<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___________ TO ______________
COMMISSION FILE NUMBER 000-30277
-----------
SERVICEWARE TECHNOLOGIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
<TABLE>
<S> <C>
DELAWARE 25-1647861
(State or Other Jurisdiction of Incorporation or Organization) (I.R.S. Employer Identification No.)
333 ALLEGHENY AVENUE
OAKMONT, PA 15139
(Address of Principal Executive Offices) (Zip Code)
</TABLE>
Registrant's Telephone Number, Including Area Code: (412) 826-1158
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
filing requirements for the past 90 days. Yes [ ] No [X]
The number of shares of the registrant's common stock outstanding as of
the close of business on November 5, 2000 was 24,289,899.
<PAGE> 2
ServiceWare Technologies, Inc.
Form 10-Q
September 30, 2000
INDEX
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE
----
<S> <C>
ITEM 1. Consolidated Financial Statements (Unaudited)
. Consolidated Balance Sheets as of September 30, 2000 and December 31, 1999............. 3
. Consolidated Statements of Operations for the three and nine months
ended September 30, 2000 and 1999...................................................... 4
. Consolidated Statement of Shareholders' Equity for the six months
ended June 30, 2000 and the three months ended September 30, 2000....................... 5-6
. Consolidated Statements of Cash Flows for the nine months
ended September 30, 2000 and September 30, 1999........................................ 7
. Notes to Consolidated Financial Statements............................................. 8
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 12
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk............................. 26
PART II. OTHER INFORMATION
ITEM 2. Change in Securities and Use of Proceeds................................................... 26
ITEM 6. Exhibits and Reports on Form 8-K........................................................... 27
</TABLE>
Page 2 of 27
<PAGE> 3
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS
Amounts in thousands, except per share amounts September 30, 2000 December 31, 1999
------------------ -----------------
(unaudited)
<S> <C> <C>
ASSETS
Current assets
Cash and cash equivalents $ 32,609 $ 6,623
Accounts receivable, less allowance for doubtful accounts of
$360 as of September 30, 2000 and $312 in 1999 7,447 3,283
Other current assets 2,020 457
-------- --------
Total current assets 42,076 10,363
Long term assets
Purchased technology, net of amortization of $705 as of
September 30, 2000 and $259 in 1999 1,077 1,518
Property and equipment
Office furniture, equipment, and leasehold improvements 1,366 1,162
Computer equipment 5,272 3,470
-------- --------
Total property and equipment 6,638 4,630
Less accumulated depreciation (3,650) (2,635)
-------- --------
Property and equipment, net 2,988 1,995
Intangible assets, net of accumulated amortization of $5,997
as of September 30, 2000 and $2,204 in 1999 8,911 12,696
Long term receivables 1,100 --
Other long term assets 222 162
-------- --------
Total long term assets 14,298 16,371
-------- --------
Total assets $ 56,374 $ 26,734
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Revolving line of credit $ -- $ 1,250
Accounts payable 1,547 427
Accrued compensation and benefits 1,639 1,325
Deferred revenue - licenses and subscriptions 4,787 7,056
Deferred revenue - services 3,305 2,030
Other current liabilities 1,917 1,036
-------- --------
Total current liabilities 13,195 13,124
-------- --------
Long term debt, less current portion 301 2,931
Long term deferred revenue - licenses and subscriptions 785 --
Long term deferred revenue - services 315 --
Other long term liabilities 2 18
-------- --------
Total liabilities 14,598 16,073
Shareholders' equity
Series A convertible preferred stock, 0 shares authorized, issued and
outstanding in 2000, $1 par in 1999; 244 shares authorized,
issued and outstanding in 1999 -- 348
Series B convertible preferred stock, 0 shares authorized, issued and
outstanding in 2000, $1 par in 1999; 1,059 shares authorized,
issued and outstanding in 1999 -- 1,978
Series C convertible preferred stock, 0 shares authorized, issued and
outstanding in 2000, $1 par in 1999; 1,111 shares authorized,
issued and outstanding in 1999 -- 1,721
Series D convertible preferred stock, 0 shares authorized, issued and
outstanding in 2000, $1 par in 1999; 2,400 shares authorized,
issued and outstanding in 1999 -- 7,953
Series E convertible preferred stock, 0 shares authorized, issued and
outstanding in 2000, $1 par in 1999; 3,000 shares authorized, 2,648
issued and outstanding in 1999 -- 9,930
Common stock, $0.01 par in 2000; 100,000 shares authorized, 24,290 shares
issued and outstanding in 2000; no par in 1999; 25,000 shares
authorized and 6,281 shares issued and outstanding in 1999 243 --
Additional paid in capital 74,132 5,264
Treasury stock (39) --
Deferred compensation (2,146) --
Warrants 1,379 857
Note receivable from common shareholders (2,510) (200)
Accumulated other comprehensive loss - Currency translation account (2) --
Retained deficit (29,281) (17,190)
-------- --------
Total shareholders' equity 41,776 10,661
-------- --------
Total liabilities and shareholders' equity $ 56,374 $ 26,734
======== ========
</TABLE>
See accompanying notes to the financial statements.
Page 3 of 27
<PAGE> 4
CONSOLIDATED STATEMENTS OF OPERATIONS
Amounts in thousands, except per share amounts
(Unaudited)
<TABLE>
<CAPTION>
Quarter ended September 30, Nine months ended September 30,
--------------------------- -------------------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
REVENUES
Licenses and subscriptions $ 6,534 $ 3,137 $ 17,711 $ 8,637
Services 1,825 1,223 5,291 2,842
-------- -------- -------- --------
Total revenues 8,359 4,360 23,002 11,479
-------- -------- -------- --------
COST OF REVENUES
Cost of licenses and subscriptions 418 277 1,304 514
Cost of services 2,330 1,010 6,262 2,398
-------- -------- -------- --------
Total cost of revenues 2,748 1,287 7,566 2,912
-------- -------- -------- --------
GROSS MARGIN 5,611 3,073 15,436 8,567
OPERATING EXPENSES
Sales and marketing 5,074 3,271 14,623 8,631
Research and development 2,071 1,932 6,504 4,995
General and administrative 697 661 1,954 1,527
Intangible assets amortization 1,266 943 3,793 943
Stock based compensation 129 -- 674 --
-------- -------- -------- --------
Total operating expenses 9,237 6,807 27,548 16,096
-------- -------- -------- --------
LOSS FROM OPERATIONS (3,626) (3,734) (12,112) (7,529)
OTHER INCOME (EXPENSE)
Interest expense (129) (58) (362) (151)
Other (net) 190 29 383 18
-------- -------- -------- --------
Other income (expense), net 61 (29) 21 (133)
-------- -------- -------- --------
NET LOSS (3,565) (3,763) (12,091) (7,662)
Less preferred dividend amounts -- -- -- (94)
-------- -------- -------- --------
NET LOSS APPLICABLE TO COMMON SHAREHOLDERS $ (3,565) $ (3,763) $(12,091) $ (7,756)
======== ======== ======== ========
NET LOSS PER COMMON SHARE, BASIC AND DILUTED $ (0.26) $ (0.64) $ (1.28) $ (1.52)
======== ======== ======== ========
SHARES USED IN COMPUTING PER SHARE AMOUNTS 13,853 5,891 9,442 5,090
======== ======== ======== ========
</TABLE>
See accompanying notes to the financial statements.
Page 4 of 27
<PAGE> 5
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Amounts in thousands, except per share amounts
(Unaudited)
<TABLE>
<CAPTION>
Convertible Preferred Stock
Series A Series B Series C
---------------- ----------------- ------------------
Shares Amount Shares Amount Shares Amount
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1999 243 $ 348 1,059 $ 1,978 1,111 $ 1,721
Issuance of Series F Convertible
Preferred stock, net of $33 issuance costs -- -- -- -- -- --
Exercise of stock options -- -- -- -- -- --
Stock based compensation -- -- -- -- -- --
Amortization of stock based compensation -- -- -- -- -- --
Issuance of warrants -- -- -- -- -- --
Amortization of warrants -- -- -- -- -- --
Net loss -- -- -- -- -- --
---------------------------------------------------------------------
Balance at June 30, 2000 243 $ 348 1,059 $ 1,978 1,111 $ 1,721
Issuance costs in conjunction with Series F -- -- -- -- -- --
Stock issuance for Initial Public Offering -- -- -- -- -- --
Dividends paid -- (98) -- (478) -- --
Conversion of Preferred stock (243) (250) (1,059) (1,500) (1,111) (1,721)
Reclassify par value of common stock -- -- -- -- -- --
Exercise of stock options -- -- -- -- -- --
Amortization of stock based compensation -- -- -- -- -- --
Exercise of warrants -- -- -- -- -- --
Amortization of warrants -- -- -- -- -- --
Repurchase of common stock -- -- -- -- -- --
Accumulated other comprehensive loss -
Currency translation adjustment -- -- -- -- -- --
Net loss -- -- -- -- -- --
---------------------------------------------------------------------
Balance at September 30, 2000 -- $ -- -- $ -- -- $ --
</TABLE>
<TABLE>
<CAPTION>
Series D Series E Series F
------------------ ------------------ ------------------
Shares Amount Shares Amount Shares Amount
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1999 2,400 $ 7,953 2,648 $ 9,930 -- --
Issuance of Series F Convertible
Preferred stock, net of $33 issuance costs -- -- -- -- 1,325 $ 10,567
Exercise of stock options -- -- -- -- -- --
Stock based compensation -- -- -- -- -- --
Amortization of stock based compensation -- -- -- -- -- --
Issuance of warrants -- -- -- -- -- --
Amortization of warrants -- -- -- -- -- --
Net loss -- -- -- -- -- --
---------------------------------------------------------------------
Balance at June 30, 2000 2,400 $ 7,953 2,648 $ 9,930 1,325 $ 10,567
Issuance costs in conjunction with Series F -- -- -- -- -- (11)
Stock issuance for Initial Public Offering -- -- -- -- -- --
Dividends paid -- -- -- -- -- --
Conversion of Preferred stock (2,400) (7,953) (2,648) (9,930) (1,325) (10,556)
Reclassify par value of common stock -- -- -- -- -- --
Exercise of stock options -- -- -- -- -- --
Amortization of stock based compensation -- -- -- -- -- --
Exercise of warrants -- -- -- -- -- --
Amortization of warrants -- -- -- -- -- --
Repurchase of common stock -- -- -- -- -- --
Accumulated other comprehensive loss -
Currency translation adjustment -- -- -- -- -- --
Net loss -- -- -- -- -- --
---------------------------------------------------------------------
Balance at September 30, 2000 -- $ -- -- $ -- -- $ --
=====================================================================
</TABLE>
See accompanying notes to the financial statements.
