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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___ TO ___.
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COMMISSION FILE NUMBER: 000-25781
NET PERCEPTIONS, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 41-1844584
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
7901 FLYING CLOUD DRIVE
MINNEAPOLIS, MINNESOTA 55344
(Address of principal executive offices, Zip Code)
(612) 903-9424
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X ] No [ ]
THE NUMBER OF SHARES OF THE REGISTRANT'S COMMON STOCK OUTSTANDING AS OF
OCTOBER 31, 1999 WAS 21,989,588.
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NET PERCEPTIONS, INC.
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 1999
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INDEX
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<TABLE>
<CAPTION>
PAGE
--------
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Balance Sheets as of September 30, 1999 and December 31, 1998 3
Condensed Statements of Operations for the Three and Nine Months Ended September 30, 4
1999 and 1998
Condensed Statements of Cash Flows for the Nine Months Ended September 30, 1999 and 1998 5
Notes to Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 25
SIGNATURES 26
</TABLE>
2
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NET PERCEPTIONS, INC.
CONDENSED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
------------- ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 27,126 $ 972
Short-term investments 15,310 -
Accounts receivable, net 4,995 3,382
Prepaid expenses and other current assets 969 142
------------- ------------
Total current assets 48,400 4,496
Marketable securities 7,320 -
Property and equipment, net 3,021 1,019
Other assets 861 122
------------- ------------
Total assets $ 59,602 $ 5,637
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------------- ------------
LIABILITIES, CONVERTIBLE REDEEMABLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 4,890 $ 1,666
Deferred revenue 2,803 2,107
Current portion of long-term liabilities 477 255
------------- ------------
Total current liabilities 8,170 4,028
Long-term liabilities, net of current portion 842 538
------------- ------------
Total liabilities 9,012 4,566
------------- ------------
Commitments and contingencies
Series A Convertible Redeemable Preferred Stock at redemption value - 650
Stockholders' equity:
Series B Convertible Preferred Stock - -
Series C Convertible Preferred Stock - -
Common Stock 2 1
Additional paid-in capital 70,386 11,137
Unrealized loss on investments (64) -
Accumulated deficit (19,734) (10,717)
------------- ------------
Total stockholders' equity 50,590 421
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Total liabilities, convertible redeemable preferred stock
and stockholders' equity $ 59,602 $ 5,637
------------- ------------
------------- ------------
</TABLE>
See accompanying notes to the financial statements.
3
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NET PERCEPTIONS, INC.
CONDENSED STATEMENTS OF OPERATIONS
(in thousands, except share and per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------- -------------------------
1999 1998 1999 1998
------------ ----------- ----------- -----------
(Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Revenues:
Product $ 3,035 $ 992 $ 6,700 $ 2,499
Service and maintenance 1,079 163 2,123 316
------------ ----------- ----------- -----------
Total revenues 4,114 1,155 8,823 2,815
Cost of revenues:
Product 32 10 127 25
Service and maintenance 782 106 1,586 205
------------ ----------- ----------- -----------
Total cost of revenues 814 116 1,713 230
Gross profit 3,300 1,039 7,110 2,585
Operating expenses:
Sales and marketing 3,275 1,144 7,570 3,185
Research and development 2,270 607 5,839 1,481
General and administrative 1,169 383 2,556 902
Stock compensation expense 339 112 1,206 178
------------ ----------- ----------- -----------
Total operating expenses 7,053 2,246 17,171 5,746
------------ ----------- ----------- -----------
Loss from operations (3,753) (1,207) (10,061) (3,161)
Other income, net 735 24 1,044 89
------------ ----------- ----------- -----------
Net loss $ (3,018) $ (1,183) $ (9,017) $ (3,072)
------------ ----------- ----------- -----------
------------ ----------- ----------- -----------
Net loss per share:
Basic and diluted $ (0.15) $ (0.32) $ (0.68) $ (0.95)
Shares used in computing basic and
diluted net loss per share 20,587,072 3,710,262 13,281,169 3,233,906
------------ ----------- ----------- -----------
------------ ----------- ----------- -----------
Pro forma basic and $ (0.15) $ (0.08) $ (0.50) $ (0.22)
diluted net loss per share
Shares used in computing pro forma
basic and diluted net loss per share 20,587,072 14,378,962 17,892,549 13,767,247
------------ ----------- ----------- -----------
------------ ----------- ----------- -----------
</TABLE>
See accompanying notes to the financial statements.
4
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NET PERCEPTIONS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Nine Months Ended Nine Months Ended
September 30, September 30,
1999 1998
----------------- -----------------
(Unaudited) (Unaudited)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (9,017) $ (3,072)
Reconciliation of net loss to net cash used by operating
activities:
Depreciation and amortization 535 187
Stock compensation expense 1,206 178
Changes in operating assets and liabilities:
Accounts receivable (1,616) (1,819)
Accounts payable and accrued expenses 3,298 577
Deferred revenue 697 931
Other (1,125) (4)
----------------- -----------------
Net cash used in operating activities (6,022) (3,022)
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from (purchase of) of short-term investments and (22,695) 3,439
marketable securities
Purchases of property and equipment (2,545) (342)
----------------- -----------------
Net cash provided by (used in) investing activities (25,240) 3,097
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of stock 53,573 1,091
Proceeds from exercise of stock options, net of common stock 98 44
repurchases
Proceeds from issuance of (principal payments under) debt
obligations 3,745 (97)
----------------- -----------------
Net cash provided by financing activities 57,416 1,038
----------------- -----------------
Net increase in cash and cash equivalents 26,154 1,113
Cash and cash equivalents at beginning of period 972 1,407
----------------- -----------------
Cash and cash equivalents at end of period $ 27,126 $ 2,520
----------------- -----------------
----------------- -----------------
</TABLE>
See accompanying notes to the financial statements.
5
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NET PERCEPTIONS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
In the opinion of management, the accompanying unaudited financial statements
contain all adjustments, consisting only of normal recurring adjustments,
necessary to present fairly the Company's financial position, results of
operations and cash flows for the periods presented. The preparation of
financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. These financial statements should
be read in conjunction with the Company's financial statements and notes
thereto for the year ended December 31, 1998, which are contained in the
Company's Registration Statement on Form S-1, declared effective by the
Securities and Exchange Commission on April 22, 1999 (File No. 333-71919).
The results of operations for the interim periods presented are not
necessarily indicative of results that may be expected for any other interim
period or for the full fiscal year.
NOTE 2. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (the "FASB") issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities."
The new standard establishes accounting and reporting standards for
derivative instruments, including derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133, as amended by SFAS No.
137, is effective for all fiscal quarters of fiscal years beginning after
June 15, 2000. We do not expect SFAS No. 133 to have a significant effect on
our financial condition or results of operations.
In November 1998, the FASB cleared for issuance SOP 98-9, "Modification of
SOP 97-2, Software Revenue Recognition, With Respect to Certain
Transactions," which will retain the limitations of SOP 97-2 on what
constitutes vendor specific objective evidence of fair value. SOP 98-9 will
be effective for transactions entered into in 2000. We believe that our
current revenue recognition policies and practices for perpetual licenses are
consistent with the provisions of the new guidance. However, with respect to
term licenses, the effect of SOP 98-9 would be to recognize a portion of term
license fees ratably over the license term beginning January 1, 2000 for term
licenses which are sold with maintenance. We are currently addressing the
impact of this SOP and anticipate that further guidance will be issued. Our
current pricing practices for term licenses may need to change so that this
SOP does not have a material effect on our financial position or results of
operations.
NOTE 3. ALLOWANCE FOR DOUBTFUL ACCOUNTS
The allowance for doubtful accounts was $536,000 and $204,000 at September
30, 1999 and 1998, respectively.
NOTE 4. NOTES PAYABLE
On February 4, 1999, we borrowed $4.0 million from a foreign corporate
investor pursuant to a convertible promissory note due January 31, 2000 and
bearing interest at the rate of 8% per annum. The note automatically
converted into shares of our common stock upon the closing of our initial
public offering (See Note 7). Accordingly, on April 28, 1999, the principal
and accrued interest on the note were converted into 290,911 shares of common
stock at $14 per share.
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In June 1999, we entered into a commercial loan agreement with a financing
company related to the purchase of a three-year term directors and officers
insurance policy. The $450,000 note accrues interest at 5.98% per annum and
is payable in monthly installments through June 2001.
