<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
____________
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-24081
Evolving Systems, Inc.
(Exact Name of Registrant as Specified in its Charter)
Delaware 84-1010843
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
9777 Mt. Pyramid Court, Englewood, Colorado 80112
(Address of Principal Executive Offices) (Zip Code)
(303) 802-1000
(Registrant's Telephone Number, Including Area Code)
Indicate by check 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 filed such reports, and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--- ---
As of March 31, 1999, there were outstanding 12,086,746 shares of
Registrant's Common Stock (par value $0.001 per share).
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EVOLVING SYSTEMS, INC.
<TABLE>
<S> <C>
PART 1 FINANCIAL INFORMATION PAGE
Item 1. Financial Statements
Balance Sheets
March 31,1999 (unaudited) and December 31, 1998.............................................................. 3
Statements of Operations
for the three-month period ended March 31, 1999 and 1998 (unaudited)......................................... 4
Condensed Statements of Cash Flow
for the three month period ended March 31, 1999 and 1998 (unaudited)......................................... 5
Notes to Financial Statements........................................................................................ 5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations................................ 7
PART II OTHER INFORMATION.................................................................................................... 13
Item 1. Legal Proceedings.................................................................................................... 13
Item 2. Changes in Securities................................................................................................ 13
Item 3. Defaults on Senior Securities........................................................................................ 13
Item 4. Submission of Matters to a Vote of Security Holders.................................................................. 13
Item 5. Other Information.................................................................................................... 13
Item 6. Exhibits and Reports on Form 8-K..................................................................................... 13
SIGNATURES................................................................................................................... 13
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EVOLVING SYSTEMS, INC.
BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
March 31, Dec. 31,
1999 1998
----------- ------------
<S> <C> <C>
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 7,422 $ 11,707
Short-term investments 10,415 6,950
Contract receivables, net 13,621 14,239
Unbilled work-in-process 3,908 3,374
Prepaid and other current assets 976 2,031
-------- --------
Total current assets 36,342 38,301
Property and equipment, net 7,251 7,631
Deferred tax asset 1,547 1,547
-------- --------
Total assets $ 45,140 $ 47,479
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term obligations $ 974 1,211
Accounts payable and accrued liabilities 5,600 3,002
Unearned revenue and customer deposits 2,816 3,079
-------- --------
Total current liabilities 9,390 7,292
Long-term obligations 643 825
Deferred income taxes 0 0
-------- --------
Total liabilities 10,033 8,117
Stockholders' equity:
Preferred stock, $.001 par value, 2,000,000 shares authorized,
no shares issued ---- ----
Common stock, 12 12
$.001 par value; 25,000,000 shares authorized, 12,086,746 and
11,888,021 shares issued and outstanding as of March 31, 1999
and December 31, 1998, respectively
Additional paid-in-capital 50,864 50,703
Deferred compensation (270) (345)
Retained deficit (15,499) (11,008)
-------- --------
Total stockholders' equity 35,107 39,362
-------- --------
Total liabilities and
stockholders' equity $ 45,140 47,479
======== ========
</TABLE>
The accompanying notes are an integral part of the financial statements.
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EVOLVING SYSTEMS, INC.
STATEMENTS OF OPERATIONS
(IN THOUSANDS EXCEPT PER SHARE DATA)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
Revenue: 1999 1998
------- -------
<S> <C> <C>
License fees and related services $ 699 5,787
Other services 8,160 7,341
------- -------
Total revenue 8,859 13,128
------- -------
Cost of revenue:
License fees and related services 2,012 1,919
Other services 4,776 4,694
------- -------
Total cost of revenue 6,788 6,613
------- -------
Gross margin 2,071 6,515
Operating expenses:
Sales and marketing 672 1,388
General and administrative 2,423 2,137
Research and development 394 1,962
------- -------
Total operating expenses 3,489 5,487
------- -------
Income (loss) from operations (1,418) 1,028
Litigation settlement and expenses 3,251 0
Other (income) expense, net (178) 372
------- -------
Income (loss) before income taxes (4,491) 656
Provision for (benefit from) income taxes 0 216
------- -------
Net income (loss) $(4,491) $ 440
======= =======
Basic earnings per common share:
Net income (loss) per common share $(.37) $.27
======= =======
Diluted earnings per common share:
Net income (loss) per common share $(.37) $.05
======= =======
Basic shares outstanding 12,068 1,630
Diluted shares outstanding 12,068 9,671
</TABLE>
The accompanying notes are an integral part of the financial statements.
