<PAGE>
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2000
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 000-31097
SPEECHWORKS INTERNATIONAL, INC.
(Exact Name of Registrant as Specified in Its Charter)
<TABLE>
<S> <C>
Delaware 04-3239151
(State or other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
</TABLE>
695 Atlantic Avenue, Boston, MA 02111
(Address of Principal Executive Offices) (Zip Code)
(617) 428-4444
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 [_]
APPLICABLE ONLY TO CORPORATE ISSUERS:
As of October 31, 2000, the registrant had 30,090,173 shares of common
stock, par value $0.001 per share, outstanding.
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<PAGE>
SPEECHWORKS INTERNATIONAL, INC. & SUBSIDIARIES
INDEX
<TABLE>
<CAPTION>
Page No.
--------
<C> <S> <C>
Part I--Financial Information
Consolidated Balance Sheet as of September 30, 2000 and
December 31, 1999....................................... 3
Consolidated Statement of Operations for the Three and
Nine Months Ended September 30, 2000 and 1999........... 4
Consolidated Statement of Cash Flow for the Nine Months
Ended September 30, 2000 and 1999....................... 5
Notes to Consolidated Financial Statements.............. 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 9
Quantitative and Qualitative Disclosures about Market
Item 3. Risk ................................................... 14
Part II--Other Information.......................................... 15
Item 2. Changes in Securities and Use of Proceeds............... 15
Item 6. Exhibits and Reports on Form 8-K........................ 15
Signatures.......................................................... 16
Exhibit Index....................................................... 17
</TABLE>
2
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEET
(Unaudited)
(in thousands, except share information)
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
------------- ------------
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents............................ $119,505 $ 11,474
Accounts receivable, net of allowance for doubtful
accounts of $250 and $60, respectively.............. 9,183 4,097
Prepaid expenses and other current assets............ 2,959 463
Restricted investments............................... -- 573
-------- --------
Total current assets............................... 131,647 16,607
Fixed assets, net...................................... 4,829 3,408
Other assets........................................... 1,026 551
Intangible assets, net................................. 10,539 --
-------- --------
Total assets....................................... $148,041 $ 20,566
======== ========
<CAPTION>
LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND
STOCKHOLDERS' EQUITY (DEFICIT)
<S> <C> <C>
Current liabilities:
Accounts payable..................................... $ 870 $ 845
Accrued compensation................................. 3,417 1,104
Accrued expenses..................................... 2,306 988
Deferred revenue..................................... 3,078 854
Current portion of capital lease obligations......... 9 183
Current portion of long-term debt.................... 500 500
-------- --------
Total current liabilities.......................... 10,180 4,474
Long-term debt, net of current portion................. 417 833
-------- --------
Total liabilities.................................. 10,597 5,307
-------- --------
Redeemable convertible preferred stock:
Redeemable convertible preferred stock, $0.001 par
value; 10,000,000 and 9,375,592, shares authorized;
zero and 9,246,989 shares issued and outstanding,
respectively........................................ -- 43,507
-------- --------
Stockholders' equity (deficit):
Common stock, $0.001 par value; 100,000,000 and
22,000,000, shares authorized; 30,060,382 and
5,888,327 shares issued and outstanding,
respectively........................................ 30 6
Additional paid-in capital........................... 219,325 5,978
Deferred stock compensation.......................... (24,216) (4,905)
Accumulated deficit.................................. (57,695) (29,327)
-------- --------
Total stockholders' equity (deficit)............... 137,444 (28,248)
-------- --------
Total liabilities, redeemable convertible preferred
stock and stockholders' equity (deficit).......... $148,041 $ 20,566
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
3
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended Ended
September 30, September 30,
---------------- ------------------
2000 1999 2000 1999
------- ------- -------- --------
<S> <C> <C> <C> <C>
Revenue:
Product licenses....................... $ 4,853 $ 733 $ 10,236 $ 2,127
Professional services.................. 3,096 1,303 7,618 4,039
Other revenue.......................... 674 522 1,888 3,486
------- ------- -------- --------
Total revenue........................ 8,623 2,558 19,742 9,652
------- ------- -------- --------
Cost of revenue:
Cost of product licenses............... 44 19 155 60
Cost of professional services
(excluding stock compensation of $457,
$36, $685 and $53, respectively)...... 2,346 1,312 5,896 3,551
Cost of other revenue.................. 558 215 1,367 2,268
------- ------- -------- --------
Total cost of revenue................ 2,948 1,546 7,418 5,879
------- ------- -------- --------
Gross profit......................... 5,675 1,012 12,324 3,773
------- ------- -------- --------
Operating expenses:
Selling and marketing (excluding stock
compensation of $900, $62, $1,352 and
$77, respectively).................... 5,793 1,913 14,065 5,595
Research and development (excluding
stock compensation of $140, $21, $332
and $33 respectively)................. 2,160 1,447 5,976 3,310
