<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q - QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
(MARK ONE)
[X] 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 000-28009
RAINMAKER SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 33-0442860
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
1800 GREEN HILLS ROAD 95066
SCOTTS VALLEY, CALIFORNIA (zip code)
(address of principal executive offices)
Registrant's telephone number, including area code: (831) 430-3800
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 [_]
At October 31, 2000, registrant had outstanding 39,096,758 shares of Common
Stock.
<PAGE>
RAINMAKER SYSTEMS, INC.
FORM 10-Q QUARTERLY REPORT
AS OF AND FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
PART I. - FINANCIAL STATEMENTS
Item 1. Financial statements 1
Item 2. Management's discussion and analysis of financial condition and results of operations 6
Item 3. Qualitative and quantitative disclosures about market risk 16
PART II. - OTHER INFORMATION
Item 1. Legal proceedings 16
Item 2. Changes in securities and use of proceeds 17
Item 3. Defaults upon senior securities 17
Item 4. Submission of matters to a vote of security holders 17
Item 5. Other information 17
Item 6. Exhibits and reports on Form 8-K 17
Signatures 17
</TABLE>
<PAGE>
PART I. - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Rainmaker Systems, Inc.
Balance Sheets
(In thousands)
<TABLE>
<CAPTION>
Sep 30, December 31,
2000 1999
---------- ------------
(unaudited)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents.................................................. $ 27,832 $ 41,129
Short-term investments..................................................... - 2,756
Accounts receivable, less allowance for sales returns and doubtful
accounts of $599 in 2000 and $536 in 1999................................ 7,054 8,192
Note receivable............................................................ - 800
Inventories................................................................ 440 637
Income taxes receivable.................................................... - 960
Prepaid expenses and other current assets.................................. 1,153 563
Other receivables.......................................................... 589 291
-------- --------
Total current assets.................................................. 37,068 55,328
Property and equipment, net.................................................... 8,574 2,373
Other noncurrent assets........................................................ 307 166
-------- --------
Total assets.......................................................... $ 45,949 $ 57,867
======== ========
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable........................................................... $ 7,702 $ 6,456
Payable to a related party................................................. 754 1,677
Accrued compensation and benefits.......................................... 2,685 2,131
Income taxes payable....................................................... 145 -
Accrued liabilities........................................................ 1,515 804
Current portion of capital lease obligations............................... 1,378 501
-------- --------
Total current liabilities............................................. 14,179 11,569
Capital lease obligations, less current portion................................ 1,198 1,090
Commitments and contingencies
Stockholder's equity:
Common stock, $0.001 par value:
Authorized shares-80,000,000;
Issued and outstanding shares-39,091,717 in 2000 and
38,370,955 in 1999.................................................... 39 38
Additional paid-in capital..................................................... 58,760 58,482
Deferred stock compensation.................................................... (470) (1,344)
Accumulated deficit............................................................ (27,757) (11,968)
-------- --------
Total stockholders' equity............................................ 30,572 45,208
-------- --------
Total liabilities and stockholders' equity............................ $ 45,949 $ 57,867
======== ========
</TABLE>
1
<PAGE>
Rainmaker Systems, Inc
Statements of Operations
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
------------------------ ----------------------------
2000 1999 2000 1999
-------- ---------- ----------- --------
(unaudited) (unaudited)
<S> <C> <C> <C> <C>
CRM services revenue......................................... $14,279 $15,947 $ 46,537 $42,035
Cost of CRM services revenue................................. 10,264 11,403 33,654 28,937
-------- ---------- ---------- --------
CRM services gross profit............................... 4,015 4,544 12,883 13,098
Selling, general and administrative expenses................. 9,371 8,587 29,234 18,651
Restructuring charge......................................... - - 868 -
-------- ---------- ---------- --------
Operating loss.......................................... (5,356) (4,043) (17,219) (5,553)
Interest income, net......................................... 417 85 1,430 370
Gain from sale of catalog/distributor........................ - - - 80
-------- ---------- ---------- --------
Loss before income taxes................................ (4,939) (3,958) (15,789) (5,103)
Income tax benefit........................................... - (90) - (521)
-------- ---------- ---------- --------
Net loss................................................ (4,939) (3,868) (15,789) (4,582)
Preferred C and D cumulative dividends....................... - (392) - (1,064)
Excess of redemption of preferred stock over stated
value....................................................... - (697) - (1,941)
-------- ---------- ---------- --------
Net loss available to common stockholders............... $(4,939) $(4,957) $(15,789) $(7,587)
======== ========== ========== ========
Net loss per common share:
Basic................................................... $ (0.13) $ (0.28) $ (0.41) $ (0.40)
======== ========== ========== ========
Diluted................................................. $ (0.13) $ (0.28) $ (0.41) $ (0.40)
======== ========== ========== ========
Number of shares used in per share computations:
Basic................................................... 38,963 17,609 38,694 18,961
======== ========== ========== ========
Diluted................................................. 38,963 17,609 38,694 18,961
======== ========== ========== ========
</TABLE>
2
<PAGE>
Rainmaker Systems, Inc.
Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
Nine months ended
September 30,
-------------
2000 1999
---- ----
(unaudited)
<S> <C> <C>
Operating activities
Net loss ................................................................... $(15,789) $(4,582)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization of property and equipment ................... 1,129 1,298
Amortization of deferred stock compensation................................ 503 460
Gain on sale of catalog/distributor ....................................... -- (80)
Loss on disposal of property and equipment................................. -- 296
Issuance of stock for consulting services ................................. -- 411
Deferred income taxes ..................................................... -- (519)
Provision for sales returns and doubtful accounts ......................... 62 94
Changes in operating assets and liabilities:
Accounts receivable ...................................................... 1,076 (1,139)
Inventories .............................................................. 197 (1,417)
Income taxes receivable/payable........................................... 1,105 5
Prepaid expenses and other assets ........................................ (631) (132)
Other receivables ........................................................ (298) (126)
Accounts payable ......................................................... 1,246 1,087
Payable to a related party................................................ (923) 2,867
Accrued compensation and benefits ........................................ 554 (70)
Accrued liabilities ...................................................... 711 (299)
Deferred revenue ......................................................... -- (40)
-------- -------
Net cash used in operating activities........................................ (11,058) (1,886)
Investing activities
Proceeds from sale of catalog/distributor................................... 800 900
Purchase of property and equipment ......................................... (5,740) (1,605)
Sale (purchase) of short-term investments................................... 2,756 (1,000)
Purchase of long-term investments .......................................... (100) --
-------- -------
Net cash used in investing activities ....................................... (2,284) (1,705)
Financing activities
Proceeds from issuance of preferred stock, net ............................. -- 13,809
Repurchase of common stock.................................................. -- (9,690)
Proceeds from issuance of common stock under ESPP........................... 461 --
Proceeds from issuance of common stock from option exercises ............... 189 244
Repayment of capital lease obligations ..................................... (605) (218)
Dividends paid ............................................................. -- (26)
-------- -------
Net cash provided by financing activities ................................... 45 4,119
-------- -------
Net (decrease) increase in cash and cash equivalents ........................ (13,297) 528
Cash and cash equivalents at beginning of period ........................... 41,129 4,608
-------- -------
Cash and cash equivalents at end of period ................................. $ 27,832 $ 5,136
======== =======
Supplemental disclosure of cash paid during the period
Interest paid .............................................................. $ 177 $ 43
======== =======
Income taxes refunded ...................................................... $ (1,155) $ (7)
======== =======
Supplemental schedule of noncash investing and financing
activities
Acquisition of equipment under capital leases .............................. $ 1,590 $ 471
======== =======
Conversion of subordinated convertible note payable to
preferred stock ...................................................... $ -- $ 996
======== =======
</TABLE>
3
<PAGE>
RAINMAKER SYSTEMS, INC.
Notes to Financial Statements
(Unaudited)
NOTES TO UNAUDITED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
The accompanying financial statements for the three and nine months ended
September 30, 2000 and 1999 have been prepared in accordance with generally
accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations. In the opinion of Rainmaker's
management, all adjustments (consisting of normal recurring items) which are
necessary for their fair presentation have been made. These financial statements
should be read in conjunction with our financial statements and notes thereto
included in Rainmaker's Annual Report on Form 10-K for the year ended December
31, 1999. The results of operations for the interim periods ended September 30,
2000 are not necessarily indicative of results to be expected for the full year.
NOTE 2. NET INCOME (LOSS) PER SHARE
Basic net income (loss) per share has been computed using the weighted-average
number of shares of common stock outstanding during the year, less shares
subject to repurchase. Diluted net income per share also gives effect, as
applicable, to the potential dilutive effect of outstanding stock options using
the treasury stock method.
NOTE 3 RESTRUCTURING CHARGE
During the second quarter of 2000, we recorded a restructuring charge of $0.9
million or $0.02 per share, in connection with a restructuring program, approved
by the Board of Directors during the quarter, designed to accelerate a return to
profitability. The program resulted in a reduction of 22 positions at all
levels throughout Rainmaker. $0.7 million of the charge was related to cash
severance payments. As of September 30, 2000, approximately $0.4 million
remains to be paid. Management expects this amount to be paid by December 31,
2000.
Below is a table summarizing activity related to the restructuring charge (in
000's):
Severance Legal and
and benefits other Total
------------ ----- -----
Q2 2000 Provision $ 743 $125 $ 868
Cash payments (32) - (32)
----- ---- -----
Balance at June 30, 2000 711 125 836
Cash payments (292) (22) (314)
----- ---- -----
Balance at Sept 30, 2000 $ 419 $103 $ 522
===== ==== =====
NOTE 4. RECENT ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101 "Revenue Recognition" ("SAB 101"), which provides
guidance on the recognition, presentation and disclosure of revenue in financial
statements filed with the SEC. SAB 101 outlines the basic criteria that must be
met to recognize revenue and provides guidance for disclosures related to
revenue recognition policies. In recent actions, the SEC has further delayed the
required implementation date which, for us, will be no later than the fourth
quarter of 2000, retroactive to the beginning of the fiscal year. On October 13,
2000, the SEC issued additional implementation guidance in the form of
"Frequently Asked Questions".
4
<PAGE>
Currently, revenue from the sale of service contracts and maintenance renewals
is recognized when a purchase order from the end user is received; the service
contract or maintenance agreement is delivered; the collection of the receivable
is considered probable; and no significant post-delivery obligations remain.
Revenue from product sales is recognized at the time of shipment of the product
directly to the customer. Revenue from services we perform is recognized as the
services are delivered. We are currently in the process of reviewing the FAQ's
and assessing the impact, if any, of SAB 101 on our financial statements. Our
preliminary conclusion is that the implementation of SAB 101 will not have a
material effect on the timing of when we recognize revenue.
In related accounting standard setting activities, the Financial Accounting
Standards Board's Emerging Issues Task Force (EITF or Task Force) at its July
19-20, 2000 meeting reached a consensus opinion on Issue No. 99-19, "Reporting
Revenue Gross as a Principal versus Net as an Agent" (Issue 99-19 or the
Consensus). This Issue interprets SAB 101 and addresses when a company should
report revenue as the gross amount billed to a customer verses the net amount
earned by the company in the transaction. At the EITF's May 2000 meeting, the
Task Force reached a tentative conclusion that specific "indicators" should be
used by companies to determine if it is more appropriate for them to record
revenues on a "gross" versus a "net" basis. These "indicators" include, but are
not limited to, 1) whether the vendor is the primary obligor in the transaction,
2) whether the vendor assumes general inventory risk, and 3) whether the vendor
has latitude for setting the pricing for the goods or services its sells to its
customers. Absence of these indicators might indicate that revenue should be
recorded on a "net" basis. However, these three indicators are not considered by
the Task Force to be presumptive, and their absence would not necessarily
require that revenue be recorded on a "net" basis. Instead, additional
indicators and examples of their applications in specific transactional
situations, prepared by the Task Force, should also be evaluated based on a
facts and circumstances basis to determine the appropriate revenue presentation.