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EVOLVING SYSTEMS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended March 31,
------------------------------
1999 1998
------- -------
<S> <C> <C>
Operating activities:
Net income (loss) $(4,491) $ 440
Adjustments to reconcile net income (loss) to net cash used in operating
activities:
Amortization of deferred compensation 75 75
Depreciation and amortization 966 1,119
Provision for deferred income taxes - 147
Change in operating assets and liabilities:
Contract receivables 618 4,303
Unbilled work-in-process (534) (3,977)
Prepaid and other assets 1,055 (431)
Accounts payable and accrued liabilities 2,598 336
Unearned revenue and customer deposits (263) (4,093)
------- -------
Net cash provided by (used in) operating activities 24 (2,081)
Investing activities:
Purchases of property and equipment (586) (544)
Purchases of short term investments (3,465) 0
------- -------
Net cash used in investing activities (4,051) (544)
Financing activities:
Borrowings (repayment) of long-term obligations (419) 3,990
Proceeds from stock options exercises 161 0
------- ------
Net cash provided by (used in) financing activities (258) 3,990
------- ------
Net increase (decrease) in cash and cash equivalents (4,285) 1,365
Cash and cash equivalents at beginning of period 11,707 1,171
------- ------
Cash and cash equivalents at end of period $ 7,422 $2,536
======= ======
</TABLE>
The accompanying notes are an integral part of the financial statements.
EVOLVING SYSTEMS, INC.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
(1) Basis of Presentation
Interim Financial Statements. The accompanying financial statements of
Evolving Systems, Inc. (the "Company") have been prepared pursuant to the rules
and regulations of the Securities and Exchange Commission ("SEC"). Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations. However, the
Company believes that the disclosures are adequate to make the information
presented not misleading. The unaudited financial statements included herein
have been prepared on the same basis as the annual financial statements and
reflect all adjustments, which include only normal recurring adjustments,
necessary for a fair presentation in accordance with generally accepted
accounting principles. The results for the period ended March 31, 1999 are not
necessarily indicative of the results to be expected for any subsequent quarter
or full fiscal year. These financial statements should be read in conjunction
with the audited financial statements and the notes thereto for the year ended
December 31, 1997 included in the Company's Registration Statement on Form S-1
(No. 333-43973), which was declared effective by the SEC on May 11, 1998, and
the Company's Form 10-K for the year ended December 31, 1998.
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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, disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses during the
reporting period. Actual results could differ from those estimates.
(2) Earnings (Loss) Per Common Share
Basic EPS was computed by dividing net income (loss) by the weighted
average number of common shares outstanding during the period. Diluted EPS was
computed using the weighted average number of common shares plus all dilutive
potential common shares outstanding during the period unless the effect of the
potential common shares is anti-dilutive.
The following is the reconciliation of the numerators and denominators of
the basic and diluted EPS computations (in thousands, except per share data):
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1999 1998
<S> <C> <C>
Basic earnings per share:
Net income (loss) $(4,491) $ 440
Weighted average common shares outstanding 12,068 1,630
Basic net income (loss) per common share $ (.37) $ .27
Effect of dilutive securities:
Options and warrants - 1,921
Preferred stock - 6,120
------- ------
Diluted weighted average common shares outstanding 12,068 9,671
Diluted net income (loss) per common share $ (.37) $ .05
</TABLE>
In February 1998, the Company effected a one-for-two reverse stock split.
All references in the financial statements to shares, share prices, and per
share amounts have been adjusted retroactively for all periods presented to
reflect the stock split.
(3) Initial Public Offering
In May 1998, the Company effected an initial public offering on Form S-1.
In connection with the offering, the Company issued 3,798,000 shares of common
stock, including shares issued to cover the underwriters' over-allotment option,
and received net proceeds of approximately $48 million. In addition, all
Preferred Stock was converted into common stock upon the closing of the initial
public offering.
(4) Contingencies, Litigation Settlement and Legal Fees
In June, 1998, four class action lawsuits were filed in the U.S. District
Court for the District of Colorado against the Company and certain of its
officers and directors and, in two cases, the Company's underwriters of the
Company's initial public offering on behalf of purchasers of the Company's
common stock between May 12, 1998 and June 17, 1998. In October 1998, these
cases were consolidated, class action status was certified, and the class period
was extended to July 23, 1998. The plaintiffs alleged that the defendants misled
investors concerning the Company's business, finances and future prospects and
the Company has denied these allegations. The parties reached an out-of-court-
settlement of the lawsuit on April 12, 1999, which is pending court approval.