General and administrative (excluding
stock compensation of $107, $10, $292
and $20 respectively)................. 4,482 1,504 11,442 3,928
Amortization of acquired intellectual
property and collaborative rights..... 958 -- 958 --
Stock compensation..................... 1,604 129 2,661 183
------- ------- -------- --------
Total operating expenses............. 14,997 4,993 35,102 13,016
------- ------- -------- --------
Loss from operations..................... (9,322) (3,981) (22,778) (9,243)
Interest and other income, net........... 1,334 193 1,439 315
------- ------- -------- --------
Net loss................................. (7,988) (3,788) (21,339) (8,928)
Accretion and deemed dividends on
redeemable convertible preferred stock.. (300) (607) (6,955) (1,304)
------- ------- -------- --------
Net loss attributable to common
stockholders............................ $(8,288) $(4,395) $(28,294) $(10,232)
======= ======= ======== ========
Basic and diluted net loss per common
share................................... $ (0.39) $ (0.79) $ (2.54) $ (1.96)
Shares used in computing basic and
diluted net loss per common share....... 21,419 5,552 11,152 5,210
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(in thousands)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
------------------
2000 1999
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net loss................................................. $(21,339) $ (8,928)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization.......................... 1,373 585
Amortization of acquired intellectual property and
collaborative rights.................................. 958 --
Stock compensation expense............................. 2,661 183
Provision for doubtful accounts........................ 190 (15)
Changes in operating assets and liabilities:
Accounts receivable.................................... (5,276) (2,258)
Prepaid expenses and other current assets.............. (2,496) (516)
Other assets........................................... (475) (429)
Accounts payable....................................... 25 (25)
Accrued expenses....................................... 3,631 671
Deferred revenue....................................... 2,224 298
-------- --------
Net cash used in operating activities................ (18,524) (10,434)
-------- --------
Cash flows from investing activities:
Purchases of fixed assets................................ (2,794) (2,025)
Maturities and release of restricted investments......... 573 40
-------- --------
Net cash used in investing activities................ (2,221) (1,985)
-------- --------
Cash flows from financing activities:
Principal payments on capital lease obligations.......... (174) (187)
Proceeds from notes payable.............................. -- 1,000
Principal payments on notes payable...................... (416) (111)
Proceeds from issuance of preferred stock, net of
issuance costs.......................................... 19,929 23,829
Proceeds from exercise of stock options.................. 654 65
Proceeds from sale of common stock, net of issuance
costs................................................... 108,783 --
Repayment of notes receivable from stockholders.......... -- 12
-------- --------
Net cash provided by financing activities............ 128,776 24,608
-------- --------
Net increase in cash and cash equivalents............ 108,031 12,189
Cash and cash equivalents, beginning of period............. 11,474 4,486
-------- --------
Cash and cash equivalents, ending of period................ $119,505 $ 16,675
======== ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The unaudited consolidated financial statements have been prepared by the
Company in accordance with instructions to Form 10-Q and Article 10 of
Regulation S-X. The consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries. All intercompany accounts and
transactions have been eliminated. In the opinion of management, all
adjustments, consisting only of normal recurring adjustments considered
necessary for a fair presentation, have been included. The results of
operations for the nine month period ended September 30, 2000 are not
necessarily indicative of the results to be expected for the full year or for
any future periods. The accompanying consolidated financial statements should
be read in conjunction with the audited consolidated financial statements
contained in the Company's Registration Statement on Form S-1 (Reg. No. 333-
35164) filed with the Securities and Exchange Commission.
2. Net Loss Per Share
The Company computes net loss per common share in accordance with SFAS 128
"Earnings per Share." Under the provisions of SFAS 128, basic net loss per
common share is computed by dividing net loss attributable to common
stockholders by the weighted average number of common shares outstanding. There
is no difference between basic and diluted net loss per share since potential
common shares from the conversion of redeemable convertible preferred stock and
the exercise of options and warrants were antidilutive for all periods
presented. The calculation of diluted net loss per common share for the three
and nine month periods ended September 30, 2000 and 1999 does not include
23,581,809; 22,108,600; 18,694,418 and 16,719,490 potential shares of common
stock equivalents, respectively, related to common stock options, common stock
warrants and redeemable convertible preferred stock.
The pro forma net loss per common share for the three and nine month periods
ended September 30, 2000 and 1999 is calculated assuming the automatic
conversion of all preferred stock outstanding had occurred as of the beginning
of the period or as of the date of issuance of the preferred stock, if later.