Page 5 of 27
<PAGE> 6
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (CONTINUED)
Amounts in thousands, except per share amounts
(Unaudited)
<TABLE>
<CAPTION>
Common stock Additional
---------------------- paid in Treasury Deferred
Shares Amount Capital stock compensation
------ ------ ------- ----- ------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1999 6,389 $ -- $ 5,264 $ -- $ --
Issuance of Series F Convertible
Preferred stock, net of $33 issuance costs -- -- -- -- --
Exercise of stock options 1,151 -- 2,539 -- --
Stock based compensation -- -- 2,532 -- (2,532)
Amortization of stock based compensation -- -- -- -- 544
Issuance of warrants -- -- -- -- (427)
Amortization of warrants -- -- -- -- 43
Net loss -- -- -- -- --
----------------------------------------------------------------------------
Balance at June 30, 2000 7,540 $ -- $ 10,335 -- $ (2,372)
Issuance costs in conjunction with Series F -- -- -- -- --
Stock issuance for Initial Public Offering 5,175 -- 31,635 -- --
Dividends paid 670 7 412 -- --
Conversion of Preferred stock 10,822 -- 31,910 -- --
Reclassify par value of common stock -- 229 (229) -- --
Exercise of stock options 83 7 69 -- --
Amortization of stock based compensation -- -- -- -- 129
Exercise of warrants -- -- -- -- (95)
Amortization of warrants -- -- -- -- 192
Repurchase of common stock -- -- -- (39) --
Accumulated other comprehensive loss -
Currency translation adjustment -- -- -- -- --
Net loss -- -- -- -- --
----------------------------------------------------------------------------
Balance at September 30, 2000 24,290 $ 243 $ 74,132 $ (39) $ (2,146)
============================================================================
</TABLE>
<TABLE>
<CAPTION>
Accumulated
Note receivable other Total
from common comprehensive Shareholders'
Warrants shareholders income Deficit Equity
-------- ------------ ------ ------- ------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1999 $ 857 $ (200) $ -- $(17,190) $ 10,661
Issuance of Series F Convertible
Preferred stock, net of $33 issuance costs -- -- -- -- 10,567
Exercise of stock options -- (2,348) -- -- 191
Stock based compensation -- -- -- -- --
Amortization of stock based compensation -- -- -- -- 544
Issuance of warrants 427 -- -- -- --
Amortization of warrants -- -- -- -- 43
Net loss -- -- -- (8,526) (8,526)
-------------------------------------------------------------------------------
Balance at June 30, 2000 $ 1,284 $ (2,548) $ -- $(25,716) $ 13,480
Issuance costs in conjunction with Series F -- -- -- -- (11)
Stock issuance for Initial Public Offering -- -- -- -- 31,635
Dividends paid -- -- -- -- (157)
Conversion of Preferred stock -- -- -- -- --
Reclassify par value of common stock -- -- -- -- --
Exercise of stock options -- -- -- -- 76
Amortization of stock based compensation -- -- -- -- 129
Exercise of warrants 95 -- -- -- --
Amortization of warrants -- -- -- -- 192
Repurchase of common stock -- 38 -- -- (1)
--------
Accumulated other comprehensive loss -
Currency translation adjustment -- -- (2) -- (2)
--------
Net loss -- -- -- (3,565) (3,565)
-------------------------------------------------------------------------------
Balance at September 30, 2000 $ 1,379 $ (2,510) $ (2) $(29,281) $ 41,776
===============================================================================
</TABLE>
See accompanying notes to the financial statements.
Page 6 of 27
<PAGE> 7
CONSOLIDATED STATEMENTS OF CASH FLOWS
Amounts in thousands, except per share amounts
(Unaudited)
<TABLE>
<CAPTION>
Nine Months Ended September 30,
-------------------------------
2000 1999
-------- -------
<S> <C> <C>
Cash flows from operating activities
Net loss $(12,091) $ (7,662)
Adjustments to reconcile net loss to net cash used in operations:
Depreciation and amortization 5,537 1,899
Stock based compensation 674 --
Changes in operating assets and liabilities, net of effects
from purchase of Molloy Group:
Accounts receivable (5,264) 643
Other assets (1,637) 118
Accounts payable 1,120 (826)
Accrued compensation 314 462
Other liabilities 878 (613)
Deferred revenue 105 (134)
-------- --------
Net cash used in operating activities (10,366) (6,113)
-------- --------
Cash flows from investing activities
Property and equipment acquisitions (2,055) (548)
Payments for purchase of Molloy Group, net of cash acquired -- (346)
-------- --------
Net cash provided by investing activities (2,055) (894)
-------- --------
Cash flows from financing activities
Repayments of principal of capital lease obligation (101) (176)
Repayments of principal of term loan (2,500) (687)
Repayments of principal of line of credit (2,250) --
Repayments of principal of equipment line (43) (143)
Repayments of principal of bridge loans -- (1,800)
Proceeds from borrowings 1,000 400
Proceeds from bridge loans -- 1,800
Proceeds from stock options issuances 269 14
Net proceeds from Series D and F Preferred stock issuance 10,556 8,729
Net proceeds from initial public offering 31,635 --
Dividends paid (157) --
-------- --------
Net cash provided by financing activities 38,409 8,137
Effect of exchange rate changes on cash (2) --
-------- --------
Increase in cash and cash equivalents 25,986 1,130
Cash and cash equivalents at beginning of period 6,623 891
-------- --------
Cash and cash equivalents at end of period $ 32,609 $ 2,021
======== ========
Supplemental disclosures of cash flow information:
Cash paid for interest $ 345 $ 151
======== ========
</TABLE>
See accompanying notes to the financial statements.
Page 7 of 27
<PAGE> 8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
(Unaudited)
Note 1. Organization of the Company
ServiceWare Technologies, Inc. (the "Company") is a leading provider of software
and content solutions that businesses use to provide an Internet-based e-service
platform to their customers, partners, suppliers and employees. The Company's
eService Suite includes software and content products which enable its customers
to develop and manage a knowledge base of service-related information. Its
solutions also permit the dissemination of knowledge through multiple
communication channels, such as telephone, e-mail, chat and Web-based
self-service. Additionally, its Internet-based knowledge portal,
RightAnswers.com(TM), enables customers to access a continuously updated
knowledge base of content obtained from leading technology companies as well as
the Company's internally produced knowledge content. The Company also offers
integration, training, consulting and maintenance services that enable its
customers to realize the benefits of its eService Suite.
The Company's products (the "Products") include:
eService Architect. The eService Architect provides a robust set of
knowledge tools that allows customers' subject matter experts and
system administrators to administer, design, manage and maintain
knowledge bases.
eService Professional. The eService Professional provides a Web-based
application interface for use by customer service professionals to more
easily navigate through the knowledge base, view various components of
the knowledge base as well as capture and revise additional knowledge.
eService Site. The eService Site allows customers to provide Web-based
self-service to their end-users.
RightAnswers.com. RightAnswers.com is an Internet-based knowledge
portal that enables customers to access a continuously updated database
of problem-solution pairs in a cost effective and timely manner.
RightAnswers.com is also sold in a CD-ROM version.
The Products were not marketed in their current form prior to 2000. eService
Architect, eService Professional and eService Site are derived from Knowledge
Bridge, which was a product of the Molloy Group prior to its acquisition by the
Company in July 1999, and includes the functionality of Knowledge-Pak Architect
and Knowledge-Pak Viewer, which were products of the Company. The predecessor of
RightAnswers.com was sold on CD-ROM as Knowledge-Pak Desktop Suite.
Knowledge-Pak Desktop Suite was often sold together with Knowledge-Pak Architect
and Knowledge-Pak Viewer. All of these various products have been integrated in
the eService Suite.
Unaudited Interim Financial Information
The accompanying unaudited balance sheet as of September 30, 2000 and related
consolidated statements of operations and cash flows for the nine months ended
September 30, 2000 and 1999, and the unaudited consolidated statement of
shareholders' equity for the nine months ended September 30, 2000 have been
prepared by the Company in accordance with U.S. generally accepted accounting
principles for interim financial information and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by U.S. generally accepted accounting principles for complete financial
statements. The interim financial statements include all adjustments, consisting
of normal recurring accruals, considered necessary for a fair presentation of
the results of interim periods. Operating results for the nine month period
ended September 30, 2000 are not necessarily indicative of the results that may
be expected for the year ending December 31, 2000.
Note 2. Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiaries after elimination of all significant intercompany
accounts and transactions.
Page 8 of 27
<PAGE> 9
Revenue Recognition
The Company's revenue recognition policy is governed by Statement of Position
(SOP) 97-2, Software Revenue Recognition, issued by the American Institute of
Certified Public Accountants (AICPA), as amended by SOP 98-4, Deferral of the
Effective Date of a Provision of SOP 97-2. The Company derives its revenues from
licenses and subscriptions for its Products sold directly to end-users and
indirectly through distributors as well as from the provision of related
services, including installation and training, consulting, customer support and
maintenance contracts. Revenues are recognized only if persuasive evidence of an
agreement exists, delivery has occurred, all significant vendor obligations are
satisfied, the fee is fixed or determinable, and collection of the amount due
from the customer is deemed probable. Additionally, in sales contracts that have
multi-element arrangements, the Company recognizes revenue using the residual
method. The total fair value of the undelivered elements as indicated by
vendor-specific objective evidence (price charged when the undelivered element
is sold individually) is deferred and the difference between the total
arrangement fee and the amount deferred for the undelivered elements is
recognized as revenue related to the delivered elements. Additional revenue
recognition criteria by revenue type are listed below.
Licenses and subscriptions revenues
Licenses and subscriptions revenues include fees for perpetual licenses and
periodic subscription licenses. The Company recognizes revenues on license fees
after a non-cancelable license agreement has been signed, the product has been
delivered, the fee is fixed, determinable and collectable, and there is
vendor-specific objective evidence to support the allocation of the total fee to
elements of a multi-element arrangement using the residual method. The Company
recognizes revenues on periodic subscription licenses over the subscription
term. Product returns and sales allowances (which have not been significant
through September 30, 2000) are estimated and provided for at the time of sale.
Due to the significant delay in receiving sales reports from distributors, the
Company recognizes licenses revenues from distributors when the sales reports
are received because at the time of delivery the fees are not fixed or
determinable and collection is not probable. Accordingly, Annual Subscription
Agreement (ASA) sales included in these reports are recognized on a
straight-line basis over the remaining term of the contract beginning in the
period that the report is received. If certain multi-element arrangements are
not able to be allocated, the entire arrangement is deferred and revenue is
recognized over the period of the last undelivered element.
Subscriptions revenues are derived from the sale of ASAs for the
RightAnswers.com products. These agreements provide for periodic access to the
RightAnswers.com web-site or the right to receive the CD based version of
RightAnswers.com for the term of the agreement. Subscriptions revenues are
recognized on a straight-line basis over the term of the contract. Payments for
subscriptions revenues are normally received in advance and are non-refundable.
Services revenues
Services revenues are derived from variable fees for installation, training,
consulting and building customized knowledge bases as well as from fixed fees
for customer support and maintenance contracts.
Maintenance and support revenues are derived from the sale of maintenance and
support contracts, which provide end-users with the right to receive maintenance
releases of the licensed products, access to the support web-site and access to
the customer support staff. Maintenance and support revenues are recognized on a
straight-line basis over the term of the contract. Payments for maintenance and
support revenues are normally received in advance and are non-refundable.
Revenues for installation and training, system integration projects, consulting
and building customized knowledge bases services are recognized as the services
are performed.
Cost of revenues
Cost of license and subscription revenues consists primarily of the expenses
related to royalties, the cost of media on which a product is delivered, product
fulfillment costs, amortization of purchased technology and salaries, benefits,
direct expenses and allocated overhead costs related to product fulfillment and
the costs associated with maintaining the Company's web-site.