The Company is, from time to time, subject to certain other claims,
assertions or litigation by outside parties as part of its ongoing business
operations. The outcome of any such contingencies are not expected to have a
material adverse effect on the financial condition, operations or cash flows of
the Company.
<PAGE>
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
---------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------
GENERAL
- -------
Evolving Systems provides the telecommunications industry with solutions
containing software products and systems integration for a full range of
business and operational support systems and network element software.
The Company adopted the provisions of Statement of Position 97-2, "Software
Revenue Recognition," for transactions entered into after January 1, 1998. The
Company derives revenue from license fees and services under the terms of both
fixed price and time and materials contracts. License fees and related services
revenue consists of revenue from contracts that generally provide for both
licenses and services related to the Company's standard software products.
Other services revenue consists of revenue from custom programming, systems
integration of third-party products, annual maintenance contracts and training.
License fees and related services revenue is generally recognized using the
percentage-of-completion method of accounting. The percentage-of-completion for
each contract is determined based on the ratio of direct labor hours incurred to
total estimated direct labor hours. Amounts billed in advance of services being
performed are recorded as unearned revenue. Unbilled work in-progress
represents revenue earned but not yet billable under contract terms and all such
amounts are expected to be billed and collected during the succeeding twelve
months. Services revenue provided under fixed price contracts is generally
recognized using the percentage-of-completion method of accounting described
above. Revenue from other services provided pursuant to time-and-materials
contracts is recognized as the services are performed. Annual maintenance
revenue is recorded as deferred revenue and is recognized ratably over the
service period, which is generally 12 months. Revenue from training services is
recognized as the training services are performed. When maintenance or training
services are bundled with the original license fee arrangement, their fair value
is deferred and recognized during the period such services are provided.
The Company may encounter budget and schedule overruns on fixed-price
contracts caused by increased material, labor, or overhead costs. Adjustments
to cost estimates are made in the periods in which the facts requiring such
revisions become known. Estimated losses, if any, are recorded in the period in
which current estimates of total contract revenue and contract cost indicate a
loss.
On May 11, 1998 the Commission declared effective the Company's
Registration Statement on Form S-1 (Registration Statement No. 333-43973), which
should be read in conjunction with this document for further information
regarding the Company's business, risk factors, and accounting policies.
<PAGE>
Page 8
RESULTS OF OPERATIONS
- ---------------------
The following table presents, for the periods indicated, certain items in
the Company's unaudited statement of operations reflected as a percentage of
total revenue.
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
(unaudited)
-----------
Revenue: 1999 1998
------ -----
<S> <C> <C>
License fees and related services 7.9% 44.1%
Other services 92.1 55.9
------ -----
Total revenue 100.0 100.0
Cost of revenue:
License fees and related services 22.7 14.6
Other services 53.9 35.8
------ -----
Total cost of revenue 76.6 50.4
Gross margin 23.4 49.6
Operating expenses:
Sales and marketing 7.6 10.6
General and administrative 27.4 16.3
Research and development 4.4 14.9
------ -----
Total operating expense 39.4 41.8
Income (loss) from operations (16.0) 7.8
Litigation settlement and expense 36.7 0
Other income, net (2.0) (2.8)
------ -----
Income (loss) before income taxes (50.7) 5.0
Provision for (benefit from) income taxes 0.0 1.6
------ -----
Net income (loss) (50.7)% 3.4%
====== =====
</TABLE>
The three months ended March 31, 1999 compared to the three months ended March
31, 1998
Revenue. Total revenue decreased approximately $4.3 million or 33% to $8.9
million in the three months-ended March 31,1999 from $13.1 million in the three
months ended March 31, 1998. License fees and related services revenue
decreased by $5.1 million or 88% to $699,000 in the three months ended March 31,
1999 from $5.8 million in the three months ended March 31, 1998, reflecting the
completion of certain major LNP projects in 1998 and decreased demand for LNP in
the three months ending March 31, 1999 due to easing of regulatory requirements
for LNP in the wireless sector. Other services revenue increased by $819,000 or
11% to $8.2 million in the three months ended March 31, 1999 from $7.3 million
in the three months ended March 31, 1998, reflecting growth in consulting and
custom programming projects with long-standing customers in 1999. As a
percentage of total revenue other services revenue increased to 92% for the
three months ended March 31, 1999 from 56% for the three months ended March 31,
1998.