Therefore, accretion of the dividends on the redeemable convertible preferred
stock is excluded from the calculation of pro forma net loss per common share.
The following table presents the calculation of basic and pro forma net loss
per common share (in thousands, except per share amounts):
<TABLE>
<CAPTION>
Three Months
Ended Nine Months Ended
September 30, September 30,
---------------- ------------------
2000 1999 2000 1999
------- ------- -------- --------
<S> <C> <C> <C> <C>
Net loss................................. $(7,988) $(3,788) $(21,339) $ (8,928)
Accretion on redeemable convertible
preferred stock......................... (300) (607) (6,955) (1,304)
------- ------- -------- --------
Net loss attributable to common
stockholders............................ $(8,288) $(4,395) $(28,294) $(10,232)
======= ======= ======== ========
Weighted average shares used in computing
basic and diluted net loss per common
share................................... 21,419 5,552 11,152 5,210
Basic and diluted net loss per common
share................................... $ (0.39) $ (0.79) $ (2.54) $ (1.96)
Pro forma:
Net loss................................. $(7,988) $(3,788) $(21,339) $ (8,928)
======= ======= ======== ========
Shares used above........................ 21,419 5,552 11,152 5,210
Pro forma adjustment to reflect the
weighted average effect of assumed
conversion of convertible redeemable
preferred stock......................... 6,245 13,870 12,053 11,895
------- ------- -------- --------
Weighted average shares used in computing
pro forma basic and diluted net loss per
common share............................ 27,664 19,422 23,205 17,105
Pro forma basic and diluted net loss per
common share............................ $ (0.29) $ (0.20) $ (0.92) $ (0.52)
</TABLE>
6
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
3. Deferred Stock Compensation
In connection with the grant of certain stock options to employees through
June 30, 2000, the Company recorded deferred stock compensation within
stockholders' equity of $10.7 million, representing the difference between the
estimated fair value of the common stock for accounting purposes and the option
exercise price of these options at the date of grant. Such amount is presented
as a reduction of stockholders' equity and is being amortized over the vesting
period of the applicable options. During the three months ended September 30,
2000, no deferred stock compensation was recorded as all stock options issued
during the period were issued with an exercise price equal to the fair value on
the date of grant. The Company recorded amortization of deferred stock
compensation for the three and nine months ended September 30, 2000 and 1999 of
$678,000, $1,735,000, $129,000 and $183,000, respectively.
In connection with the sale of common stock in private placements to
Net2Phone and AOL, concurrent with the Company's initial public offering (Note
5), the Company recorded deferred stock compensation within stockholders'
equity of $5.4 million. This amount represents the difference between the price
of the public offering of $20.00 per share and the price paid by Net2Phone and
AOL of $12.46 per share. This amount is presented as a reduction of
stockholders' equity and is being amortized to the statement of operations over
the three-year term of the concurrently entered revenue-producing arrangements.
In each quarterly period, such amortization will be reflected as a reduction of
revenues resulting from the arrangements; to the extent that the amortization
exceeds such revenues, the residual will be reflected in operating expenses.
For the three months ended September 30, 2000, the Company did not recognize
any revenue from either Net2Phone or AOL and, accordingly, the related
amortization of $134,000 and $168,000, respectively, was recorded as stock
compensation expense and allocated to sales and marketing expense for
disclosure purposes.
On June 30, 2000, the Company issued a warrant to purchase up to 765,422
shares of common stock to AOL in connection with a long-term marketing
arrangement. In accordance with EITF 96-18, the value ascribed to this warrant
upon its issuance, utilizing the Black-Scholes valuation model, was $11.2
million, which is being amortized to stock compensation expense over the three-
year term of the agreement and allocated to sales and marketing expense for
disclosure purposes. Assumptions used in the Black-Scholes computation included
the following: fair value of the Company's common stock of $20.00 per share;
exercise price of $12.46 per share; risk free interest rate of return of 6.2%;
volatility of 100%; expected term of 3 years; and no dividend yield. The
Company recognized $624,000 of stock compensation expense during the three
months ended September 30, 2000.
4. Segment Reporting
The Company operates in a single segment and has no organizational structure
dictated by product lines, geography or customer type.
5. Initial Public Offering
On August 4, 2000, the Company completed its initial public offering of 5.46
million shares of common stock. The offering raised approximately $100 million,
net of offering expenses, for the Company. Concurrent with the initial public
offering, the Company completed two private placements of common stock which
raised an additional $9 million. As of the date of the offering, all
outstanding shares of the Company's preferred stock automatically converted
into an aggregate of 16.4 million shares of common stock.
6. Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133
establishes accounting and reporting standards
7
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
requiring that every derivative instrument be recorded in the balance sheet as
either an asset or liability measured at its fair value. SFAS No. 133, as
recently amended by SFAS 137, "Accounting for Derivative Instruments and
Hedging Activities--Deferral of the Effective Date of FASB Statement No. 133,"
is effective for fiscal years beginning after June 15, 2000. Because the
Company does not currently hold any derivative instruments and does not
currently engage in hedging activities, it expects the adoption of SFAS No. 133
will not have a material impact on its financial position or operating results.
In December 1998, the Accounting Standards Executive Committee of the
American Institute of Certified Public Accountants issued Statement of Position
No 98-9, "Modification of SOP No. 97-2, Software Revenue Recognition, with
Respect to Certain Transactions" ("SOP 98-9"). SOP 98-9 amends SOP 97-2 to
require recognition of revenue using the "residual method" in circumstances
outlined in SOP 98-9. Under the residual method, revenue is recognized as
follows: (1) the total fair value of undelivered elements, as indicated by
vendor specific objective evidence, is deferred and subsequently recognized in
accordance with the relevant sections of SOP 97-2 and (2) the difference
between the total arrangement fee and the amount deferred for the undelivered
elements is recognized as revenue related to the delivered elements. SOP 98-9
is effective for transactions entered into during years beginning after March
15, 1999 (year 2000 for the Company), however, early adoption is permitted. The
Company has adopted SOP 98-9.
In December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
("SAB 101"). SAB 101 summarizes certain views of the staff on applying
generally accepted accounting principles to revenue recognition in financial
statements. The staff believes that revenue is realized or realizable and
earned when all of the following criteria are met: persuasive evidence of an
arrangement exists; delivery has occurred or services have been rendered; the
seller's price to the buyer is fixed or determinable; and collectibility is
reasonably assured. In June 2000, Staff Accounting Bulletin No. 101B, "Second
Amendment: Revenue Recognition in Financial Statements," was released. This
staff accounting bulletin delays the implementation of SAB 101 until the fourth
quarter of 2000. The Company does not expect the application of SAB 101 to have
a material impact on the Company's financial position or results of operations.
In March 2000, the Financial Accounting Standards Board issued FASB
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation--an interpretation of APB Opinion No. 25" ("FIN 44"). FIN 44
clarifies the application of APB Opinion No. 25 and among other issues
clarifies the following: the definition of an employee for purposes of applying
APB Opinion No. 25; the criteria for determining whether a plan qualifies as a
non-compensatory plan; the accounting consequence of various modifications to
the terms of previously fixed stock options or awards; and the accounting for
an exchange of stock compensation awards in a business combination. FIN 44
became effective July 1, 2000, but certain conclusions in FIN 44 cover specific
events that occurred after either December 15, 1998 or January 12, 2000. The
application of FIN 44 did not have a material impact on the Company's financial
position or results of operations.
8
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the consolidated
financial statements and related notes included elsewhere in this report. The
results shown herein are not necessarily indicative of the results to be
expected for the full year or any future periods.
This Report on Form 10-Q contains forward-looking statements, within the
meaning of Section 27A of the Securities Act and Section 21E of the Exchange
Act, including but not limited to our expectations for results over the balance
of the year, regarding expense trends, cash positions and our outlook for the
Company, as well as our expectations, beliefs, intentions or strategies
regarding the future. All forward-looking statements included in this Report on
Form 10-Q are based on information available to us on the date hereof, and we
assume no obligation to update any such forward-looking statements. Factors
that could cause future results to differ materially from such expectations
include: the timing of sales of the Company's products and services; market
acceptance of the Company's speech-activated systems; the Company's reliance on
a limited number of large orders for substantially all its revenue; the
Company's ability to develop new products and services in the face of rapidly
evolving technology; the uncertainties related to the Company's planned
international operations; the Company's ability to manage growth of its
business; the Company's ability to protect its intellectual property; the
Company's reliance on resellers and original equipment manufacturers for a
portion of its sales; the Company's ability to respond to competitive
developments; and the Company's reliance on attracting, retaining and
motivating key technical and management personnel. These and other risk factors
are detailed in the Company's filings with the Securities and Exchange
Commission. As a result of these and other factors, there can be no assurances
that the Company will not experience material fluctuations in future operating
results on a quarterly or annual basis.
