintenance. As a percentage of total revenues, total cost of
revenues increased from 21% in the three months ended March 31, 1999, to 25% in
the three months ended March 31, 2000.
Cost of software licenses consists primarily of royalty payments and
costs of producing CD's and packaging. With the release of the jointly-developed
MQIntegrator and MQSeries Integrator products, we became obligated to pay
royalties to IBM for sales of these products made by our direct sales force.
During both the three months ended March 31, 1999 and 2000, this royalty
obligation was not material as most sales of MQSeries Integrator and
MQIntegrator had been made by IBM or an IBM distributor.
Cost of services and maintenance consists primarily of personnel,
facility, and systems costs incurred in providing professional services
consulting, training, and customer support services. As a percent of services
and maintenance revenues, cost of services and maintenance was 51% and 56% in
the three months ended March 31, 1999 and 2000, respectively. The higher
percentage cost in 2000 resulted from a change in the type and geographic mix of
consulting engagements.
OPERATING EXPENSES
Sales and Marketing
Sales and marketing expenses consist of salaries for sales and
marketing personnel, commissions, travel and entertainment, and promotional
expenses. Sales and marketing expenses were $9.8 million and $17.5 million,
representing 33% and 42% of total revenues, respectively, in the three months
ended March 31, 1999 and 2000. These increases were due primarily to our
expansion of overall sales and marketing resources and advertising and
promotional expenses. Our commissioned sales force grew from 64 at March 31,
1999 to 87 at March 31, 2000. In addition, we continued to expand the sales team
responsible for supporting indirect channel sales. We expect to continue to
expand the direct sales force and professional marketing staff, further increase
our international presence, and continue to develop our indirect sales channels
and increase promotional activity. Accordingly, we expect sales and marketing
expense to continue to grow in absolute dollars.
Research and Development
Research and development expenses include costs associated with the
development of new products, enhancements of existing products and quality
assurance activities. These costs consist primarily of employee salaries,
consultant costs and benefits. We have not capitalized software development
costs and have expensed all of these costs as incurred in accordance with
Statement of Financial Accounting Standards No. 86. Research and development
expenses were $6.9 million and $9.4 million, representing 23% and 22% of total
revenues in the three months ended March 31, 1999 and 2000, respectively. The
increase in research and development expenses is primarily attributable to
hiring additional technical personnel engaged in software development
activities. Our research and development staff grew from 249 at March 31, 1999
to 280 at March 31, 2000. We currently anticipate that research and development
expenses may continue to increase in absolute dollars as we continue to commit
substantial resources to new product development.
General and Administrative
General and administrative expenses consist primarily of salaries and
related costs, outside professional fees, and software and equipment costs
associated with the finance, legal, human resources, and administrative
functions. General and administrative expenses were $3.1 million and $4.0
million, representing 10% and 9% of total revenues, respectively, in the three
months ended March 31, 1999 and 2000, respectively. General and administrative
expenses grew in absolute dollars as we added personnel to all administrative
areas. We expect general and administrative expenses to continue to grow in
absolute dollars from expected increases in personnel, implementation of
additional management information systems associated with our business growth,
and continuation of our international expansion.
12
<PAGE> 13
OTHER INCOME, NET
Other income, net includes interest income earned on cash, cash
equivalents, short-term and long-term marketable securities, notes
receivable--related party, interest expense, foreign currency gains and losses,
and other nonoperating income and expenses. We recorded net other income of $2.1
million and $1.6 million in the three months ended March 31, 1999 and 2000,
respectively. The decrease in net other income from 1999 to 2000 resulted
primarily from a decrease in invested cash balances due to cash paid for
acquisitions. During the second quarter of 1999, we began funding a short-term
construction loan to Greenwood Plaza Partners, LLP. In the three months ended
March 31, 2000, we recorded approximately $435,000 of interest income earned on
this note. The short-term construction loan was fully paid with interest in May
2000 and is no longer outstanding. We anticipate interest income will decline in
future periods as cash balances may be used to fund potential future
acquisitions and our ongoing operations.
PROVISION FOR INCOME TAX
The provision for income taxes for the three months ended March 31, 2000
consists of state and foreign taxes projected to be payable with respect to
income for the period attributable to those jurisdictions. We presently expect
to pay no federal income taxes for year 2000 based on projected taxable income,
including deductions related to stock options exercised during the first quarter
of 2000. We estimate our effective tax rate for the year, exclusive of state and
foreign taxes currently payable, will be zero. We currently expect to increase
the valuation allowance during 2000 to offset any projected increases in our net
deferred tax assets that exceed the current tax provision computed on income
exclusive of deductions from the exercise of stock options. The tax benefit of
such deduction is recorded as an increase to shareholder equity.