Cost of services revenues consists of direct and indirect costs related to
service revenues which primarily include salaries, benefits, direct expenses and
allocated overhead costs related to the customer support and services personnel,
fees for subcontractors and the cost associated with maintaining our customer
support site.
Page 9 of 27
<PAGE> 10
Deferred revenues relate to product licenses, ASAs, maintenance services,
professional services, and unearned inventory sale revenue from distributors,
all of which generally have been paid for in advance. Additionally, deferred
revenues include amounts that are unbilled that represent non-cancelable,
non-refundable amounts billable by the Company at future dates based on
contractual payment terms.
Note 3. Acquisition
On July 23, 1999, the Company acquired the outstanding preferred stock, common
stock, and warrants and stock options to purchase common stock of Molloy Group,
Inc. (Molloy), a leading provider of knowledge-empowered software for
strengthening customer relationships. The acquisition was effected by issuing to
Molloy's security holders 2,647,984 shares of Series E Preferred Stock
($9,929,944), 1,512,307 shares of common stock ($3,780,768), and 40,473 warrants
($34,492) and 393,950 options ($429,114) to purchase common stock. The options
and warrants were valued using the Black-Scholes pricing model with the
following assumptions: volatility of 0.6, dividend yield 0.0%, assumed
forfeiture rate of 0.0%, an expected life of three years for options and two
years for warrants, and an average risk-free interest rate of 5.40%. Total
consideration was approximately $14.2 million plus $445,000 in transaction
costs. This transaction was accounted for as a purchase in accordance with
Accounting Principles Board Opinion No. 16, Business Combinations. The
consideration in excess of the fair value of assets acquired and liabilities
assumed in the merger of $16.6 million is classified as purchased technology and
intangible assets and is being amortized over two to four years.
The estimated fair value of the assets acquired and liabilities assumed of
Molloy are as follows:
Description Amount
------------ -----------
(in thousands)
Current assets................................ $ 903
Property and equipment........................ 476
Purchased technology.......................... 1,777
Intangibles................................... 14,824
Other long term assets........................ 80
Current liabilities........................... 3,469
Other long term liabilities................... 52
Page 10 of 27
<PAGE> 11
The following unaudited pro forma statements of operations give effect to the
Molloy acquisition as if the acquisition occurred on January 1, 1999. Basic and
diluted net loss per share has been calculated utilizing the basic and diluted
weighted average of the Company's shares outstanding during the years presented,
adjusted for 1,512,307 shares of common stock issued July 23, 1999 for the
Molloy acquisition assuming these shares were outstanding as of the beginning of
the years presented.
<TABLE>
<CAPTION>
For the Nine Months Ended September 30,
---------------------------------------
1999
Pro Forma
----------
(in thousands)
<S> <C>
Revenues................................................ $ 14,133
Net loss................................................ $(11,201)
--------
Net loss applicable to common stock..................... $(11,295)
========
Basic and diluted net loss per share.................... $ (1.82)
Shares used in computing per share amounts.............. 6,220
</TABLE>
The above amounts are based upon certain assumptions and estimates which the
Company believes are reasonable. The pro forma results do not reflect
anticipated cost savings and do not necessarily represent results which would
have occurred if the Molloy acquisition had taken place on the date and on the
basis assumed above.
Note 4. Net loss Per Share
Basic and diluted net loss per share has been computed as described above. The
following table sets forth the computation of basic and diluted earnings per
share:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------- -------------------------
2000 1999 2000 1999
-------- -------- -------- --------
(in thousands) (in thousands)
<S> <C> <C> <C> <C>
Numerator:
Net loss $ (3,565) $ (3,763) $(12,091) $ (7,662)
Series A and Series B dividends -- -- -- (94)
-------- -------- -------- --------
Numerator for basic and diluted
net loss per share - income
available to common shareholders (3,565) (3,763) (12,091) (7,756)
Denominator:
Denominator for basic and diluted
earnings per share - weighted
average shares 13,853 5,891 9,442 5,090
======== ======== ======== ========
Basic and diluted net loss per share $ (0.26) $ (0.64) $ (1.28) $ (1.52)
======== ======== ======== ========
</TABLE>
Dilutive securities include options, warrants, and preferred stock as if
converted. Potentially dilutive securities totaling 3,156,939 and 12,044,531 for
the three and nine months ended September 30, 2000 and 1999, respectively, were
excluded from historical basic and diluted loss per share because of their
antidilutive effect.
Note 5. Other Comprehensive Income
The following table reconciles net loss as reported to total comprehensive loss
for the three and nine months ended September 30, 2000 and 1999:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------- -------------------------
2000 1999 2000 1999
-------- -------- -------- --------
(in thousands) (in thousands)
<S> <C> <C> <C> <C>
Net loss $ (3,565) $ (3,763) $(12,091) $ (7,662)
Other comprehensive income:
Unrealized foreign currency loss (2) -- -- --
-------- -------- -------- --------
Total comprehensive loss $ (3,567) $ (3,763) $(12,091) $ (7,662)
======== ======== ======== ========
</TABLE>
Page 11 of 27
<PAGE> 12
Note 6. Receivables
Receivables consist of the following:
September 30, December 31,
2000 1999
------- -------
(in thousands)
Billed receivables $ 6,081 $ 3,579
Unbilled receivables 1,726 16
------- -------
7,807 3,595
Allowance for doubtful accounts (360) (312)
------- -------
Total receivables $ 7,447 $ 3,283
======= =======
Unbilled receivables represent non-cancelable, non-refundable amounts that are
billable by the Company at future dates based on contractual payment terms.
Note 7. Debt
The Company has a secured credit facility with PNC Bank. This facility consists
of three sub-facilities: a revolving credit facility, a convertible equipment
loan and a term loan. All amounts outstanding under the revolving credit
facility and term loan were paid in August 2000. On June 8, 2000, the equipment
loan was converted to a term loan, and principal repayments are being made as
required in 36 equal installments beginning July 1, 2000.
Note 8. Initial Public Offering
On August 30, 2000, the Company closed its initial public offering of 4,500,000
shares of its common stock, and on September 27, 2000, the Company closed its
offering of an additional 675,000 shares of common stock issued in connection
with the exercise of the underwriters' overallotment option. Net proceeds of the
offering were approximately $31.6 million, after deducting underwriting
discounts, commissions and other offering expenses. Simultaneously with the
closing of the initial public offering, all 8,786,392 shares of Series A, Series
B, Series C, Series D, Series E and Series F convertible preferred stock were
automatically converted into an aggregate of 10,822,023 shares of common stock
at various conversion ratios.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our consolidated financial
statements and related notes contained in this Quarterly Report on Form 10-Q
("Form 10-Q").
Certain statements contained in this Form 10-Q, other securities filings, press
releases, interviews and other public statements that are not historical facts,
including those statements that refer to our plans, prospects, expectations,
strategies, intentions, hopes and beliefs, constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. You should not place undue reliance on these forward-looking
statements. These statements involve risks, uncertainties and other factors,
including those described below and elsewhere in this Form 10-Q, that may cause
our actual results to differ materially from any expressed or implied by these
forward-looking statements. We assume no obligation to update these
forward-looking statements as circumstances change in the future. In some cases,
you can identify forward-looking statements by terminology such as "may",
"will", "should", "expects", "plans", "anticipates", "believes", "estimates",
"predicts", "potential", "continue", or the negative of these terms or other
comparable terminology.
OVERVIEW
We were founded in 1991 as a provider of consulting services focused on helping
businesses better incorporate knowledge into their customer service and support
offerings. In March 1993, we pioneered the industry's first technical-support
knowledge bases, called Knowledge-Paks, containing answers and solutions to
commonly asked questions about the use of personal computers. In June 1996, we
combined all of our existing Knowledge-Paks into a single knowledge content
product called the Knowledge-Pak Desktop Suite. In August 1997, we began
marketing the Knowledge-Pak Architect and the Knowledge-Pak Viewer software
applications for knowledge management, which enable companies to modify our
content products and develop their own knowledge bases for customer service and
support.
In July 1999, we acquired the Molloy Group in a stock transaction, which
resulted in the Molloy Group's stockholders acquiring, assuming the conversion
of our preferred stock, approximately 24% of our common stock. The Molloy
Group's software products and technologies were complementary to our own
existing products. Additionally, the Molloy Group provided us with experienced
software
Page 12 of 27
<PAGE> 13
developers and its patented Cognitive Processor technology, which has become the
foundation of our self-learning solution. In December 1999, we began the ongoing
process of integrating all of our existing software products and the
newly-acquired Molloy Group's Knowledge Bridge and Knowledge Kiosk software
products and offering these products to our customers as our eService Suite. The
integration of our business with the Molloy Group was completed by the end of
the first quarter of 2000.
In the first quarter of 2000, we combined significant new content from
Microsoft, Novell and 3Com with our existing Knowledge-Pak Desktop Suite and
Knowledge-Pak SAP R/3 Suite to create RightAnswers.com, an Internet-based
knowledge portal which enables our customers to access a continuously updated
database of technology-related content.
We market and sell our products in North America through both our direct sales
force and indirectly through third party distributors, software vendors and
value-added resellers. Internationally, we market products primarily through
value-added resellers, software vendors and system integrators. International
revenues historically have not been a significant percentage of total revenues.
We derive our revenues from licenses and subscriptions for software and content
products and from providing related services, including installation,
training, consulting, customer support and maintenance contracts. License and
subscription revenues include fees for both perpetual licenses and periodic
subscription access. Services revenues contain variable fees for installation,
training and consulting, as well as fixed fees for customer support and
maintenance contracts. We recognize revenues on license fees after a
non-cancelable license agreement has been signed, the product has been
delivered, the fee is fixed, determinable and collectable, and there is
vendor-specific objective evidence to support the allocation of the total fee to
elements of a multiple-element arrangement using the residual method. We
recognize revenues on periodic subscription licenses over the subscription term.
We recognize revenues on installation, training and consulting on a
time-and-material basis, and customer support and maintenance contracts are
recognized over the life of the contract.
Cost of license and subscription revenues consists primarily of the expenses
related to royalties, the cost of media on which our product is delivered,
product fulfillment costs, amortization of purchased technology, salaries,
benefits, direct expenses and allocated overhead costs related to product
fulfillment and the costs associated with maintaining our RightAnswers.com Web
site. Cost of services revenues consists of the salaries, benefits, direct
expenses and allocated overhead costs of customer support and services
personnel, fees for sub-contractors and the costs associated with maintaining
our customer support site.
We classify our operating costs into five general categories: sales and
marketing, research and development, general and administrative, intangible
assets amortization, and stock based compensation, based upon the nature of the
costs. We allocate the total costs for overhead and facilities, based upon
headcount, to each of the functional areas that use these services. These
allocated charges include general overhead items such as building rent,
equipment-leasing costs, telecommunications charges and depreciation expense.
Sales and marketing expenses consist primarily of employee compensation for
direct sales and marketing personnel, travel, public relations, sales and other
promotional materials, trade shows, advertising and other sales and marketing
programs. Research and development expenses consist primarily of expenses
related to the development and upgrade of our proprietary software, content and
other technologies. These expenses include employee compensation for software
developers, content developers and quality assurance personnel and for
third-party contract development costs. General and administrative expenses
consist primarily of compensation for personnel and fees for outside
professional advisors. Intangible assets amortization expense consists
primarily of the amortization of intangible assets acquired through our
acquisition of the Molloy Group. These assets are amortized on a straight line
basis over their respective estimated useful lives. Stock based compensation
consists of the amortization of deferred compensation of stock options. Deferred
compensation amortization expense is amortized on a straight line basis over the
stock option vesting period.