Overview
SpeechWorks is a leading provider of software products and professional
services that enable enterprises and communications carriers to offer
automated, speech-activated services over any telephone. With our speech
recognition solutions, consumers can direct their own calls, obtain information
and conduct transactions automatically, simply by speaking naturally over any
telephone, anytime. Our solutions are designed to help businesses build
sustainable customer relationships over the telephone, provide improved and
cost-effective customer service systems, increase the returns on their
internet-related investments and capitalize on a variety of new business
opportunities.
We currently offer two speech recognition solutions for over-the-telephone
applications, the SpeechWorks 6 platform and our SpeechSite package.
SpeechWorks 6 is a comprehensive set of software tools and core speech
recognition technologies that can be used to build state-of-the-art, speech-
activated services. With our SpeechWorks 6 platform, companies can quickly
design and deploy speech-activated applications, in multiple languages, that
enable their customers to buy travel tickets, trade mutual funds, get health
care referrals, update account records, send messages and conduct a myriad of
other transactions that extend web-based e-business to any telephone.
SpeechSite, which is based on the SpeechWorks 6 platform, is a packaged
application that brings the web model of self-service to the telephone.
SpeechSite answers and directs telephone calls and delivers company
information. Like a website, SpeechSite can link to other services and deliver
various types of information services to callers. However, SpeechSite uses a
spoken interface rather than a visual browser.
We complement our products with a professional services organization that
offers a range of services including application development and project
management. We have designed these services to shorten time-
9
<PAGE>
SPEECHWORKS INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
to-market, reduce project implementation risk and improve our clients'
competitive position. We believe that our ability to successfully deliver an
integrated solution to our clients that includes both software and professional
services provides us with a significant competitive advantage.
Results of Operations
The following table sets forth, for the periods indicated, the percentage of
total revenue represented by certain items in our statements of operations:
<TABLE>
<CAPTION>
Three Months
Ended September Nine Months Ended
30, September 30,
----------------- ----------------------
2000 1999 2000 1999
------- ------- ---------- ---------
(as a percentage of total revenue)
<S> <C> <C> <C> <C>
Revenue:
Product licenses...... 56 % 29 % 52 % 22 %
Professional
services............. 36 51 39 42
Other revenue......... 8 20 9 36
------- ------- ---------- ---------
Total revenue....... 100 % 100 % 100 % 100 %
======= ======= ========== =========
Cost of revenue:
Cost of product
licenses............. 1 % 1 % 1 % 1 %
Cost of professional
services............. 27 51 30 37
Cost of other
revenue.............. 6 9 7 23
------- ------- ---------- ---------
Total cost of
revenue............ 34 61 38 61
------- ------- ---------- ---------
Gross profit........ 66 39 62 39
------- ------- ---------- ---------
Operating expenses:
Selling and
marketing............ 67 75 71 58
Research and
development.......... 25 57 30 34
General and
administrative....... 52 58 58 41
Amortization of
acquired intellectual
property and
collaborative
rights............... 11 -- 5 --
Stock compensation.... 19 5 13 2
------- ------- ---------- ---------
Total operating
expenses........... 174 195 177 135
------- ------- ---------- ---------
Loss from operations.... (108) (156) (115) (96)
Interest and other
income, net............ 15 8 7 3
------- ------- ---------- ---------
Net loss................ (93)% (148)% (108)% (93)%
======= ======= ========== =========
</TABLE>
Comparison of the Three and Nine Months Ended September 30, 2000 and 1999
Total revenue. Our total revenue for the three months ended September 30,
2000 increased 237.1% to $8.6 million from $2.6 million for the same period of
1999. For the first nine months of 2000, revenues increased 104.5% to $19.7
million from $9.7 million during the same period of 1999. Revenues from
international sales during the three and nine-month periods ended September 30,
2000 were $974,000 and $2.7 million, respectively. International sales were
$13,000 and $148,000 for the three and nine-month periods ended September 30,
1999.
Revenue from product licenses. Revenue from the licensing of proprietary
software during the three-month period ended September 30, 2000 increased
562.1% to $4.9 million from $0.7 million in the same period
10
<PAGE>
of 1999. For the nine-month period ended September 30, 2000, revenues from
product licenses increased 381.2% to $10.2 million from $2.1 million during the
same period in 1999. The growth in product license revenue resulted from a
growing market acceptance of our speech-activated e-business solutions, our
expanded sales and marketing efforts and the improved productivity of our
distribution channels.
Revenue from professional services. Revenue we recognized from professional
services during the three-month period ended September 30, 2000 increased
137.6% to $3.1 million from $1.3 million in the third quarter of 1999. For the
nine-month period ended September 30, 2000, revenues from professional services
increased 88.6% to $7.6 million from $4.0 million during the same period in
1999. The growth in revenue from professional services resulted primarily from
the increased demand for custom speech applications from existing and new
clients.