NOTE 5. STOCK SPLIT
On April 20, 1999, we effected a 2-for-1 stock split of the then issued and
outstanding capital stock. All references to common stock and preferred stock
amounts, shares and per share data included in the financial statements and
related notes have been adjusted to give retroactive effect to the stock
split.
NOTE 6. NET LOSS PER SHARE
Net loss per share is computed under SFAS No. 128, "Earnings Per Share."
Basic net loss per share is computed using the weighted-average number of
shares of common stock outstanding, excluding shares of common stock subject
to repurchase. Such shares of common stock subject to repurchase, which
consisted primarily of founders' shares, aggregated 1,121,707 and 2,663,646
at September 30, 1999 and 1998, respectively. Diluted net loss per share does
not differ from basic net loss per share, since potential shares of common
stock from the exercise of stock options and warrants and outstanding shares
of common stock subject to repurchase are anti-dilutive for all periods
presented. Pro forma basic and diluted net loss per share have been
calculated assuming the conversion of all outstanding shares of preferred
stock into shares of common stock, as if the shares had converted immediately
upon their issuance (See Note 7).
NOTE 7. INITIAL PUBLIC OFFERING
On April 28, 1999, we completed an initial public offering, selling 3,650,000
shares of common stock at a price of $14 per share, raising a total of
$46,109,000 in net proceeds after payment of underwriting discounts and
commissions and estimated offering expenses. Concurrent with the closing of
the initial public offering, all shares of preferred stock outstanding were
converted on a 1-to-1 basis into 10,668,700 shares of common stock.
On May 20, 1999, the underwriters of our initial public offering exercised
their right to purchase additional shares of common stock to cover
over-allotments. Accordingly, on May 25, 1999, we sold 547,500 shares of
common stock, generating an additional $7,113,000 in net proceeds after
payment of underwriting discounts and commissions and estimated offering
expenses. Including the over-allotment shares, we sold a total of 4,197,500
shares of common stock in our initial public offering, raising a total of
$53,222,000, net of underwriting discounts and commissions and estimated
offering expenses.
NOTE 8. JOINT VENTURE
On July 23, 1999, we completed the formation of Net Perceptions Japan K.K., a
joint venture between Net Perceptions, Inc. and the Japanese companies of
Trans Cosmos, Inc., NTT Software and Toyo Information Systems. Under the
terms of the agreement, we have granted Net Perceptions Japan K.K. the
exclusive rights to sell, market, distribute and support Net Perceptions'
products in Japan. On August 13, 1999, we invested $394,000 (45 million Yen)
for a 45% ownership interest in the joint venture. Our investment in Net
Perceptions Japan K.K. is included in other assets at September 30, 1999 and
will be accounted for using the equity method.
7
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The discussion in this report on Form 10-Q contains forward-looking
statements that involve risks and uncertainties. The statements contained in
this Report that are not purely historical are forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended,
and Section 21E of the Securities Exchange Act of 1934, as amended, including
statements regarding our expectations, beliefs, intentions or strategies
regarding the future. All forward-looking statements included in this
document are based on information available to us on the date hereof, and we
assume no obligation to update any such forward-looking statements. Our
actual results could differ materially from those described in our
forward-looking statements. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed under the
heading "Risk Factors" and the risks and factors discussed in our
Registration Statement on Form S-1 declared effective on April 22,1999 by the
Securities and Exchange Commission (File No. 333-71919).
OVERVIEW
Net Perceptions is a leading provider of marketing solutions that enable
Internet and traditional retailers to market to customers on a personalized,
one-to-one-basis in real time. With our software solutions, a retailer learns
from each customer interaction and, based on the information received,
adjusts marketing messages or product offerings to that customer in real
time. We define our product offerings as "real-time personalization
solutions." Our products enable effective real-time personalization by
analyzing past and current customer behavior, including purchase history,
stated preferences, demographic information and Internet browsing behavior.
Based on this analysis, our products use proprietary collaborative filtering
technology to anticipate other merchandise or information a customer is
likely to be interested in purchasing or viewing. We believe that retailers
that implement our solutions can attract more customers, generate more
products per order and increase customer loyalty.
We also provide our customers with a comprehensive array of services,
including training and consulting services, software updates, documentation
updates, telephone support and web-based support. We market our products and
services through our direct sales organization and through indirect
distribution channels, including resellers, systems integrators and original
equipment manufacturers.
To date, we have focused on providing solutions to electronic commerce
retailers and the majority of our product revenues through September 30, 1999
were attributable to our Net Perceptions for E-commerce product. We
anticipate that Net Perceptions for E-commerce will continue to account for a
substantial portion of our product revenues for the foreseeable future.
Consequently, a decline in the price of or demand for Net Perceptions for
E-commerce, or its failure to achieve broad market acceptance, would
seriously harm our business, financial condition and results of operations.
During the quarter ended September 30, 1999, we recognized initial product
revenues from our Net Perceptions for Call Centers and Net Perceptions for
Knowledge Management products. Net Perceptions for Call Centers is designed
as a tool for producing targeted promotional product offerings in a call
center. We announced the commercial launch of Net Perceptions for Call
Centers in November 1998 and made our initial shipments during the first
quarter of 1999. Net Perceptions for Knowledge Management, designed to apply
the real-time relationship management capabilities of our recommendation
platform to knowledge management, is our first product designed to leverage
our core technology in an entirely new market. We announced the commercial
launch of Net Perceptions for Knowledge Management and made our initial
shipment in September 1999. We expect that our future financial performance
will depend significantly on the successful sales, implementation and market
acceptance of these new products, which may not occur on a timely basis or at
all.
We market the majority of our products through our direct sales force. Sales
derived through indirect channels accounted for approximately 9% and 4% of
our total revenues for the quarters ended September 30, 1999 and 1998,
respectively. We expect that sales derived through indirect channels will
increase as a percentage of total revenues. Sales through indirect channels
have lower average selling prices and gross margins than direct sales. As a
result, we expect that our gross margins on product sales will decline if
sales through indirect channels increase.
We have sustained losses on a quarterly and an annual basis since inception.
As of September 30, 1999, we had an accumulated deficit of $19.7 million. Our
net loss was $3.0 million for the quarters ended September 30, 1999, $9.0
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million for the nine months ended September 30, 1999, $5.0 million in fiscal
year 1998 and $4.7 million in fiscal year 1997. These losses resulted from
significant costs incurred in the development and sale of our products and
services. We expect to experience significant growth in our operating
expenses for the foreseeable future, particularly research and development
and sales and marketing expenses. As a result, we anticipate that such
operating expenses, as well as planned capital expenditures, will constitute
a material use of our cash resources. As a result, we expect to incur
additional losses and continued negative cash flow from operations for the
foreseeable future, and such losses may increase significantly from current
levels. We do not expect to achieve profitability in 1999 or 2000.
Our limited operating history makes the prediction of future operating
results very difficult. We believe that period-to-period comparisons of our
operating results should not be relied upon as predictive of future
performance. Our prospects must be considered in light of the risks, expenses
and difficulties encountered by companies at an early stage of development,
particularly companies in new and rapidly evolving markets. We may not be
successful in addressing these risks and difficulties. We have experienced
significant percentage growth in revenues in recent periods; however, we do
not believe that prior growth rates are sustainable or indicative of future
growth rates.
RESULTS OF OPERATIONS
The following table sets forth certain items in the Company's statements of
operations as a percentage of total revenues for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ ------------------
1999 1998 1999 1998
------ ------ ------ ------
<S> <C> <C> <C> <C>
Revenues:
Product 74% 86% 76% 89%
Service and maintenance 26 14 24 11
------ ------ ------ ------
Total revenues 100 100 100 100
Cost of revenues:
Product 1 1 1 1
Service and maintenance 19 9 18 7
------ ------ ------ ------
Total cost of revenues 20 10 19 8
Gross profit 80 90 81 92
Operating expenses:
Sales and marketing 80 99 86 113
Research and development 55 53 66 53
General and administrative 28 33 29 32
Stock compensation expense 8 10 14 6
------ ------ ------ ------
Total operating expenses 171 195 195 204
------ ------ ------ ------
Loss from operations (91) (105) (114) (112)
Other income, net 18 2 12 3
------ ------ ------ ------
Net loss (73)% (103)% (102)% (109)%
------ ------ ------ ------
------ ------ ------ ------
</TABLE>
9
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REVENUES
TOTAL REVENUES. Total revenues were $4.1 million and $1.2 million for the
three months ended September 30, 1999 and 1998, respectively. International
sales accounted for approximately 15% and 13% of our total revenues for the
quarters ended September 30, 1999 and 1998, respectively. International sales
accounted for approximately 18% and 11% of our total revenues for the nine
months ended September 30, 1999 and 1998, respectively. The majority of
international sales to-date were made in Canada, Europe and Asia by our
direct sales force located in the United States and London.