Page 13 of 27
<PAGE> 14
RESULTS OF OPERATIONS
The following table sets forth consolidated statement of operations data as a
percentage of revenues for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended September 30, Nine Months Ended September 30,
--------------------------- -------------------------
2000 1999 2000 1999
------ ------ ------ ------
<S> <C> <C> <C> <C>
Revenues
Licenses and subscriptions 78.2% 71.9% 77.0% 75.2%
Services 21.8 28.1 23.0 24.8
------ ------ ------ ------
Total revenues 100.0 100.0 100.0 100.0
------ ------ ------ ------
Cost of revenues
Cost of licenses and subscriptions 5.0 6.4 5.7 4.5
Cost of services 27.9 23.1 27.2 20.9
------ ------ ------ ------
Total cost of revenues 32.9 29.5 32.9 25.4
------ ------ ------ ------
Gross margin 67.1 70.5 67.1 74.6
------ ------ ------ ------
Operating expenses
Sales and marketing 60.8 75.0 63.6 75.2
Research and development 24.8 44.3 28.3 43.5
General and administrative 8.3 15.2 8.5 13.3
Intangible assets amortization 15.1 21.6 16.5 8.2
Stock based compensation 1.5 -- 2.9 --
------ ------ ------ ------
Total operating expenses 110.5 156.1 119.8 140.2
------ ------ ------ ------
Loss from operations (43.4) (85.6) (52.7) (65.6)
Other income (expense), net 0.7 (0.7) 0.1 (1.2)
------ ------ ------ ------
Net loss (42.7) (86.3) (52.6) (66.8)
Less preferred dividend amounts -- -- -- (0.8)
------ ------ ------ ------
Net loss applicable to common stock (42.7)% (86.3)% (52.6)% (67.6)%
====== ====== ====== ======
</TABLE>
THREE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
Revenues
Total revenues in third quarter 2000 were $8.4 million and $4.4 million in third
quarter 1999, an increase of $4.0 million, or 91.7%. License and subscription
revenues increased to $6.5 million in third quarter 2000 by $3.4 million, or
108.3%, from $3.1 million in third quarter 1999. The increase in license and
subscription revenues to third quarter 2000 from third quarter 1999 was
attributable to an increased number of new customers and an increase in the
average contract size. Service revenues increased to $1.8 million in third
quarter 2000 by $0.6 million or 49.2% from $1.2 million in third quarter 1999.
The increase in service revenues from third quarter 1999 was primarily
attributable to an increased number of new customers and a significant increase
in the size of service contracts. Revenues from software licensing and
subscription services were approximately $5.3 million and $1.2 million in third
quarter 2000 and $2.5 million and $0.6 million in third quarter 1999. Deferred
revenues for software licensing and subscription services were $3.3 million and
$1.5 million at September 30, 2000 and $2.8 million and $0.9 million at
September 30, 1999.
Cost of Revenues
Cost of revenues increased to $2.7 million in third quarter 2000 from $1.3
million in third quarter 1999. Cost of revenues as a percentage of revenues
increased to 32.9% in third quarter 2000 from 29.5% in third quarter 1999. Cost
of license and subscription revenues increased to $0.4 million in third quarter
2000 from $0.3 million in third quarter 1999. Cost of license and subscription
revenues as a percentage of revenues decreased to 5.0% in third quarter 2000
from 6.4% in third quarter 1999. The increase in the cost of license and
subscription revenues was primarily attributable to the overall growth in the
number of customers. The decrease in cost of license and subscription revenues
as a percentage of revenues was primarily attributable to the pace of revenue
growth exceeding the rate of growth in cost of license and subscription
revenues.
Page 14 of 27
<PAGE> 15
Cost of service revenues increased to $2.3 million in third quarter 2000 from
$1.0 million in third quarter 1999. Cost of service revenues as a percentage of
revenues increased to 27.9% in third quarter 2000 from 23.2% in third quarter
1999. The increase in the cost of service revenues was primarily attributable to
an increase in the size of the services staff. The increase in cost of services
revenues as a percentage of revenues was primarily the result of the increased
use of sub-contractors to perform services.
Operating Expenses
Sales and Marketing. Sales and marketing expenses increased to $5.1 million in
third quarter 2000 from $3.3 million in third quarter 1999. Sales and marketing
expenses as a percentage of revenues decreased to 60.7% in third quarter 2000
from 75.0% in third quarter 1999. The increase in sales and marketing expenses
to third quarter 2000 from third quarter 1999 was primarily attributable to
additional staffing and investments in sales and marketing activities. The
decrease in sales and marketing expenses as a percentage of revenues was
primarily attributable to the pace of revenue growth exceeding the rate of
growth in sales and marketing expenses.
Research and Development. Research and development expenses increased to $2.1
million, or 24.8% of revenues, in third quarter 2000, from $1.9 million, or
44.3% of revenues, in third quarter 1999. The increase in research and
development expenses to third quarter 2000 from third quarter 1999 was primarily
attributable to the increase in the number of software developers hired and
increased use of sub-contractors, and the decrease in research and development
expenses as a percentage of revenues was primarily attributable to the pace of
revenue growth exceeding the rate of growth in research and development
expenses.
General and Administrative. General and administrative expenses remained steady
at $0.7 million in both third quarter 2000 and third quarter 1999. As a
percentage of revenues, general and administrative expenses were 8.3% in third
quarter 2000 and 15.2% in third quarter 1999.
Intangible Assets Amortization. Intangible assets amortization consists
primarily of the amortization expense in third quarter 2000 and third quarter
1999 in respect of the consideration in excess of the fair value of assets
acquired and liabilities assumed in the acquisition of the Molloy Group in
July 1999.
Stock Based Compensation. Stock based compensation in third quarter 2000 relates
to the issuance of stock options with exercise or purchase prices below the
deemed fair market value of the common stock for financial reporting purposes on
the date of the grant and related to modifications of certain stock options. We
incurred stock compensation charges of $0.1 million in third quarter 2000.
Additional unvested outstanding options will continue to vest over the next four
years, which will result in additional compensation expense of approximately
$1.9 million in the aggregate over the next four years.
Other Income (Expense), Net. Other income (expense), net consists primarily of
interest income received from the investment of proceeds from our financing
activities, offset by interest expense and other fees related to our bank
borrowings. Other income (expense), net increased to $60,938 in third quarter
2000 from $(29,293) in third quarter 1999. The increase was a result of interest
earned exceeding interest paid on outstanding loans.
NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
Revenues
Total revenues in the first nine months of 2000 were $23.0 million and $11.5
million in the first nine months of 1999, an increase of $11.5 million, or 100%.
License and subscription revenues increased to $17.7 million in the first nine
months of 2000 by $9.1 million, or 105%, from $8.6 million in the first nine
months of 1999. The increase in license and subscription revenues to the first
nine months of 2000 from the first nine months of 1999 was attributable to an
increased number of new customers and an increase in the average contract size.
Service revenues increased to $5.3 million in the first nine months of 2000 by
$2.4 million or 86.2% from $2.8 million in the first nine months of 1999. The
increase in service revenues from the first nine months of 1999 through the
second quarter of 2000 was primarily attributable to an increased number of new
customers and a significant increase in the size of service contracts. Revenues
from software licensing and subscription services was approximately $12.6
million and $5.1 million in the first nine months of 2000 and $6.8 million and
$1.8 million in the first nine months of 1999.
Page 15 of 27
<PAGE> 16
Cost of Revenues
Cost of revenues increased to $7.6 million in the first nine months of 2000 from
$2.9 million in the first nine months of 1999. Cost of revenues as a percentage
of revenues increased to 32.9% in the first nine months of 2000 from 25.4% in
the first nine months of 1999. Cost of license and subscription revenues
increased to $1.3 million in the first nine months of 2000 from $0.5 million in
the first nine months of 1999. Cost of license and subscription revenues as a
percentage of revenues increased to 5.7% in the first nine months of 2000 from
4.5% in the first nine months of 1999. The increase in the cost of license and
subscription revenues was primarily attributable to the overall growth in the
number of customers. The decrease in cost of license and subscription revenues
as a percentage of revenues was primarily attributable to the pace of revenue
growth exceeding the rate of growth in cost of license and subscription
revenues.
Cost of service revenues increased to $6.3 million in the first nine months of
2000 from $2.4 million in the first nine months of 1999. Cost of service
revenues as a percentage of revenues increased to 27.2% in the first nine months
of 2000 from 20.9% in the first nine months of 1999. The increase in the cost of
service revenues was primarily attributable to an increase in the size of the
services staff. The increase in cost of services revenues as a percentage of
revenues was primarily the result of the increased use of sub-contractors to
perform services.
Operating Expenses
Sales and Marketing. Sales and marketing expenses increased to $14.6 million in
the first nine months of 2000 from $8.6 million in the first nine months of
1999. Sales and marketing expenses as a percentage of revenues decreased to
63.6% in the first nine months of 2000 from 75.2% in the first nine months of
1999. The increase in sales and marketing expenses to the first nine months of
2000 from the first nine months of 1999 was primarily attributable to additional
staffing and investments in sales and marketing activities. The decrease in
sales and marketing expenses as a percentage of revenues was primarily
attributable to the pace of revenue growth exceeding the rate of growth in sales
and marketing expenses.
Research and Development. Research and development expenses increased to $6.5
million, or 28.3% of revenues, in the first nine months of 2000, from $5.0
million, or 43.5% of revenues, in the first nine months of 1999. The increase in
research and development expenses to the first nine months of 2000 from the
first nine months of 1999 was primarily attributable to the increase in the
number of software developers hired, and the decrease in research and
development expenses as a percentage of revenues was primarily attributable to
the pace of revenue growth exceeding the rate of growth in research and
development expenses.
General and Administrative. General and administrative expenses increased to
$2.0 million in the first nine months of 2000 from $1.5 million in the first
nine months of 1999. As a percentage of revenues, general and administrative
expenses were 8.5% in the first nine months of 2000 and 13.3% in the first nine
months of 1999. The increase to the first nine months of 2000 from the first
nine months of 1999 resulted primarily from the addition of finance, human
resources, executive and administrative personnel.
Intangible Assets Amortization. Intangible assets amortization consists
primarily of the amortization expense in the first nine months of 2000 and third
quarter 1999 in respect of the consideration in excess of the fair value of
assets acquired and liabilities assumed in the acquisition of the Molloy Group
in July 1999.
Stock Based Compensation. Stock based compensation in the first nine months of
2000 relates to the issuance of stock options with exercise or purchase prices
below the deemed fair market value of the common stock for financial reporting
purposes on the date of the grant and related to modifications of certain stock
options. We incurred stock compensation charges of $0.7 million in the first
nine months of 2000.
Other Income (Expense), Net. Other income (expense), net consists primarily of
interest income received from the investment of proceeds from our financing
activities, offset by interest expense and other fees related to our bank
borrowings. Other income (expense), net increased to $20,563 in the first nine
months of 2000 from $(133,391) in the first nine months of 1999. The increase
was a result of interest earned exceeding interest paid on outstanding loans.
