<PAGE>
- -------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q/A
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1997
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: 0-2222209
PEREGRINE SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-3773312
(STATE OR OTHER (I.R.S. EMPLOYER
JURISDICTION OF IDENTIFICATION NUMBER)
INCORPORATION OR
ORGANIZATION)
12670 HIGH BLUFF DRIVE
SAN DIEGO, CALIFORNIA 92130
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(619) 481-5000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has
been subject to such requirements for the past 90 days.
YES X NO ___
The number of issued and outstanding shares of the Registrant's
Common Stock, $0.001 par value, as of December 31, 1997 was 18,039,030.
- -------------------------------------------------------------------------------
<PAGE>
PEREGRINE SYSTEMS, INC.
EXPLANATORY NOTE
In October 1998, the Securities and Exchange Commission issued a
letter to the American Institute of Certified Public Accountants citing its
views on the proper procedures and practices that should be followed in
purchase accounting for acquired in-process research and development related
to corporate acquisitions. In this letter and in following public statements,
the Commission has affirmed its intention to require all companies to conform
to these announced views where purchase accounting for acquired in-process
research and development is involved.
As of the date of this amendment, the Company has completed five
corporate acquisitions which have been accounted for using the purchase
method of accounting and which have resulted in charges associated with the
valuation of acquired in-process research and development. These acquisitions
include United Software, Inc. during the second quarter of fiscal 1998,
Innovative Tech Systems, Inc. and certain technology and other assets and
liabilities of International Software Solutions, both in the second quarter
of fiscal 1999, Prototype, Inc. in the fourth quarter of fiscal 1999 and
FPrint UK Ltd. in the first quarter of fiscal 2000. The Company believes that
its periodic reports filed in fiscal 1998 and 1999, which include charges for
in-process research and development resulting from those acquisitions that
have been reported to date, were made in accordance with generally accepted
accounting principles and established industry practices at the time.
However, in response to and in conformance with the Commission's announced
guidelines on purchase accounting for acquired in-process research and
development, the Company is restating its financial results for all periods
extending back to the period ended September 30, 1997.
This amendment to the Company's Quarterly Report on Form 10-Q,
which sets forth the Company's restated financial results for the period,
does not otherwise attempt to update the information included herein beyond
the original filing date of the report.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE NO.
- ------- --------------------- --------
<S> <C>
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of December 31,
1997 (unaudited) and March 31, 1997........................... 3
Condensed Consolidated Statements of Operations for the
Three Months Ended December 31, 1997 and 1996 (unaudited)...... 4
Condensed Consolidated Statements of Operations for the
Nine Months Ended December 31, 1997 and 1996 (unaudited)....... 5
Condensed Consolidated Statements of Cash Flows for the
Nine Months Ended December 31, 1997 and 1996 (unaudited)....... 6
Notes to condensed Consolidated Financial Statements
(unaudited).................................................... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations............................. 10
PART II. OTHER INFORMATION
- -------- -----------------
Item 2. Changes in Securities........................................... 21
Item 4. Submission of Matters to a Vote of Security Holders............. 21
Item 6. Exhibits and Reports on Form 8-K................................ 21
Signatures................................................................. 22
</TABLE>
2
<PAGE>
PART I
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
PEREGRINE SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
RESTATED - SEE NOTE 1
-----------------------------
MARCH 31, DECEMBER 31,
1997 1997
--------- ------------
(AUDITED) (UNAUDITED)
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents.......................................... $ 305 $ 15,503
Accounts receivable, net of allowance for doubtful accounts of
$220 and $462, respectively..................................... 10,191 17,325
Financed receivables............................................... 1,182 968
Deferred tax assets................................................ 1,752 -
Other current assets............................................... 924 2,109
-------- --------
Total current assets.......................................... 14,354 35,905
Property and equipment, net........................................... 4,364 4,855
Intangible assets..................................................... - 30,079
Other assets.......................................................... 1,020 552
-------- --------
$ 19,738 $ 71,391
-------- --------
-------- --------
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Accounts payable................................................... $ 916 $ 2,368
Accrued expenses................................................... 6,079 12,024
Bank line of credit................................................ 1,974 -
Deferred revenue................................................... 8,419 8,954
Current portion of long-term debt.................................. 497 197
Current portion of capital lease obligation........................ 364 32
Net liabilities of discontinued operation.......................... 170 -
-------- --------
Total current liabilities.......................................... 18,419 23,575
Long-term debt, net of current portion................................ 1,395 921
Deferred revenue, net of current portion.............................. 2,773 2,691
-------- --------
Total liabilities............................................. 22,587 27,187
-------- --------
Stockholders' Equity (Deficit):
Preferred stock.................................................... - -
Common stock....................................................... 13 18
Additional paid-in capital......................................... 15,081 64,642
Accumulated deficit................................................ (15,807) (18,176)
Unearned portion of deferred compensation.......................... (1,748) (1,482)
Cumulative translation adjustment.................................. (388) (536)
Treasury stock, at cost............................................ - (262)
-------- --------
Total stockholders' equity (deficit).......................... (2,849) 44,204
-------- --------
$ 19,738 $ 71,391
-------- --------
-------- --------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
3
<PAGE>
PEREGRINE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
RESTATED - SEE NOTE 1
-------------------------------
THREE MONTHS ENDED DECEMBER 31,
-------------------------------
1996 1997
------- -------
<S> <C> <C>
Revenues:
Licenses............................................... $ 6,076 $12,374
Maintenance and services............................... 3,451 6,135
------- -------
Total revenues...................................... 9,527 18,509
------- -------
Costs and Expenses:
Cost of licenses....................................... 50 98
Cost of maintenance and services....................... 1,144 2,839
Sales and marketing.................................... 3,895 6,797
Research and development............................... 1,568 2,467
General and administrative............................. 1,095 1,908
Amortization of Intangibles............................ - 1,584
------- -------
Total costs and expenses......................... 7,752 15,693
------- -------
Operating income.................................... 1,775 2,816
Interest and other income (expense), net.................. (137) 204
------- -------
Income before income taxes................................ 1,638 3,020
Income tax expense........................................ - 1,632
------- -------
Net income................................................ $ 1,638 $ 1,388
------- -------
------- -------
Earnings per share: diluted
Net earnings per share.................................... $ 0.11 $ 0.07
------- -------
------- -------
Weighted average common and common equivalent shares
outstanding............................................ 14,519 20,110
------- -------
------- -------
Earnings per share: basic
Net earnings per share.................................... $ 0.13 $ 0.08
------- -------
------- -------
Weighted average common and common equivalent shares
outstanding............................................ 12,904 18,039
------- -------
------- -------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
4
<PAGE>
PEREGRINE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
RESTATED - SEE NOTE 1
------------------------------
NINE MONTHS ENDED DECEMBER 31,
------------------------------
1996 1997
------- --------
<S> <C> <C>
Revenues:
Licenses............................................... $ 13,932 $ 25,741
Maintenance and services............................... 10,595 15,986
------- --------
Total revenues...................................... 24,527 41,727
------- --------
Costs and Expenses:
Cost of licenses....................................... 155 226
Cost of maintenance and services....................... 3,423 6,715
Sales and marketing.................................... 11,217 15,722
Research and development............................... 4,368 5,770