The Consensus affirmed that the set of indicators set forth by the Task Force
should be used to determine the appropriate revenue presentation.
Currently, we report substantially all of our sales transactions under the
"gross" method based on amounts billed to our customers as we take title and
assume risk of loss for products we sell and assume the credit risk. If we were
to have to change our revenue reporting to the "net" method, we would record
revenue equal to net amounts earned under our sales transactions. We would have
to apply the Consensus reached under Issue 99-19 no later than our fourth
quarter of 2000. Upon application, prior period financial statements would be
reclassified to conform to the Consensus. Application of Issue 99-19 would have
no impact on previously reported gross profit, operating income (loss), or net
income (loss), but could result in Rainmaker reporting lower revenues for all
periods presented.
We are currently reviewing the Consensus and related indicators and
application examples to determine the impact (if any) the Consensus may have on
the way we report our CRM services revenues.
In June 1998, the Financial Accounting Standards Board issued FAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" (FAS 133).
Rainmaker is required to adopt FAS 133 for the year ending December 31, 2001.
FAS 133 establishes methods of accounting for derivative financial instruments
and hedging activities related to those instruments as well as other hedging
activities. Because Rainmaker currently holds no derivative financial
instruments and does not currently engage in hedging activities, adoption of FAS
133 is expected to have no material impact on our financial position or results
of operations.
NOTE 5. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) includes revenues and expenses and gains and
losses that are not included in net income (loss), but, rather are recorded
directly in stockholders' equity. To date, we have not had any significant
transactions that are required to be reported in comprehensive income (loss).
5
<PAGE>
NOTE 6. SEGMENT REPORTING
Rainmaker Systems operates in one market segment, the sale of installed base
marketing services, software maintenance licenses, services, and customer
retention programs to software and other technology companies. Rainmaker
primarily operates in one geographical segment, North America. Substantially all
of our sales are made to customers in the United States.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Form 10-Q contains forward-looking statements in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
elsewhere. These statements relate to future events or our future financial
performance. In some cases, you can identify forward-looking statements by
terminology such as "may", "will", "should", "expects", "plans", "anticipates",
"believes", "estimates", "predicts", "potential" or "continue" or the negative
of such terms or other comparable terminology. These statements are only
predictions and involve known and unknown risks, uncertainties and other
factors, including the risks outlined under "Factors That May Affect Future
Results and Market Price of Stock", that may cause our or our industry's actual
results, levels of activity, performance or achievements to be materially
different from any future results, levels of activities, performance or
achievements expressed or implied by such forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other
person assumes responsibility for the accuracy and completeness of such
statements. We assume no obligation to update such forward-looking statements
publicly for any reason even if new information becomes available in the future.
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin No. 101 "Revenue Recognition" ("SAB 101"), which provides
guidance on the recognition, presentation and disclosure of revenue in financial
statements filed with the SEC. SAB 101 outlines the basic criteria that must be
met to recognize revenue and provides guidance for disclosures related to
revenue recognition policies. In recent actions, the SEC has further delayed the
required implementation date which, for us, will be no later than the fourth
quarter of 2000, retroactive to the beginning of the fiscal year. On October 13,
2000, the SEC issued additional implementation guidance in the form of
"Frequently Asked Questions".
Currently, revenue from the sale of service contracts and maintenance
renewals is recognized when a purchase order from the end user is received; the
service contract or maintenance agreement is delivered; the collection of the
receivable is considered probable; and no significant post-delivery obligations
remain. Revenue from product sales is recognized at the time of shipment of the
product directly to the customer. Revenue from services we perform is recognized
as the services are delivered. We are currently in the process of reviewing the
FAQ's and assessing the impact, if any, of SAB 101 on our financial statements.
Our preliminary conclusion is that the implementation of SAB 101 will not have a
material effect on the timing of when we recognize revenue.
6
<PAGE>
In related accounting standard setting activities, the Financial Accounting
Standards Board's Emerging Issues Task Force (EITF or Task Force) at its July
19-20, 2000 meeting reached a consensus opinion on Issue No. 99-19, "Reporting
Revenue Gross as a Principal versus Net as an Agent" (Issue 99-19 or the
Consensus). This Issue interprets SAB 101 and addresses when a company should
report revenue as the gross amount billed to a customer verses the net amount
earned by the company in the transaction. At the EITF's May 2000 meeting, the
Task Force reached a tentative conclusion that specific "indicators" should be
used by companies to determine if it is more appropriate for them to record
revenues on a "gross" versus a "net" basis. These "indicators" include, but are
not limited to, 1) whether the vendor is the primary obligor in the transaction,
2) whether the vendor assumes general inventory risk, and 3) whether the vendor
has latitude for setting the pricing for the goods or services its sells to its
customers. Absence of these indicators might indicate that revenue should be
recorded on a "net" basis. However, these three indicators are not considered by
the Task Force to be presumptive, and their absence would not necessarily
require that revenue be recorded on a "net" basis. Instead, additional
indicators and examples of their applications in specific transactional
situations, prepared by the Task Force, should also be evaluated based on a
facts and circumstances basis to determine the appropriate revenue presentation.
The Consensus affirmed that the set of indicators set forth by the Task Force
should be used to determine the appropriate revenue presentation.