Liquidity and Capital Resources
Historically to date, we have satisfied our cash requirements primarily through
private placements of convertible preferred stock and common stock and our
initial public offering. As of September 30, 2000, we had $32.6 million in cash
and cash equivalents. We believe that our existing cash balances will be
sufficient to meet anticipated cash requirements for at least the next 15
months. We may, nonetheless, seek additional financing to support our activities
during the next 15 months
Page 16 of 27
<PAGE> 17
or thereafter. There can be no assurance, however, that additional capital will
be available to us on reasonable terms, if at all, when needed or desired.
Net cash used in operating activities was $10.4 million for the first nine
months of 2000 and net cash used in investing activities was $2.1 million for
the first nine months of 2000. Net cash used in operating activities was $6.1
million for the first nine months of 1999 and net cash used in investing
activities was $0.9 million for the first nine months of 1999. Net cash used in
operating activities resulted primarily from net losses. Net cash used in
investing activities was primarily attributable to property and equipment
acquisitions. We expect the levels of cash used by current operations to be
higher during the next four quarters. At these anticipated levels we believe the
proceeds from the initial public offering would sustain operations through
fiscal year 2001. Sizeable increases in operating activities or lower than
anticipated levels of revenues would result in higher than anticipated levels of
cash use by operating activities. Investing activities, which may include merger
and acquisition activities, might require significantly higher levels of capital
resources than prior patterns.
Net cash provided by financing activities was $38.4 million for the nine months
ended September 30, 2000 and consisted primarily of proceeds from the initial
public offering and issuance of Series F preferred stock. Net cash provided by
financing activities was $8.1 million for the first nine months of 1999 and
primarily consisted of net proceeds from the issuance of Series D preferred
stock.
We have a secured credit facility with PNC Bank. This facility consists of three
sub-facilities: a revolving credit facility, a convertible equipment loan and a
term loan.
The revolving credit facility provides for $7.5 million of availability less the
principal outstanding on the term loan and matures on December 10, 2001. Any
amounts drawn under this facility bear interest at the Base Rate plus 0.50%.
Base Rate is defined as the lesser of the bank's prime rate or the Federal Funds
Effective Rate plus 2%. The availability of credit is based on a percentage of
eligible accounts receivable. At September 30, 2000 and December 31, 1999, $4.3
million and $1.5 million was available for use and no amount and $1.25 million
was outstanding under the revolving credit facility.
The convertible equipment loan is for $0.75 million. On June 8, 2000,
outstanding amounts under this loan were converted to a single term loan which
matures on June 1, 2003. Any amounts drawn under this facility bear interest at
the Base Rate plus 0.75%. The availability of advances on this line is based on
a percentage of invoice amounts for equipment acquisitions. At September 30,
2000 and December 31, 1999, nothing had been drawn within the year, and $0.5
million was outstanding on the equipment loan from the previous equipment line.
Principal repayments of this loan are being made as required in 36 equal
installments beginning July 1, 2000.
The term loan is for $2.5 million and was due in two equal installments on June
10, 2001 and December 10, 2001. However, upon the completion of the initial
public offering, the term loan was repaid. Any amounts drawn under this facility
bear interest at the Base Rate plus 2.25%. At September 30, 2000 and December
31, 1999, no amount and $2.5 million was outstanding on the term loan,
respectively.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 1998, the AICPA issued SOP 98-9, Modification of SOP 97-2, Software
Revenue Recognition, With Respect to Certain Transactions. The adoption of this
pronouncement for fiscal year 2000 is not expected to materially affect our
revenue recognition policies.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133
establishes methods for derivative financial instruments and hedging activities
related to those instruments, as well as other hedging activities. Because the
Company does not currently hold any derivative instruments and does not engage
in hedging activities, the adoption of SFAS No. 133 is not expected to have a
significant impact on its financial position, results of operations or cash
flows. The Company will be required to implement SFAS No. 133, as amended, for
the year ending December 31, 2001.
Page 17 of 27
<PAGE> 18
In December 1999, the Staff of the Securities and Exchange Commission released
Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition," to provide
guidance on the recognition, presentation and disclosure of revenues in
financial statements. We believe our revenue recognition practices are in
conformity with SAB No. 101.
ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
Set forth below and elsewhere in this Form 10-Q and in other documents we file
with the Securities and Exchange Commission are risks and uncertainties that
could cause actual results to differ materially from the results contemplated by
the forward-looking statements contained in this Form 10-Q.
BECAUSE OUR CURRENT LINE OF PRODUCTS IS RELATIVELY NEW, OUR HISTORICAL FINANCIAL
RESULTS ARE NOT HELPFUL IN EVALUATING OUR PROSPECTS.
We have undergone a number of changes in our business model. We began in 1991 as
a provider of consulting services, and later developed and sold content relating
to technology products for use by customer service operations. In July 1999, we
acquired the Molloy Group and its complementary software product suite.
Recently, we integrated our product offerings with those of the Molloy Group and
launched a suite of software and content products intended to form the basis of
businesses' e-service solutions. Since our current line of products is
relatively new, our historical financial results are not helpful in evaluating
our prospects.
ALTHOUGH WE HAVE ACHIEVED RECENT REVENUE GROWTH, WE HAVE A HISTORY OF LOSSES,
ANTICIPATE THAT WE WILL CONTINUE TO INCUR LOSSES FOR THE FORESEEABLE FUTURE AND
MAY NEVER ACHIEVE PROFITABILITY.
Our limited operating history in our current line of business and the uncertain
nature of the markets in which we compete make it difficult or impossible to
predict future results of operations. Therefore, our recent annual revenue
growth should not be an indicator of the rate of revenue growth, if any, we can
expect in the future.
As of September 30, 2000, we had an accumulated deficit of $29.3 million. We
have not achieved profitability on a quarterly or annual basis to date. In 1999
we incurred net losses of $10.1 million and in the nine months ended September
30, 2000, we incurred net losses of $12.1 million. We currently expect to
increase our operating expenses significantly, expand our software development
staff, increase our sales and marketing expenditures, and continue to develop
and extend our knowledge portal, RightAnswers.com. If these expenses precede or
are not followed by increased revenues, our losses will continue to grow.
BECAUSE A SIGNIFICANT PORTION OF OUR REVENUES IS DERIVED FROM NON-RECURRING
SALES TO A LIMITED NUMBER OF CUSTOMERS, BECAUSE OUR EXPENSES ARE RELATIVELY
FIXED AND BECAUSE OF OUR REVENUE RECOGNITION POLICIES, OUR QUARTERLY OPERATING
RESULTS HAVE FLUCTUATED SIGNIFICANTLY IN THE PAST, AND IT IS DIFFICULT TO DRAW
CONCLUSIONS ABOUT OUR FUTURE PERFORMANCE BASED ON OUR PAST PERFORMANCE.
Our projected expense levels are based on our expectations regarding future
revenues and are relatively fixed in the short term. If revenue levels are below
expectations in a particular quarter, operating results and net income are
likely to be disproportionately adversely affected because our expenses are
relatively fixed. In addition, a significant percentage of our revenues is
typically derived from non-recurring sales to a limited number of customers, so
it is difficult to estimate accurately future revenues.
Our quarterly results are also impacted by our revenue recognition policies.
Because we generally recognize license revenues upon installation and training,
sales orders from new customers in a quarter might not be recognized during that
quarter. Delays in the implementation and installation of our software near the
end of a quarter could also cause recognized quarterly revenues and, to a
greater degree, results of operations to fall substantially short of anticipated
levels. We often recognize revenues for existing customers shortly after an
order is received because installation and training can generally be completed
in significantly less time than for new customers. However, we may miss
recognizing expected revenues at the end of a quarter due to delays in the
receipt of expected orders by existing customers. Delays in recognizing revenues
may also occur as a result of delayed reporting by our distributors.
Because of these and other factors, revenues in any one quarter are not
indicative of revenues in any future period and, accordingly, we believe that
certain period-to-period comparisons of our results of operations are not
necessarily meaningful and should not be relied upon as indicators of future
performance.
Page 18 of 27
<PAGE> 19
THE e-SERVICE SOLUTIONS MARKET IS NEW AND EVOLVING AND, IF IT DOES NOT GROW
RAPIDLY, OUR BUSINESS WILL BE ADVERSELY AFFECTED.
The e-service solutions market is an emerging industry, and it is difficult to
predict how large or how quickly it will grow, if at all. Customer service
historically has been provided primarily in person or over the telephone with
limited reference materials available for the customer service representative.
Our business model assumes that companies which provide customer service over
the telephone will find value in aggregating institutional knowledge by using
our eService Suite and will be willing to access our content over the Internet.
Our business model also assumes that companies will find value in providing some
of their customer service over the Internet rather than by telephone. Our
success will depend on the broad commercial acceptance of, and demand for, these
e-service solutions.
IF OUR CONTENT PARTNERSHIPS WERE TERMINATED OR NOT RENEWED, WE WOULD LOSE A
LARGE PART OF OUR CONTENT OFFERINGS, WHICH WOULD MAKE OUR CONTENT PRODUCTS LESS
DESIRABLE AND REDUCE OUR MARKET SHARE.
We currently have content partnerships with Microsoft, Novell and 3Com. These
partnerships provide our RightAnswers.com product offering with content for its
knowledge base. If these partnerships were terminated or not renewed, our sales
of our content products may be reduced.
IF WE FAIL TO EXPAND OUR DIRECT SALES FORCE OUR GROWTH WILL BE IMPEDED.
Our ability to achieve significant growth in the future will largely depend on
our success in recruiting and training a sufficient number of direct sales
personnel. Our products and services require a sophisticated sales effort
targeted at the senior management of our prospective customers. New hires
require training and take time to achieve full productivity. Our recent hires
and planned new hires may not become as productive as necessary, and we may be
unable to hire sufficient numbers of qualified individuals in the future. If we
fail to expand our direct sales force, our revenue may not grow or it may
decline.
IF WE FAIL TO DEVELOP NEW RELATIONSHIPS AND ENHANCE EXISTING RELATIONSHIPS WITH
THIRD-PARTY DISTRIBUTORS, SOFTWARE VENDORS AND VALUE-ADDED RESELLERS THAT HELP
SELL OUR SERVICES AND PRODUCTS, OUR REVENUES MAY NOT GROW OR MAY DECLINE.
We derive a significant portion of our product revenues from third-party
software distributors, vendors and value-added resellers. Our ability to achieve
revenue growth in the future will depend on our success in continuing to develop
new relationships and enhance existing relationships with these software
distributors, vendors and value-added resellers. Additionally, the loss of a
third-party distributor could significantly adversely affect our financial
results. In 1999, sales to Tivoli accounted for 17% of our recognized revenues.
At times, we rely on these third parties to recommend and sell our products to
their customers, and to install and support our products for their customers.
Because of our reliance on these third parties, we face the risk that these
software distributors, vendors and value-added resellers may:
- choose not to recommend, install or sell our products;
- develop, market or recommend software applications that compete with
our products;
- fail to implement their products and/or our e-service solutions and
services on the schedule required by the customers;
- encounter their own financial or operational problems;
- change their business strategy;
- terminate their business relationships with us; or
- be acquired by companies who choose to limit or discontinue
relationships with us.