General and administrative............................. 2,780 4,220
Amortization of Intangibles............................ - 1,584
Acquired research and development costs................ - 6,955
------- --------
Total costs and expenses............................ 21,943 41,192
------- --------
Operating income.................................... 2,584 535
Interest and other income (expense), net.................. (366) 608
------- --------
Income before income taxes................................ 2,218 1,143
Income tax expense........................................ - 3,512
------- --------
Net income (loss)......................................... $ 2,218 $ (2,369)
------- --------
------- --------
Earnings (loss) per share: diluted
Net earnings (loss) per share............................. $ 0.15 $ (0.15)
------- --------
------- --------
Weighted average common and common equivalent shares
outstanding............................................ 14,438 15,510
------- --------
------- --------
Earnings (loss) per share: basic
Net earnings (loss) per share............................. $ 0.17 $ (0.15)
------- --------
------- --------
Weighted average common and common equivalent shares
outstanding............................................ 12,901 15,510
------- --------
------- --------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
5
<PAGE>
PEREGRINE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) (IN THOUSANDS)
<TABLE>
<CAPTION>
RESTATED - SEE NOTE 1
------------------------------
NINE MONTHS ENDED DECEMBER 31,
------------------------------
1996 1997
------------- ------------
<S> <C> <C>
Cash flow from operating activities:
Net income.................................................. $2,218 $ (2,369)
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation and amortization.......................... 1,373 2,985
Charge for acquired in process research and
development...................................... - 6,955
Increase (decrease) in cash resulting from changes, net of
business acquired, in:
Accounts receivable.................................... (5,407) (7,728)
Financed receivables................................... - 214
Deferred tax asset..................................... - 1,752
Other current assets................................... 74 (320)
Other long-term assets................................. (641) 468
Accounts payable....................................... (397) 705
Accrued expenses....................................... 1,605 1,228
Deferred revenue....................................... 1,854 (366)
------- -------
679 3,524
------- -------
Net cash used by discontinued business................. (973) (170)
------- -------
Net cash provided by (used in) operating activities. (294) 3,354
------- -------
Cash flows from investing activities:
Purchases of property and equipment......................... (382) (1,291)
Proceeds from sale of product line.......................... 700 -
Cash acquired in acquisition................................ - 582
------- -------
Net cash provided by (used in) operating activities.... 318 (709)
------- -------
Cash flows from financing activities:
Proceeds (repayment) on bank line of credit, net............ 1,485 (3,387)
Repayments of long-term debt, net........................... (96) (2,336)
Issuance of common stock.................................... 15 19,060
Treasury stock purchased.................................... - (262)
Principal payments under capital lease obligation........... (269) (374)
------- -------
Net cash provided by (used in) financing activities.. 1,135 12,701
------- -------
Effect of exchange rate changes on cash........................ (325) (148)
------- -------
Net increase in cash........................................... 834 15,198
Cash and equivalents, beginning of period...................... 437 305
------- -------
Cash and equivalents, end of period............................ $ 1,271 $15,503
------- -------
------- -------
Supplemental disclosure of cash flow information: Cash paid
during the period for:
Interest................................................. $ 337 $ 34
Income taxes............................................. $ - $ 567
Supplemental disclosures of noncash investing and financing activities:
Stock issued and other noncash consideration for
acquisition.......................................... $ - $38,617
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
6
<PAGE>
PEREGRINE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
The accompanying condensed consolidated balance sheet as of December
31, 1997, the condensed consolidated statements of operations for the three
and nine month periods ended December 31, 1997 and 1996, and the condensed
consolidated statements of cash flows for the nine month periods ended
December 31, 1997 and 1996 have been restated to reflect a change in the
original accounting or the purchase price allocation related to the September
1997 acquisition of United Software, Inc. The statements have been prepared
by Peregrine Systems, Inc. (the "Company") and have not been audited. These
financial statements, in the opinion of management, include all adjustments
(consisting only of normal recurring accruals) necessary for a fair
presentation of the financial position, results of operations and cash flows
for all periods presented. These financial statements should be read in
conjunction with the financial statements and notes thereto included in the
Company's Annual Report on Form 10-K filed for the year ended March 31, 1997,
which provides further information regarding the Company's significant
accounting policies and other financial and operating information. Interim
operating results are not necessarily indicative of operating results for the
full year or any other future period. The consolidated condensed financial
statements include the accounts of the Company and its wholly owned
subsidiaries. All significant intercompany transactions and balances have
been eliminated.
The following table provides the effect of previously reported
condensed consolidated statements of operations for the three and nine month
periods ended December 31, 1997.
<TABLE>
<CAPTION>
STATEMENT OF OPERATIONS THREE MONTHS ENDED NINE MONTHS ENDED
- ----------------------- DECEMBER 31, 1997 DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS.) ----------------- -----------------
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1997 1997 1997 1997
------------- ------------ ------------- ------------
(As reported) (Restated) (As reported) (Restated)
<S> <C> <C> <C> <C>
Total revenues $ 18,509 $ 18,509 $ 41,727 $ 41,727
Costs and expenses 14,109 14,109 32,653 32,653
-------- -------- -------- --------
Income from operations excluding acquired in-
process research and development costs and
amortization of purchased intangible assets 4,400 4,400 9,074 9,074
Amortization of purchased intangible assets 193 1,584 193 1,584
-------- -------- -------- --------
Income from operations excluding acquired
in-process research and development costs 4,207 2,816 8,881 7,490
Acquired in-process research and development costs - - 34,775 6,955
-------- -------- -------- --------
Income (loss) from operations 4,207 2,816 (25,894) 535
Other income, net 204 204 608 608
Income tax expense 1,632 1,632 3,512 3,512
-------- -------- -------- --------
Net income (loss) $ 2,779 $ 1,388 $(28,798) $ (2,369)
-------- -------- -------- --------
-------- -------- -------- --------
Basic net income (loss) per share $ 0.15 $ 0.08 $ (1.86) $ (0.02)
Diluted net income (loss) per share $ 0.14 $ 0.07 $ (1.86) $ (0.02)
</TABLE>
NOTE 2. USE OF ESTIMATES
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.
7
<PAGE>
NOTE 3. CASH AND CASH EQUIVALENTS
The Company considers all highly liquid instruments purchased with
an original maturity of three months or less to be cash equivalents. The
Company's cash management and investment policies restrict investments to
investment quality, highly liquid securities.
NOTE 4. COMPUTATION OF NET INCOME PER SHARE
In December 1997, the Company adopted Statement of Financial
Accounting Standards No. 128, "Earnings Per Share" (SFAS 128). The statement
specifies the computation, presentation, and disclosure requirements for
earnings per share (EPS). All prior periods have been restated to conform to
current year presentation. See Exhibit 11.1 for a reconciliation of the
numerators and denominators used in the EPS calculations.
NOTE 5. LINE OF CREDIT
Effective July 1, 1997, the Company entered into an agreement to
provide a line of credit facility that provides for maximum borrowings of
$5.0 million and expires on July 31, 1998. Borrowings under the line of
credit bear interest at the bank's prime rate (8.5% at December 31, 1997).
The line of credit is collateralized by the Company's accounts receivable,
equipment, and certain other assets. In addition, the debt agreement contains
certain covenants, the most significant of which places certain restrictions
on future borrowings and acquisitions above specified levels. The Company is
required to maintain certain financial ratios and minimum equity balances.
The agreement also provides for a foreign exchange facility, under which the
maximum principal amount of foreign exchange transactions which may mature
during any two day period is $2.0 million.
NOTE 6. ACQUISITION
On August 29, 1997, the Company's Board of Directors approved the
acquisition of Apsylog S.A., a French corporation based in Paris, France,
through the acquisition of all of the outstanding shares of United Software,
Inc., a Delaware corporation and the parent corporation of Apsylog. The
acquisition, which was completed September 19, 1997, was pursuant to an
Agreement and Plan of Reorganization dated effective as of August 29, 1997.