We recognize revenue in accordance with the Statement of Position 97-2,
"Software Revenue Recognition" (SOP 97-2), as amended by Statement of
Position 98-4, "Deferral of the Effective Date of a Provision of SOP 97-2."
We derive revenues from the sale of software licenses, post-contract support
("support") and consulting services. Support includes telephone and web-based
technical support, bug fixes, and rights to unspecified upgrades on a
when-and-if available basis. Services include implementation, training, and
consulting. In software arrangements that include rights to multiple software
products, specified upgrades, support and/or services, we allocate the total
arrangement fee among each deliverable based on the relative fair value of
each of the deliverables determined based on vendor-specific objective
evidence. Revenues from license fees are recognized when persuasive evidence
of an agreement exists, delivery of the product has occurred, no significant
Company obligations with regard to implementation remain, the fee is fixed or
determinable and collectibility is probable. If the fee due from the customer
is not fixed or determinable, revenue is recognized as payments become due
from the customer. If collectibility is not considered probable, revenue is
recognized when the fee is collected. Revenue allocable to support is
recognized on a straight-line basis over the periods in which the support is
provided. Arrangements that include consulting services are evaluated to
determine whether those services are essential to the functionality of other
elements of the arrangement. When services are considered essential, revenue
under the arrangement is recognized using contract accounting. When services
are not considered essential, the revenue allocable to the software services
is recognized as the services are performed.
LICENSE REVENUES. Revenues from licenses increased by 206% from $992,000 for
the quarter ended September 30, 1998 to $3.0 million in the comparable
quarter in 1999. Software license fees increased 168% from $2.5 million for
the nine months ended September 30, 1998 to $6.7 million in the comparable
period in 1999. We currently derive the majority of our license revenues from
our Net Perceptions for E-commerce product. The growth of revenues in
absolute dollars is largely a result of our sales and marketing efforts,
specifically the expansion of our direct sales force, and the increased
market acceptance of our products. While higher unit sales volumes accounted
for the majority of the growth in revenues, we have also achieved an increase
in our average order size through sales efforts focused on larger accounts.
We intend to continue to enhance our current software products as well as
develop new software products. As a result, we anticipate that revenues from
product licenses will continue to represent a majority of our revenues in the
foreseeable future. We expect that prior percentage growth rates of our
license revenues will not be sustainable in the future.
SERVICE AND MAINTENANCE REVENUES. Service and maintenance revenues increased
by 562% from $163,000 for the quarter ended September 30, 1998 to $1.1
million in the comparable quarter in 1999. Service and maintenance revenues
increased by 572% from $316,000 for the nine months ended September 30, 1998
to $2.1 million in the comparable period in 1999. This growth is due to
increased licensing activity, which has resulted in increased revenues from
maintenance and support, training and consulting services and to the
expansion of our service capabilities through the hiring of additional
services personnel. Prior growth rates of our installed base and,
consequently, in our service revenues, will not be sustainable in the future.
COST OF REVENUES
COST OF LICENSE REVENUES. Cost of license revenues consists primarily of the
costs of royalties paid to third-party vendors, product media and
duplication, manuals, packaging materials and shipping expenses. Cost of
license revenues increased from $10,000 for the quarter ended September 30,
1998 to $32,000 for the comparable quarter in 1999, representing 1% of the
related license revenues in both quarters. Cost of license revenues increased
from $25,000 for the nine months ended September 30, 1998 to $127,000 in the
comparable 1999 period, representing 1% and 2% of related license revenues in
the such periods. The increases in the dollar amount of cost of license
revenues were primarily due to higher volumes of product shipped. Because all
development costs incurred in the research and development of new software
products and enhancements to existing software products have been
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expensed as incurred, cost of product revenues includes no amortization of
capitalized software development costs. We believe that the cost of license
revenues will increase in dollar amounts and as a percentage of license
revenues in the future.
COST OF SERVICE AND MAINTENANCE REVENUES. Cost of service and maintenance
revenues consists primarily of personnel-related costs incurred in providing
telephone and web-based support, consulting services and training to
customers. Cost of service and maintenance revenues increased from $106,000
for the quarter ended September 30, 1998 to $782,000 in the comparable
quarter in 1999, representing 65% and 72% of the related services and
maintenance revenues in such quarters. Cost of service and maintenance
revenues increased from $205,000 for the nine months ended September 30, 1998
to $1.6 million in the comparable period in 1999, representing 65% and 75% of
the related services and maintenance revenues in such periods. Cost of
service and maintenance revenues increased significantly in absolute dollars
and as a percentage of revenues primarily due to increased personnel-related
costs incurred as we continue to build our customer support, education and
training, and consulting services organization. We believe that the cost of
service and maintenance revenues will increase in dollar amounts in the
future.
OPERATING EXPENSES
Operating expenses were $7.1 million in the quarter ended September 30, 1999
and $2.2 million in the comparable quarter of 1998. Operating expenses were
$17.2 million in the nine months ended September 30, 1999 and $5.7 million in
the comparable period in 1998.
SALES AND MARKETING. Sales and marketing expenses consist primarily of
salaries and incentive compensation for sales and marketing personnel and
promotional expenses. Sales and marketing expenses were $3.3 million and $1.1
million, or 80% and 99% of total revenues, for the quarters ended September
30, 1999 and 1998, respectively. Sales and marketing expenses were $7.6
million and $3.2 million, or 86% and 113% of total revenues, for the nine
months ended September 30, 1999 and 1998, respectively. The increases in
sales and marketing expenses in absolute dollar amounts were primarily
attributable to increased personnel-related costs related to increased
headcount in our sales and marketing organizations and a related increase in
incentive compensation paid to sales personnel. We believe that sales and
marketing expenses will continue to increase in absolute dollar amounts in
the future as we continue to expand our direct sales force and further
promote our products.
RESEARCH AND DEVELOPMENT. Research and development expenses consist primarily
of personnel-related costs, contractor expenses and related equipment costs.
Research and development expenses were $2.3 million and $607,000, or 55% and
53% of total revenues, for the quarters ended September 30, 1999 and 1998,
respectively. Research and development expenses were $5.8 million and $1.5
million or 66% and 53% of total revenues, for the nine months ended September
30, 1999 and 1998, respectively. The increases in research and development in
absolute dollar amounts were primarily attributable to increased staffing and
associated support for software engineers required to expand and enhance our
product line. We believe that continued investment in research and
development expenses is critical to attaining our strategic objectives and,
as a result, expect research and development expenses to increase in absolute
dollars in future periods.
GENERAL AND ADMINISTRATIVE. General and administrative expenses were $1.2
million and $383,000, or 28% and 33% of total revenues, for the quarters
ended September 30, 1999 and 1998, respectively. General and administrative
expenses were $2.6 million and $902,000, or 29% and 32% of total revenues,
for the nine months ended September 30, 1999 and 1998, respectively. The
increases in dollar amounts were primarily the result of increased staffing
and associated expenses necessary to manage and support our growth. We
believe that general and administrative expenses will increase in dollar
amount as we continue to increase staffing to manage expanding operations.
STOCK COMPENSATION. Compensation related to stock options granted through
September 30, 1999 was approximately $3,146,000. Of this amount, we recorded
stock compensation expense of $339,000 and $112,000 in the three months ended
September 30, 1999 and 1998, respectively. These amounts represent the
difference between the exercise price of certain stock option grants and the
deemed fair value of the common stock at the time of such grants. Stock
compensation expense is recognized over the vesting period of the options,
generally four years. As a result, the recognition of stock compensation will
impact our reported results of operations through early 2003.