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WE HAVE RELATIVELY FEW MAJOR CUSTOMERS, AND THE LOSS OF ONE OR MORE OF OUR
PRINCIPAL CUSTOMERS WOULD RESULT IN DECREASED REVENUES.
Our results of operations in any given period have depended to a significant
extent upon sales to a small number of major customers. Our loss of one or more
of our major customers would result in decreased revenues. Further, in the event
of any downturn in any existing or potential customer's business or general
economic conditions, licenses and subscriptions for our products and services
may be deferred or terminated, also resulting in a decrease in our revenues.
DUE TO THE LENGTHY SALES CYCLES OF OUR PRODUCTS AND SERVICES, THE TIMING OF OUR
SALES ARE DIFFICULT TO PREDICT AND MAY CAUSE US TO MISS OUR REVENUE
EXPECTATIONS.
Our products and services are typically intended for use in applications that
may be critical to a customer's business. In certain instances, the purchase of
our products and services involves a significant commitment of resources by
prospective customers. As a result, our sales process is often subject to delays
associated with lengthy approval processes that accompany the commitment of
significant resources. These delays may worsen in the future if a greater
proportion of our total revenues, as we anticipate, is derived from our eService
Suite, which has a high average contract size. For these and other reasons, the
sales cycle associated with the licensing of our products and subscription for
our services typically ranges between six and 18 months and is subject to a
number of significant delays over which we have little or no control. While our
customers are evaluating whether our products and services suit their needs, we
may incur substantial sales and marketing expenses and expend significant
management effort. Because of the lengthy sales cycle for our products and
services, we may not realize forecasted revenues from a specific customer in the
quarter in which we expend these significant resources.
WE MAY NOT BE ABLE TO EXPAND OUR BUSINESS INTERNATIONALLY, AND, IF WE DO, WE
FACE RISKS RELATING TO INTERNATIONAL OPERATIONS.
A component of our strategy is our planned increase in efforts to attract more
international customers. We are currently exploring business opportunities in
the United Kingdom, France, Germany, Italy, Norway, Sweden and Finland. To date,
we have only limited experience in providing our products and services
internationally. If we are not able to market our products and services
successfully in international markets, our expenses may exceed our revenues. By
doing business in international markets we face risks, such as unexpected
changes in tariffs and other trade barriers, fluctuations in currency exchange
rates, difficulties in staffing and managing foreign operations, political
instability, reduced protection for intellectual property rights in some
countries, seasonal reductions in business activity during the summer months in
Europe and certain other parts of the world, and potentially adverse tax
consequences, any of which could adversely impact our international operations
and may contribute further to our net losses.
IF WE ARE NOT ABLE TO KEEP UP WITH RAPID TECHNOLOGICAL CHANGE OR UPDATE OUR
CONTENT EFFECTIVELY, SALES OF OUR PRODUCTS MAY DECREASE.
The software industry is characterized by rapid technological change, including
changes in customer requirements, frequent new product and service introductions
and enhancements and evolving industry standards. Our content products are
comprised of a large amount of information that needs to be updated frequently,
requiring us to continue to invest substantial resources in order to maintain
the accuracy and utility of our content. Also, we rely upon some of our
customers and other third parties to provide data and other support for the
ongoing updating of these products. If we fail to keep pace with the
technological progress of our competitors or update our content effectively,
sales of our products may decrease.
WE DEPEND ON TECHNOLOGY LICENSED TO US BY THIRD PARTIES, AND THE LOSS OF THIS
TECHNOLOGY COULD DELAY IMPLEMENTATION OF OUR PRODUCTS, INJURE OUR REPUTATION OR
FORCE US TO PAY HIGHER ROYALTIES.
We rely, in part, on technology that we license from a small number of software
providers for use with our products, including the search features of
RightAnswers.com. After the expiration of these licenses, this technology may
not continue to be available on commercially reasonable terms, if at all, and
may be difficult to replace. The loss of any of these technology licenses could
result in delays in introducing or maintaining our products until equivalent
technology, if available, is identified, licensed and integrated. In addition,
any defects in the technology we may license in the future could prevent the
implementation or impair the functionality of our products, delay new product
introductions or injure our reputation. If we are required to enter into license
agreements with third parties for replacement technology, we could be subject to
higher royalty payments.
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OUR SUCCESS DEPENDS UPON OUR ABILITY TO HIRE AND RETAIN KEY PERSONNEL,
ESPECIALLY CONTENT AND SOFTWARE DEVELOPERS.
Our business requires the employment of highly skilled personnel, especially
experienced content and software developers. The inability to recruit and retain
experienced content and software developers in the future could result in delays
in developing new versions of our software products or the release of deficient
software products. Any such delays or defective products would likely result in
lower sales. Even though we expect further growth in the number of our
personnel, competition for this type of personnel is intense. In particular, we
have experienced difficulty in hiring and retaining sales personnel, product
managers, software developers and professional services employees.
PROBLEMS ARISING FROM THE USE OF OUR PRODUCTS WITH OTHER VENDORS' PRODUCTS COULD
CAUSE US TO INCUR SIGNIFICANT COSTS, DIVERT ATTENTION FROM OUR PRODUCT
DEVELOPMENT EFFORTS AND CAUSE CUSTOMER RELATIONS PROBLEMS.
Our customers generally use our products together with products from other
companies. As a result, when problems occur in a customer's systems, it may be
difficult to identify the source of the problem. Even when these problems are
not caused by our products, they may cause us to incur significant warranty and
repair costs, divert the attention of our technical personnel from our product
development efforts and cause significant customer relations problems.
IF CERTAIN COMPANIES CEASE TO PROVIDE OPEN PROGRAM INTERFACES FOR THEIR CUSTOMER
RELATIONSHIP MANAGEMENT SOFTWARE IT WILL BE DIFFICULT TO INTEGRATE OUR SOFTWARE
WITH THEIRS. THIS WILL DECREASE THE ATTRACTIVENESS OF OUR PRODUCTS.
Our ability to compete successfully also depends on the continued compatibility
and interoperability of our products with products and systems sold by various
third parties, specifically including customer relationship management software
sold by Clarify, Kana Communications, Oracle, Peregrine Systems, Remedy and
Siebel Systems. Currently, these vendors have open applications program
interfaces, which facilitate our ability to integrate with their systems. If any
one of them should close their programs' interface or if they should acquire one
of our competitors, our ability to provide a close integration of our products
could become more difficult and could delay or prevent our products' integration
with future systems. Inadequate integration with other vendors' products would
make our products less desirable and could lead to lower sales.
WE FACE SIGNIFICANT GOODWILL COSTS RELATED TO THE RECENT ACQUISITION OF THE
MOLLOY GROUP WHICH WILL ADVERSELY AFFECT OUR OPERATING RESULTS FOR THE
FORESEEABLE FUTURE, AND THESE COSTS COULD INCREASE.
We face significant goodwill costs as a result of our acquisition of the Molloy
Group in July 1999. In addition, we may not achieve value from the acquisition
of the Molloy Group commensurate with the purchase price we paid.
As a result of the Molloy Group acquisition, we have recorded a significant
amount of goodwill that will adversely affect our operating results for the
foreseeable future. As of September 30, 2000, we had goodwill of approximately
$8.9 million, which we expect to amortize over two to four years from the date
of the acquisition. If the amount of recorded goodwill is increased or we have
future losses and are unable to demonstrate our ability to recover the amount of
the goodwill, the amount of amortization could be increased, or the period of
amortization could be shortened. This would either increase annual amortization
charges or result in the write-off of goodwill in a one-time, non-cash charge,
either of which could be significant and would likely harm our operating
results.
BECAUSE WE COMPETE IN THE EMERGING MARKET FOR E-SERVICE SOLUTIONS, WE FACE
INTENSE COMPETITION FROM BOTH ESTABLISHED AND RECENTLY FORMED ENTITIES, AND THIS
COMPETITION MAY ADVERSELY AFFECT OUR REVENUES AND PROFITABILITY.
We compete in the emerging market for e-service solutions and changes in the
e-service solutions market could adversely affect our revenues and
profitability. We face competition from many firms offering a variety of
products and services. In addition, we face competition from many free or low
cost sources of information generally available via the Internet. Portions of
our content products provided to us by content providers may be the same as
content offered by those content providers as part of their Internet-based
service offerings. Large software vendors may choose to sell (or provide at low
cost or no cost) content products addressing problems encountered by users of
their software. In the future, because there are relatively low barriers to
entry in the software industry, we expect to experience additional competition
from new entrants into the e-
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service solutions market. In particular, our current distributors or strategic
partners may enter our market with competitive products. Many of these potential
competitors have well-established relationships with our current and potential
customers, extensive knowledge of the e-service industry, better name
recognition, significantly greater financial, technical, sales, marketing and
other resources and the capacity to offer single vendor solutions. It is also
possible that alliances or mergers may occur among our competitors and that
these newly consolidated companies could rapidly acquire significant market
share. Greater competition may result in price erosion for our products and
services, which may significantly affect our future operating margins.
IF OUR CONTENT AND SOFTWARE PRODUCTS CONTAIN ERRORS OR FAILURES, SALES OF THESE
PRODUCTS COULD DECREASE.
Content and software products frequently contain errors or failures, especially
when first introduced or when new versions are released. In the past, we have
released products that contained defects, including inaccurate content, and
discovered software errors in certain new versions of existing products and in
new products after their introduction. In the event that the information
contained in our content products is inaccurate or perceived to be incomplete or
out-of-date, our customers could purchase our competitors' products or decide
they do not need e-service solutions at all. In either case, sales would
decrease. Our products are typically intended for use in applications that may
be critical to a customer's business. As a result, we expect that our customers
and potential customers have a great sensitivity to product defects.
BECAUSE OUR PRODUCTS ARE CRITICAL TO THE OPERATIONS OF OUR CUSTOMERS'
BUSINESSES, WE COULD INCUR SUBSTANTIAL COSTS AS A RESULT OF PRODUCT LIABILITY
CLAIMS.
Our products are critical to the operations of our customers' businesses. Any
defects or alleged defects in our products entail the risk of product liability
claims for substantial damages, regardless of our responsibility for the
failure. Although our license agreements with our customers typically contain
provisions designed to limit our exposure to potential product liability claims,
these provisions may not be effective under the laws of certain jurisdictions.
In addition, product liability claims, even if unsuccessful, may be costly and
divert management's attention from our operations. Software defects and product
liability claims may result in a loss of future revenue, a delay in market
acceptance, the diversion of development resources, damage to our reputation or
increased service and warranty costs.
BECAUSE WE HAVE ISSUED OPTIONS TO EMPLOYEES BELOW THE THEN CURRENT FAIR MARKET
VALUE AND MAY DO SO AGAIN IN THE FUTURE, WE WILL INCUR ADDITIONAL NON-CASH
CHARGES ASSOCIATED WITH STOCK-BASED COMPENSATION ARRANGEMENTS.
We have issued options to employees and non-employees which are subject to
various vesting schedules of up to 48 months. Because we have issued options to
employees below the then current fair market value and may do so again in the
future, we will incur additional non-cash charges for these options. This
expense could reduce our operating results and stock price.