Cost of revenue. Total cost of revenue increased by $175,000 or 3% to $6.8
million in the three months ended March 31, 1999 from $6.6 million in the three
months ended March 31, 1998. As a percentage of total revenue, costs increased
from 50.4% of revenue in the three months ended March 31, 1998 to 76.6% of
revenue due to the decline in revenue in the three months ended March 31, 1999.
Cost of license fees and related services increased by $93,000 or 5% to $2.0
million for the three months ended March 31, 1999 from $1.9 million for the
three months ended March 31, 1998. As a percentage of total revenue, cost of
license fees and related services increased to 22.7% for the three months ended
March 31, 1999 from 14.6% in the three months ended March 31, 1998. The decline
in costs of license fees and related services in absolute dollar terms reflects
the decreases in personnel assigned to LNP product development and reassignment
of this staff to custom programming and systems integration efforts. Cost of
other services increased by $82,000 or 2% to $4.8 million for the three months
ended March 31, 1999 from $4.7 million for the three months ended March 31,
1998. Other services cost levels were favorably impacted by efficiencies and
expense controls initiated in late 1998. The Company experienced a reduced total
gross margin in the three months ended March 31, 1999 due to the shortfall in
product related revenues previously discussed and a largely fixed cost of goods
based on staffing. The Company's expense levels are based in significant part
on its expectations regarding future revenues. The Company's revenue is
difficult to forecast because the market for the Company's products and services
is rapidly evolving, and the Company's sales cycle and the size and timing of
significant contracts vary substantially among customers.
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Page 9
Sales and marketing. Sales and marketing expenses decreased by $716,000 or 52%
to $672,000 in the three months ended March 31, 1999 from $1.4 million in the
three months ended March 31, 1998. As a percentage of revenue, sales and
marketing decreased to 7.6% of revenue in the three months ended March 31, 1999
from 10.6% in the three months ended March 31, 1998. This percentage decrease
reflects decreased sales commissions and staffing costs over the prior period.
General and administrative. General and administrative expenses increased by
$287,000 or 13.4% to $2.4 million in the three months ended March 31, 1999 from
$2.1 million in the three months ended March 31, 1998. As a percentage of
revenue, general and administrative expenses increased to 27.4% in the three
months ended March 31, 1999 from 16.3% in the three months ended March 31, 1998.
The increase in absolute dollars is attributable to increased legal expense and
other outside consultant services in the three months ended March 31, 1999.
Research and development. Research and development expenses decreased by $1.6
million, or 80%, to $394,000 in the three months ended March 31, 1999 from $2.0
million in the three months ended March 31, 1998. As a percentage of revenue,
research and development expenses decreased to 4.4% in the three months ended
March 30, 1999 from 14.9% in the three months ended March 31, 1998, reflecting
both decreases in spending due to staff decreases related to LNP product
development projects as staff was reassigned to services projects and much of
the remaining staff cost is now classified as cost of revenues for maintenance
contracts.
Other (income) expense, net. Other (income) expense, net reflected increased
income by $550,000, or 149%, to $178,000 in the three months ended March 31,
1999 from $372,000 expense in the three months ended March 31, 1998. Interest
expense declined $336,000 or 87% to $51,000 in the three months ended March 31,
1999 from $387,000 in the three months ended March 31, 1998. This expense
results principally from interest expense on the Company's outstanding debt and
the decrease from prior periods reflects the repayment of most outstanding long
term debt and line of credit advances following the Company's initial public
offering in May, 1998 as well as interest income on the Company's cash
subsequent to the offering.
Litigation settlement and expense.
The Company reached a settlement with the plaintiffs that is awaiting final
approval by the Court. The aggregate settlement amount is $10,000,000 and the
Company's insurance limit is $7,500,000. The Company paid $2,500,000 in cash in
April, 1999 to the settlement escrow account and has expensed another $800,000
in legal and related expenses. These expenses were recognized in the quarter
ending March 31, 1999 as the closure of a contingent liability resulting from
that period.
Provision for (benefit from) Income Taxes. The Company recorded no income tax
benefit relating to its operating loss of $4.5 million for the three months
ended March 31, 1999 compared to a tax provision of $216,000 for the three
months ended March 31, 1998. The Company deems it inappropriate to book such
benefits until the market for the Company's products and services stabilizes and
projected operating results reflect greater certainty of profitability to
realize such benefits.
Liquidity and Capital Resources.