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OTHER INCOME, NET. Other income, net consists of interest income, interest
expense and other expense. Other income, net was $735,000 and $24,000 for the
three months ended September 30, 1999 and 1998, respectively. Other income
for the three months ended September 30, 1999 consists primarily of interest
earned on proceeds from the our initial public offering.
PROVISION FOR INCOME TAXES
We have incurred significant operating losses for all periods from inception
through September 30, 1999. As the future realization of the tax benefit
resulting from these losses is not sufficiently assured, we have recorded a
valuation allowance for the full amount of our deferred tax assets.
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LIQUIDITY AND CAPITAL RESOURCES
During the nine months ended September 30, 1999 and 1998, cash used by
operating activities was $6.0 million and $3.0 million, respectively. Net
cash used in operations for the nine months ended September 30, 1999 was
primarily attributable to the net loss generated during the period, offset by
non-cash charges and an increase in accounts payable and accrued expenses
resulting from increased operating activities.
During the nine months ended September 30, 1999 and 1998, our investing
activities consisted primarily of purchases of marketable securities and
property and equipment. To date, we have not invested in financial
instruments that involve a high level of complexity or risk. We expect that,
in the future, cash in excess of current requirements will continue to be
invested in investment grade, interest-bearing securities.
Cash used to purchase property and equipment was $2.5 million and $342,000
during the nine months ended September 30, 1999 and 1998, respectively,
primarily for furniture and computer equipment for our growing employee base.
During the nine months ended September 30, 1998, we generally funded the
purchase of property and equipment with capital leases. During the nine
months ended September 30, 1999, we have purchased property and equipment
with cash balances. We expect that the rate of purchases of property and
equipment will continue to increase as our employee base grows. Our principal
commitments consist primarily of leases on our facilities.
The net cash provided by financing activities during the nine months ended
September 30, 1999 and 1998 was $57.4 million and $1.0 million, respectively.
On February 4, 1999, we borrowed $4.0 million from a foreign corporate
investor pursuant to a convertible promissory note. The note automatically
converted into shares of our common stock upon the closing of our initial
public offering.
On April 28, 1999, we completed an initial public offering, selling 3,650,000
shares of common stock at a price of $14 per share, raising a total of
$46,109,000 in net proceeds after payment of underwriting discounts and
commissions and estimated offering expenses. On May 20, 1999, the
underwriters of our initial public offering exercised their right to purchase
additional shares of common stock to cover over-allotments. Accordingly, on
May 25, 1999, we sold 547,500 shares of common stock, generating an
additional $7,113,000 in net proceeds after payment of underwriting discounts
and commissions and estimated offering expenses. Including the over-allotment
shares, we sold a total of 4,197,500 shares of common stock in our initial
public offering, raising a total of $53,222,000, net of underwriting
discounts and commissions and estimated offering expenses.
As of September 30, 1999, we had $27.1 million in cash and cash equivalents,
$22.6 million in short-term investments and marketable securities and $40.2
million of working capital. We expect to experience significant growth in our
operating expenses for the foreseeable future, particularly research and
development and sales and marketing expenses. As a result, we anticipate that
such operating expenses, as well as planned capital expenditures, will
constitute a material use of our cash resources. In addition, we may utilize
cash resources to fund acquisitions or investments in complementary
businesses, technologies or product lines. We believe that current cash and
investment balances will be sufficient to meet our working capital and
capital expenditure requirements for at least the next 12 months. Thereafter,
we may find it necessary to obtain additional equity or debt financing. In
the event additional financing is required, we may not be able to raise it on
acceptable terms or at all.
YEAR 2000 READINESS
"Year 2000 Issues" refer generally to the problems that some software may
have in determining the correct century for the year. For example, software
with date-sensitive functions that is not Year 2000 compliant may not be able
to distinguish whether "00" means 1900 or 2000, which may result in failures
or the creation of erroneous results.
We have defined Year 2000 compliant as the ability to:
- Correctly handle date information needed for the December 31, 1999
to January 1, 2000 date change;
- Function according to the product documentation provided for this
date change, without changes in operation resulting from the advent
of a new century, assuming correct configuration;
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- Respond to two-digit date input in a way that resolves the
ambiguity as to century in a disclosed, defined and predetermined
manner;
- Store and provide output of date information in ways that are
unambiguous as to century if the date elements in interfaces and
data storage specify the century; and
- Recognize the Year 2000 as a leap year.
We designed our current products to be Year 2000 compliant when configured
and used in accordance with the related documentation, and provided that the
underlying operating system of the host machine and any other software used
with or in the host machine or our products are Year 2000 compliant. We
continue to respond to customer questions about non-current versions of our
products on a case-by-case basis.
We have not tested all software obtained from third parties. However, we are
seeking assurances from our vendors that licensed software is Year 2000
compliant. Despite assurances from developers of products incorporated into
our products, our products may contain undetected errors or defects
associated with Year 2000 date functions.
Known or unknown errors or defects in our products could result in delay or
loss of revenues, diversion of development resources, damage to our
reputation, or increased service and warranty costs, any of which could
seriously harm our business, financial condition and results of operations.
Some commentators have predicted significant litigation regarding Year 2000
compliance issues, and we are aware of such lawsuits against other software
vendors. Because of the unprecedented nature of such litigation, it is
uncertain whether or to what extent we may be affected by it.
We are assessing our material internal information and non-information
technology systems, including both our own software products and third-party
software and hardware technology. We expect to complete testing of our
information technology systems before December 31, 1999. To the extent that
we are not able to test the technology provided by third-party vendors, we
are seeking assurances from such vendors that their systems are Year 2000
compliant. We are not currently aware of any significant operational issues
or costs associated with preparing our internal information technology and
non-information technology systems for the Year 2000. However, we may
experience significant unanticipated problems and costs caused by undetected
errors or defects in the technology used in our internal information
technology and non-information technology systems.
We do not currently have any information concerning the Year 2000 compliance
status of our customers. Our current or future customers may incur
significant expenses to achieve Year 2000 compliance. If our customers are
not Year 2000 compliant, they may experience material costs to remedy
problems, they may face litigation costs and they may delay purchases or
implementation of our products. Year 2000 issues could reduce or eliminate
the budgets that current or potential customers could have for purchases of
our products and services. As a result, our business, financial condition and
results of operations could be seriously harmed.
We have funded our Year 2000 plan from cash balances and have not separately
accounted for these costs in the past. To date, these costs have not been
significant. We will incur additional costs related to the Year 2000 plan for
administrative personnel to manage the project, outside contractor
assistance, technical support for our products and product engineering. In
addition, we may experience material problems and costs with Year 2000
compliance that could seriously harm our business, financial condition and
results of operations.
We have not yet fully developed a contingency plan to address situations that
may result if we are unable to achieve Year 2000 readiness of our critical
operations. The cost of developing and implementing such a plan may itself be
significant. Finally, we are also subject to external forces that might
generally affect industry and commerce, such as utility or transportation
company interruptions caused by Year 2000 compliance failures.
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RISK FACTORS
In addition to the other information in this Report, the following risk
factors should be carefully considered in evaluating our business and us:
NET PERCEPTIONS IS AN EARLY-STAGE COMPANY AND WE EXPECT TO ENCOUNTER RISKS
AND DIFFICULTIES FREQUENTLY ENCOUNTERED BY EARLY-STAGE COMPANIES IN NEW AND
RAPIDLY EVOLVING MARKETS.
Net Perceptions was founded in July 1996. We began shipping product in
the first quarter of 1997. The market for our products is unproven. Our
limited operating history makes an evaluation of our future prospects very
difficult. We will encounter risks and difficulties frequently encountered by
early-stage companies in new and rapidly evolving markets. We may not
successfully address any of these risks. If we do not successfully address
these risks, our business, financial condition and results of operations
would be seriously harmed.
OUR QUARTERLY OPERATING RESULTS ARE VOLATILE AND DIFFICULT TO PREDICT. IF WE
FAIL TO MEET THE EXPECTATIONS OF PUBLIC MARKET ANALYSTS AND INVESTORS, THE
MARKET PRICE OF OUR COMMON STOCK MAY DECREASE SIGNIFICANTLY.