OUR RECENT GROWTH HAS PLACED A STRAIN ON OUR ABILITY TO RAPIDLY INSTALL AND
IMPLEMENT OUR SOFTWARE PRODUCTS AND TRAIN OUR CUSTOMERS' EMPLOYEES TO USE THESE
PRODUCTS. IF WE FAIL TO MANAGE OUR FUTURE GROWTH, OUR BUSINESS COULD SUFFER.
As demand for our products increases, we need more trained personnel to install
and implement these products and to train our customers' employees in their use.
We recently began to expand our operations rapidly and intend to continue this
expansion. This expansion and the time and expense involved in training new
employees has placed, and is expected to continue to place, a significant strain
on our managerial, operational and financial resources, which has resulted in a
backlog of orders to install our products. To manage any further growth, we will
need to improve or replace our existing operational, customer service and
financial systems, procedures and controls. Our failure to manage properly these
system and procedural transitions could impair our ability to attract and
service customers, and could cause us to incur higher operating costs and delays
in the execution of our business plan.
INTEGRATION OF A NEW MANAGEMENT TEAM AND NEW PERSONNEL MAY STRAIN OUR OPERATIONS
AND OUR NEW MANAGEMENT TEAM MAY HAVE DIFFICULTY MANAGING OUR GROWTH.
Five members of our senior management team have joined us since January 1, 1999.
A significant reduction of employees occurred in conjunction with our
acquisition of the Molloy Group in July 1999. Our new employees include a number
of key managerial, sales, marketing, planning, technical and operations
personnel who have not yet been fully integrated into our organization. In
addition, our current senior management has limited experience working together
in the management of a rapidly growing enterprise. If we are unable to integrate
our new employees or if senior
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management fails to manage our growth effectively, we could lose customers who
believe they are not receiving the support they require from us and we could
face product delivery delays and product quality problems.
IF WE ARE NOT ABLE TO UPGRADE OUR SYSTEMS AND RIGHTANSWERS.COM TO ACCOMMODATE
GROWTH IN THE E-SERVICE SOLUTIONS MARKET, OUR REPUTATION WILL SUFFER, WHICH
COULD RESULT IN LOWER SALES OF OUR PRODUCTS. IN ADDITION, EXPENSES INCURRED IN
UPGRADING OUR SYSTEMS MAY FORCE US TO RAISE PRICES, WHICH COULD ALSO DECREASE
SALES.
We face risks related to the ability of RightAnswers.com to operate effectively
with increased usage while maintaining the expected quality of performance. As
the volume and complexity of e-service solutions increase, we will need to
expand our systems and our network infrastructure. The expansion and adaptation
of our network infrastructure will require substantial financial, operational
and management resources. If we are unsuccessful in upgrading our systems, we
may experience a decrease in sales. If our expenses for upgrading are higher
than expected, we may have to raise our prices. In either case, sales could fall
and revenues could decrease.
BECAUSE OUR SUCCESS DEPENDS ON THE UNINTERRUPTED OPERATION OF OUR COMPUTER
SYSTEMS, THEIR SABOTAGE OR SIMILAR DISRUPTIONS WOULD LIKELY DAMAGE OUR ABILITY
TO SELL OUR PRODUCTS.
Our success largely depends on the efficient and uninterrupted operation of our
computer and communications hardware and network systems. Our network may be
vulnerable to disruptions due to electronic attacks. Because the techniques used
by computer hackers to sabotage networks change frequently and generally are not
recognized until launched against a target, we may be unable to anticipate these
techniques. An actual or perceived breach of Internet security in our internal
systems or those of our customers could adversely affect the market perception
of our products and services. We have also entered into service agreements with
some of our customers that require minimum performance standards, including
standards regarding the availability and response time of our remote content
services. If we fail to meet these standards, our customers could terminate
their relationships with us and we could be subject to contractual monetary
penalties. We have not experienced any attacks on, or interruption of,
RightAnswers.com. However, our e-mail network was interrupted for two days as a
result of the Love Bug virus, which hampered our ability to support our
customers and our internal communications.
In addition, a substantial number of our computer and communications systems are
located in Oakmont, Pennsylvania. Our systems and operations are vulnerable to
damage or interruption from fire, power loss, telecommunications failure and
similar events.
IF OUR CUSTOMERS' SYSTEM SECURITY IS BREACHED AND CONFIDENTIAL INFORMATION IS
STOLEN, OUR BUSINESS AND REPUTATION COULD SUFFER.
Users of our products transmit their and their customers' confidential
information, such as names, addresses, social security numbers and credit card
information, over the Internet. In our license agreements with our customers, we
disclaim responsibility for the security of confidential data and have
contractual indemnities for any damages claimed against us. However, if
unauthorized third parties are successful in illegally obtaining confidential
information from users of our products, our reputation and business may be
damaged, and if our contractual disclaimers and indemnities are not enforceable,
we may be subject to liability.
OUR PLAN TO EXPAND OUR SERVICE CAPABILITY COULD ADVERSELY AFFECT GROSS PROFIT
MARGINS AND OPERATING RESULTS.
Revenues from services such as installation and training, consulting, customer
support and maintenance contracts have lower gross margins than revenues from
licenses and subscriptions. Therefore, the expected increase in the percentage
of our revenues generated from services as compared to revenues from licenses
and subscriptions will lower our overall gross margins. In addition, the
expected increase in the cost of revenues from services as a percentage of
revenues could have a negative impact on overall gross margins. In the future,
we may also choose to outsource a portion of our services business which may
reduce our services revenues. Although margins related to revenues from services
are lower than margins related to revenues from licenses and subscriptions, our
services organization currently generates gross profits, and we are seeking to
expand our services capability and our revenues from services.
SINCE REVENUES FROM TERM LICENSES ARE RECOGNIZED MORE SLOWLY THAN THOSE FROM
PERPETUAL LICENSES, A CHANGE TO A TERM LICENSE-BASED SALES MODEL WOULD RESULT IN
LOWER RECOGNIZED SHORT TERM REVENUES.
In the future, we may derive more revenues from licensing arrangements in which
our customer purchases a license for a fixed term. We plan to recognize revenues
from these arrangements ratably over the life of the contract. If customer
demand for these arrangements increases, we may
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have lower revenues in the short term than we otherwise would, because revenues
for licenses sold under these arrangements will be recognized over time rather
than upon installation and training.
WE MAY NOT BE ABLE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, WHICH MAY CAUSE
US TO INCUR SIGNIFICANT COSTS IN LITIGATION AND AN EROSION IN THE VALUE OF OUR
BRANDS AND PRODUCTS.
Our business is dependent on proprietary technology and the value of our brands.
We rely primarily on patent, copyright, trade secret and trademark law to
protect our technology and brands. We currently have two patents. One of these
patents pertains to certain proprietary data structures and the other pertains
to our Cognitive Processor. Our patents may not survive a legal challenge to
their validity or provide meaningful protection to us. Litigation to protect our
patents would be expensive and the loss of our patents would decrease the value
of our products. Defending against claims of patent infringement would also be
expensive and, if successful, we could be forced to redesign our products, pay
royalties, or cease selling them. In addition, effective trademark protection
may not be available for our trademarks. The use by other parties of our
trademarks would dilute the value of our brands.
Notwithstanding the precautions we have taken, a third party may copy or
otherwise obtain and use our software or other proprietary information without
authorization or may develop similar software independently. Policing
unauthorized use of our technology is difficult, particularly because the global
nature of the Internet makes it difficult to control the ultimate destination or
security of software or other data transmitted. Further, we have granted certain
third parties limited contractual rights to use proprietary information which
they may improperly use or disclose. The laws of other countries may afford us
little or no effective protection of our intellectual property. The steps we
have taken may not prevent misappropriation of our technology, and the
agreements entered into for that purpose may not be enforceable. The
unauthorized use of our proprietary technologies could also decrease the value
of our products.
THE SUCCESS OF OUR SOFTWARE PRODUCTS DEPENDS ON ITS ADOPTION BY OUR CUSTOMERS'
EMPLOYEES. IF THESE EMPLOYEES DO NOT ACCEPT THE IMPLEMENTATION OF OUR PRODUCTS,
OUR CUSTOMERS MAY FAIL TO RENEW THEIR SERVICE CONTRACTS AND WE MAY HAVE
DIFFICULTY ATTRACTING NEW CUSTOMERS.
The effectiveness of our eService Suite depends in part on widespread adoption
and use of our software by our customers' customer service personnel and on the
quality of the solutions they generate. Resistance to our software by customer
service personnel and an inadequate development of the knowledge base may make
it more difficult to attract new customers and retain old ones.
Some of our customers have found that customer service personnel productivity
initially drops while customer service personnel become accustomed to using our
software. If an enterprise deploying our software has not adequately planned for
and communicated its expectations regarding that initial productivity decline,
customer service personnel may resist adoption of our software.
The knowledge base depends in part on solutions generated by customer service
personnel and, sometimes, on the importation of our customers' legacy solutions.
If customer service personnel do not adopt and use our products effectively,
necessary solutions will not be added to the knowledge base, and the knowledge
base will not adequately address service needs. In addition, if
less-than-adequate solutions are created and left uncorrected by a user's
quality-assurance processes or if the legacy solutions are inadequate, the
knowledge base will similarly be inadequate, and the value of our eService Suite
to end-users will be impaired. Thus, successful deployment and broad acceptance
of our eService Suite will depend in part on whether our customers effectively
roll-out and use our software products and the quality of the customers'
existing knowledge base of solutions.
WE DEPEND ON INCREASED BUSINESS FROM OUR NEW CUSTOMERS, AND, IF WE FAIL TO GROW
OUR CLIENT BASE OR GENERATE REPEAT BUSINESS, OUR OPERATING RESULTS COULD BE
ADVERSELY AFFECTED.
If we fail to grow our customer base or generate repeat and expanded business
from our current and future customers, our business and operating results will
be seriously harmed. Some of our customers initially make a limited purchase of
our products and services for pilot programs. If these customers do not
successfully develop and deploy such initial applications, they may choose not
to purchase complete deployment or development licenses. Some of our customers
who have made initial purchases of our software have deferred or suspended
implementation of our products due to slower than expected rates of internal
adoption by customer service personnel. If more customers decide to defer or
suspend implementation of our products in the future, we will be unable to
increase our revenue from these customers from additional licenses or
maintenance agreements, and our financial position will be seriously harmed.
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In addition, as we introduce new versions of our products or new products, our
current customers may not need our new products and may not ultimately license
these products. Because the total amount of maintenance and service fees we
receive in any period depends in large part on the size and number of licenses
and subscriptions that we have previously sold, any downturn in our software
licenses and subscriptions revenues would negatively impact our future services
revenues. In addition, if customers elect not to renew their maintenance
agreements, our services revenues could be significantly adversely affected.
WE ARE CURRENTLY IN THE PROCESS OF RE-BRANDING AND EXPANDING OUR PRODUCT LINES
AND INTEGRATING OUR PRODUCTS WITH RIGHTANSWERS.COM. CUSTOMERS MAY NOT ACCEPT OR
DESIRE THESE CHANGES, RESULTING IN A REDUCTION IN REVENUES.