The Company has historically financed its operations through a combination
of cash flow from operations and borrowings. On May 15, 1998, the Company
completed its initial public offering of common stock and subsequently repaid
most outstanding borrowings. At March 31, 1999, the Company's principal
sources of liquidity included $7.4 million in cash and cash equivalents, $10.4
million in short term investments, a $10.0 million secured bank line of credit
and an equipment term loan agreement of $1.5 million, both of which expire in
September 1999. As of March 31, 1999, the Company had no outstanding balance
under the line of credit and no balance outstanding with respect to the
equipment term loan agreement. The Company is required under the credit line to
comply with certain financial covenants regarding tangible net worth,
performance ratios relating to profitability, debt, asset performance, and
working capital. At March 31, 1999, the Company was in compliance with such
covenants.
At March 31, 1998, the Company had senior promissory notes payable to
stockholders in the amount of $6.8 million bearing semi-annual interest payments
at a rate of 9% beginning April 1996, and principal repayments of $1.6 million
due semi-annually beginning in 2000. The Company also had notes payable to
stockholders in the amount of $5.1 million bearing annual interest payments of
7.25%, with the principal due in 2006. Following the Company's initial public
offering in May, 1998, these notes and accrued interest obligations were
retired.
Net cash provided by operating activities was $24,000 in the three months
ended March 31, 1999 compared to a usage of $2.1 million in the three months
ended March 31, 1998. The main contributors to the provision of cash by
operations in the three months ended March 31, 1999 were a decrease in prepaid
and other assets of $1 million, partially offset by a decrease in customer
deposits and unearned revenue by $263,000 and an increase in accounts payable
and accrued liabilities of $2.6 million, primarily caused by the $2.5 million
accrual of the litigation settlement. Receivables provided cash of $618,000
during this period reflecting increased collections on major accounts. In the
three months ended March 31, 1998, the cash usage by operations was largely the
result of a decrease of $4.0 million in customer deposits and unearned revenue
due to large LNP contracts progressing and recognizing revenue during that
period.
Net cash used in investing activities during the three months ended March
31, 1999 and March 31, 1998 was $4.0 million and $.5 million respectively in the
area of equipment and facilities to support operations.
<PAGE>
Page 10
Financing activities used $258,000 in cash in the three months ended March
31, 1999 for the repayment of capital leases compared to providing $4.0 million
through borrowing from the line of credit in the three months ended March 31,
1998. The Company's initial public offering generated approximately $48 million
and all outstanding debt of the Company except for capital lease obligations
were repaid subsequent to March 31, 1998.
The Company believes that its current cash and short-term investments,
together with anticipated cash flow from operations and its existing credit
facilities and the net proceeds from the initial public offering will be
sufficient to meet its working capital and capital expenditure requirements for
at least the next twelve months. Thereafter, the Company may require additional
funds to support such activity through public or private equity financing or
from other sources. There can be no assurance that additional financing will be
available at all or that if available, such financing will be obtainable on
terms favorable to the Company and would not be dilutive.
Factors that might affect operating results.
The Company's operating results have fluctuated significantly in the past
and are likely to continue to fluctuate significantly in the future.
Fluctuations in operating results have may continue to result in volatility in
the price of the Company's Common Stock. There can be no assurance that the
Company will be profitable in the future or that the Company's level of
profitability will not vary significantly between quarters. These quarterly
fluctuations may result from a number of factors, including the magnitude,
timing and signing of new contracts; the Company's rate of progress under such
contracts; the timing of customer and market acceptance of the Company's product
and service offerings; actual or anticipated changes in government laws and
regulations related to the telecommunications market or judicial or
administrative actions with respect to such laws or regulations; the nature and
pace of enforcement of the Telecommunications Act of 1996; impact of Year 2000
issues; changes in management; product lifecycles; the Company' success in
building a product-based business; the mix of products and services sold;
changes in demand for the Company's products and services; the timing of third-
party contractors' delivery of software and hardware; budgeting cycles of the
Company's customers; changes in the renewal rate of support agreements; the
timing and amount of expenditures made by the Company for research and
development and sales, general and administrative expenses; competition by
existing and emerging competitors in the telecommunications software markets;
the Company's success in developing and marketing new products, controlling
costs, attracting and retaining qualified personnel and expanding its sales and
marketing programs; regional office expansion; software defects and other
product quality problems; changes in the Company's strategy; the extent of
industry consolidation; expansion into international markets, and general
economic conditions.