United Software, Inc. develops decision software solutions designed for asset
management. The consideration for the stock of United Software, Inc. included
1,916,213 shares of Peregrine Common Stock (including 32,021 shares of Common
Stock issuable upon exercise of outstanding options assumed by the Company,
all of which were fully vested at the time of the acquisition) valued at
$15.92 per share or $30,506,000 plus an additional $8,111,000 consisting of
expenses directly related to the acquisition and the assumption of net
liabilities of United Software, Inc. The transaction was accounted for under
the purchase method of accounting and, accordingly, the assets, including
in-process research and development, and liabilities, were recorded based on
their fair values at the date of acquisition and the results of operations of
United Software have been included in the financial statements for the
periods subsequent to acquisition. The Company allocated the fair values of
the assets acquired between acquired in-process research and development,
developed technology and purchase price in excess of identifiable assets. The
results of the allocation of values between the assets are as follows.
<TABLE>
<CAPTION>
Assets Fair Market Value
------ -----------------
(in thousands)
<S> <C>
Acquired In-Process Research and Development $ 6,955
Purchase price in excess of identifiable assets 31,684
--------
Total $ 38,639
--------
--------
</TABLE>
As a result of the recently promulgated guidance by the SEC
regarding its accepted valuation methodology for determining in-process
research and development costs, the Company has adjusted the allocation of
the purchase price originally reported. The value of the acquired in-process
technology was computed using a discounted cash flow analysis on the
anticipated income stream of the related product sales. The value assigned to
acquired in-process technology was determined by estimating the costs to
develop the purchased in-process technology into commercially viable
products, estimating the resulting net cash flows from the projects and
discounting the net cash flows to their present value.
8
<PAGE>
The nature of the efforts required to develop the acquired
in-process technology into commercially viable products principally relates
to the completion of all planning, designing and testing activities that are
necessary to establish that the products can be produced to meet their design
requirements, including functions, features and technical performance
requirements. If the R&D project and technologies are not completed as
planned, they will neither satisfy the technical requirements of a changing
market nor be cost effective. As of the acquisition date Apsylog had
initiated development efforts related to the product features and
functionality that will reside in the advancement of its Asset Manager
Technology. This new product line is designed to deliver state of the art
asset management technology.
With respect to the acquired in-process technology, the calculations
of value were adjusted to reflect the value creation efforts of Innovative
prior to the close of the acquisition. Following is the estimated completion
percentage, estimated technology life and projected introduction date:
<TABLE>
<CAPTION>
Percent Technology Introduction
In-Process Technology Completed Life Dates
- --------------------- --------- ---- -----
<S> <C> <C> <C>
Next-generation Apsylog 38% 5 years 2Q/1999
</TABLE>
The technology development projects under development at the time of
the acquisition included the development of a leasing module, incorporating
advanced reporting capabilities, providing a new user interface and
mail/action improvements, enhancing contract management, and improving
response time. This will involve reconstructing certain aspects of the
software architecture of the existing products to achieve complete
compatibility, as well as developing new technology for adding the desired
functionality. No assurance can be given, however, that the underlying
assumptions used to estimate expected product sales, development costs or
profitability, or the events associated with such projects, will transpire as
estimated. The Company currently believes that actual results have been
consistent with forecasts with respect to acquired in-process revenues.
Because the Company does not account for expenses by product, it is not
possible to determine the actual expenses associated with the acquired
technologies. However, the Company believes that expenses incurred to date
associated with the development and integration of the acquired in-process
research and development projects are approximately consistent with the
Company's previous estimates.
The Company believed that the foregoing assumptions used in
Apsylog's acquired in-process research and development analysis were
reasonable at the time of the acquisition. No assurance can be given,
however, that the underlying assumptions used to estimate expected project
sales, development costs or profitability, or the events associated with such
projects, will transpire as estimated. The Company currently believes that
actual results have been consistent with forecasts with respect to acquired
in-process revenues. Because the Company does not account for expenses by
product, it is not possible to determine the actual expenses associated with
the acquired technologies. However, the Company believes that expenses
incurred to date associated with the development and integration of the
acquired in-process research and development projects are approximately
consistent with the Company's previous estimates.
The Company has completed many of the original research and
development projects in accordance with the plans outlined above. The Company
continues to work toward the completion of other projects. The majority of
the projects are on schedule, but delays may occur due to changes in
technological and market requirements for the Company's products. The risks
associated with these efforts are still considered high and no assurance can
be made that Apsylog's upcoming products will meet with market acceptance.
Delays in the introduction of certain products may adversely affect the
Company's revenues and earnings in future quarters.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THIS REPORT CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE
SECURITIES EXCHANGE ACT OF 1934. THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT
TO CERTAIN RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER
MATERIALLY FROM HISTORICAL RESULTS OR ANTICIPATED RESULTS, INCLUDING THOSE
SET FORTH UNDER "FACTORS THAT MAY AFFECT FUTURE RESULTS" IN THIS
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS," IN THE COMPANY'S ANNUAL REPORT ON FORM 10-K FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION, AND ELSEWHERE IN, OR INCORPORATED BY
REFERENCE INTO, THIS REPORT. THE FOLLOWING DISCUSSION SHOULD BE READ IN
CONJUNCTION WITH THE COMPANY'S CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AND NOTES THERETO INCLUDED ELSEWHERE IN THIS REPORT.
OVERVIEW
The Company develops, markets and supports SERVICECENTER, a suite of
software applications for managing the Enterprise Service Desk. The Company
was founded in 1981 primarily to provide consulting services for IT
management software. In 1987, the Company launched its first software
product, PNMS, a product designed to manage and monitor complex mainframe
computer networks. In 1995, the Company commenced sales of SERVICECENTER, the
Company's solution for the Enterprise Service Desk. SERVICECENTER is
currently available for the Windows NT, UNIX, and MVS platforms. Since the
release of SERVICECENTER in July 1995, SERVICECENTER has accounted for
substantially all of the Company's license revenues. In addition, for the
year ended March 31, 1997, over 80% of the Company's license sales of
SERVICECENTER were attributable to UNIX and Windows NT platforms.
In September 1997, the Company acquired United Software, Inc.,
including its operating subsidiary Apsylog S.A. of France ("Apsylog").
Apsylog develops, markets, and supports an asset management software product
which the Company has renamed ASSETCENTER. The Company's result of operations
for the quarter ended December 31, 1997 reflect the first full quarter to
include the operations (revenue and expenses) of Apsylog. The Company's
results of operations for the nine month period ended December 31, 1997
include results of operations for Apsylog subsequent to September 19, 1997.
The Company's revenues are derived from product licensing,
maintenance and services. License fees are generally due upon the granting of
the license and typically include a one-year maintenance period as part of
the license agreement. The Company also provides ongoing maintenance
services, which include technical support and product enhancements, for an
annual fee based upon the current price of the product.
Revenues from license agreements are recognized currently, provided
that all of the following conditions are met: a noncancelable license
agreement or other legally binding agreement has been signed, the product has
been delivered, there are no material uncertainties regarding customer
acceptance, collection of the resulting receivable is deemed probable, and no
other significant vendor obligations exist. Revenues from post-contract
support services are recognized ratably over the term of the support period,
generally one year. Maintenance revenues which are bundled in license fees
are unbundled and recognized using vendor-specific evidence. Consulting
revenues are primarily related to implementation services most often
performed on a time and material basis under separate service agreements for
the installation of the Company's products. Revenues from consulting and
training services are recognized as the respective services are performed.
The Company currently derives substantially all of its license
revenues from the sale of SERVICECENTER and expects SERVICECENTER to account
for a significant portion of the Company's revenues for the foreseeable
future. The Company's future operating results are dependent upon continued
market acceptance of SERVICECENTER, including future enhancements, as well as
acceptance of ASSETCENTER, Apsylog's asset management product. Factors
adversely affecting the pricing of, demand for or market acceptance of
SERVICECENTER or ASSETCENTER, such as competition or technological change,
could have a material adverse effect on the Company's business, operating
results and financial condition.