The valuation allowance against our deferred tax assets increased to
approximately $11.9 million at December 31, 1999. A portion of the valuation
allowance, $2.7 million, relates to tax loss carryforwards of purchased
businesses. If these deferred tax assets are realized, the benefit will reduce
goodwill arising from prior acquisitions. An additional portion of the
allowance, $9.2 million, relates to stock option compensation deductions
included in our net operating loss carryforwards. If and when we determine to
reverse that portion of the valuation allowance, the benefit will be added to
paid-in capital, rather than being shown as a reduction of future income tax
expense. The same treatment will apply to any portion of our net operating loss
attributable to our stock option deductions generated during the year 2000.
NET INCOME (LOSS)
We reported a net loss of $5.9 million, or $0.17 per share, for the three months
ended March 31, 2000. The loss includes acquisition-related charges and
stock-based compensation and related payroll taxes of approximately $8.0
million. Excluding these charges and assuming a 35% tax rate, we generated a net
income of approximately $1.5 million, or $0.04 per diluted share. We reported
net income for the three months ended March 31, 1999 of approximately $2.6
million or $0.08 per diluted share. Excluding acquisition-related amortization
and assuming a 35% tax rate, we generated net income for the three months ended
March 31, 1999 of $3.7 million or $0.11 per diluted share.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2000, our principal sources of liquidity consisted of
$74.0 million of cash, cash equivalents, short-term and long-term investments in
marketable securities compared with $94.8 million at December 31, 1999. No
amounts were outstanding under the line of credit during the three-month periods
ended March 31, 2000 or 1999. The Company had working capital of $76.7 million
at March 31, 2000. Included in determining such amounts are short-term deferred
revenue and customer deposits of $17.3 million. The majority of short-term
deferred revenue represents annual support payments billed to customers, which
is recognized ratably as revenue over the support service period. Without the
short-term deferred revenue and customer deposits, working capital would have
been $94.0 million.
We used $3.2 million in cash for operating activities during the
three-month period ended March 31, 2000 compared to $1.0 million in cash during
the three-month period ended March 31, 1999. The decrease in operating cash flow
was due to the use of cash to pay for restructuring charges accrued in the third
quarter of 1999. Our accounts receivable, net increased to $43.7 million at
March 31, 2000 compared to $38.8 million at December 31, 1999. Of the $4.9
million increase in accounts receivable, net, $3.0 million of the increase was
due to acquisitions which occurred in the first quarter of 2000. As required by
purchase accounting, our accounts receivable balance includes the acquired
entity's accounts receivable balance while sales are included only from the
effective date of the acquisition.
We used $17.5 million in cash for investing activities for the
three-month period ended March 31, 2000 compared to $14.2 million for the
three-month period ended March 31, 1999. In the three months ended March 31,
2000, we continued to invest cash in business combinations. The most significant
cash outlays for acquisitions resulted from the PaperFree acquisition with net
cash investments of approximately $20.0 million. During the first three months
of both years, we purchased furniture, fixtures and equipment necessary to
support our expanding operations. During the first quarter of 2000, we funded
approximately $4.2 million toward a short-term construction loan to Greenwood
Plaza Partners, LLP ("GPP") for construction of two buildings and a parking
structure. GPP is principally owned by the Company's Chief Executive Officer and
Chairman of the Board. We replaced an existing lender for the first phase of
construction and have funded $23.9 million for one year at a floating interest
rate of 90-day LIBOR plus 2.05%. The Company has leased the buildings from GPP
for use as its principal corporate headquarters. In May 2000, GPP obtained
interim financing from a third-party lender and repaid the related party note
receivable. Terms of the new financing require the Company to maintain a
restricted cash balance of up to $8.3 million with the lender as one source of
collateral for the loan, as the Company has leased the entire structure.
Financing activities provided $7.9 million in cash during the first
three months of 2000 compared to $2.3 million for the same period last year. For
both periods, this cash was primarily from exercises of common stock options and
the Employee Stock Purchase Plan.
We believe that our existing balances of cash, cash equivalents and
long-term investments in marketable securities will be sufficient to meet our
anticipated working capital and capital expenditure needs at least for the next
12 months. Thereafter, we may require additional sources of funds to continue to
support our business. There can be no assurance that such capital, if needed,
will be available or will be available on terms acceptable to us.
13
<PAGE> 14
IN-PROCESS RESEARCH AND DEVELOPMENT
During fiscal year 1998, we acquired Century Analysis, Inc. (CAI), and MSB
Consultants (MSB). In-process research and development (IPR&D) projects acquired
from MSB were completed during fiscal year 1999. Complete information regarding
the completion of the MSB IPR&D projects is included in the 10-K for the year
ended 1999. We continued to incur research and development expenses in Q1 2000
on the IPR&D projects acquired from CAI. Detailed descriptions of these projects
were included in our 10-K for the year ended 1998; specific activities for Q1
2000 follows.
As of the date of the CAI acquisition, CAI had invested $4.9 million in the
IPR&D identified in our 10-K. We estimated an additional $4.2 million would be
required over the next 12 to 18 months following the acquisition to develop the
products to commercial viability.