Other revenue. Other revenue accounted for 7.8% of total revenue for the
three-month period ended September 30, 2000, compared to 20.4% of revenue for
the same period in 1999. For the nine-month period ended September 30, 2000,
other revenue accounted for 9.6% of total revenue compared to 36.1% of total
revenue for the same period in 1999. Other revenue consists of resold hardware
and facility management services. We anticipate that resold hardware and
facilities management revenue will continue to decline as a percentage of total
revenue in the future.
Cost of product license revenue. Cost of product license revenue increased
for the three-month period ended September 30, 2000 to $44,000, or 1.0% of
product license revenue, from $19,000, or 3.0% of product license revenue in
1999. For the nine-month period ended September 30, 2000 the cost of product
licenses increased to $155,000, or 1.5% of product license revenue from
$60,000, or 2.8% of product license revenue in 1999. The decrease in the
percentage of revenue reflects the decrease in the royalty rate owed to MIT
based on achieving the second milestone of cumulative product license sales.
Cost of professional services revenue. Cost of professional services revenue
for the three months ended September 30, 2000 increased 78.8% to $2.3 million
from $1.3 million for the same period in 1999. For the nine-month period
September 30, 2000, the cost of professional services revenue increased 66.0%
to $5.9 million from $3.6 million in 1999. The increase in cost is due
primarily to the hiring of additional project managers, developers, user
interface designers, speech scientists and technical support staff to expand
our professional services organization. This cost represented 75.8% of
professional services revenue for the three-month period ended September 30,
2000, compared to 100.7% of professional services revenue in the same period of
1999. For the nine-month period ended September 30, 2000, the cost of
professional services revenue as a percentage of professional services revenue
was 77.4% compared to 87.9% for the same period in 1999. The lower cost of
professional services as a percentage of related revenue for the nine months
ended September 30, 2000 reflects improvements in margins as certain lower-
margin projects were completed and replaced with higher-margin projects.
Cost of other revenue. Cost of resold hardware and resold facilities
management services for the three-month period ended September 30, 2000
increased to $558,000 from $215,000 in the same period of 1999. For the nine-
month period ended September 30, 2000, the cost of other revenue was $1.4
million compared to $2.3 million for the same period in 1999. The decrease in
cost of other revenue from 1999 to 2000 reflects fewer shipments of hardware to
customers during 2000.
Total operating expenses. Our total operating expenses for the three-month
period ended September 30, 2000 increased 200.4% to $15.0 million from $5.0
million during the same period of 1999. For the nine-month period ended
September 30, 2000, total operating expenses increased 169.7% to $35.1 million
from $13.0 million in 1999. These increases occurred in all categories of
operating expenses as we grew our organization. Total headcount grew to 280 as
of September 30, 2000, compared to a headcount of 170 as of September 30, 1999.
As a percentage of revenue, our operating expenses were 173.9% for the three-
month period ended September 30, 2000, compared to 195.2% for the third quarter
of 1999. For the nine-month periods ended September 30, 2000 and 1999,
operating expenses as a percentage of revenue were 177.8% and 134.9%,
respectively.
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Selling and marketing expenses. Selling and marketing expenses consist
primarily of salaries, commissions and related travel costs for the selling and
marketing personnel, along with spending on marketing activities, including
advertisements, tradeshows, public relations activities and educational
seminars. For the three-month period ended September 30, 2000, selling and
marketing expenses increased 202.8% to $5.8 million from $1.9 million during
the same period of 1999. Selling and marketing expenses as a percentage of
revenue decreased to 67.2% for the three months ended September 30, 2000 from
74.8% for the same period of 1999. For the nine-month period ended September
30, 2000, selling and marketing expenses were $14.1 million compared to $5.6
million for the same period in 1999, an increase of 151.4%. The increase in
selling and marketing expenses during the first nine months of 2000 from the
first nine months of 1999 resulted primarily from our investment in sales and
marketing personnel. Between September 30, 1999 and September 30, 2000 the
number of sales personnel in North America increased from 17 to 38 and the
number of employees in marketing increased from 13 to 23. In addition, the cost
of engineers devoted to technical sales support, recorded as a selling expense,
has increased steadily with increased sales. The increase in selling and
marketing expenses also reflects higher commissions associated with higher
sales and increased marketing activities, including advertisements, tradeshows,
public relations activities and educational seminars during these periods.
Research and development expenses. Research and development expenses consist
primarily of labor costs and related travel for personnel involved in new
product development and enhancements. Research and development expenses for the
three-month period ended September 30, 2000 increased to $2.2 million from $1.5
million during the same period of 1999, an increase of 49.3%. For the nine-
month period ended September 30, 2000, research and development expenses
increased 80.5% to $6.0 million from $3.3 million for the same period in 1999.