The Company conducts business overseas in a number of foreign
currencies, principally the British Pound, Deutsche Mark, French Franc, and
Danish Krone. These currencies have been relatively stable against the U.S.
dollar
10
<PAGE>
for the past several years. As a result, foreign currency fluctuations have
not had a significant impact on the Company's revenues or results of
operations. Although the Company currently derives no revenues from highly
inflationary economies, the Company is expanding its presence in
international markets outside Europe, including the Pacific Rim and Latin
America, whose currencies have tended to fluctuate more relative to the U.S.
Dollar. There can be no assurance that foreign currency exchange rates will
not prove more volatile or that future fluctuations in the value of foreign
currencies will not have a material adverse effect on the Company's business,
operating results and financial condition. The Company has recently
implemented a foreign currency forward hedging program. The hedging program
consists primarily of using 30-day forward-rate currency contracts. Currency
contracts are in accordance with SFAS 52 and receive hedge accounting
treatment. Accordingly, to the extent properly hedged by obligations
denominated in local currencies, the Company's foreign operations remain
subject to the risks of future foreign currency fluctuations, and there can
be no assurances that he Company's hedging activities will adequately protect
the Company against such risk.
To date the Company's Pacific Rim sales activity has not been
material. Accordingly, the Company's operations and financial condition have
not been impacted by the recent Asian financial crisis.
RESULTS OF OPERATIONS
The following table sets forth for the periods indicated selected
consolidated statements of operations data as a percentage of total revenues:
<TABLE>
<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
DECEMBER 31, DECEMBER 31,
------------- -------------
1996 1997 1996 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Licenses......................................... 63.8% 66.9% 56.8% 61.7%
Maintenance and services.......................... 36.2 33.1 43.2 38.3
----- ----- ----- -----
Total revenues.................................. 100.0 100.0 100.0 100.0
Costs and expenses:
Cost of licenses.................................. 0.5 0.5 0.6 0.5
Cost of maintenance and services.................. 12.0 15.3 14.0 16.1
Sales and marketing............................... 40.9 36.7 45.7 37.7
Research and development.......................... 16.5 13.4 17.8 13.8
General and administrative........................ 11.5 10.3 11.4 10.1
Acquired research and development costs........... - - - 16.7
Amortization of intangible assets................. - 8.6 - 3.8
----- ----- ----- -----
Total costs and expenses........................ 81.4 84.8 89.5 98.7
----- ----- ----- -----
Operating and other income........................... 18.6 15.2 10.5 1.3
Interest and other income (expense), net............. (1.4) 1.1 (1.5) 1.4
----- ----- ----- -----
Income before income taxes........................... 17.2 16.3 9.0 2.7
Income tax expense................................... - 8.8 - 8.4
----- ----- ----- -----
Net income........................................... 17.2% 7.5% 9.0% (5.7)%
----- ----- ----- -----
----- ----- ----- -----
</TABLE>
THREE MONTH AND NINE MONTH PERIODS ENDED DECEMBER 31, 1997 AND 1996
REVENUES
Total revenues were $18.5 million and $9.5 million in the third
quarter of fiscal 1998 and 1997, respectively, representing a
period-to-period increase of 94%. For the nine month periods ended December
31, 1997 and 1996, total revenue increased 70% to $41.7 million.
11
<PAGE>
LICENSES. License revenues were $12.4 million and $6.1 million in
the third quarter of fiscal 1998 and 1997, respectively, representing 67% and
64% of total revenues in the respective periods and $25.7 million and $13.9
million for the nine months ended December 31, 1997 and 1996, respectively,
representing 62% and 57% of total revenues for such periods. License revenues
increased 104% in the third quarter of the fiscal 1998 compared to the third
quarter of fiscal 1997. For the nine months December 31, 1997, license
revenues increased 85% compared to the nine month period ended December 31,
1997. The increases in license revenues are attributable to increased demand
for new licenses of SERVICECENTER and the first quarterly effect of
ASSETCENTER revenue, additional seats purchased by existing SERVICECENTER and
ASSETCENTER customers, more effective corporate marketing programs, improved
sales force productivity, and expansion of the Company's sales force.
MAINTENANCE AND SERVICES. Maintenance and services revenues were
$6.1 million and $3.5 million in the third quarter of fiscal 1998 and 1997,
respectively, representing 33% and 36% of total revenues in the respective
periods and $16.0 million and $10.6 million for the nine months ended
December 31, 1997 and 1996 respectively, representing 38% and 43% of the
total revenues for such periods. Maintenance and services revenues increased
78% in the third quarter of the fiscal 1998 compared to the third quarter of
fiscal 1997. For the nine months ended December 31, 1997, maintenance and
service revenues increased 51% compared to the nine months ended December 31,
1996. The dollar increases are attributable to renewals of maintenance
agreements from the Company's expanded installed base of customers and
maintenance revenues included as part of new licenses and an increased number
of consulting engagements related to implementation of software from initial
license agreements.
COSTS AND EXPENSES
COST OF LICENSES. Cost of license revenues was $98,000 and $50,000
in the third quarter of fiscal 1998 and 1997, respectively, each representing
1% of total license revenues in the respective periods and $226,000 and
$155,000 for the nine month periods ended December 31, 1997 and 1996,
respectively, again representing 1% of total license revenues in the
respective periods.
COST OF MAINTENANCE AND SERVICES. Cost of maintenance and services
revenues was $2.8 million and $1.1 million in the third quarter of fiscal
1998 and 1997, respectively, representing 46% and 33% of total maintenance
and service revenues in the respective periods and $6.7 million and $3.4
million for the nine months ended December 31, 1997 and 1996, respectively,
representing 42% and 32% of total maintenance and services revenues for such
periods respectively. The dollar increase in the third quarter of fiscal 1998
over 1997 and in the nine months ended December 31, 1997 over the same period
in 1996 are attributable to an increase in customer support personnel and
professional services personnel in connection with the corresponding increase
in professional services revenue.
SALES AND MARKETING. Sales and marketing expenses were $6.8 million
and $3.9 million in the third quarter of fiscal 1998 and 1997, respectively,
representing 37% and 41% of total revenues in the respective periods and
$15.7 million and $11.2 million for the nine months ended December 31, 1997
and 1996, respectively, representing 38% and 46% of the total revenues in
such periods. The dollar increase in sales and marketing expenses is
attributable to expansion of both the North American and international sales
forces, the increase in personnel in the marketing department, the first
quarterly effect of Apsylog sales and marketing expenses, and to moderate
increases in operating expenses. If the Company experiences a decrease in
sales force productivity or for any other reason a decline in revenues, it is
likely that operating margins will decline as well. The decrease in sales and
marketing expenses as a percentage of total revenues is attributable to
increased revenues, particularly increased license revenues, economies of
scale, and the delayed hiring of additional sales staff.
RESEARCH AND DEVELOPMENT. Research and development expenses were
$2.5 million and $1.6 million in the third quarter of fiscal 1998 and 1997,
respectively, representing 13% and 17% of total revenues in the respective
periods and $5.8 million and $4.4 million for the nine months ended December
31, 1997 and 1996, respectively, representing 14% and 18% of total revenues
in such periods. The dollar increase from fiscal 1997 to fiscal 1998 is due
primarily to the hiring of additional software developers and the first
quarterly effect of Apsylog research and development expenses. The decrease
as a percentage of total revenues is due to increased revenues.
12
<PAGE>
GENERAL AND ADMINISTRATIVE. General and administrative expenses were
$1.9 million and $1.1 million in the third quarter of fiscal 1998 and 1997,
respectively, representing 10% and 12% of total revenues in the respective
periods and $4.2 million and $2.8 million for the nine months ended December
31, 1997 and 1996, respectively, representing 10% and 11% of the total
revenues, respectively. The dollar increase from fiscal 1997 to 1998 are
attributable primarily to administrative personnel additions to support the
Company's growth, including Apsylog, and the additional administrative
expenses associated with becoming a publicly traded company.