We have continued to invest additional R&D dollars in the acquired IPR&D
projects. In Q1 2000, we expended approximately sixty-three man months on the
acquired CAI projects in total. We are contemplating various strategies with
respect to the continued development of the IPR&D projects. Significant
achievements have been accomplished as of the valuation date on the IPR&D
projects such as the development of frameworks for design and coding, and
construction of the various codes and surrounding architectures. We continue to
make progress in these areas, among others.
On December 31, 1998, we projected the remaining costs required to complete
the next generation Impact/TDM project would be approximately $1.7 million
should this project be completed as anticipated on the acquisition date. In Q1
2000 we spent roughly $320,000 towards the further development of Impact/TDM.
The next generation Impact/TDM project has been incorporated into our NEON
Common Service Architecture, and the continued development and remaining costs
for completion are being incorporated into this global architecture strategy. We
estimate the total costs for the Impact/TDM project within our global
architecture to be approximately the same as initially projected.
CAI had expended a total of approximately $3.1 million on Component-related
projects prior to the closing of the acquisition. For these projects to reach
technological feasibility, additional efforts were projected to cost
approximately $850,000. In Q1 2000 NEON spent roughly $190,000 towards these
Component-related projects. Portions of CAI's Component-related technology have
been incorporated into NEON's products. Additional components will be further
rolled into NEON product releases in the year 2000.
CAI had expended approximately $1.1 million on Other Enterprise Technology
Solutions as of September 1998. For these projects to reach technological
feasibility, we projected additional efforts would need to be accomplished in a
timely manner and would cost approximately $1.6 million. We continue to spend on
these projects and at this time significant additional achievements have been
made. Specifically, we spent roughly $100,000 towards the development of XML and
CORBA technology in Q1 2000. XML Technology was released in the third quarter of
1999 and further enhancements will be made into the first part of 2000. CORBA
technology was being developed into a stand alone adapter product. However, due
to changes in NEON's corporate technology strategy CORBA technology is now being
incorporated into future product releases. The CORBA product was scheduled to be
released in Q2 2000. It will now be incorporated into product releases scheduled
for the second half of 2000.
We do not break down revenues attributable specifically to CAI-products. As
products are offered both as a suite and as individual applications, NEON
license fees are not necessarily application specific. However, we believe
overall revenues generated to date concur with the assumptions used in the
valuation analysis. We believe the total forecast for CAI projects remains
substantially the same as in the valuation study over the remaining life of the
products.
We currently believe expenses associated with completing the purchased
in-process research and development are consistent with the estimates used in
the valuation. In addition, completion dates for the development projects
discussed above remain consistent with projections used at the time of the
acquisition as well as are consistent with the numbers presented in this
analysis. Research and development spending with respect to these offerings is
expected to continue at a rate that is consistent with our overall research and
development spending. We do not believe the acquisition resulted in any material
changes in our profit margins or in selling, general and administrative
expenses. We do not believe we achieved any material expense reductions or
synergies as a result of the acquisition.
The rates utilized to discount the net cash flows to their present value
were consistent with the nature of the forecast and the risks associated with
the projected growth, profitability and developmental projects. Discount rates
of 35% and 35% for CAI were deemed appropriate for the business enterprises and
for the acquired completed in-process research and development, respectively.
These discount rates were consistent with the acquired company's various stages
of development; the uncertainties in the economic estimates described above; the
inherent uncertainty at the time of the acquisition surrounding the successful
development of the purchased in-process technology; the useful life of such
technology; the profitability levels of such technology; and the inherent
uncertainties of the technological advances that were indeterminable at the time
of the acquisition.
FOREIGN CURRENCY RISK
We operate wholly owned subsidiaries located in England, France,
Switzerland, Germany, Australia, Japan, Malaysia, Hong Kong and Singapore. Sales
and expenses from these operations are typically denominated in local currency,
thereby creating exposure to changes in exchange rates. The changes in foreign
exchange rates may positively or negatively affect our sales, gross margins and
retained earnings. We do not believe that reasonably possible near-term changes
in exchange rates will result in a material effect on our future earnings, fair
values or cash flows and, therefore, have chosen not to enter into foreign
currency hedging instruments. There can be no assurance that this approach will
be successful, especially in the event of a significant and sudden decline in
the value of foreign exchange rates relative to the United States dollar. See
Item 3, "Quantitative and Qualitative Disclosures about Market Risk."
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENT
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivatives and Hedging Activities" ("SFAS 133"). SFAS 133 was
to be effective for all fiscal quarters of fiscal years beginning after June 15,
1999. SFAS 133 establishes accounting and reporting standards of derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. In July 1999, SFAS No. 137 "Accounting
for Derivative Instruments and Hedging Activities--Deferral of the Effective
Data of FASB Statement No. 133" ("SFAS 137") was issued. SFAS 137 deferred the
effective date until fiscal years beginning after June 15, 2000. We have not
engaged in hedging activities or invested in derivative instruments.