Currently, we report substantially all of our sales transactions under the
"gross" method based on amounts billed to our customers as we take title and
assume risk of loss for products we sell and assume the credit risk. If we were
to have to change our revenue reporting to the "net" method, we would record
revenue equal to net amounts earned under our sales transactions. We would have
to apply the Consensus reached under Issue 99-19 no later than our fourth
quarter of 2000. Upon application, prior period financial statements would be
reclassified to conform to the Consensus. Application of Issue 99-19 would have
no impact on previously reported gross profit, operating income (loss), or net
income (loss), but could result in us reporting lower revenues for all periods
presented.
We are currently reviewing the Consensus and related indicators and
application examples to determine the impact (if any) the Consensus may have on
the way we report our CRM services revenues.
Comparison of Three Months Ended September 30, 2000 and 1999
CRM Services Revenue. Revenue from CRM services decreased 10.5% to $14.3
million for the three months ended September 30, 2000 from $15.9 million for the
comparable period of 1999. Since July 1, 1999, seven new clients were signed
which accounted for $4.8 million of revenue during the three months ended
September 30, 2000. During the three months ended September 30, 2000, revenue
from CRM services sold to customers of existing clients (clients for which we
generated revenue during the three months ended September 30, 1999) decreased
$6.5 million in the three months ended September 30, 2000 compared to the same
period of the prior year. This decrease was primarily due to business factors
confronting one of our largest clients, The Santa Cruz Operation, Inc. $1.9
million of the decrease is due to the termination of contracts with clients,
including FTP Software, Inc. in the second quarter of 2000.
CRM Services Gross Profit. Gross profit from CRM services decreased 11.6% to
$4.0 million for the three months ended September 30, 2000, from $4.5 million
for the comparable period in 1999. Gross margin from CRM services decreased to
28.1% in the most recent period compared to 28.5% during the comparable period
of the prior year. The decrease is due primarily to the changing mix of new and
existing clients with lower margins on sales of services to newer clients during
the start-up phase.
7
<PAGE>
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 9.1% to $9.4 million for the three months
ended September 30, 2000 from $8.6 million for the comparable period of 1999. As
a percentage of total revenue, these expenses increased to 65.6% for the most
recent period from 53.8% in the comparable period of the prior year. This
increase was primarily attributable to the strategic decision to increase
personnel (18 additional average number of personnel during the quarter ended
September 30, 2000 compared to the comparable period of the prior year), and
increase levels of investment in systems and infrastructure and product
development all of which are designated to support recent and anticipated new
client growth and new service offerings and deliver a more robust infrastructure
to support that growth.
During the second quarter of 2000, we recorded a restructuring charge of $0.9
million designed to accelerate a return to profitability. The program resulted
in a reduction of 22 positions at all levels throughout Rainmaker in mid June.
Prior to the restructuring, we incurred approximately $900,000 of salary and
benefits related expense in the three months ended September 30, 2000 related to
the eliminated positions that we did not incur in the three months ended
September 30, 2000.
Interest Income and Expense. We recorded $417,000 of net interest income in
the three months ended September 30, 2000, as compared to $85,000 in the
comparable period of 1999. The increase was primarily attributable to higher
invested cash balances resulting from the sale of common stock in the initial
public offering in November 1999 which resulted in Rainmaker receiving $40.6
million of net proceeds.
Income Tax Expense (Benefit). Due to our overall loss position, a valuation
allowance has been established in an amount equal to the expected benefit
derived by applying the statutory rate to the net loss for the three months
ended September 30, 2000. We recorded $90,000 of income tax benefit for the
three months ended September 30, 1999, which is attributed to income taxes
recoverable from prior periods.
Comparison of Nine Months Ended September 30, 2000 and 1999
CRM Services Revenue. Revenue from CRM services increased 10.7% to $46.5
million for the nine months ended September 30, 2000 from $42.0 million for the
comparable period of 1999. Since January 1, 1999, ten new clients were signed
which accounted for $27.0 million of revenue during the nine months ended
September 30, 2000. During the nine months ended September 30, 2000, revenue
from CRM services sold to customers of existing clients (clients for which we
generated revenue during the full nine months ended September 30, 1999)
decreased $22.5 million in the nine months ended September 30, 2000 compared to
the same period of the prior year. This decrease was primarily due to business
factors confronting one of our largest clients, The Santa Cruz Operation, Inc.
$5.5 million of the decrease is due to the termination of contracts with
clients, including FTP Software, Inc. in the second quarter of 2000.
CRM Services Gross Profit. Gross profit from CRM services decreased 1.6% to
$12.9 million for the nine months ended September 30, 2000, from $13.1 million
for the comparable period in 1999. Gross margin from CRM services decreased to
27.7% in the most recent period compared to 31.2% during the comparable period
of the prior year. The decrease is due primarily to the changing mix of new and
existing clients with lower margins on sales of services to newer clients during
the start-up phase.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 56.7% to $29.2 million for the nine months
ended September 30, 2000 from $18.7 million for the comparable period of 1999.
As a percentage of total revenue, these expenses increased to 62.8% for the most
recent period from 44.4% in the comparable period of the prior year. This
increase was primarily attributable to the strategic decision to increase
personnel (50 additional average number of personnel during the nine months
ended September 30, 2000 compared to the comparable period of the prior year),
and increase levels of investment in systems and infrastructure and product
development all of which are designated to support recent and anticipated new
client growth and new service offerings and deliver a more robust infrastructure
to support that growth.
8
<PAGE>
Restructuring. During the second quarter of 2000, we recorded a restructuring
charge of $0.9 million or $0.02 per share, in connection with a restructuring
program, approved by the Board of Directors during the quarter, designed to
accelerate a return to profitability. The program resulted in a reduction of 22
positions at all levels in Rainmaker. $0.7 million of the charge was related to
cash severance payments. As of June 30, 2000, approximately $0.4 million remains
to be paid. Management expects this amount to be paid by December 31, 2000.
Prior to the restructuring, we incurred approximately $900,000 of salary and
benefits related expense in the three months ended September 30, 2000 related to
the eliminated positions that we did not incur in the three months ended
September 30, 2000.