Our future financial performance will depend, in significant part, on customer
acceptance of our eService Suite software product line and RightAnswers.com,
both of which became widely available to customers in December 1999. Since 1996,
we have been selling technology-related content products on CD-ROMs under the
brand name Knowledge-Pak Desktop Suite(TM). These content products form the
basis of the newly released RightAnswers.com product offering in both its Web
and CD-ROM versions. In 1997, we began selling the companion Knowledge-Pak
Architect(TM) and Knowledge-Pak Viewer(TM) software applications, which allow
our customers to modify our content products or develop their own knowledge
bases for customer service and support. In 1999, we acquired a complementary
software product suite from the Molloy Group. The eService Suite integrates
Knowledge-Pak Architect and Knowledge-Pak Viewer under a different brand name,
adds the self-learning capability acquired from the Molloy Group to the software
and connects our customers' knowledge base to RightAnswers.com. We cannot be
sure that this product line will provide the expected benefits for our
customers, gain broad commercial acceptance or compete successfully against
products from other vendors.
OUR BUSINESS DEPENDS ON THE GROWTH OF THE INTERNET, THE CAPACITY AND VIABILITY
OF THE INTERNET INFRASTRUCTURE AND OUR ABILITY TO ADAPT IN A RAPIDLY CHANGING
INDUSTRY.
Our products address a new and emerging market for e-service solutions to
businesses' customer service needs. Therefore, our future success depends
substantially upon the widespread adoption of the Internet as a significant
medium for commerce and business applications. If this market fails to develop
or develops more slowly than expected, demand for our products and services will
be reduced and our revenues will decrease. Consumers and businesses may reject
the Internet as a viable commercial medium for a number of reasons, including
potentially inadequate network infrastructure, slow development of enabling
technologies or insufficient commercial support. The Internet infrastructure may
not be able to support the demands placed on it by increased usage and bandwidth
requirements. Moreover, critical issues like security, reliability, cost,
accessibility and quality of service remain unresolved and may negatively affect
the attractiveness of conducting commerce and business transactions over the
Internet. Even if the required infrastructure, standards, protocols or
complementary products, services or facilities are developed, we may incur
substantial expenses adapting our products and services to changing or emerging
technologies.
INCREASING GOVERNMENT REGULATION OF THE INTERNET COULD HARM OUR BUSINESS.
As e-commerce, e-service and the Internet continue to evolve, we expect that
federal, state and foreign governments will adopt laws and regulations tailored
to the Internet covering issues like user privacy, taxation of goods and
services provided over the Internet, pricing, content and quality of products
and services. If enacted, these laws and regulations could limit the market for
e-commerce and e-service and, therefore, the market for our products and
services.
The Telecommunications Act of 1996 prohibits certain types of information and
content from being transmitted over the Internet. The prohibition's scope and
the liability associated with a violation of the Telecommunications Act's
information and content provisions are currently unsettled. The imposition upon
us and other software and service providers of potential liability for
information carried on or disseminated through our applications could require us
to implement measures to reduce our exposure to this liability. These measures
could require us to expend substantial resources or discontinue certain
services. In addition, although substantial portions of the Communications
Decency Act, the Act through which the Telecommunications Act of 1996 imposes
criminal penalties, were held to be unconstitutional, similar legislation may be
enacted and upheld in the future. It is possible that this new legislation and
the Communications Decency Act could expose companies involved in e-commerce to
liability, which could limit the growth of Internet usage and e-commerce
generally and therefore the demand for e-service solutions. In addition, similar
or more restrictive laws in other countries could have a similar effect and
hamper our plans to expand overseas.
THE IMPOSITION OF SALES TAX AND OTHER TAXES ON PRODUCTS SOLD BY OUR CUSTOMERS
OVER THE INTERNET COULD HAVE A NEGATIVE EFFECT ON ONLINE COMMERCE AND,
INDIRECTLY, THE DEMAND FOR OUR PRODUCTS AND SERVICES.
The imposition of new sales taxes or other taxes could limit the growth of
Internet commerce generally and, as a result, the demand for our products and
services. Recent federal legislation limits the imposition of state and local
taxes on Internet-related sales. Congress may choose not to renew this
legislation in 2001, in which case state and local governments would be free to
impose additional taxes on electronically purchased goods.
We believe that most companies that sell products over the Internet do not
currently collect sales or other taxes on shipments of their products into
states or foreign countries where they are not physically present. However, one
or more states or foreign countries may seek to impose sales or other tax
collection obligations on out-of-jurisdiction companies that engage in
e-commerce. A successful assertion by one or more states or foreign countries
that companies that engage in e-commerce should collect sales or other taxes on
the sale of their products over the Internet, even though not physically in the
state or country, could indirectly reduce demand for our products.
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PRIVACY CONCERNS RELATING TO THE INTERNET ARE INCREASING, WHICH COULD RESULT IN
LEGISLATION THAT ADVERSELY AFFECTS OUR BUSINESS AND/OR REDUCES SALES OF OUR
PRODUCTS.
Businesses use our software to capture information regarding their customers
when those customers contact them online with customer service inquiries.
Privacy concerns may cause visitors to resist providing the personal data
necessary to allow our customers to use our software products most effectively.
More importantly, even the perception of privacy concerns, whether or not valid,
may indirectly inhibit market acceptance of our products. Recently, a
high-profile public company faced adverse and widely disseminated publicity
regarding its handling of customer information. In addition, legislative or
regulatory requirements may heighten these concerns if businesses must notify
Web site users that the data captured after visiting certain Web sites may be
used by marketing entities to unilaterally direct product promotion and
advertising to that user. While we are not aware of any legislation or
regulatory requirements of this type currently in effect in the United States,
other countries and political entities, like the European Union, have adopted
this kind of legislation or regulatory requirements and the United States may do
so as well. If consumer privacy concerns are not adequately addressed, our
business could be harmed.
WE MAY BECOME INVOLVED IN SECURITIES CLASS ACTION LITIGATION WHICH COULD DIVERT
MANAGEMENT'S ATTENTION AND HARM OUR BUSINESS.
The stock market has from time to time experienced significant price and volume
fluctuations that have affected the market price for the common stocks of
technology companies, particularly Internet companies like ours. These broad
market fluctuations may cause the market price of our common stock to decline.
In the past, following periods of volatility in the market price of a particular
company's securities, securities class action litigation has often been brought
against that company. We may become involved in that type of litigation in the
future. Litigation is often expensive and diverts management's attention and
resources, which could harm our business and operating results.
OUR STOCK PRICE IS VOLATILE, WHICH COULD RESULT IN SUBSTANTIAL LOSSES FOR
STOCKHOLDERS.
The market price for our common stock is volatile and subject to fluctuations in
response to the risks described above and many others, some of which are beyond
our control. The market prices for stocks of Internet companies and other
companies whose businesses are heavily dependent on the Internet have generally
proven to be highly volatile.
SUBSTANTIAL SALES IN THE FUTURE COULD CAUSE OUR STOCK PRICE TO FALL
As of November 5, 2000, we had outstanding 24,289,899 shares of common stock.
Most of these shares are currently restricted from resale. However, on November
24, 2000, 671,676 of these shares will become available for resale in the public
market and on May 24, 2000, 18,290,723 of these shares will become available for
resale in the public market. As restrictions on resale end, if the holders of
these restricted shares sell them or if the market perceives that they intend to
sell them, the market price of our common stock could decrease significantly,
even if our business is doing well.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
All of our revenues recognized to date have been denominated in United States
dollars and are primarily from customers in the United States. We have one
subsidiary located in Europe, and we intend to establish other foreign
subsidiaries in the future. In the future, a portion of the revenues we derive
from international operations may be denominated in foreign currencies. We incur
costs for our overseas office in the local currency of that office for staffing,
rent, telecommunications and other services. As a result, our operating results
could become subject to significant fluctuations based upon changes in the
exchange rates of those currencies in relation to the United States dollar.
Furthermore, to the extent that we engage in international sales denominated in
United States dollars, an increase in the value of the United States dollar
relative to foreign currencies could make our services less competitive in
international markets. Although currency fluctuations are currently not a
material risk to our operating results, we will continue to monitor our exposure
to currency fluctuations and when appropriate, use financial hedging techniques
to minimize the effect of these fluctuations in the future. We cannot assure you
that exchange rate fluctuations will not harm our business in the future.
Our interest income is sensitive to changes in the general level of United
States interest rates, particularly because the majority of our investments are
in short-term instruments. Borrowings under our existing credit lines are also
interest rate sensitive, because the interest rate charged by our bank varies
with changes in the prime rate of lending. We believe, however, that we are
currently not subject to material interest rate risk.
PART II -- OTHER INFORMATION
Item 2. Change in Securities and Use of Proceeds
Page 26 of 27
<PAGE> 27
(c) Recent Sales of Unregistered Securities
During the period covered by this Form 10-Q, we issued and sold unregistered
securities as follows:
During third quarter 2000, we issued 86,620 shares of our common stock pursuant
to exercises of stock options.
The sales and issuances of these shares were exempt from registration under the
Securities Act pursuant to Rule 701 promulgated thereunder on the basis that
these options were offered and sold either pursuant to a written compensatory
benefit plan or pursuant to written contracts relating to consideration, as
provided by Rule 701, or pursuant to Section 4(2) of the Securities Act on the
basis that the transactions did not involve a public offering.
(d) Use of Proceeds
On August 24, 2000, the SEC declared effective our Registration Statement on
Form S-1 (Commission File No. 333-33818). The managing underwriter in the
offering was C.E. Unterberg, Towbin (the "Underwriter"). The Registration
Statement covered the sale of 4,500,000 shares of our common stock at an
offering price of $7.00 per share. In addition to the 4,500,000 shares of common
stock offered, the Underwriter was given an option to purchase an additional
675,000 shares of common stock at an offering price of $7.00 per share. The
Underwriter purchased an aggregate of 5,175,000 shares of our common stock for
an aggregate consideration of approximately $36.2 million. Proceeds after
accounting for approximately $2.5 million in underwriting discounts and
commissions and approximately $2.1 million in other expenses were $31.6 million.
The underwriting discounts and commissions of approximately $2.5 million were
paid to the Underwriter, which owns over 10% of our common stock. The other
expenses of approximately $2.1 million were paid to third parties not affiliated
with us. Principally all of the net proceeds have been invested in United States
government securities and investment-grade, interest-bearing instruments with
maturities of a maximum of two years. We used $2.5 million of the net proceeds
to repay our term loan and $1.0 million of the net proceeds to repay our
revolving credit facility.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.1+ Kana Communications, Inc. Kana Alliance Program Original Equipment
Manufacturer Agreement
27.1 Financial Data Schedule.
+ Portions of this Exhibit have been omitted pursuant to an application for
confidential treatment filed with the Securities and Exchange Commission.
This information has been filed separately with the Commission.
Page 27 of 27
<PAGE> 28
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.
SERVICEWARE TECHNOLOGIES, INC.
Date: November 14, 2000 By: /s/ Mark Finkel
--------------------------
Mark Finkel
Chief Financial Officer,
Secretary and Treasurer
(Principal financial and chief accounting
officer)
<PAGE> 29
INDEX TO EXHIBITS
Exhibit No. Description
----------- -----------
10.1+ Kana Communications, Inc. Kana Alliance Program Original
Equipment Manufacturer Agreement
27.1 Financial Data Schedule.
+ Portions of this Exhibit have been omitted pursuant to an application for
confidential treatment filed with the Securities and Exchange Commission.
This information has been filed separately with the Commission.