YEAR 2000 READINESS
Many currently installed computer systems and software products were coded
to accept only two digit entries in the date code field. Beginning in the year
2000, these code fields needed to accept four digit entries to distinguish 21st
century dates from 20th century dates, and the failure to do so could result in
the loss of revenues.
All of our hardware and software systems successfully transitioned to the
year 2000. We have not experienced any significant problems as a result of Year
2000 Problems with our own systems or those of our vendors. However, the
potential still exists for a noncompliant system, either within NEON or at a
vendor, to malfunction due to the Year 2000 issue and cause a disruption to our
business. Due to the uncertain nature of this issue, we can not determine at
this time whether the consequences of Year 2000 failures will have a material
impact on our results of operations and financial condition. We believe that,
with the successful transition to the year 2000, the possibility of significant
interruptions of normal operations should be minimal.
FACTORS THAT MAY AFFECT FUTURE RESULTS
As described by the following factors, past financial performance
should not be considered a reliable indicator of future performance and
investors should not use historical trends to anticipate results or trends in
future periods.
Our operating results fluctuate significantly and we may not be able to
maintain our historical growth rates.
Although we have had significant revenue growth in recent quarters,
such growth rates may not be sustainable, and you should not use these past
results to predict future operating margins and results. Our quarterly operating
results have fluctuated significantly in the past and may vary significantly in
the future. Our future operating results will depend on many factors, including
the following.
o the continued growth of the e-Business Integration and Enterprise
Application Integration ("EAI") software markets;
o the size of the orders for our products, and the timing of such
orders;
o potential delays in our implementations at customer sites;
o continued development of indirect distribution channels;
o increased demand for our products;
o the timing of our product releases;
o competition;
o the effects of global economic uncertainty on capital expenditures for
software.
Quarterly revenues and operating results depend upon the volume and
timing of customer contracts received during a given quarter, and the percentage
of each contract which we are able to recognize as revenue during each quarter,
each of which is difficult to forecast. In addition, as is common in the
software industry, a substantial portion of our revenues in a given quarter
historically have been recorded in the third month of that quarter, with a
concentration of such revenues in the last two weeks of the third month. If this
trend continues, any failure or delay in the closing of orders during the last
part of a quarter will have a material adverse effect on our business.
As a result of these and other factors, we believe that
period-to-period comparisons of our historical results of operations are not a
good predictor of our future performance. If our future operating results are
below the expectations of stock market analysts, our stock price may decline.
Software license revenue growth is dependent on our relationship with IBM and
other partners.
Our revenue growth in 1999 and in the first quarter of 2000 reflected
strong sales of MQIntegrator and MQSeries Integrator through IBM's distribution
and reseller channel. Revenue from indirect channel partners, including IBM,
accounted for approximately 40% of software license revenues in the first
quarter of 1999 and in the first quarter of 2000. We expect that IBM and our
other partners will account for a material percentage of our software license
revenue for the remainder of 2000. Any delay or shortfall in such revenues from
our partners could have a material adverse effect on our business and operating
results.
If our sales cycle is longer than we anticipate, our operating results may
suffer.
Although our sales cycles have shortened in the e-Business marketplace,
historically our customers typically have taken a long time to evaluate our
products. Therefore the timing of license revenue is difficult to predict. A
sale of our products to a customer typically involves a significant technical
evaluation and a commitment of capital and other resources by the customer. This
evaluation process frequently results in a sales cycle that lasts several
months. Additional delays are caused by customers' internal procedures to
approve large capital expenditures and to test, implement and accept new
technologies that affect key operations within their organization. Our operating
expense levels are relatively fixed in the short-term and are based in part on
expectations of future revenues. Consequently, any delay in the recognition of
revenue due to a longer sales cycle caused by these factors could result in
operating losses.
14
<PAGE> 15
We have a short operating history and a history of operating losses.
An investor in our common stock must evaluate the risks, uncertainties,
expenses and difficulties frequently encountered by early stage companies in
rapidly evolving markets. We have had only a limited operating history upon
which an evaluation of our Company and its prospects can be based. Prior to
1996, we recorded only nominal product revenue and, including
acquisition-related charges, we have not been profitable on an annual basis. At
March 31, 2000, our Company had an accumulated deficit of approximately $77.2
million (which includes acquisition-related charges and stock-based compensation
and related taxes). To address these risks and uncertainties, we must do the
following:
o successfully implement our sales and marketing strategy;
o expand our direct sales channels;
o further develop our indirect distribution channels;
o respond to competition;
o continue to attract and retain qualified personnel;
o continue to develop and upgrade our products and technology more
rapidly than competitors;
o commercialize our products and services with future technologies.
We may not successfully implement any of our strategies or successfully
address these risks and uncertainties. Even if we accomplish these objectives we
may not be profitable in the future.