AMORTIZATION OF INTANGIBLE ASSETS. Amortization of intangible assets
amounted to $1.6 million, or 9% of total revenues, in the third fiscal
quarter of 1998, compared to zero in the third fiscal quarter of 1997.
Amortization of intangible assets amounted to $1.6 million, or 4% of total
revenues, in the nine months ended December 31, 1997 compared to zero in the
nine months ended December 31, 1996. The increases from fiscal 1997 to fiscal
1998 are due to the full period amortization of intangible assets associated
with the Apsylog Acquisition.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT COSTS. Acquired
in-process research and development costs of $34.8 million were incurred in
the second quarter of the fiscal 1998 in connection with the Apsylog
Acquisition and are therefore reflected in the nine months ended December 31,
1997.
INCOME TAX EXPENSE. Income tax expense for the third fiscal quarter
of 1998 amounted to $1.6 million compared with zero in the comparable quarter
of 1997. This increase results from the $2.8 million dollar increase in
operating profits, before taxes and recognition of the acquired research and
development costs during the period. Excluding the effect of expensing the
acquired research and development costs, the effective tax rate for the third
quarter of fiscal 1998 and for the nine months ended December 31, 1997 was
37%.
LIQUIDITY AND CAPITAL RESOURCES
The Company had $15.5 million in cash and cash equivalents at
December 31, 1997 compared to $0.3 million at March 31, 1997. The increase is
primarily attributable to the Company's completion of its initial public
offering in April 1997. The Company offered and sold 2.3 million shares of
its common stock at an initial public offering price of $9.00 per share,
raising $19.3 million after underwriting discounts and commissions.
At March 31, 1997, the Company had a $4.5 million revolving bank
credit scheduled to expire by its own terms November 30, 1997, and a term
loan from the same bank. The term loan was secured by trade receivables and
fixed assets of the Company and the revolving credit line secured by accounts
receivable, equipment and certain other assets of the Company. Both
facilities were personally guaranteed by the Company's majority stockholder.
Both the credit line and term loan were repaid from proceeds of the Company's
April 1997 initial public offering.
Effective July 1, 1997, the Company entered into a new agreement to
replace the above line of credit. The new agreement allows up to $5.0 million
in borrowing and is generally secured by the same collateral as the old line.
There is no personal guarantee associated with the new line. There are
however, certain covenants, the most significant of which places certain
restrictions on future borrowings and acquisitions above specified levels. In
addition, the Company is required to maintain certain financial ratios and
minimum equity balances. The agreement also provides for a foreign exchange
facility of up to $2.0 million in any two day period.
The Company believes that its current cash balances, cash available
under its bank facilities, and cash flow from operations will be sufficient
to meet its working capital requirements for at least the next 12 months.
Although operating activities may provide cash in certain periods, to the
extent the Company experiences growth in the future, the Company anticipates
that its operating and investing activities may use cash. Consequently, any
such future growth may require the Company to obtain additional equity or
debt financing, which may not be available on commercially reasonable terms
or which may be dilutive.
13
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS
THIS REPORT, INCLUDING THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTAINS FORWARD-LOOKING
STATEMENT AND OTHER PROSPECTIVE INFORMATION RELATING TO FUTURE EVENTS. THESE
FORWARD-LOOKING STATEMENTS AND OTHER INFORMATION ARE SUBJECT TO CERTAIN RISKS
AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM
HISTORICAL RESULTS OR ANTICIPATED RESULTS, INCLUDING THE FOLLOWING:
LIMITED PROFITABILITY; HISTORY OF OPERATING LOSSES. Through December
31, 1997, the Company has recorded cumulative net losses of approximately
$18.2 million, including approximately $7.0 million related to the write-off
of acquired in-process research and development in connection with the
acquisition of United Software, Inc. including its wholly-owned operating
subsidiary Apsylog S.A., a corporation organized under the laws of France
("Apsylog") in September 1997 (the "Apsylog Acquisition"). In recent years,
the product lines of both the Company and Apsylog have changed substantially.
The Company's SERVICECENTER product, from which the Company derived
substantially all of its license revenues for the fiscal year ended March 31,
1997 and for the nine months ended December 31, 1997, only began shipping in
mid-1995. Apsylog's ASSETCENTER product only began shipping in mid-1996. As a
result, prediction of the Company's future operating results is difficult, if
not impossible. Although the Company achieved profitability during the year
ended March 31, 1997 and for the nine months ended December 31, 1997
(excluding the impact of the $7.0 million charge related to acquired
in-process research and development in connection with the Apsylog
Acquisition), there can be no assurance that the Company will be able to
remain profitable on a quarterly or annual basis. In addition, the Company
does not believe that the growth in revenues it has experienced in recent
years is indicative of future revenue growth or future operating results. See
"--Product Concentration; Dependence on Market Acceptance of Enterprise
Service Desk Software" and "--Risks Associated with Apsylog Acquisition and
Future Acquisitions."
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS; SEASONALITY. The
Company's quarterly operating results have varied significantly in the past
and may vary significantly in the future depending upon a number of factors,
many of which are beyond the Company's control. These factors include, among
others, the ability of the Company to develop, introduce and market new and
enhanced versions of its software on a timely basis; market demand for the
Company's software; the size, timing and contractual terms of significant
orders; the timing and significance of new software product announcements or
releases by the Company or its competitors; changes in pricing policies by
the Company or its competitors; changes in the Company's business strategies;
budgeting cycles of its potential customers; changes in the mix of software
products and services sold; changes in the mix of revenues attributable to
domestic and international sales; the impact of acquisitions of competitors;
the impact of acquisitions by the Company, including the Apsylog Acquisition;
seasonal trends; the cancellations of licenses or maintenance agreements;
product life cycles; software defects and other product quality problems; and
personnel changes. The Company has often recognized a substantial portion of
its revenues in the last month or weeks of a quarter. As a result, license
revenues in any quarter are substantially dependent on orders booked and
shipped in the last month or weeks of that quarter. Due to the foregoing
factors, quarterly revenues and operating results are not predictable with
any significant degree of accuracy. In particular, the timing of revenue
recognition can be affected by many factors, including the timing of contract
execution and delivery. The timing between initial customer contact and
fulfillment of criteria for revenue recognition can be lengthy and
unpredictable, and revenues in any given quarter can be adversely affected as
a result of such unpredictability. In the event of any downturn in potential
customers' businesses, or the domestic economy in general, or in
international economies in which the Company derives substantial revenues,
planned purchases of the Company's products may be deferred or canceled,
which could have a material adverse effect on the Company's business,
operating results and financial condition.
The Company's business has experienced and is expected to continue
to experience seasonality. The Company's revenues and operating results in
its December quarter typically benefit from purchase decisions made by the
large concentration of customers with calendar year-end budgeting
requirements, while revenues and operating results in the March quarter
typically benefit from the efforts of the Company's sales force to meet
fiscal year-end sales quotas. In addition, the Company is currently
attempting to expand its presence in international markets, including Europe,
the Pacific Rim and Latin America. International revenues comprise a
significant percentage of the Company's total revenues, and the Company may
experience additional variability in demand associated with seasonal buying
patterns and economic conditions in such foreign markets. In particular, the
quarter ended September 30 tends to reflect the effects of summer slowing of
international business activity, particularly in Europe. See "--International
Operations; Currency Fluctuations."