A significant portion of the Company's revenue has been and is expected to
continue to be derived from a small number of customers. Accordingly, the loss
of any significant customer, delays in delivery or acceptance of any of the
Company's products or delays in the performance of services could have a
material adverse effect on the Company's business, financial condition and
results of operations. Historically, the Company has generally recognized both
license fees and service fee revenue under its customer contracts using the
percentage-of-completion method. The Company is broadening its strategy to
include the development and sale of its software products and third party
software products. To the extent that the Company is successful in doing so,
the Company expects that it may be able to record future revenue from license
fees upon the delivery of a software product to a customer. The Company's
ability to recognize revenue on software licenses as packaged software solutions
at the time of delivery depends on its ability to engage third parties to
implement its software and to separately license the software and separately
sell implementation services, as well as technical factors and customer
expectations and requirements. There can be no assurance that the Company will
be able to achieve or maintain a sales model that allows the Company to record
license fees when software products are delivered to customers. Furthermore,
software companies that account for revenue from license fees upon delivery of
software products may be exposed to increased risk of quarterly fluctuations.
To the extent that this pattern develops at the Company, any failure or delay in
the delivery of orders during any given quarter could have a material adverse
effect on the Company's business, financial condition and results of operations.
The timing of revenue recognition from the Company's contracts has caused, and
may continue to cause, material fluctuations in the Company's operating results,
particularly on a quarterly basis.
The Company's expense levels are based in significant part on its
expectations regarding future revenue. The Company's revenue is difficult to
forecast because the market for the Company's products and services is rapidly
evolving, and the Company's sales cycle and the size and timing of significant
contracts vary substantially among customers. Accordingly, the Company may be
unable to adjust spending in a timely manner to compensate for any unexpected
shortfall in revenue. Any significant shortfall from anticipated levels of
demand for the Company's products and services could have a material adverse
effect on the Company's business, financial condition and results of operations.
Based on all of the foregoing, the Company believes that future revenue,
expenses and operating results are likely to vary significantly from quarter to
quarter. As a result, quarter-to-quarter comparisons of operating results are
not necessarily meaningful or indicative of future performance. Furthermore,
the Company believes it is likely that in some future quarter the Company's
operating results will be below the expectations of public market analysts or
investors. In such event, or in the event that adverse conditions prevail, or
are perceived to prevail, with respect to the Company's business or generally,
the market price of the Company's Common Stock would likely be materially
adversely affected.
These results should be read in conjunction with the risk factors defined
in the Company's Registration Statement on Form S-1 (No. 333-43973) which was
declared effective by the SEC on May 11, 1998, and the Company's Form 10-K for
the year ended December 31, 1998. Statements contained in this Form 10-Q with
respect to future revenue and expenses
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Page 11
are "forward-looking statements" within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended. Actual results may differ. Among
the factors that could cause actual results to differ are the following: (i) the
Company's dependence on the rapidly evolving telecommunications industry, (ii)
delays in enforcement and implementation of the Telecommunications Act of 1996;
(iii) customer's acceptance of Local Number Portability Products, (iv) delays
associated with customers' internal approval and contracting procedures,
procurement practices, and testing and acceptance process including but not
limited to, delays associated with Year 2000 issues; (v) changes in management;
and (vi) rapid technological change and intense competition in the Company's
industry.
Impact of the Year 2000 Issue
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, 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 is impacted by the Year 2000 in three areas: as a developer and
supplier of telecommunications software, in its internal operations, and the
buying decisions of the Company's customers, which could result in either a
positive or negative impact on the Company's revenue.
The Company has formed a Year 2000 project team to assess its state of
readiness with respect to Year 2000 issues and to implement corrective actions
and contingency plans. This project team has completed the process of
inventorying items that will be affected by Year 2000, assigning priorities to
identified items, assessing the Year 2000 compliance of items determined to be
material to the Company, Currently the Company is repairing or replacing
materials items that are found not be Year 2000 compliant, testing Company
developed software and third party provided software, and designing contingency
plans. The Company expects the Year 2000 projects to be successfully completed
during the remainder of 1999. The following graph should be used as an
approximate guide of the Company's activities to date in regard to this problem.
<TABLE>
<CAPTION>
PHASE: Awareness Assessment Renovation Validation Implementation
<S> <C>
Products and Services |----------------------------------------X
Third Party Suppliers |---------------------------------------X
Customers |----------------------X
Evolving Systems Internal:
IT-Software |-----------------------------------------------------------------X
IT-Hardware |--------------------------------X
Non-IT Hardware |------------------------------------------------------------------X
Suppliers |---------------------------------------------------------------X
</TABLE>
The Company is currently performing Year 2000 compliance assessment and
testing using its own personnel, and there are no plans to hire third party
consultants to assist with Year 2000 compliance activities.