Inability to integrate acquired companies may increase the costs of recent
acquisitions.
We may from time to time acquire companies with complementary products
and services in the application integration or other related software markets.
Between September 1997 and May 2000, we acquired ten companies. These
acquisitions will expose us to increased risks and costs, including the
following:
o assimilating new operations, systems, technology and personnel;
o diverting financial and management resources from existing operations.
We may not be able to generate sufficient revenues from any of these
acquisitions to offset the associated acquisition costs. We will also be
required to maintain uniform standards of quality and service, controls,
procedures and policies. Our failure to achieve any of these standards may hurt
relationships with customers, employees, and new management personnel. In
addition, our future acquisitions may result in additional stock issuances which
could be dilutive to our stockholders.
We may also evaluate joint venture relationships with complementary
businesses. Any joint venture we enter into would involve many of the same risks
posed by acquisitions, particularly those risks associated with the diversion of
resources, the inability to generate sufficient revenues, the management of
relationships with third parties, and potential additional expenses, any of
which could have a harmful effect on our business, financial condition and
results of operations.
Our failure to manage growth of operations may adversely affect us.
We must plan and manage effectively in order to successfully offer
products and services and implement our business plan in a rapidly evolving
market. We continue to increase the scope of our operations domestically and
internationally and have grown our headcount substantially. For example, at
January 1, 1996, we had a total of 35 employees and at March 31, 2000 we had a
total of 1,023 employees. We may further expand domestically or internationally
through internal growth or through acquisitions of related companies and
technologies. This growth will continue to place a significant strain on our
management systems and resources.
15
<PAGE> 16
For us to effectively manage our growth, we must continue to enact the
following measures:
o improve our operational, financial and management controls;
o improve our reporting systems and procedures;
o install new management and information control systems;
o expand, train and motivate our workforce.
In particular, we are currently migrating our existing accounting
software to a packaged application that will allow greater flexibility in
reporting and tracking results. If we fail to install this accounting and
forecasting software in an efficient and timely manner or if the new systems
fail to adequately support our levels of operations, then we could incur
substantial additional expenses to remedy such failure.
Our operating results are substantially dependent on our suite of e-Business
and EAI products.
A substantial majority of our revenues come from the NEON e-Business and EAI
suite of products and related services, and we expect this pattern to continue.
Accordingly, our future operating results will depend on the demand for our
suite of e-Business and EAI products and related services by future customers,
including new and enhanced releases that are subsequently introduced. There can
be no assurance that the market will continue to demand our current products or
that we will be successful in marketing any new or enhanced products. If our
competitors release new products that are superior to our products in
performance or price, demand for our products may decline. A decline in demand
for NEON as a result of competition, technological change or other factors would
have a harmful effect on our business, financial condition and results of
operations.
Failure to add customers or expand into new markets may be harmful to our
business.
A significant portion of our revenue has come from a small number of large
purchasers. In the three months ended March 31, 1999 and 2000, excluding
royalties from IBM, our top ten customers accounted for 49% and 30% of total
revenues, respectively. In the three months ended March 31, 1999 and 2000, our
largest customer, excluding royalties from IBM, accounted for approximately 10%
and 7% of our total revenues, respectively. Historically, our revenues have been
derived primarily from sales to large banks and financial institutions. Sales to
large banks and financial institutions accounted for 40% of total revenues in
the three months ended March 31, 1999 and approximately 27% of total revenues in
the three months ended March 31, 2000. These customers or other customers may
not continue to purchase our products. Our failure to add new customers that
make significant purchases of our products and services would have a harmful
effect on our business, financial condition and results of operations.
While we have developed experience marketing our products to financial
institutions, we have less experience with other vertical market segments. New
market segments that we are currently targeting are likely to have significantly
different characteristics than the financial institutions segment. As a result,
we may change our pricing structures, sales methods, sales personnel, consulting
services and customer support. We may not be successful in selling our products
and services to the additional segments targeted. Our inability to expand sales
of our products and services into these additional markets would have a harmful
effect on our business, financial condition and results of operations.
Our growth is dependent upon the successful development of our direct and
indirect sales channels.
We sell our products primarily through our direct sales force and we support
our customers with our internal technical and customer support staff. We will
continue to rely on our ability to recruit and train additional sales people and
qualified technical support personnel. Our ability to achieve significant
revenue growth in the future will greatly depend on our ability to recruit and
train sufficient technical, customer and direct sales personnel, particularly
additional sales personnel focusing on the new vertical market segments that we
target. We have in the past and may in the future experience difficulty in
recruiting qualified sales, technical and support personnel. Our inability to
rapidly and effectively expand our direct sales force and our technical and
support staff could harm our business, financial condition and results of
operations.
We believe that future growth also will depend on developing and maintaining
successful strategic relationships with distributors, resellers, and systems
integrators. Our strategy is to continue to increase the proportion of customers
served through these indirect channels. We are currently investing, and plan to
continue to invest, significant resources to develop these indirect channels.