Our quarterly operating results have varied in the past and may vary
significantly in the future. Because our operating results are volatile and
difficult to predict, we believe that period-to-period comparisons of our
results of operations are not a good indication of our future performance. It
is likely that in some future quarter or quarters our operating results will
be below the expectations of public market analysts and investors. In such
event, the market price of our common stock may decrease significantly.
Our quarterly operating results will vary depending on a number of
factors, including:
- Demand for our products and services;
- Amount and timing of sales transactions for our products and
services;
- Actions taken by our competitors, including new product
introductions;
- Our ability to develop, introduce and market new products and
enhancements to our existing products on a timely basis;
- Market readiness for our products;
- Changes in our pricing policies or those of our competitors;
- Our ability to expand our sales and marketing operations, including
hiring additional sales personnel;
- Our success in developing indirect sales channels;
- The deferral of significant revenues until acceptance of software or
delivery of services as required by an individual license
transaction;
- Our ability to control costs;
- Technological changes in our markets;
- The mix of sales among our direct and indirect channels and between
domestic and international markets;
- Deferrals of customer orders in anticipation of product enhancement
or new products;
- The rate of growth in the use of the Internet for commerce and
communication;
- Customer budget cycles and changes in these budget cycles;
- Difficulties experienced by our customers or us as a result of Year
2000 issues; and
- General economic factors.
We cannot predict our future quarterly revenues with any degree of
certainty for several reasons, including:
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- Product revenues in any quarter are substantially dependent on
orders booked and shipped in that quarter, because we operate with
very little order backlog;
- The market in which we compete is relatively new and rapidly
evolving;
- We expect that, for the foreseeable future, revenues will come
from licenses to a small number of customers, so delays or
cancellations of orders by a few customers can significantly
impact revenues within a quarter;
- Our sales cycle varies substantially from customer to customer;
and
- The timing of large orders can significantly affect revenues
within a quarter.
Historically, we have recognized a substantial portion of our revenues
in the last month of a quarter, with these revenues frequently concentrated
in the last two weeks of the quarter. Accordingly, we cannot predict our
financial results for any quarter until very late in the quarter. A delay in
an anticipated sale near the end of a quarter can seriously harm our
operating results for that quarter.
Our expense levels are relatively fixed in the short term and are
based, in part, on our expectations as to our future revenues. As a result,
any delay in generating or recognizing revenues could cause significant
variations in our operating results from quarter to quarter and could result
in increased operating losses.
WE HAVE A HISTORY OF LOSSES AND EXPECT TO INCUR LOSSES IN THE FUTURE.
We had net losses of $3.0 million in the three months ended September
30, 1999, $9.0 million for the nine months ended September 30, 1999, $5.0
million in 1998 and $4.7 million in 1997. As of September 30, 1999, we had an
accumulated deficit of $19.7 million. We have not had a profitable quarter
and do not expect to have a profitable quarter in 1999 or 2000. We expect
that our losses will continue to increase in the future. We expect to
continue to incur significant sales and marketing, research and development
and general and administrative expenses. As a result, we will need to
generate significant quarterly revenues to achieve profitability. We may
never achieve profitability. Although our revenues have grown, we do not
believe that we can sustain these growth rates, or that such growth rates are
indicative of future revenue growth rates.
WE DEPEND ON OUR NET PERCEPTIONS FOR E-COMMERCE PRODUCT. A DECLINE IN THE
PRICE OF, OR DEMAND FOR, OR MARKET ACCEPTANCE OF NET PERCEPTIONS FOR
E-COMMERCE WOULD SERIOUSLY HARM OUR BUSINESS.
We currently derive the majority of our revenues from our Net
Perceptions for E-commerce product. We anticipate that Net Perceptions for
E-commerce will continue to account for a substantial portion of our revenues
for the foreseeable future. Consequently, a decline in the price of or demand
for Net Perceptions for E-commerce, or its failure to achieve broad market
acceptance, would seriously harm our business, financial condition and
results of operations.
WE FACE INTENSE COMPETITION AND IF WE ARE UNABLE TO COMPETE SUCCESSFULLY OUR
BUSINESS WILL BE SERIOUSLY HARMED.
The market for our products is intensely competitive, evolving and
subject to rapid technological change. We expect the intensity of competition
to increase in the future. Competitors vary in size and in the scope and
breadth of the products and services offered. In the license of electronic
commerce products, we primarily encounter competition from the LikeMinds
division of Andromedia, the Aptex division of HNC Software and Personify.
Microsoft Corporation recently acquired FireFly Network Inc., a company with
collaborative filtering technology and, as a result, we expect that we will
encounter competition from Microsoft in the future. We expect that if we are
successful in our strategy to leverage our technology into new vertical
markets, we will encounter many additional, market-specific competitors. For
example, RightPoint is an established firm serving call centers that we
expect to increasingly encounter in the marketing of our Net Perceptions for
Call Centers product. In addition, because there are relatively low barriers
to entry in the software market, we expect additional competition from other
established and emerging companies as the Internet software market continues
to develop and expand. Finally, we expect to see increasing competition from
network-based providers of real-time personalization such as TriVida.
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Many of our competitors have longer operating histories, significantly
greater financial, technical, marketing and other resources, significantly
greater name recognition and a larger installed base of customers than we
have. In addition, many of our competitors have well-established
relationships with current and potential customers of ours, have extensive
knowledge of our industry and are capable of offering a single-vendor
solution. As a result, our competitors may be able to respond more quickly to
new or emerging technologies and changes in customer requirements, or to
devote greater resources to the development, promotion and sale of their
products than we can. In addition, current and potential competitors have
established or may establish cooperative relationships among themselves or
with third parties to increase the ability of their products to address
customer needs. Accordingly, it is possible that new competitors or alliances
among competitors may emerge and rapidly acquire significant market share. We
also expect that competition will increase as a result of software industry
consolidations.
Increased competition is likely to result in price reductions, reduced
gross margins and loss of market share, any of which could seriously harm our
business, financial condition and results of operations. We may not be able
to compete successfully against current and future competitors.
OUR PRODUCTS HAVE A LENGTHY SALES CYCLE. AS A RESULT, IT IS DIFFICULT TO
PREDICT THE QUARTER IN WHICH A SALE MAY OCCUR.
We are one of the first companies to market real-time personalization
software. As a result, we must educate potential customers on the use and
benefits of our products. In addition, we believe that the purchase of our
products is relatively discretionary and involves a significant commitment of
capital and other resources by a customer. As a result, it usually takes our
sales organization several months to finalize a sale. This makes it difficult
to predict the quarter in which a sale may occur.
WE HAVE A LENGTHY IMPLEMENTATION CYCLE. IN ADDITION, ONLY A SMALL NUMBER OF
OUR CUSTOMERS HAVE A DEPLOYED AND OPERATING APPLICATION UTILIZING OUR
PRODUCTS. AS A RESULT, WE CANNOT BE CERTAIN THAT OUR PRODUCTS WILL PERFORM
AND BE RECEIVED AS WE EXPECT.
The implementation, including application design and deployment, of
our products requires a significant commitment of resources by our customers.
The time required for implementation of our products has varied depending on
the customer's application of the product. Additionally, implementation of
Net Perceptions for E-Commerce often does not begin until a customer
otherwise undertakes to update its web site, which generally occurs only once
or twice per year.
We have currently licensed our products to more than 135 customers.
However, only a limited number of these customers have a deployed and
operating application utilizing our products. Because most of our customers
have not yet fully implemented and deployed our products, we cannot be
certain that our products will:
- Perform as designed;
- Deliver the desired level of economic benefit to our customers;
- Meet the other expectations and needs of our customers;
- Achieve any significant degree of market acceptance; or
- Perform to the level necessary to generate good customer
references and repeat customers.
If implementation services are considered essential to the product
sales transaction, we recognize a substantial portion of our revenues from
such sales transaction upon the delivery of these services. As a result,
delays in service delivery could cause significant reduction in our license
revenues and operating results for any particular period. The occurrence of
any of these events could seriously harm our business, financial condition
and results of operations.
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WE NEED TO SUBSTANTIALLY EXPAND OUR DIRECT SALES OPERATIONS IF WE ARE TO
INCREASE MARKET AWARENESS AND SALES OF OUR PRODUCTS AND SERVICES. IF WE FAIL
TO DO SO, OUR BUSINESS WILL BE SERIOUSLY HARMED.