Below is a table summarizing activity related to the restructuring charge (in
000's):
Severance Legal and
and benefits other Total
------------ ----- -----
Q2 2000 Provision $ 743 $125 $ 868
Cash payments (32) - (32)
----- ---- -----
Balance at June 30, 2000 711 125 836
Cash payments (292) (22) (314)
----- ---- -----
Balance at Sept 30, 2000 $ 419 $103 $ 522
===== ==== =====
Interest Income and Expense. We recorded $1.4 million of net interest income
in the nine months ended September 30, 2000, as compared to $0.4 million in the
comparable period of 1999. The increase was primarily attributable to higher
invested cash balances resulting from the sale of common stock in the initial
public offering in November 1999 which resulted in Rainmaker receiving $40.6
million of net proceeds.
Income Tax Expense (Benefit). Due to our overall loss position, a valuation
allowance has been established in an amount equal to the expected benefit
derived by applying the statutory rate to the net loss for the nine months ended
September 30, 2000. We recorded $521,000 of income tax benefit for the nine
months ended September 30, 1999, which is attributed to income taxes recoverable
from prior periods.
Liquidity and Sources of Capital
Historically, we have funded operations from operating cash flows and net cash
proceeds from private placements of preferred stock, and in November 1999, the
initial public offering of our common stock. Cash, cash equivalents and short-
term investments were $27.8 million at September 30, 2000. Working capital at
September 30, 2000 was $22.9 million.
Cash used in operating activities during the nine months ended September 30,
2000 was $11.1 million compared to $1.9 million for the comparable period of the
prior year. The change of $9.2 million was due primarily to the increase in net
loss of $11.2 million. This is partially offset by the $2.2 million decrease in
accounts receivable. Excluding restructuring related transactions, cash used by
operations was approximately $9.4 million.
Cash used in investing activities during the nine months ended September 30,
2000 was $2.3 million compared to $1.7 million for the comparable period of the
prior year. $4.1 million of the change was due to increased capital expenditures
in 2000. The capital expenditures consisted primarily of computers and software
related to our new ERP system and other technology initiatives. This was
partially offset by $3.8 million more sales of short term investments in the
nine months ended September 30, 2000 compared to the comparable period of the
prior year.
Cash provided by financing activities during the nine months ended September
30, 2000 was $45,000 compared to $4.1 million for the comparable period of the
prior year. In the nine months ended September 30, 1999, we sold $13.9 million
of preferred stock and repurchased $9.7 million of common stock.
We believe that our cash, cash equivalents and short-term investments at
September 30, 2000 will be sufficient to meet our liquidity needs for at least
the next twelve months.
9
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS AND MARKET PRICE OF STOCK
We have incurred recent losses and expect to incur losses in the future.
We entered into the CRM services business in January 1995. Although our CRM
services revenues have grown in each year from 1995 though the third quarter of
2000, this rate of growth may not be sustainable. In addition, we incurred an
operating loss of $17.2 million and a net loss of $15.8 for the nine months
ended September 30, 2000 and an operating loss of $9.8 million and a net loss of
$7.3 million for 1999. We expect to incur operating and net losses for at least
the next twelve months as we continue to invest in building our business.
Because we depend on a small number of clients for a significant portion of our
revenue, the loss of a single client could result in a substantial decrease in
our revenue.
We have generated a significant portion of our revenue from a limited
numbers of clients. We currently have 14 clients. For the nine months ended
September 30, 2000, sales to customers of Sybase, Inc., The Santa Cruz
Operation, Inc. (SCO), Parametric Technology Corporation, and Novell, Inc.
accounted for approximately 24%, 20%, 15%, and 12%, respectively of our CRM
services revenue. In 1999, sales to customers of SCO and Sybase accounted for
approximately 43%, and 18%, respectively, of our CRM services revenue. In 1998,
sales to customers of SCO, FTP Software, Inc. (FTP) and Novell accounted for
approximately 46%, 21% and 16%, respectively, of our CRM services revenue. In
1997, sales to customers of SCO, FTP, and Sun Microsystems, Inc. accounted for
approximately 72%, 10% and 12%, respectively, of our CRM services revenue. We
expect that a small number of clients will continue to account for a significant
portion of our revenue for the foreseeable future. The loss of any of our
principal clients could cause a significant decrease in our revenue.
In addition, our software and other technology clients operate in
industries that are consolidating, which may reduce the number of our existing
and potential clients. For example, FTP was acquired by NetManage, Inc. in
August 1998. Since that acquisition, our revenue from sales to customers of FTP
has declined significantly and have declined to zero in the third quarter of
2000.
Our revenue will decline if demand for our clients' products and services
decreases.
Our business primarily consists of selling and marketing our clients'
products and services to their existing customers. In addition, most of our
revenue is based on a ''pay for performance'' model in which our compensation is
based on the amount of our clients' products and services that we sell.
Accordingly, if a particular client's products and services fail to appeal to
its customers for reasons beyond our control, such as preference for a competing
product or service, our revenue from that client's products and services may
decline.
10
<PAGE>
Our quarterly operating results may fluctuate, and, if we do not meet market
expectations, our stock price could decline.
We believe that quarter-to-quarter comparisons of our operating results are
not a good indication of future performance. Although our operating results have
generally improved from quarter to quarter until recently, our future operating
results may not follow past trends in every quarter even if they continue to
improve overall. In any future quarter, our operating results may be below the
expectation of public market analysts and investors.
Factors which may cause our future operating results to be below
expectations include:
. the growth of the market for outsourced CRM solutions;
. the demand for and acceptance of our services;
. the demand for our clients' products and services;
. the length of the sales and integration cycle for our new clients;
. our ability to develop and implement additional services, products
and technologies; and
. the expansion of our direct sales force and its rate of success.
The length and unpredictability of the sales and integration cycles for our
services could cause delays in our revenue growth.