Products: The Company currently offers software products that are designed
to be Year 2000 compliant and the Company's current contracts with its customers
require that the Company warrant Year 2000 capability. Although the Company has
designed its products to be Year 2000 capable and has tested third-party
software that is incorporated with the Company's products, there can be no
assurance that the Company's software products, particularly when such products
incorporate third-party software, contain all necessary date code changes. The
Company is continuing its review of its products to ensure compliance and
anticipates ongoing testing of its products through the third quarter of 1999 as
new releases of the Company's products are made available to the Company's
customers. The Company's primary products subject to Year 2000 issues are the
Company's Local Number Portability products. Testing of these products was
conducted in early 1998, and additional testing is ongoing.
Custom Software and Services: The Company provides custom software and
related services for a number of customers. These customers have engaged the
Company to perform Year 2000 compliance tests on such software and services. The
Company has successfully completed Year 2000 tests on several software
solutions. The Company expects to continue performing Year 2000 tests for such
customers through 1999. The Company's relationship with its customers and the
Company's exposure to liability may be impacted if the Company fails to
adequately address Year 2000 issues in its products and/or custom software
solutions. This could have a material adverse effect on the Company's business,
results of operation and financial condition.
Customers: The Company offers software products and services to
telecommunications carriers and telecommunication companies. Currently, the
Company is assisting several of these customers in the evaluation of their
<PAGE>
Page 12
software and systems to be compliant with Year 2000 requirements. As these
companies products and services are largely dependent on integrated software and
hardware networks as described above, there can be no assurance that assessment
and remediation will have been completed by all such customers within the
appropriate timeframe. As a result, the Company's business with these customers
could be negatively or positively influenced by these customers financial and
operational results and consequent decisions regarding the purchase of the
Company's products and services. A disruption of buying patterns could cause a
material adverse effect on the Company's business, results of operations and
financial condition. The Company is currently assessing the Year 2000 readiness
of its key customers.
Evolving Systems' Internal Operations:
IT - Software: The Company utilizes off-the-shelf and custom software
developed internally and by third parties. The Company's ERP (enterprise
resource planning) systems as well as its internal communication software have
been replaced within the past three years by new systems that are certified by
their vendors to be date code compliant. All such upgrades were undertaken to
increase efficiency and effectiveness of the Company's operations and were not
approved primarily for the reasons of date code compliance. The Company has
initiated correspondence with suppliers and is continuing to review what actions
will be required to make all software systems used internally Year 2000
compliant as well as to mitigate its vulnerability to problems with the systems
used by its suppliers and other third parties. As the Company receives vendor
responses, the Company is developing contingency plans as vendor responses are
being reviewed for adequacy. To the extent that such software and systems do not
comply with Year 2000 requirements, or that the Company's contingency plans are
not effective, there can be no assurance that potential systems interruptions or
the cost necessary to update such software will not have a material adverse
effect on the Company's business, financial condition and results of operations.
IT - Hardware: The Company utilizes off-the-shelf hardware in its
processing and network operations. Such equipment either has been certified to
be date code compliant or correspondence with suppliers is in progress to
validate such condition.
Non-IT - Hardware: The Company will initiate correspondence with suppliers
to review what actions will be required to make all embedded systems date code
compliant in the facilities it occupies. The costs associated with such actions
is not expected to have a material effect on the Company's business, results
operations or financial condition.
Suppliers: The Company has initiated correspondence with service suppliers
to review what actions will be undertaken to make all embedded systems date code
compliant. Such actions include a review of vendor contracts and formal
communication with suppliers to request certification that products are Year
2000 compliant. It is estimated that this review will be completed by June 30,
1999.
The Company, at this time, is in the process of creating contingency plans
in the event of the failure of its remediation efforts. A full assessment of
the potential points of failure is ongoing and is expected to be completed by
June 30, 1999. Following the completion of the assessment phase in all areas,
the Company will continue the development and testing of the contingency plan as
part of the Company's ongoing Year 2000 compliance effort. The testing of the
contingency plans is expected to be completed by September 30, 1999.