This could harm our operating results if these efforts do not generate license
and service revenues necessary to offset such investment.
16
<PAGE> 17
Also, our inability to recruit and retain qualified distributors, resellers and
systems integrators could harm our results of operations. Another risk is that
because lower unit prices are typically charged on sales made through indirect
channels, increased indirect sales could harm our average selling prices and
result in lower gross margins.
There are many risks associated with international operations.
We continue to expand our international operations, and these efforts
require significant management attention and financial resources. Each version
of our product also has to be localized within each country. We have committed
resources to the opening and integration of additional international sales
offices and the expansion of international sales and support channels. Our
efforts to develop and expand international sales and support channels may not
be successful. International sales are subject to a number of risks, including
the following:
o longer payment cycles;
o unexpected changes in regulatory requirements;
o difficulties and expenses associated with complying with a variety of
foreign laws;
o import and export restrictions and tariffs;
o difficulties in staffing and managing foreign operations;
o difficulty in accounts receivable collection and potentially adverse
tax consequences;
o currency fluctuations;
o currency exchange or price controls;
o political and economic instability abroad.
Additionally, intellectual property may be more difficult to protect
outside of the United States. International sales can also be affected to a
greater extent by seasonal fluctuations resulting from the lower sales that
typically occur during the summer months in Europe and other parts of the world.
In addition, the market for our products is not as developed outside of North
America. We may not be able to successfully penetrate international markets or
if we do, there can be no assurance that we will grow these markets at the same
rate as in North America.
We must keep pace with technological change to remain competitive.
The market for our products is characterized by rapid technological
change, frequent new product introductions and enhancements, changes in customer
demands and evolving industry standards. Our existing products could be rendered
obsolete if we fail to keep up in any of these ways. We have also found that the
technological life cycles of our products are difficult to estimate, partially
because they may vary according to the particular application or vertical market
segment. We believe that our future success will depend upon our ability to
continue to enhance our current product line while we concurrently develop and
introduce new products that keep pace with competitive and technological
developments. These developments require us to continue to make substantial
product development investments.
Existing Products. We currently serve a customer base with a wide
variety of hardware, software, database, and networking platforms. To gain broad
market acceptance, we believe that we will have to support our products on a
variety of platforms. Our success will depend, among others, on the following
factors:
o our ability to integrate our products with multiple platforms,
especially relative to our competition;
o the portability of our products, particularly the number of hardware
platforms, operating systems and databases that our products can
source or target;
17
<PAGE> 18
o the integration of additional software modules under development with
existing products;
o our management of software development being performed by third-party
developers.
Future Products. There can be no assurance that we will be successful
in developing and marketing future product enhancements or new products that
respond to technological changes, shifting customer preferences, or evolving
industry standards. We may experience difficulties that could delay these
products. If we are unable to develop and introduce new products or enhancements
of existing products in a timely manner or if we experience delays in the
commencement of commercial shipments of new products and enhancements, then
customers may forego purchases of our products and purchase those of our
competitors.
Our failure to maintain close relationships with key software vendors will
adversely affect our product offering.
We believe that in order to provide competitive solutions for
heterogeneous, open computing environments, it is necessary to develop, maintain
and enhance close relationships with a wide range of vendors, including
database, enterprise resource planning, supply chain and electronic data
interchange software vendors, as well as hardware and operating system vendors.
There can be no assurance that we will be able to maintain our existing
relationships or develop additional relationships with such vendors. Our failure
to do so could adversely affect the portability of our products to existing and
new platforms and databases and the timing of the release of new and enhanced
products.
Our failure to adequately protect our proprietary rights may adversely affect
us.
Our success and ability to compete is dependent in part upon our
proprietary technology. We rely on a combination of copyright, trademark and
trade secret laws, as well as confidentiality agreements and licensing
arrangements, to establish and protect our proprietary rights. We presently have
three patents and one patent application pending. Despite our efforts to protect
our proprietary rights, existing copyright, trademark and trade secret laws
afford only limited protection. In addition, the laws of certain foreign
countries do not protect our rights to the same extent as do the laws of the
United States. Attempts may be made to copy or reverse engineer aspects of our
products or to obtain and use information that we regard as proprietary.
Accordingly, there can be no assurance that we will be able to protect our
proprietary rights against unauthorized third-party copying or use. Any
infringement of our proprietary rights could materially adversely affect our
future operating results. Furthermore, policing the unauthorized use of our
products is difficult and litigation may be necessary in the future to enforce
our intellectual property rights, to protect our trade secrets or to determine
the validity and scope of the proprietary rights of others. Such litigation
could result in substantial costs and diversion of resources and could have a
material adverse effect on our future operating results.
Our stock price has been highly volatile.