14
<PAGE>
PRODUCT CONCENTRATION; DEPENDENCE ON MARKET ACCEPTANCE OF ENTERPRISE
SERVICE DESK SOFTWARE. The Company currently derives substantially all of its
license revenues from the sale of the SERVICECENTER suite of applications and
expects SERVICECENTER to account for a significant portion of the Company's
revenues for the foreseeable future. The Company's future operating results
are dependent upon continued market acceptance of SERVICECENTER, including
future enhancements, as well as market acceptance of ASSETCENTER. Factors
adversely affecting the pricing of, demand for, or market acceptance of
SERVICECENTER or ASSETCENTER, such as competition or technological change,
could have a material adverse effect on the Company's business, operating
results and financial condition.
The Company's product strategy has focused on integrating a broad
array of IT management applications with other traditional internal help desk
applications to create an Enterprise Service Desk. The market for Enterprise
Service Desk software is relatively new and is characterized by ongoing
technological developments, frequent new product announcements and
introductions, evolving industry standards and changing customer
requirements. The Company's future financial performance will depend in part
on continued growth in the number of organizations implementing Enterprise
Service Desk solutions.
RISKS ASSOCIATED WITH APSYLOG ACQUISITION AND FUTURE ACQUISITIONS.
The Apsylog Acquisition involves a significant amount of integration of two
companies that have previously operated independently. The principal
operations of Apsylog, including most of its employees, are located in Paris,
France. No assurance can be given that difficulties will not be encountered
in integrating certain products, technologies or operations of Apsylog with
those of the Company or that the benefits expected from such integration will
be realized or that Apsylog employee morale will not be adversely affected by
the integration process. Such integration could result in a diversion of
management's time and attention, which could have a material adverse effect
on revenues and results of operations. The difficulties of integration may be
increased by the necessity of coordinating geographically separated
organizations or of integrating personnel with disparate business backgrounds
and different corporate cultures. There can be no assurance that either
company will retain its key personnel, that the engineering teams of Apsylog
and the Company will successfully cooperate and realize any technological
benefits or that Apsylog or the Company will realize any of the other
anticipated benefits of the Apsylog Acquisition. Apsylog's ASSETCENTER
product has traditionally been sold into an organization's finance or
procurement departments as opposed to SERVICECENTER, which is typically
purchased by the IT Department. There can be no assurance that the Company
will be successful in continuing to sell to such constituencies or that it
can successfully persuade customers and potential customers that an
integrated approach to managing IT assets is desirable.
The success of the Company's efforts to integrate Apsylog's products
and technologies will depend in significant part upon the continued service
of its key technical, development, sales and senior management personnel
following the Apsylog Acquisition. Only certain of these individuals
(including Apsylog's Chief Executive Officer and seven additional employees)
will be bound by non-competition agreements. In addition, in connection with
the Apsylog Acquisition, all repurchase restrictions on shares of restricted
Apsylog Common Stock held by Apsylog stockholders lapsed, and all unvested
options in respect to Apsylog's Common Stock vested and became immediately
exercisable. The loss of the services of one or more of Apsylog's development
personnel or other key employees or the decision of one or more of such
personnel or key employees to join a competitor or otherwise compete directly
or indirectly with the Company could have a material adverse effect on the
Company's business, operating results and financial condition.
In addition to the Apsylog Acquisition and as part of its business
strategy, the Company may make acquisitions of, or significant investments
in, businesses that offer complementary products, services and technologies.
There can be no assurances that the Company will make any additional
acquisitions in the future. Any such future acquisitions or investments would
present risks commonly encountered in acquisitions of businesses. Such risks
include, among others, the difficulty of assimilating the technology,
operations or personnel of the acquired businesses, the potential disruption
of the Company's on-going business, the inability of management to maximize
the financial and strategic position of the Company through the successful
incorporation of acquired personnel, clients, or technologies, the
maintenance of uniform standards, controls, procedures, and policies and the
impairment of relationships with employees and clients as a result of any
integration of new businesses and management personnel. The Company expects
that future acquisitions, if any, could provide for
15
<PAGE>
consideration to be paid in cash, shares of stock or a combination of cash
and stock. In the event of such an acquisition or investment, the factors
described herein could have a material adverse effect on the Company's
business, financial condition and results of operations.
DEPENDENCE ON KEY PERSONNEL; ABILITY TO RECRUIT PERSONNEL The
Company's ability to achieve anticipated revenues is substantially dependent
on its ability to attract and retain skilled personnel, especially sales,
service and implementation personnel. Other than certain employees of
Apsylog, none of the Company's employees, including its senior management, is
bound by an employment or non-competition agreement, and the Company does not
maintain key man life insurance on any employee. The loss of the services of
one or more of the Company's executive officers or key employees or the
decision of one or more of such officers or employees to join a competitor or
otherwise compete directly or indirectly with the Company could have a
material adverse effect on the Company's business, operating results and
financial condition. In January 1998, the Company's President and Chief
Executive Officer resigned. The Company has appointed Stephen P. Gardner, its
Executive Vice President, to act as interim Chief Executive Officer, until
such time as a permanent Chief Executive Officer is identified. Although the
Company believes it will be able to identify and retain a permanent Chief
Executive Officer, any delays in hiring such an individual or market
uncertainty concerning the Company's management could have an adverse effect
on results of operations in a particular quarter or result in volatility in
the Company's stock price.
In addition, the Company believes that its future success will
depend in large part on its ability to attract and retain additional highly
skilled technical, sales, management and marketing personnel. Competition for
such personnel in the computer software industry is intense, and the Company
has at times in the past experienced difficulty in recruiting qualified
personnel. New employees hired by the Company generally require substantial
training in the use and implementation of the Company's products. In
particular, a number of the Company's sales personnel have been with the
Company for only a limited period of time. There can be no assurance that the
Company will be successful in attracting, training and retaining qualified
personnel, and the failure to do so could have a material adverse effect on
the Company's business, operating results and financial condition.
COMPETITION. The market for the Company's products is highly
competitive, fragmented and subject to rapid technological change and
frequent new product introductions and enhancements. Competitors vary in size
and in the scope and breadth of the products and services offered. The
Company encounters competition from a number of sources, including (i)
providers of internal help desk software applications such as Remedy
Corporation and Software Artistry, Inc. (recently acquired by Tivoli Systems,
Inc. ("Tivoli")), (ii) customer interaction software companies such as
Clarify Inc. and The Vantive Corporation, whose products include internal
help desk applications, (iii) information technology and systems management
companies such as International Business Machines Corporation ("IBM"),
Computer Associates International, Inc. ("Computer Associates"), McAfee
Associates, Inc. and Hewlett-Packard Company ("Hewlett-Packard") through its
recent acquisition of PROLIN, (iv) providers of asset management software,
and (v) the internal information technology departments of those companies
with help desk requirements. Because barriers to entry in the software market
are relatively low, the Company anticipates additional competition from other
established and emerging companies as the market for Enterprise Service Desk
applications expands. In addition, current and potential competitors have
established or may in the future establish cooperative relationships among
themselves or with third parties. The Company expects software industry
consolidation to occur in the future, and it is possible that new competitors
or alliances among competitors may emerge and rapidly acquire significant
market share. For example, the Company's ability to sell its Enterprise
Service Desk products depends in part on their compatibility with and support
by providers of system management products, including Tivoli, Computer
Associates, and Hewlett-Packard. Both Tivoli and Hewlett-Packard have
recently acquired providers of help desk software products. The decision of
one or more providers of system management products to close their systems to
competing vendors like the Company could have an adverse effect on the
Company's ability to sell its products. Increased competition, including
increased competition as a result of acquisitions of help desk software
vendors by systems management companies, is likely to result in price
reductions, reduced gross margins and loss of market share, any of which
could have a material adverse effect on the Company's business, operating
results and financial condition. Some of the Company's current and many of
its potential competitors have significantly greater financial, technical,
marketing and other resources than the Company. As a result, they may be able
to respond more quickly to new or emerging technologies and changes in
customer requirements or to devote greater resources to the development,
promotion and sale of their products than
16
<PAGE>
the Company. There can be no assurance that the Company will be able to
compete successfully against current and future competitors or that
competitive pressures faced by the Company will not have a material adverse
effect on the Company's business, operating results and financial condition.