Costs: The costs of the Company's Year 2000 compliance efforts are being funded
with cash flows from operations. To date, these costs have been associated with
the reallocation of internal staff hours to Year 2000 project related efforts
and have not been material. As additional evaluation and testing is performed,
particularly on the Company's products if independent third party vendors are
engaged by the Company, these costs are likely to increase significantly. As
ongoing testing is performed, modifications to the Company's products may be
required. The total costs that the Company incurs in connection with the Year
2000 problems will be influenced by the Company's ability to successfully
identify Year 2000 systems' flaws, the nature and amount of programming required
to fix the affected programs, the related labor and/or consulting costs for such
remediation, and the ability of third parties with whom the Company has business
relationships to successfully address their own Year 2000 concerns. Due to the
wide variability of the different issues surrounding Year 2000, the estimate to
analyze, correct, replace component software, test, and redeploy will be in the
range of $1 to $2 million dollars. As a result, the Company does not feel that
the total costs will have a material impact on the Company's business, results
of operation, or financial condition.
THE DISCUSSION OF THE COMPANY'S EFFORTS AND MANAGEMENT'S EXPECTATIONS RELATING
TO YEAR 2000 COMPLIANCE CONTAIN FORWARD-LOOKING STATEMENTS AND ARE BASED ON
MANAGEMENT'S BEST ESTIMATES OF FUTURE EVENTS. MANAGEMENT BELIEVES THAT IT IS
NOT POSSIBLE TO DETERMINE WITH COMPLETE CERTAINTY THAT ALL YEAR 2000 PROBLEMS
AFFECTING THE COMPANY HAVE BEEN IDENTIFIED OR CORRECTED. RISKS TO COMPLETING
THE PLAN INCLUDE THE AVAILABILITY OF RESOURCES, THE COMPANY'S ABILITY TO
DISCOVER AND CORRECT THE POTENTIAL YEAR 2000 PROBLEMS WHICH COULD HAVE IMPACT ON
THE COMPANY AND ITS PRODUCTS, THE ABILITY OF THE COMPANY AND ITS SUPPLIERS TO
BRING THEIR SOFTWARE AND SYSTEMS INTO COMPLIANCE AND UNANTICIPATED PROBLEMS
IDENTIFIED IN THE ONGOING COMPLIANCE REVIEW.
These statements regarding year 2000 readiness and the Company's year 2000
program are intended to constitute "Year 2000 Readiness Disclosures" as defined
in the recently enacted Year 2000 Information and Readiness Disclosure Act.
<PAGE>
Page 13
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Beginning on June 22, 1998, four securities class action complaints were
filed in the United states District Court for the District of Colorado against
the Company, certain of its current and former officers and directors, and the
underwriters of the Company's initial public offering. The complaints
subsequently were consolidated. The actions were brought on behalf of a class of
persons who purchased the Company's securities during the period of May 12, 1998
through July 23, 1998. The complaints allege that defendants misled investors
concerning the business and financial prospects of the Company.
On April 12, 1999, parties reached an agreement to settle the
consolidated class actions. The aggregate settlement amount is $10,000,000 in
cash. The settlement will be funded by insurance proceeds and by the Company,
with the Company paying $2,500,000, plus legal fees and other expenses incurred
by the Company in connection with the lawsuit. The $2,500,000 payment, legal
fees and other expenses will be paid out of the Company's cash balances. The
settlement is subject to approval by the Court.
Item 2. Changes in Securities
None
Item 3. Defaults on Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
On April 6, 1999, the Company solicited the written consent of its
security holders with respect to (a) Election of Directors; (b) Amendment of the
Company's Stock Option Plan; (c) Amendment to the Company's Employee Stock
Purchase Plan; and (d) Ratification of PricewaterhouseCoopers LLP as the
independent auditors of the Company
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.27 Financial Data Schedule
(b) Reports on Form 8-K
None
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.
Date: 5/7/1999 s/ David R. Johnson
---------------------------------
David R. Johnson
Senior Vice President of Finance, Chief
Financial Officer, Treasurer and
Assistant Secretary
(Principal Financial and Accounting Officer)
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM INCOME
STATEMENT, BALANCE STATEMENT, STATEMENT OF CASH FLOWS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 17,837
<SECURITIES> 0
<RECEIVABLES> 13,621
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 36,342
<PP&E> 7,251
<DEPRECIATION> 0
<TOTAL-ASSETS> 45,140
<CURRENT-LIABILITIES> 9,390
<BONDS> 0
0
0
<COMMON> 12
<OTHER-SE> 35,095
<TOTAL-LIABILITY-AND-EQUITY> 45,140
<SALES> 0
<TOTAL-REVENUES> 8,859
<CGS> 6,788
<TOTAL-COSTS> 10,277
<OTHER-EXPENSES> 3,073
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (4,491)
<INCOME-TAX> 0
<INCOME-CONTINUING> (4,491)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (4,491)
<EPS-PRIMARY> (.37)
<EPS-DILUTED> (.37)
</TABLE>