Research and development expenses as a percentage of revenue for the three-
month period ended September 30, 2000 decreased to 25.0% from 56.6% during the
same period in 1999. For the nine-month period ended September 30, 2000,
research and development expenses as a percentage of revenue was 30.3%,
compared to 34.3% for the same period in 1999. The increase in research and
development expenses was driven by the increased hiring of software developers,
quality assurance and testing personnel and speech scientists to develop and
enhance our products. The number of personnel involved in research and
development increased from 54 as of September 30, 1999 to 80 as of September
30, 2000.
General and administrative expenses. General and administrative expenses
consist of labor costs and related travel for personnel involved in supporting
the financial, legal, recruiting and system administration infrastructure,
along with all occupancy related and corporate overhead costs. For the three-
month period ended September 30, 2000, general and administrative expenses
increased 198.0% to $4.5 million from $1.5 million during the same period in
1999. For the nine-month period ended September 30, 2000, general and
administrative costs were $11.4 million compared to $3.9 million for the same
period in 1999, an increase of 191.3%. The increase in general and
administrative expenses from 1999 to 2000 was primarily due to additional
infrastructure necessary to support our growing operations in the United States
and internationally, and an increase in professional services fees incurred to
support our growth and increased recruiting costs.
Stock compensation. Deferred stock compensation represents the difference
between the deemed fair value for financial reporting purposes of our common
stock on the date of grant and the exercise price of options granted to
employees to acquire our common stock during this period, multiplied by the
number of option shares. Deferred stock compensation is amortized to expense
ratably over the vesting period of the options granted, which is typically four
years. During the three months ended September 30, 2000, the Company did not
record any deferred stock compensation, as all common stock options issued
during the period were granted with exercise prices equal to the fair market
value of the Company's common stock on the date of grant. The Company recorded
$1.9 million of deferred stock compensation for the three months ended
September 30, 1999. For the nine-month period ended September 30, 2000,
deferred stock compensation recorded was $5.3 million compared to $2.8 million
for the same period in 1999. For the three-month period ended September 30,
2000 we recorded amortization of deferred stock compensation for employee stock
options of $678,000 compared to $129,000 during the same period in 1999. For
the nine-month period ended
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September 30, 2000, the amortization of deferred stock compensation was $1.7
million compared to $183,000 for the same period in 1999. We expect the
amortization of deferred stock compensation to be approximately $2.7 million
per year through 2002 and decreasing thereafter through 2004.
In connection with the sale of common stock in private placements to
Net2Phone and AOL, concurrent with the Company's initial public offering, the
Company recorded deferred stock compensation within stockholders' equity of
$5.4 million. This amount represents the difference between the price of the
public offering of $20.00 per share and the price paid by Net2Phone and AOL of
$12.46 per share. This amount is presented as a reduction of stockholders'
equity and is being amortized to the statement of operations over the three-
year term of the concurrently entered revenue-producing arrangements. In each
quarterly period, such amortization will be reflected as a reduction of
revenues resulting from the arrangements; to the extent that the amortization
exceeds such revenues, the residual will be reflected in operating expenses.
For the three months ended September 30, 2000, the Company did not recognize
any revenue from either Net2Phone or AOL and, accordingly, the related
amortization of $134,000 and $168,000, respectively, was recorded as stock
compensation expense and allocated to sales and marketing expense for
disclosure purposes.
On June 30, 2000, the Company issued a warrant to AOL in connection with a
long-term marketing arrangement. In accordance with EITF 96-18, the value
ascribed to this warrant upon its issuance, utilizing the Black-Scholes
valuation model, was $11.2 million, which is being amortized to stock
compensation expense over the three-year term of the agreement and allocated to
sales and marketing expense for disclosure purposes. Assumptions used in the
Black-Scholes computation included the following: fair value of the Company's
common stock of $20.00 per share; exercise price of $12.46 per share; risk free
interest rate of return of 6.2%; volatility of 100%; expected term of 3 years;
and no dividend yield. The Company recognized $624,000 of stock compensation
expense during the three months ended September 30, 2000.
Amortization of acquired intellectual property and collaborative rights. On
June 5, 2000, the Company entered into a development and license agreement with
AT&T Corp. to develop and sell products that use AT&T speech technology.
Pursuant to this agreement, in exchange for 1,045,158 shares of the Company's
common stock, the Company received development and distribution licenses to
AT&T's speech software, text-to-speech software and certain other technology
related to computer processing of the human voice. In addition, the parties
agreed to collaborate in certain marketing efforts and additional technology
development. In connection with this agreement the Company recorded $11.5
million for the acquired intellectual property and collaborative rights equal
to the value of the common stock issued, which is being amortized over a three-
year period. For the three and nine-month periods ended September 2000,
amortization of the acquired intellectual property and collaborative rights was
$958,000.