We need to substantially expand our direct sales operations if we are
to increase market awareness and sales of our products and services. If we
fail to increase our direct sales capabilities as we have planned, our
business, financial condition and results of operations would be seriously
harmed. Our products and services require a sophisticated sales effort
targeted at senior management of our prospective customers. As of September
30, 1999, our direct sales organization consisted of 34 employees. We plan to
hire additional sales personnel. Competition for qualified sales personnel is
intense, and we might not be able to hire the kind and number of sales
personnel we are targeting. New hires will require extensive training and
typically take several months to achieve productivity. We cannot be certain
that our recent hires will be as productive as necessary.
WE ARE DEPENDENT ON AND PLAN TO INCREASE THE SIZE OF OUR PROFESSIONAL
SERVICES ORGANIZATION. IF WE DO NOT ADD MORE CUSTOMER SUPPORT PERSONNEL, OUR
BUSINESS WILL BE SERIOUSLY HARMED.
Customers that license our software typically engage our professional
services organization to assist with support, training, consulting and
implementation. We believe that growth in our product sales depends on our
ability to provide our clients with these services and to educate resellers
on how to use our products. From time to time, we receive customer complaints
about the timeliness and accuracy of our customer support. We plan to add
more customer support personnel in order to address current customer support
needs. If we are not successful hiring such personnel, our business,
financial condition and results of operations could be seriously harmed. As
of September 30, 1999, our professional services organization consisted of 25
employees. We are in a new market and there are a limited number of people
who have the skills needed to provide the services that our customers demand.
Competition for qualified service personnel is intense. We cannot be certain
that we can attract or retain a sufficient number of the highly-qualified
service personnel that our business needs.
OUR BUSINESS COULD BE SERIOUSLY IMPACTED BY PRIVACY CONCERNS.
Typically, our Net Perceptions products capture customer preference
and profile information each time a customer interacts with the application
utilizing our product(s) or volunteers information in response to survey
questions. Privacy concerns may cause users to resist providing the personal
data necessary to support this profiling capability. More importantly, even
the perception of privacy concerns, whether or not valid, may indirectly
inhibit market acceptance of our products. In addition, legislative or
regulatory requirements may heighten such concerns if users must be notified
that the data captured after such interactions may be used by marketing
entities to unilaterally direct product promotion and advertising to that
user. We are not aware of any such legislation or regulatory requirements
currently in effect in the United States. Various other countries and
political entities, such as the European Economic Community, have adopted
such legislation or regulatory requirements. The United States may adopt
similar legislation or regulatory requirements. If customer privacy concerns
are not adequately addressed or if restrictive legislation is adopted in the
United States, our business, financial condition and results of operations
could be seriously harmed.
Our Net Perceptions products can use data captured with "cookies" to
track demographic information and user preferences. A "cookie" is a bit of
information keyed to a specific server, file pathway or directory location
that is stored on a computer user's hard drive, possibly without the user's
knowledge, but generally removable by the user. Some countries have imposed
laws limiting the use of cookies, and a number of Internet commentators,
advocates and governmental bodies in the United States and other countries
have urged passage of laws limiting or abolishing the use of cookies. If such
laws are passed, our business, financial condition and results of operations
could be seriously harmed.
WE RECENTLY ANNOUNCED SEVERAL NEW PRODUCTS, WHICH MAY NOT ACHIEVE MARKET
ACCEPTANCE.
We recently announced the commercial launch of the following new
products:
- Net Perceptions for Marketing Campaigns, designed as a tool for
producing targeted promotional electronic mail messages; and
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- Net Perceptions for Knowledge Management, designed to apply the
real-time relationship management capabilities of our
recommendation platform to knowledge management.
- Net Perceptions Recommendation Engine as an embedded OEM solution,
our core recommendation platform as a stand-alone product.
These new products have not received any degree of market acceptance.
There are significant risks inherent in product introductions such as these.
These products may not address some or all of the needs of customers and may
contain undetected errors or failures. A lack of necessary features or errors
or failures in the products will likely result in loss or delay of market
acceptance. We expect that our future financial performance will depend
significantly on the successful sales, implementation and market acceptance
of these new products, which may not occur on a timely basis or at all.
Our new products are subject to significant technical risks. We
may fail to introduce or deploy new products on a timely basis, or at all. In
the past, we have experienced significant delays in the commencement of
commercial shipments of our new releases and new products. These delays
caused customer frustrations and delay or loss of product revenues. Some of
our competitors currently offer products with features and functionality
similar to those that may be offered in our new products. In the past, we
have also experienced delays in purchases of our products by customers
anticipating our launch of new releases or new products. Our business,
financial condition and results of operations would be seriously harmed if
customers defer material orders in anticipation of new releases or new
product introductions.
The software products we offer are complex and may contain undetected
errors or failures when first introduced or as new versions are released. We
have in the past discovered software errors in our new releases and new
products after their introduction. We experienced delays in release or lost
revenues during the period required to correct these errors. We may discover
errors in new releases or new products after the commencement of commercial
shipments, despite testing by our personnel and our current and potential
customers. This may result in loss of or delay in market acceptance of our
products, which could seriously harm our business, financial condition and
results of operations.
WE DEPEND ON THE CONTINUED GROWTH OF OUR CUSTOMER BASE AND THE RETENTION OF
OUR CUSTOMERS. IF WE FAIL TO GENERATE REPEAT OR EXPANDED BUSINESS FROM OUR
CURRENT AND FUTURE CUSTOMERS, OUR BUSINESS WILL BE SERIOUSLY HARMED.
Our success is dependent on the continued growth of our customer base
and the retention of our customers. We currently depend on a limited number
of key, high-profile customers. Our ability to attract new customers will
depend on a variety of factors, including the accuracy, scalability,
reliability and cost-effectiveness of our products and services and our
ability to effectively market such products and services. In the past, we
have lost potential customers to competitors for various reasons, including
lower prices and other incentives not matched by us. Many of our current
customers initially purchase a limited license for our products and services
for evaluation. If such evaluation is successful, the customer may purchase a
license to expand the use of our products in its organization or license
additional products and services. If we fail to generate repeat and expanded
business from our current and future customers, our business, financial
condition and results of operations would be seriously harmed.
IF WE DO NOT RESPOND TO RAPID TECHNOLOGICAL CHANGES, OUR PRODUCTS COULD
BECOME OBSOLETE AND OUR BUSINESS WILL BE SERIOUSLY HARMED.
The life cycles of our products are difficult to predict because the
markets for our products are characterized by rapid technological change,
changing customer needs, frequent new software product introductions, and
evolving industry standards.
The introduction of products embodying new technologies and the
emergence of new industry standards could render our existing products
obsolete and unmarketable. To be successful, we need to develop and introduce
new software products and enhancements to existing products on a timely basis
that:
- Keep pace with technological developments and emerging industry
standards; and
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- Address the increasingly sophisticated needs of our customers.
In addition, we may:
- Fail to develop and market new products and enhancements to
existing products that respond to technological changes or
evolving industry standards;
- Experience difficulties that could delay or prevent the successful
development, introduction and marketing of these new products and
enhancements to existing products; and
- Fail to develop new products and enhancements to existing products
that adequately meet the requirements of the marketplace or
achieve market acceptance.
In any such event, our business, financial condition and results of
operations would be seriously harmed.
WE RELY ON RESELLERS AND NEED TO DEVELOP THIS SALES CHANNEL. IF OUR RESELLER
CHANNEL DOES NOT PERFORM ADEQUATELY, OUR BUSINESS COULD BE SERIOUSLY HARMED.
We intend to increase the proportion of our customers licensed through
our reseller channels, which include distributors, resellers and systems
integrators. Our failure to achieve this could seriously harm our business,
financial condition and results of operations. Our agreements with such
resellers are generally not exclusive and in many cases may be terminated by
either party without cause. Many of these resellers carry product lines that
are competitive with our product lines. These resellers may not give a high
priority to the marketing of our products or may not continue to carry our
products. They may give a higher priority to other products, including the
products of competitors. We may not retain any of our current resellers or
successfully recruit new resellers. Events or occurrences of this nature
could seriously harm our business, financial condition and results of
operations. In addition, any sales through resellers will have lower gross
margins than direct sales.