Selection of our services often entails an extended decision-making process
on the part of prospective clients. We often must provide a significant level of
education regarding the use and benefit of our services, which may delay the
evaluation and acceptance process. The selling cycle can extend to approximately
six to nine months or longer between initial client contact and signing of a
contract for our services. Additionally, once our services are selected, the
integration of our services often can be a lengthy process which further impacts
the timing of revenue. Because we are unable to control many of the factors that
will influence our clients' buying decisions or the integration of our services,
the length and unpredictability of the sales and integration cycles will make it
difficult for us to forecast the growth and timing of our revenue.
Recent accounting pronouncements may require reclassification of reported
revenues that may materially impact the amount of reported revenues. We do not
anticipate any potential reclassification to affect net income (loss) or
earnings (loss) per share.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 101 "Revenue Recognition" ("SAB 101"), which
provides guidance on the recognition, presentation and disclosure of revenue in
financial statements filed with the SEC. SAB 101 outlines the basic criteria
that must be met to recognize revenue and provides guidance for disclosures
related to revenue recognition policies. In recent actions, the SEC has further
delayed the required implementation date which, for us, will be no later than
the fourth quarter of 2000, retroactive to the beginning of the fiscal year. On
October 13, 2000, the SEC issued additional implementation guidance in the form
of "Frequently Asked Questions".
Currently, revenue from the sale of service contracts and maintenance
renewals is recognized when a purchase order from the end user is received; the
service contract or maintenance agreement is delivered; the collection of the
receivable is considered probable; and no significant post-delivery obligations
remain. Revenue from product sales is recognized at the time of shipment of the
product directly to the customer. Revenue from services we perform is recognized
as the services are delivered. We are currently in the process of reviewing the
FAQ's and assessing the impact, if any, of SAB 101 on our financial statements.
Our preliminary conclusion is that the implementation of SAB 101 will not have a
material effect on the timing of when we recognize revenue.
11
<PAGE>
In related accounting standard setting activities, the Financial Accounting
Standards Board's Emerging Issues Task Force (EITF or Task Force) at its July
19-20, 2000 meeting reached a consensus opinion on Issue No. 99-19, "Reporting
Revenue Gross as a Principal versus Net as an Agent" (Issue 99-19 or the
Consensus). This Issue interprets SAB 101 and addresses when a company should
report revenue as the gross amount billed to a customer verses the net amount
earned by the company in the transaction. At the EITF's May 2000 meeting, the
Task Force reached a tentative conclusion that specific "indicators" should be
used by companies to determine if it is more appropriate for them to record
revenues on a "gross" versus a "net" basis. These "indicators" include, but are
not limited to, 1) whether the vendor is the primary obligor in the transaction,
2) whether the vendor assumes general inventory risk, and 3) whether the vendor
has latitude for setting the pricing for the goods or services its sells to its
customers. Absence of these indicators might indicate that revenue should be
recorded on a "net" basis. However, these three indicators are not considered by
the Task Force to be presumptive, and their absence would not necessarily
require that revenue be recorded on a "net" basis. Instead, additional
indicators and examples of their applications in specific transactional
situations, prepared by the Task Force, should also be evaluated based on a
facts and circumstances basis to determine the appropriate revenue presentation.
The Consensus affirmed that the set of indicators set forth by the Task Force
should be used to determine the appropriate revenue presentation.
Currently, we report substantially all of our sales transactions under the
"gross" method based on amounts billed to our customers as we take title and
assume risk of loss for products we sell and assume the credit risk.. If we were
to have to change our revenue reporting to the "net" method, we would record
revenue equal to net amounts earned under our sales transactions. We would have
to apply the Consensus reached under Issue 99-19 no later than our fourth
quarter of 2000. Upon application, prior period financial statements would be
reclassified to conform to the Consensus. Application of Issue 99-19 would have
no impact on previously reported gross profit, operating income (loss), or net
income (loss), but could result in Rainmaker reporting lower revenues for all
periods presented.
We are currently reviewing the Consensus and related indicators to
determine the impact (if any) the Consensus may have on the way we report our
CRM services revenues.
If we are unable to attract and retain highly qualified management and sales and
technical personnel, the quality of our services may decline, and our ability to
execute our growth strategies may be harmed.
Our success depends to a significant extent upon the contributions of our
executive officers and key sales and technical personnel and our ability to
attract and retain highly qualified sales, technical and managerial personnel.
Competition for personnel is intense as these personnel are limited in supply.
We have at times experienced difficulty in recruiting qualified personnel, and
there can be no assurance that we will not experience difficulties in the
future. Any difficulties could limit our future growth. The loss of certain key
personnel, particularly Michael Silton, our chairman, president and chief
executive officer, could seriously harm our business. We have obtained life
insurance policies in the amount of $6.3 million on Michael Silton.
Six of our ten executive officers joined Rainmaker since July 1999. As a
result, our current management team has worked together for only a relatively
short time. Our ability to execute our strategies will depend upon our ability
to integrate these and future managers into our operations.
12
<PAGE>
We have strong competitors and may not be able to compete effectively against
them.
Competition in business to business eServices is intense, and we expect
such competition to increase in the future. Our competitors include
comprehensive system integrators, e-commerce solutions providers, and other
outsource providers of different components of customer interaction management.
We also face competition from internal marketing departments of current and
potential clients. Many of our existing or potential competitors have greater
name recognition, longer operating histories, and significantly greater
financial, technical and marketing resources, which could further impact our
ability to address competitive pressures. Should competitive factors require us
to increase spending for, and investment in, client acquisition and retention or
for the development of new services, our expenses could increase
disproportionately to our revenues. Competitive pressures may also necessitate
price reductions and other actions that would likely affect our business
adversely. Additionally, there can be no assurances that we will have the
resources to maintain a higher level of spending to address changes in the
competitive landscape. Failure to maintain or to produce revenue proportionate
to any increase in expenses would have a negative impact on our financial
results and stock price.