MANAGEMENT OF GROWTH. The Company's business has grown substantially
in recent periods, with total revenues increasing from $19.6 million in
fiscal 1995 to $23.8 million in fiscal 1996 and to $35.0 million in fiscal
1997 and to $41.7 million in the first nine months of fiscal 1998. If the
Company is successful in achieving its growth plans, including the
integration of Apsylog, such growth is likely to place a significant burden
on the Company's operating and financial systems, resulting in increased
responsibility for senior management and other personnel within the Company.
The Company's ability to compete effectively and to manage future growth, if
any, and its future operating results will depend in part on the ability of
its officers and other key employees to implement and expand operational,
customer support and financial control systems and to expand, train and
manage its employee base. In particular, in connection with the Apsylog
Acquisition, the Company will be required to integrate additional personnel
and to augment or replace Apsylog's existing financial and management
systems. Such integration could result in a disruption of operations of the
Company or Apsylog and could adversely affect the Company's financial
results. There can be no assurance that the Company's existing management or
any new members of management will be able to augment or improve existing
systems and controls or implement new systems and controls in response to
future growth, if any. The Company's failure to do so could have a material
adverse effect on the Company's business, operating results and financial
condition. See "--Dependence on Key Personnel; Ability to Recruit Personnel"
and "--Risks Associated with Apsylog Acquisition and Future Acquisitions."
LENGTHY SALES CYCLES. The license of the Company's software
generally requires the Company to engage in a sales cycle that typically
takes approximately six to nine months to complete. The length of the sales
cycle may vary depending on a number of factors over which the Company may
have little or no control, including the size of the transaction and the
level of competition which the Company encounters in its selling activities.
In addition, the sales cycle is typically extended 90 days for product sales
through indirect channels. During the sales cycle, the Company typically
provides a significant level of education to prospective customers regarding
the use and benefits of the Company's products. Any delays in the sales
cycles of a large license or a number of smaller licenses could have a
material adverse effect on the Company's business, operating results and
financial condition. See "--Potential Fluctuations in Quarterly Results;
Seasonality."
EXPANSION OF DISTRIBUTION CHANNELS. The Company has historically
sold its products through its direct sales force and a limited number of
distributors and has provided maintenance and support services through its
technical and customer support staff. The Company is currently investing and
intends to continue to invest significant resources in developing additional
sales and marketing channels through system integrators and original
equipment manufacturers ("OEMs") and other channel partners. There can be no
assurance that the Company will be able to attract channel partners that will
be able to market the Company's products effectively and will be qualified to
provide timely and cost-effective customer support and service. To the extent
the Company establishes distribution through such indirect channels, its
agreement with channel partners may not be exclusive and such channel
partners may also carry competing product lines. Any failure by the Company
to establish and maintain such distribution relationships could have a
material adverse effect on the Company's business, operating results and
financial condition. See "--Management of Growth" and "--International
Operations; Currency Fluctuations."
INTERNATIONAL OPERATIONS; CURRENCY FLUCTUATIONS. International sales
represented approximately 29% and 32% of the Company's total revenues in
fiscal 1996 and fiscal 1997, respectively, and 36% for the nine months ended
December 31, 1997. The Company currently has international sales offices in
London, Paris, Frankfurt, Amsterdam, and Copenhagen. Apsylog currently has
international offices in Paris and Munich. The Company believes that its
continued growth and profitability will require continued expansion of its
international operations, particularly in Europe, Latin America and the
Pacific Rim. Accordingly, the Company intends to expand its international
operations and enter additional international markets, which will require
significant management attention and financial resources. In addition, the
Company's international operations are subject to a variety of risks
associated with conducting business internationally, including fluctuations
in currency exchange rates, longer payment cycles, difficulties in staffing
and managing international operations, problems in collecting accounts
17
<PAGE>
receivable, seasonal reductions in business activity during the summer months
in Europe and certain other parts of the world, increases in tariffs, duties,
price controls or other restrictions on foreign currencies, and trade
barriers imposed by foreign countries, any of which could have a material
adverse effect on the Company's business, operating results and financial
condition. In particular, recent instability in the Asian-Pacific economies
and financial markets, could have an adverse effect on the Company's
operating results in future quarters. In addition, the Company has only
limited experience in developing localized versions of its products and
marketing and distributing its products internationally. There can be no
assurance that the Company will be able to successfully localize, market,
sell and deliver its products internationally. The inability of the Company
to expand its international operations successfully and in a timely manner
could have a material adverse effect on the Company's business, operating
results and financial condition.
A significant portion of the Company's business is conducted in
currencies other than the U.S. dollar. Foreign currency transaction gains and
losses arising from normal business operations are credited to or charged
against earnings in the period incurred. As a result, fluctuations in the
value of the currencies in which the Company conducts its business relative
to the U.S. dollar have caused and will continue to cause currency
transaction gains and losses. Due to the substantial volatility of currency
exchange rates, among other factors, the Company cannot predict the effect of
exchange rate fluctuations upon future operating results. There can be no
assurance that the Company will not experience currency losses in the future.
The Company has recently implemented a foreign exchange hedging program,
consisting principally of purchases of one month forward-rate currency
contracts. Notwithstanding such a program, there can be no assurances that
the Company's hedging activities will adequately protect the Company against
the risks associated with foreign currency fluctuations. See "--Management of
Growth."
YEAR 2000 IMPACT ON INFORMATION TECHNOLOGY BUDGETS. Many currently
installed computer systems and software products are coded to accept only two
digit entries in the date code field. These date code fields will need to
accept four digit entries to distinguish 21st century dates from 20th century
dates. As a result, in less than three years, computer systems and/or
software used by many companies may need to be upgraded to comply with such
"Year 2000" requirements. Significant uncertainty exists in the software
industry concerning the potential effects associated with such compliance.
The Company believes that the purchasing patterns of customers and
potential customers may be affected by Year 2000 issues. Many companies are
expending significant resources to correct their current software systems for
Year 2000 compliance. These expenditures may result in reduced funds
available to purchase software products such as those offered by the Company.
DEPENDENCE ON PROPRIETARY TECHNOLOGY; RISKS OF INFRINGEMENT. The
Company's success is dependent upon proprietary technology. The Company
relies primarily on a combination of copyright and trademark laws, trade
secrets, confidentiality procedures and contractual provisions to protect its
proprietary rights. The Company seeks to protect its software, documentation
and other written materials under trade secret and copyright laws, which
provide only limited protection. Despite precautions taken by the Company, it
may be possible for unauthorized third parties to copy aspects of its current
or future products or to obtain and use information that the Company regards
as proprietary. In particular, the Company may provide its licensees with
access to its data model and other proprietary information underlying its
licensed applications. There can be no assurance that the Company's means of
protecting its proprietary rights will be adequate or that the Company's
competitors will not independently develop similar or superior technology.
Policing unauthorized use of the Company's software is difficult and, while
the Company is unable to determine the extent to which piracy of its software
products exists, software piracy can be expected to be a persistent problem.
In addition, the laws of some foreign countries do not protect the Company's
proprietary rights to the same extent as do the laws of the United States.
Litigation may be necessary in the future to enforce the Company's
intellectual property rights, to protect the Company's 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 the Company's business, operating
results and financial condition.