The trading price of our common stock has fluctuated significantly
since our initial public offering in June 1997. In addition, the trading price
of our common stock could be subject to wide fluctuations in response to
quarterly variations in operating results, announcements of technological
innovations or new products by us or our competitors, developments with respect
to patents or proprietary rights, changes in financial estimates by securities
analysts and other events or factors. In addition, the stock market has
experienced volatility that has particularly affected the market prices of
equity securities of many high technology companies and that often has been
unrelated or disproportionate to the operating performance of such companies.
These broad market fluctuations may adversely affect the market price of our
common stock.
Our inability to attract and retain personnel may adversely affect us.
Our success depends on the continued service of our key technical,
sales and senior management personnel. None of these persons are bound by an
employment agreement. The loss of any of our senior management or other key
research, development, sales and marketing personnel, particularly if lost to
competitors, could have a harmful effect on our future operating results. In
particular George F. (Rick) Adam, our Chief Executive Officer, would be
difficult to replace. Our future success will depend in large part upon our
ability to attract, retain and motivate highly skilled employees. We face
significant competition for individuals with the skills required to perform the
services we offer. We cannot assure that we will be able to retain sufficient
numbers of these highly skilled employees. Because of the complexity of the
e-Business and EAI software and Internet integration markets, we have in the
past experienced a significant time lag between the date on which technical and
sales personnel are hired and the time at which such persons become fully
productive, and we expect this pattern to continue.
18
<PAGE> 19
Intellectual property claims can be costly and result in the loss of
significant rights.
It is also possible that third parties will claim that we have infringed
their current or future products. We expect that e-Business and EAI software
developers will increasingly be subject to infringement claims as the number of
products in different industry segments overlap. Any claims, with or without
merit, could be time-consuming, result in costly litigation, cause product
shipment delays, or require us to enter into royalty or licensing agreements,
any of which could have a harmful effect upon our operating results. There can
also be no assurance that such royalty or licensing agreements, if required,
would be available on terms acceptable to us, if at all. There can be no
assurance that legal action claiming patent infringement will not be commenced
against us, or that we would prevail in such litigation given the complex
technical issues and inherent uncertainties in patent litigation. In the event a
patent claim against us was successful and we could not obtain a license on
acceptable terms or license a substitute technology or redesign to avoid
infringement, our business, financial condition and results of operations would
be harmed.
Global economic uncertainty may affect the capital expenditures of our
customers.
The e-Business and EAI software and Internet integration markets could
be negatively impacted by certain generic factors, including global economic
difficulties and uncertainty, reductions in capital expenditures by large
customers, and increasing competition. These factors could in turn give rise to
longer sales cycles, deferral or delay of customer purchasing decisions, and
increased price competition. The presence of such factors in the e-Business and
EAI software market could harm our operating results.
Adoption of the Euro presents uncertainties for our company.
In the first part of 1999, the new "Euro" currency was introduced in
certain European countries that are part of the European Monetary Union, or EMU.
By 2002, all EMU countries are expected to be operating with the Euro as their
single currency. A significant amount of uncertainty exists as to the effect the
Euro will have on the marketplace generally and, 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 currently assessing the
effect the introduction of the Euro will have on our internal accounting systems
and the sales of our products. We are not aware of any material operational
issues or costs associated with preparing our internal systems for the Euro.
However, we do utilize third party vendor equipment and software products that
may or may not be EMU compliant. Although we are currently taking steps to
address the impact, if any, of EMU compliance for such third party products, the
failure of any critical components to operate properly post-Euro could have a
harmful effect on the business, financial condition and results of operations of
our Company or require us to incur expenses to remedy such problems.
19
<PAGE> 20
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the ordinary course of operations, our financial position and cash
flows are subject to a variety of risks, which include market risks associated
with changes in foreign currency exchange rates and movements in interest rates.
We do not, in the normal course of business, use derivative financial
instruments for trading or speculative purposes. Uncertainties that are either
non-financial or non-quantifiable, such as political, economic, tax, other
regulatory or credit risks are not included in the following assessment of our
market risks.
FOREIGN CURRENCY EXCHANGE RATES
Operations outside of the U.S. expose us to foreign currency exchange
rate changes and could impact translations of foreign denominated assets and
liabilities into U.S. dollars and future earnings and cash flows from
transactions denominated in different currencies. During the first three months
of 2000, 24% of our total revenue was generated from our international
operations, and the net assets of our foreign subsidiaries totaled 10.5% of
consolidated net assets as of March 31, 2000. Our exposure to currency exchange
rate changes is diversified due to the number of different countries in which we
conduct business. We operate outside the U.S. primarily through wholly owned
subsidiaries in England, France, Switzerland, Australia, Germany, Japan,
Malaysia, Hong Kong and Singapore. These foreign subsidiaries use local
currencies as their functional currency, as sales are generated and expenses are
incurred in such currencies. Foreign currency gains and losses will continue to
result from fluctuations in the value of the currencies in which we conduct our
operations as compared to the U.S. dollar, and future operating results will be
affected to some extent by gains and losses from foreign currency exposure. We
do not believe that possible near-term changes in exchange rates will result in
a material effect on our future earnings or cash flows and, therefore, have
chosen not to enter into foreign currency hedging instruments. There can be no
assurance that such approach will be successful, especially in the event of a
sudden and significant decline in the value of the U.S. dollar relative to
foreign currencies.