The growth in demand for outsourced sales and marketing services is highly
uncertain.
Demand and acceptance of our sales and marketing services is dependent upon
companies being willing to outsource these processes. It is possible that these
solutions may never achieve broad market acceptance. If the market for our
services does not grow or grows more slowly than we currently anticipate, our
business, financial condition and operating results may be materially adversely
affected.
Our success depends on our ability to successfully manage additional growth.
Our recent growth has placed significant demands on our management,
administrative, operational and financial resources. In addition, our
anticipated future growth will place additional demands on our resources. We
will need to continue to improve our operational, financial and managerial
controls and information systems and procedures and will need to continue to
expand, train and manage our overall work force. If we are unable to manage
additional growth effectively our business will be harmed.
Our business strategy may ultimately include expansion into foreign markets
which would require increased expenditures, and if our international operations
are not successfully implemented they may not result in increased revenue or
growth of our business.
Our long-term growth strategy includes expansion into international
markets. As a result, we may need to establish international operations, hire
additional personnel and establish relationships with additional clients and
customers in those markets. This expansion may require significant financial
resources and management attention and could have a negative effect on our
earnings. We cannot assure you that we will be successful in creating
international demand for our CRM services or that we will be able to effectively
sell our clients' products and services in international markets.
The development of international operations may also involve the following
risks:
. the appeal of our marketing programs, including the use of e-mail
and direct marketing techniques, to international customers;
. the increased cost associated with designing and operating Web sites
in foreign languages;
. differing technology standards and internet regulations in other
countries that may affect access to and operation of our Web sites;
and
. difficulties in collecting international accounts receivable for the
products and services that we sell.
We cannot assure you that these factors will not have an adverse effect on
future international sales and earnings.
13
<PAGE>
Any acquisitions we may make could result in dilution, unfavorable accounting
charges and difficulties in successfully managing our business.
As part of our business strategy, we review acquisition prospects that
would complement our existing business or enhance our technological
capabilities. Future acquisitions by us could result in potentially dilutive
issuances of equity securities, large and immediate write-offs, the incurrence
of debt and contingent liabilities or amortization expenses related to goodwill
and other intangible assets, any of which could cause our financial performance
to suffer. Furthermore, acquisitions entail numerous risks and uncertainties,
including:
. difficulties in the assimilation of operations, personnel,
technologies, products and the information systems of the acquired
companies;
. diversion of management's attention from other business concerns;
. risks of entering geographic and business markets in which we have no
or limited prior experience; and
. potential loss of key employees of acquired organizations.
We cannot be certain that we would be able to successfully integrate any
businesses, products, technologies or personnel that might be acquired in the
future, and our failure to do so could limit our future growth. Although we do
not currently have any agreement with respect to any material acquisitions, we
may make acquisitions of complementary businesses, products or technologies in
the future. However, we may not be able to locate suitable acquisition
opportunities.
We rely heavily on our communications infrastructure, and the failure to invest
in or the loss of these systems could disrupt the operation and growth of our
business and result in the loss of customers or clients.
Our success is dependent in large part on our continued investment in
sophisticated computer, Internet and telecommunications systems. We have
invested significantly in technology and anticipate that it will be necessary to
continue to do so in the future to remain competitive. These technologies are
evolving rapidly and are characterized by short product life cycles, which
require us to anticipate technological developments. We may be unsuccessful in
anticipating, managing, adopting and integrating technological changes on a
timely basis, or we may not have the capital resources available to invest in
new technologies. Temporary or permanent loss of these systems could limit our
ability to conduct our business and result in lost revenue.
If we are unable to safeguard our networks and clients' data, our clients may
not use our services and our business may be harmed.
Our networks may be vulnerable to unauthorized access, computer hacking,
computer viruses and other security problems. A user who circumvents security
measures could misappropriate proprietary information or cause interruptions or
malfunctions in our operations. We may be required to expend significant
resources to protect against the threat of security breaches or to alleviate
problems caused by any breaches. Although we intend to continue to implement
industry-standard security measures, these measures may be inadequate.
Damage to our single facility may disable our operations.
Our operations are housed in a single facility in Scotts Valley,
California. We have taken precautions to protect ourselves from events that
could interrupt our services, such as off-site storage of computer backup data
and a backup power source, but there can be no assurance that an earthquake,
fire, flood or other disaster affecting our facility would not disable these
operations. Any significant damage to this facility from an earthquake or other
disaster could prevent us from operating our business.
14
<PAGE>
If we fail to adequately protect our intellectual property or face a claim of
intellectual property infringement by a third party, we may lose our
intellectual property rights and be liable for significant damages.
We cannot guarantee that the steps we have taken to protect our proprietary
rights will be adequate to deter misappropriation of our intellectual property.
In addition, we may not be able to detect unauthorized use of our intellectual
property and take appropriate steps to enforce our rights. If third parties
infringe or misappropriate our trade secrets, copyrights, trademarks, service
marks, trade names or other proprietary information, our business could be
seriously harmed. In addition, although we believe that our proprietary rights
do not infringe the intellectual property rights of others, other parties may
assert infringement claims against us that we violated their intellectual
property rights. These claims, even if not true, could result in significant
legal and other costs and may be a distraction to management. In addition,
protection of intellectual property in many foreign countries is weaker and less
reliable than in the United States, so if our business expands into foreign
countries, risks associated with protecting our intellectual property will
increase. We have applied for registration of the service mark ''Rainmaker
Systems'' in the United States, and certain foreign countries.
Increased government regulation of the Internet could decrease the demand for
our services and increase our cost of doing business.
The increasing popularity and use of the Internet and online services may
lead to the adoption of new laws and regulations in the U.S. or elsewhere
covering issues such as online privacy, copyright and trademark, sales taxes and
fair business practices or which require qualification to do business as a
foreign corporation in certain jurisdictions. Increased government regulation,
or the application of existing laws to online activities, could inhibit Internet
growth. A decline in the growth of the Internet could decrease demand for our
services and increase our cost of doing business and otherwise harm our
business.