18
<PAGE>
The Company is not aware that any of its software product offerings
infringes the proprietary rights of third parties. There can be no assurance,
however, that third parties will not claim infringement by the Company with
respect to its current or future products. The Company expects that software
product developers will increasingly be subject to infringement claims as the
number of products and competitors in the Company's industry segment grows
and the functionality of products in different industry segments overlaps.
Any such claims, with or without merit, could be time-consuming, result in
costly litigation, cause, product shipment delays or require the Company to
enter into royalty or licensing agreements. Such royalty or licensing
agreements, if required, may not be available on terms acceptable to the
Company or at all, which could have a material adverse effect on the
Company's business, operating results and financial condition.
RAPID TECHNOLOGICAL CHANGE AND PRODUCT DEVELOPMENT RISKS. The market
for the Company's products is subject to rapid technological change, changing
customer needs, frequent new product introductions and evolving industry
standards that may render existing products and services obsolete. As a
result, the Company's position in its existing markets or other markets that
it may enter could be eroded rapidly by product advances. The life cycles of
the Company's products are difficult to estimate. The Company's growth and
future financial performance will depend in part upon its ability to enhance
existing applications, develop and introduce new applications that keep pace
with technological advances, meet changing customer requirements and respond
to competitive products. The Company's product development efforts are
expected to continue to require substantial investments by the Company. There
can be no assurance that the Company will have sufficient resources to make
the necessary investments. The Company has in the past experienced
development delays, and there can be no assurance that the Company will not
experience such delays in the future. There can be no assurance that the
Company will not experience difficulties that could delay or prevent the
successful development, introduction or marketing of new or enhanced
products. In addition, there can be no assurance that such products will
achieve market acceptance, or that the Company's current or future products
will conform to industry requirements. The inability of the Company, for
technological or other reasons, to develop and introduce new and enhanced
products in a timely manner could have a material adverse effect on the
Company's business, operating results and financial condition.
Software products as complex as those offered by the Company may
contain errors that may be detected at any point in a product's life cycle.
The Company has in the past discovered software errors in certain of its
products and has experienced delays in shipment of products during the period
required to correct these errors. There can be no assurance that, despite
testing by the Company and by current and potential customers, errors will
not be found, resulting in loss of, or delay in, market acceptance and sales,
diversion of development resources, injury to the Company's reputation, or
increased service and warranty costs, any of which could have a material
adverse effect on the Company's business, results of operations and financial
condition.
PRODUCT LIABILITY. The Company's license agreements with its
customers typically contain provisions designed to limit the Company's
exposure to potential product liability claims. It is possible, however, that
the limitation of liability provisions contained in the Company's license
agreements may not be effective under the laws of certain jurisdictions.
Although the Company has not experienced any product liability claims to
date, the sale and support of products by the Company may entail the risk of
such claims, and there can be no assurance that the Company Will not be
subject to such claims in the future. A product liability claim brought
against the Company could have a material adverse effect on the Company's
business, operating results and financial condition.
VOLATILITY OF STOCK PRICE. The Company completed its initial public
offering of Common Stock in April 1997, prior to which time no public market
existed for the Company's Common Stock. The market price of the Company's
Common Stock has been since the initial public offering and is expected to
continue to be subject to significant fluctuations in the future based on a
number of factors, including any shortfall in the Company's revenues or net
income from revenues or net income expected by securities analysts;
announcements of new products by the Company or its competitors; quarterly
fluctuations in the Company's financial results or the results of other
software companies, including those of direct competitors of the Company;
changes in analysts' estimates of the Company's financial performance, the
financial performance of competitors, or the financial performance of
software companies in general; general conditions in the software industry;
changes in prices for the Company's products or competitors' products;
changes in revenue growth rates for the Company or its competitors; sales of
large blocks of Common Stock by holders whose ability to sell has been
limited by restrictions under applicable
19
<PAGE>
securities laws and conditions in the financial markets. In addition, the
stock market may from time to time experience extreme price and volume
fluctuations, which particularly affect the market price for the securities
of many technology companies and which have often been unrelated to the
operating performance of the specific companies. There can be no assurance
that the market price of the Company's Common Stock will not experience
significant fluctuations in the future.
20
<PAGE>
PART II.
OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits:
<TABLE>
<CAPTION>
Exhibits Exhibit Title
-------- -------------
<S> <C>
10.23* Severance Settlement Agreement and Release of Claims
between Alan H. Hunt and the Company, dated January 30, 1998.
11.1 Statement regarding computation of per share earnings.
27.1 Financial Data Schedule
</TABLE>
*Exhibit filed with the Company's original Quarterly Report on Form 10-Q
for the quarter ended December 31, 1997.
b) Reports on Form 8-K:
None.
21
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this amendment to its quarterly report on Form
10-Q to be signed on its behalf by the undersigned thereunto duly authorized
in the City of San Diego, California, this 21st day of April, 1999.
PEREGRINE SYSTEMS, INC.
By /s/ David A. Farley
---------------------------------------
David A. Farley
Senior Vice President, Finance and
Administration Chief Financial Officer
(Principal Financial Officer)
By /s/ Matthew C. Gless
---------------------------------------
Matthew C. Gless
Vice President, Finance and Chief
Accounting Officer
22
<PAGE>
EXHIBIT 11.1
PEREGRINE SYSTEMS, INC.
COMPUTATION OF NET INCOME PER SHARE
(IN THOUSANDS, EXCEPT FOR SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED DECEMBER 31,
-------------------------------
1996 1997
------- -------
<S> <C> <C>
Diluted:
Net income ........................................... $ 1,638 $1,388
------- -------
Weighted average number of shares and equivalent
shares outstanding:
Weighted average number of shares outstanding. 12,904 18,039
Effect of stock options....................... 1,615 2,071
------- -------
14,519 20,110
------- -------
Net income per share.................................. $ 0.11 $ 0.07
------- -------
------- -------
Basic:
Net income............................................ $ 1,638 $ 1,388
------- -------
Weighted average number of shares outstanding......... 12,904 18,039
------- -------
Net income per share.................................. $ 0.13 $ 0.08
------- -------
------- -------
<CAPTION>
NINE MONTHS ENDED DECEMBER 31,
------------------------------
1996 1997
------- -------
<S> <C> <C>
Diluted:
Net income (loss)..................................... $ 2,218 $(2,369)
------- -------
Weighted average number of shares and equivalent
Shares outstanding:
Weighted average number of shares outstanding. 12,901 15,510
Effect of stock options....................... 1,537 -
------- -------
14,438 15,510
------- -------
Net income (loss) per share........................... $ 0.15 $ (0.15)
------- -------
------- -------
Basic:
Net income ........................................... $ 2,218 $(2,369)
------- -------
Weighted average number of shares outstanding......... 12,901 15,510
------- -------
Net income (loss) per share........................... $ 0.17 $ (0.15)
------- -------
------- -------
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> MAR-31-1998
<PERIOD-START> APR-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 15,503
<SECURITIES> 0
<RECEIVABLES> 17,325
<ALLOWANCES> (462)
<INVENTORY> 0
<CURRENT-ASSETS> 35,905
<PP&E> 11,332
<DEPRECIATION> (6,477)
<TOTAL-ASSETS> 71,391
<CURRENT-LIABILITIES> 23,575
<BONDS> 0
0
0
<COMMON> 18
<OTHER-SE> 44,186
<TOTAL-LIABILITY-AND-EQUITY> 71,391
<SALES> 41,727
<TOTAL-REVENUES> 41,727
<CGS> 6,941
<TOTAL-COSTS> 41,192
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 242
<INTEREST-EXPENSE> 34
<INCOME-PRETAX> 1,143
<INCOME-TAX> 3,512
<INCOME-CONTINUING> (2,369)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,369)
<EPS-PRIMARY> (0.15)
<EPS-DILUTED> (0.15)
</TABLE>