INTEREST RATES
Our exposure to market risk associated with changes in interest rates
relates primarily to our investments in marketable securities and our
related-party note receivable. Our investments, including cash equivalents,
consist of U.S., state and municipal bonds, as well as domestic corporate bonds,
with maturities of greater than 12 months. All short-term investments are
classified as available-for-sale as defined in SFAS No. 115, "Accounting for
Certain Investments in Debt and Equity Securities," and accordingly are carried
at market value. Our short-term investment objectives are safety, liquidity and
yield. Changes in interest rates could impact our anticipated interest income or
could impact the fair market value of our investments. However, we believe these
changes in interest rates will not cause a material impact on our financial
position, results of operations or cash flows.
20
<PAGE> 21
PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In January 2000, the Company and VIE Systems, Inc. were named as
defendants in a lawsuit filed by New Paradigm Software Corp. ("New Paradigm") in
U.S. District Court for the Southern District of New York. The Company acquired
100% of the outstanding stock of VIE Systems, Inc. ("VIE") in April 1999. VIE's
assets included a formatting software product call Copernicus(TM). VIE had
previously acquired the Copernicus product from New Paradigm in July 1997, at
which time New Paradigm had retained a 5% royalty interest in the product. The
Company holds a contractual right to purchase the retained 5% royalty interest
from New Paradigm through July 2001 for $1,000,000. The complaint alleges breach
of contract, interference with contract and unjust enrichment, and seeks
compensatory and punitive damages as well as rescission of the July 1997 sale to
VIE based upon allegations that the Company is not using reasonable efforts to
sell the Copernicus product and that certain of the Company's other products are
unfairly similar to the Copernicus product. The Company has filed a motion to
dismiss various claims, including the claim for punitive damages. The Company
believes the lawsuit is without merit. The Company intends to deny all material
allegations and to defend itself vigorously. An adverse judgment or settlement
in the lawsuit could have a material adverse effect on the Company's financial
condition or results of operations. The ultimate outcome of the action cannot be
presently determined. Accordingly, no provision for any liability or loss that
may result from adjudication or settlement thereof has been made in the
accompanying consolidated financial statements.
ITEM 2. CHANGES IN SECURITIES
In August 1999, the NEON Board of Directors authorized the repurchase
of up to 10% of NEON's outstanding shares of common stock over a 12-month
period. During the third quarter of 1999 and the second quarter of 2000, a total
of 20,000 shares and 30,000 shares, respectively, were repurchased by the
Company.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
---------- --------------------------
<S> <C>
27.1 - Financial Data Schedule.
</TABLE>
(b) Reports on Form 8-K
(1) A Form 8-K was filed April 13, 2000 with respect to the acquisition of
PaperFree Systems, Inc., a Delaware corporation pursuant to an
Agreement and Plan of Reorganization effective June 28, 1999 between
Microscript, Inc., the Registrant and a wholly-owned subsidiary of the
Registrant.
21
<PAGE> 22
SIGNATURES
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.
NEW ERA OF NETWORKS, INC.
(Registrant)
By: /s/ STEPHEN E. WEBB
----------------------------------
Stephen E. Webb,
Senior Vice President,
Chief Financial Officer
(Principal Financial Officer)
Date: May 15, 2000
22
<PAGE> 23
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
----------- --------------------------
<S> <C>
27.1 - Financial Data Schedule.
</TABLE>
23
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S MARCH 31, 2000 UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 36,783,067
<SECURITIES> 37,251,740
<RECEIVABLES> 43,700,952
<ALLOWANCES> 2,200,000
<INVENTORY> 0
<CURRENT-ASSETS> 114,647,684
<PP&E> 28,162,194
<DEPRECIATION> 8,702,560
<TOTAL-ASSETS> 381,817,405
<CURRENT-LIABILITIES> 37,962,940
<BONDS> 0
0
0
<COMMON> 3,531
<OTHER-SE> 343,772,497
<TOTAL-LIABILITY-AND-EQUITY> 381,817,405
<SALES> 42,091,816
<TOTAL-REVENUES> 42,091,816
<CGS> 10,623,992
<TOTAL-COSTS> 10,623,992
<OTHER-EXPENSES> 38,815,234
<LOSS-PROVISION> 1,400,000
<INTEREST-EXPENSE> 3,674
<INCOME-PRETAX> (5,707,118)
<INCOME-TAX> (200,749)
<INCOME-CONTINUING> (5,907,867)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,907,867)
<EPS-BASIC> (0.17)
<EPS-DILUTED> (0.17)
</TABLE>