We are subject to government regulation of direct marketing, which could
restrict the operation and growth of our business.
The FTC's telemarketing sales rules prohibit misrepresentations of the
cost, terms, restrictions, performance or duration of products or services
offered by telephone solicitation and specifically addresses other perceived
telemarketing abuses in the offering of prizes. Additionally, the FTC's rules
limit the hours during which telemarketers may call consumers. The federal
Telephone Consumer Protection Act of 1991 contains other restrictions on
facsimile transmissions and on telemarketers, including a prohibition on the use
of automated telephone dialing equipment to call certain telephone numbers. A
number of states also regulate telemarketing and some states have enacted
restrictions similar to these federal laws. In addition, a number of states
regulate email and facsimile transmissions. The failure to comply with
applicable statutes and regulations could result in penalties. There can be no
assurance that additional federal or state legislation, or changes in regulatory
implementation, would not limit our activities in the future or significantly
increase the cost of regulatory compliance.
Our directors and their affiliates own a large percentage of our stock and can
significantly influence all matters requiring stockholder approval.
Our directors and entities affiliated with them together control
approximately 48% of our outstanding shares (based on the number of shares
outstanding as of September 30, 2000). As a result, any significant combination
of those stockholders, acting together, will have the ability to control all
matters requiring stockholder approval, including the election of all directors,
and any merger, consolidation or sale of all or substantially all of our assets.
Accordingly, such concentration of ownership may have the effect of delaying,
deferring or preventing a change in control of Rainmaker, which, in turn, could
depress the market price of our common stock.
15
<PAGE>
Our charter documents and Delaware law contain anti-takeover provisions that
could deter takeover attempts, even if a transaction would be beneficial to our
stockholders.
The provisions of Delaware law and of our certificate of incorporation and
bylaws could make it difficult for a third party to acquire us, even though an
acquisition might be beneficial to our stockholders. Our certificate of
incorporation provides our board of directors the authority, without stockholder
action, to issue up to 20,000,000 shares of preferred stock in one or more
series. Our board determines when we will issue preferred stock, and the rights,
preferences and privileges of any preferred stock. Our certificate of
incorporation also provides for a classified board, with each board member
serving a staggered three-year term. In addition, our bylaws establish an
advance notice procedure for stockholder proposals and for nominating candidates
for election as directors. Delaware corporate law also contains provisions that
can affect the ability to take over a company.
Our stock price may be volatile resulting in potential litigation.
If our stock price is volatile, we could face securities class action
litigation. In the past, following periods of volatility in the market price of
their stock, many companies have been the subjects of securities class action
litigation. If we were sued in a securities class action, it could result in
substantial costs and a diversion of management's attention and resources and
could cause our stock price to fall. The trading price of our common stock could
fluctuate widely due to:
. quarter to quarter variations in results of operations;
. loss of a major client;
. announcements of technological innovations by us or our competitors;
. changes in, or our failure to meet, the expectations of securities
analysts;
. new products or services offered by us or our competitors;
. changes in market valuations of similar companies;
. announcements of strategic relationships or acquisitions by us or our
competitors; or
. other events or factors that may be beyond our control.
In addition, the securities markets in general have experienced extreme
price and trading volume volatility in the past. The trading prices of
securities of many business process outsourcing companies have fluctuated
broadly, often for reasons unrelated to the operating performance of the
specific companies. These general market and industry factors may adversely
affect the trading price of our common stock, regardless of our actual operating
performance.
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk for changes in interest rates relates primarily
to the increase or decrease in the amount of interest income we can earn on our
investment portfolio. We currently do not and do not plan to use derivative
financial instruments in our investment portfolio. We plan to ensure the safety
and preservation of our invested principal funds by limiting default risk,
market risk and investment risk. We plan to mitigate default risk by investing
in low-risk securities. If market interest rates were to increase immediately
and uniformly by 10% from the levels as of September 30, 2000, the decline of
the fair market value of our fixed income portfolio would not be material.
PART II. - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
16
<PAGE>
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Rainmaker completed the initial public offering of 5,750,000 shares of its
common stock, including 750,000 shares subject to an overallotment option,
pursuant to a registration statement on Form S-1 (Commission File No. 333-86445)
declared effective on November 16, 1999. The joint book-running managing
underwriters of the public offering were Donaldson, Lufkin & Jenrette and Thomas
Weisel Partners LLC.
The shares were sold at a price per share of $8.00. The aggregate offering
price of the shares offered by Rainmaker was $46,000,000, less underwriting
discounts and commissions of $3,220,000 and expenses of approximately
$2,207,000. Approximately $11.1 million of the proceeds has been used for
operating activities through September 30, 2000 and $5.7 million of the proceeds
have been used for capital expenditures. The balance of such proceeds are to be
used for general corporate purposes to support business expansion including new
client acquisition, expansion into international markets, the development of new
services and additional capital expenditures. In addition, we may use a portion
of the net proceeds to acquire complementary products, technologies or
businesses; however, we currently have no commitments or agreements and are not
involved in any negotiations to do so. None of the net proceeds of the offering
were paid directly or indirectly to any director, officer, general partner or
Rainmaker or their associates, persons owning 10 percent or more of any class of
equity securities of Rainmaker, or an affiliate of Rainmaker.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following Exhibits are filed with this report as indicated below.
27.1 Financial Data Schedule.
(b) Reports on Form 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
RAINMAKER SYSTEMS, INC.
Dated: October 31, 2000 By: /s/ MICHAEL SILTON
------------------
Michael Silton,
Chairman of the Board, President and
Chief Executive Officer
By: /s/ MARTIN HERNANDEZ
--------------------
Martin Hernandez,
Secretary, Chief Operating Officer
and Acting Chief Financial Officer
17