WE RELY ON ORIGINAL EQUIPMENT MANUFACTURERS AND NEED TO DEVELOP THIS SALES
CHANNEL. IF OUR ORIGINAL EQUIPMENT MANUFACTURER CHANNEL DOES NOT PERFORM
ADEQUATELY, OUR BUSINESS COULD BE SERIOUSLY HARMED.
We intend to increase sales through original equipment manufacturers.
We may fail to implement this strategy, which could seriously harm our
business, financial condition and results of operations. We are currently
investing, and intend to continue to invest, resources to develop this sales
channel. Such investments could seriously harm our operating margins. We
depend on our original equipment manufacturers' abilities to develop product
enhancements or new products on a timely and cost-effective basis that will
meet changing customer needs and respond to emerging industry standards and
other technological changes. Our original equipment manufacturers may not
effectively meet these technological challenges. These original equipment
manufacturers:
- Are not within our control;
- May incorporate into their products the technologies of other
companies in addition to or in place of our technologies; and
- Are not obligated to purchase our products.
Our original equipment manufacturers may not continue to carry our products.
Our inability to recruit, or our loss of, important original equipment
manufacturers could seriously harm our business, financial condition and
results of operations. In addition, any sales through original equipment
manufacturers will have lower gross margins than direct sales.
We recently established a sales force dedicated to the development of the
indirect sales channel for our products. As of September 30, 1999, our
indirect sales organization consisted of 5 employees. We plan to hire
additional sales personnel. Competition for qualified sales personnel is
intense, and we might not be able to retain our existing personnel or hire
and retain the kind and number of sales personnel we are targeting. New hires
will require
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extensive training and typically take several months to achieve productivity.
We cannot be certain that our recent hires will be as productive as necessary.
WE DEPEND ON INTERNATIONAL SALES AND, THEREFORE, OUR BUSINESS IS SUSCEPTIBLE
TO NUMEROUS RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS.
Licenses and services sold to customers located outside of the United
States accounted for approximately 15% and 13% of our total revenues for the
quarters ended September 30, 1999 and 1998, respectively. International sales
accounted for approximately 18% and 11% of our total revenues for the nine
months ended September 30, 1999 and 1998, respectively. We expect
international revenues to account for a significant percentage of total
revenues in the future, and we believe that we must continue to expand our
international sales and marketing activities in order to be successful. To
successfully expand international sales, we must:
- Expand international operations;
- Hire international personnel; and
- Recruit additional international resellers.
This will require significant management attention and financial
resources and could seriously harm our operating margins. We have very
limited experience in marketing, selling and distributing our products and
services internationally.
During the quarter ended September 30, 1999, we established operations
in the United Kingdom. We currently have six employees located in the United
Kingdom. All other employees are located in the United States.
The acceptance and use of the Internet in international markets are in
earlier stages of development than in the United States, particularly with
the Internet as a method for conducting commerce. If the Internet or
electronic commerce fail to gain sufficient acceptance in international
markets or we fail to further expand our international operations in a timely
manner, our business, financial condition and results of operations could be
seriously harmed. In addition, we may fail to maintain or increase
international market demand for our products.
WE DEPEND ON TECHNOLOGY LICENSED FROM OTHER PARTIES. IF WE ARE UNABLE TO
CONTINUE TO UTILIZE SUCH TECHNOLOGY, OUR BUSINESS WOULD BE SERIOUSLY HARMED.
We license personalization screening and collaborative filtering
technology known as the "GroupLens" technology from the University of
Minnesota pursuant to an exclusive, worldwide, license agreement. The
exclusive rights granted are subject to non-exclusive rights retained by:
- AT&T Corporation, for portions of the technology funded by AT&T;
- The United States government, for government-funded aspects of the
technology, but solely for government purposes; and
- The University of Minnesota, for its own educational and research
purposes.
The license agreement also provides that for the three academic years
ending in the spring of 2000, we will pay research fees to the University of
Minnesota for exclusive rights to commercial applications that the research
may produce related to improvements to the GroupLens technology. If the
agreement is terminated prior to the end of the 1999-2000 academic year or if
we are unable to renew the agreement, we will no longer have access to the
research conducted by the University of Minnesota, which could result in an
increased burden on our product development department, as well as a
reduction in improvements to our core technology. We may not be able to renew
the agreement, hire adequate personnel to meet any increased demands on our
product development department, or continue to advance our technology on a
timely basis. If we are unable to renew the agreement, hire sufficient
personnel or develop product improvements in a timely manner, our business,
financial condition and results of operations would be seriously harmed.
21
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We integrate third-party software in our software products. For
instance, we license the Orbix object request broker from IONA Technologies
for use in our Net Perceptions for E-commerce, Net Perceptions for Call
Centers and Net Perceptions Recommendation Engine products. The agreement
expires in July 2001. The third-party software may not continue to be
available to us on commercially reasonable terms. We may not be able to renew
this agreement or develop alternative technology. If we cannot maintain
licenses to key third-party software, such as Orbix, develop similar
technology or license similar technology from another source on a timely or
commercially feasible basis, our business, financial condition and results of
operations could be seriously harmed.
WE ARE DEPENDENT UPON KEY PERSONNEL. THE LOSS OF THE SERVICES OF ONE OR MORE
OF OUR KEY PERSONNEL, OR OUR FAILURE TO ATTRACT, ASSIMILATE AND RETAIN OTHER
HIGHLY QUALIFIED PERSONNEL IN THE FUTURE WOULD SERIOUSLY HARM OUR BUSINESS.
Our future success depends on the continued service of our senior
management, product development and sales personnel. The loss of the services
of one or more of our key personnel could seriously harm our business,
financial condition and results of operations. None of these persons is bound
by an employment agreement. As of September 30, 1999, Net Perceptions
consisted of 167 employees. We only carry key person life insurance on Steven
J. Snyder, our President and Chief Executive Officer. The amount of such
policy is $1,000,000. Our future success also depends on our continuing
ability to attract, hire, train and retain a substantial number of highly
skilled managerial, technical, sales, marketing and customer support
personnel. Competition for such personnel is intense, and we may fail to
retain our key employees, or attract, assimilate or retain other highly
qualified personnel in the future. If so, our business, financial condition
and results of operations could be seriously harmed.
WE DEPEND ON INCREASING USE OF THE INTERNET AND ON THE GROWTH OF ELECTRONIC
COMMERCE. IF THE USE OF THE INTERNET AND ELECTRONIC COMMERCE DO NOT GROW AS
ANTICIPATED, OUR BUSINESS WILL BE SERIOUSLY HARMED.
Our future revenues depend upon the increased acceptance and use of
the Internet and other online services as a medium of commerce. Rapid growth
in the use of the Internet, the web and online services is a recent
phenomenon. Acceptance and use may not continue to develop at historical
rates and a sufficiently broad base of customers may not adopt or continue to
use the Internet and other online services as a medium of commerce. Demand
and market acceptance for recently-introduced services and products over the
Internet are subject to a high level of uncertainty and few proven services
and products exist.
In addition, the Internet may not be accepted as a viable long-term
commercial marketplace for a number of reasons, including potentially
inadequate development of the necessary network infrastructure or delayed
development of enabling technologies and performance improvements. To the
extent that the Internet continues to experience significant expansion in the
number of users, frequency of use or bandwidth requirements, the
infrastructure for the Internet may be unable to support the demands placed
upon it. In addition, the Internet could lose its viability as a commercial
medium due to delays in the development or adoption of new standards and
protocols required to handle increased levels of Internet activity, or due to
increased governmental regulation. Changes in, or insufficient availability
of, telecommunications services to support the Internet also could result in
slower response times and adversely affect usage of the Internet generally.
Our business, financial condition and results of operations would be
seriously harmed if:
- Use of the Internet, the web and other online services does not
continue to increase or increases more slowly than expected;
- The infrastructure for the Internet, the web and other online
services does not effectively support expansion that may occur; or
- The Internet, the web and other online services do not become a
viable commercial marketplace, which would inhibit the development
of electronic commerce and of the need for our Net Perceptions for
E-commerce product.
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PROTECTION OF OUR INTELLECTUAL PROPERTY MAY NOT BE ADEQUATE.
We are a technology company. Our success depends on protecting our
intellectual property, which are our most important assets. If we do not
adequately protect our intellectual property, our business, financial
condition and results of operations will be seriously harmed.
We license our software and require our customers to enter into
license agreements, which impose restrictions on our customers' ability to
utilize the software. In addition, we seek to avoid disclosure of our trade
secrets, including but not limited to requiring those persons with access to
our proprietary information to execute confidentiality agreements with us and
restricting access to our source code. We seek to protect our software,
documentation and other written materials under trade secret and copyright
laws, which afford only limited protection.
We have eight pending U.S. patent applications. We also have license
rights to one issued U.S. patent and two allowed U.S. patent applications
from the University of Minnesota. We have no issued international patents. We
have two pending international patent applications. It is possible that no
patents will issue from the currently pending patent applications. It is also
possible that our current patents or potential future patents may be found
invalid or unenforceable, or otherwise be successfully challenged. It is also
possible that any patent issued to us may not provide us with any competitive
advantages. It is also possible that we may not develop future proprietary
products or technologies that are patentable, and that the patents of others
may seriously limit our ability to do business. In this regard, we have not
performed any comprehensive analysis of patents of others that may limit our
ability to do business.
Despite our efforts to protect our proprietary rights, unauthorized
parties may attempt to copy aspects of our products or to obtain and use
information that we regard as proprietary. Policing unauthorized use of our
products is difficult, and while we are unable to determine the extent to
which piracy of our software products exists, software piracy can be expected
to be a persistent problem. In addition, the laws of some foreign countries
do not protect our proprietary rights to as great an extent as do the laws of
the United States. Our means of protecting our proprietary rights may not be
adequate and our competitors may independently develop similar technology,
duplicate our products or design around patents issued to us or our other
intellectual property.
There has been a substantial amount of litigation in the software
industry regarding intellectual property rights. We have from time to time
received claims that we are infringing third parties' intellectual property
rights. It is possible that in the future third parties may claim that our
current or potential future products infringe their intellectual property. We
expect that software developers will increasingly be subject to infringement
claims as the number of products and competitors in our industry segment
grows and the functionality of products in different industry segments
overlaps. Any such claims, with or without merit, could be time-consuming,
result in costly litigation, cause product shipment delays or require us to
enter into royalty or licensing agreements. Such royalty or licensing
agreements, if required, may not be available on terms acceptable to us or at
all, which could seriously harm our business, financial condition and results
of operations.
IN ORDER TO MANAGE OUR GROWTH AND EXPANSION, WE WILL NEED TO IMPROVE AND
IMPLEMENT NEW SYSTEMS, PROCEDURES AND CONTROLS.
We have recently experienced a period of significant expansion of our
operations that has placed a significant strain upon our management systems
and resources. In addition, we have recently hired a significant number of
employees and plan to further increase our total headcount. Our headcount has
increased from 14 at December 31, 1996 to 34 at December 31, 1997 to 70 at
December 31, 1998 to 167 at September 30, 1999. We also plan to expand the
geographic scope of our customer base and operations. This expansion has
resulted and will continue to result in substantial demands on our management
resources. Our ability to compete effectively and to manage future expansion
of our operations, if any, will require us to continue to improve our
financial and management controls, reporting systems and procedures on a
timely basis, and expand, train and manage our employee work force. Our
failure to do so could seriously harm our business, financial condition and
results of operations.
23
<PAGE>
OUR BUSINESS COULD BE AFFECTED BY YEAR 2000 ISSUES. (See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Year 2000 Readiness.")
OUR CURRENT REVENUE RECOGNITION PRACTICES MAY NEED TO CHANGE, WHICH COULD
SERIOUSLY HARM OUR BUSINESS.
The American Institute of Certified Public Accountants issued
Statement of Position ("SOP") 97-2, "Software Revenue Recognition," in
October 1997 and amended it by Statements of Position 98-4 and 98-9. However,
full implementation guidelines for these standards have not yet been issued
and there may be additional new pronouncements issued in the future. Our
current revenue accounting practices may need to change and such changes
could seriously harm our future revenues and earnings.
INCREASING GOVERNMENT REGULATION COULD LIMIT THE MARKET FOR OUR PRODUCTS AND
SERVICES, WHICH COULD SERIOUSLY HARM OUR BUSINESS.
As Internet commerce evolves, we expect that federal, state or foreign
agencies will adopt regulations covering issues such as user privacy,
pricing, content and quality of products and services. If enacted, such laws,
rules or regulations could limit the market for our products and services,
which could seriously harm our business, financial condition and results of
operations. Although many of these regulations may not apply to our business
directly, we expect that laws regulating the solicitation, collection or
processing of personal/customer information could indirectly affect our
business. The Telecommunications Act of 1996 prohibits some types of
information and content from being transmitted over the Internet. The
prohibition's scope and the liability associated with a Telecommunications
Act violation are currently unsettled. In addition, although substantial
portions of the Communications Decency Act were held to be unconstitutional,
we cannot be certain that similar legislation will not be enacted and upheld
in the future. It is possible that such legislation could expose companies
involved in Internet commerce to liability, which could limit the growth of
Internet commerce generally. Legislation like the Telecommunications Act and
the Communications Decency Act could dampen the growth in web usage and
decrease its acceptance as a communications and commercial medium.
WE MAY NEED TO RAISE ADDITIONAL CAPITAL THAT MAY NOT BE AVAILABLE.
We expect that the net proceeds from the initial public offering will
be sufficient to meet our working capital and capital expenditure needs for
at least the next 12 months. After that, we may need to raise additional
funds and we cannot be certain that we will be able to obtain additional
financing on favorable terms, if at all. If we cannot raise funds, if needed,
on acceptable terms, we may not be able to develop or enhance our products,
take advantage of future opportunities or respond to competitive pressures or
unanticipated requirements, which could seriously harm our business,
financial condition and results of operations.
WE ARE SUBJECT TO POTENTIAL PRODUCT LIABILITY CLAIMS.
Because our customers use our products for mission-critical
applications such as electronic commerce, errors or defects in or other
performance problems with our products could result in financial or other
damages to our customers. Our customers could seek damages for losses from
us. Although our license agreements typically contain provisions designed to
limit our exposure to product liability claims, existing or future laws or
unfavorable judicial decisions could negate such limitation of liability
provisions. We have not experienced any product liability claims to date.
However, a product liability claim brought against us, even if not
successful, would likely be time-consuming and costly. A product liability
claim could seriously harm our business, financial condition and results of
operations.
WE ARE AT RISK OF SECURITIES CLASS ACTION LITIGATION DUE TO OUR EXPECTED
STOCK PRICE VOLATILITY.
In the past, securities class action litigation has often been brought
against a company following periods of volatility in the market price of its
securities. We may in the future be the target of similar litigation.
Securities litigation could result in substantial costs and divert
management's attention and resources, which could seriously harm our
business, financial condition and results of operations.
24
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
Exhibit 27. Financial Data Schedule
(b) No reports on Form 8-K were filed by Net Perceptions during the quarter
ended September 30, 1999.
25
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
NET PERCEPTIONS, INC.
Date: November 14, 1999 By: /s/ Thomas M. Donnelly
----------------------------------
Thomas M. Donnelly
CHIEF FINANCIAL OFFICER
(Duly authorized officer and
principal financial and accounting
officer)
26
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM SEPTEMBER
30, 1999 FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> SEP-30-1999
<CASH> 27,126
<SECURITIES> 22,630
<RECEIVABLES> 5,531
<ALLOWANCES> 536
<INVENTORY> 0
<CURRENT-ASSETS> 48,400
<PP&E> 3,908
<DEPRECIATION> 887
<TOTAL-ASSETS> 59,602
<CURRENT-LIABILITIES> 8,170
<BONDS> 0
0
0
<COMMON> 2
<OTHER-SE> 50,588
<TOTAL-LIABILITY-AND-EQUITY> 59,602
<SALES> 4,114
<TOTAL-REVENUES> 4,114
<CGS> 814
<TOTAL-COSTS> 814
<OTHER-EXPENSES> 7,053
<LOSS-PROVISION> 202
<INTEREST-EXPENSE> 735
<INCOME-PRETAX> (3,018)
<INCOME-TAX> 0
<INCOME-CONTINUING> (3,018)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (3,018)
<EPS-BASIC> (0.15)
<EPS-DILUTED> (0.15)
</TABLE>