Interest and other income, net. For the three months ended September 30,
2000, interest income was $1.3 million compared to $227,000 during the same
period in 1999. Interest expense was $28,000 during the three-month period
ended September 30, 2000 compared to $30,000 during the same period of 1999.
For the nine-month period ended September 30, 2000, interest income was $1.7
million compared to $408,000 for the same period in 1999. For the nine-month
period ended September 30, 2000, interest expense was $104,000 compared to
$78,000 for the same period in 1999. The increase in interest income from 1999
to 2000 was the result of higher cash balances available for investing during
2000 as a result of the initial public offering stock proceeds received during
the quarter ended September 30, 2000. Other expenses include other non-
operating costs.
Liquidity and Capital Resources
From inception through July 31, 2000, we funded our operations primarily
through the private placement of convertible preferred stock totaling $60.0
million, and to a lesser extent, through bank borrowings and capital equipment
lease financing. In August 2000, the Company raised approximately $110 million
through completion of its initial public offering of common stock and the
concurrent private placement of common stock with AOL and Net2Phone. As of
September 30, 2000, we had cash and cash equivalents of
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$119.5 million and $2.0 million available under our revolving line of credit,
which expires in May 2001. Our operating activities resulted in net cash
outflows of $18.5 million in the nine-month period ended September 30, 2000 and
$10.4 million for the same period in 1999. The operating cash outflows for
these periods resulted primarily from our significant investment in research
and development, sales and marketing and infrastructure.
To date, our investing activities have consisted primarily of purchases and
maturities of short-term investments and capital expenditures for property and
equipment, including $2.8 million of capital expenditures in the nine month
period ended September 30, 2000, compared to $2.0 million for the same period
in 1999. The increase in our capital expenditures in the first nine months of
2000 was the result of building our infrastructure and expanding operations
into new locations in the United States, Canada, Singapore, the United Kingdom
and Mexico. These capital expenditures have consisted primarily of computer
hardware, software and furniture and fixtures for our growing employee base.
We had an equipment line of credit which we converted into a term loan in
the amount of $1.5 million. The term loan bears interest at an annual rate of
prime plus 0.75% (10.25% at September 30, 2000), and principal and interest
under the term loan are payable in 36 monthly installments through September
2002.
On August 4, 2000, the Company completed its initial public offering of 5.46
million shares of common stock. The offering raised approximately $100 million,
net of offering expenses, for the Company. Concurrent with the initial public
offering, the Company completed two private placements of common stock which
raised an additional $9 million. As of the date of the offering, all
outstanding shares of the Company's preferred stock automatically converted
into an aggregate of 16.4 million shares of common stock.
We believe that the net proceeds from our initial public offering and the
concurrent private placements, together with existing cash and cash
equivalents, will be sufficient to meet our working capital and capital
expenditure requirements for at least the next 12 months.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
A portion of our business is conducted outside the United States through our
foreign subsidiaries and branches. We have foreign currency exposure related to
our operations in international markets where we transact business in foreign
currencies and accordingly are subject to exposure from adverse movements in
foreign currency exchange rates. Our foreign subsidiaries maintain their
accounting records in their local currencies. Consequently, changes in currency
exchange rates may impact the translation of foreign statements of operations
into U.S. dollars, which may in turn affect our consolidated statements of
operations. Our functional currency is the U.S. dollar for all of our foreign
subsidiaries and branches, and therefore, translation gains and losses are
included as a component of net income or loss. Substantially all of our
revenues are invoiced and collected in U.S. dollars.
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PART II. OTHER INFORMATION
ITEMS 1, 3, 4 AND 5. NOT APPLICABLE
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On August 4, 2000, the Company completed its initial public offering of
5,462,500 shares of common stock. The offering raised approximately $100
million, net of offering expenses, for the Company.
Concurrent with the initial public offering, the Company issued a total of
401,284 and 321,027 shares of common stock to America Online, Inc. and
Net2Phone, Inc., respectively, in two private placements exempt from
registration pursuant to Rule 506 of Regulation D under the Securities Act of
1933, as amended, (the "Securities Act") for gross proceeds of $9,000,000.
From July 1 to July 31, 2000, the Company issued an aggregate of 309,602
shares of common stock to employees upon the exercise of stock options pursuant
to Rule 701 of the Securities Act for aggregate gross proceeds of $313,073.
As of the date of the initial public offering, all outstanding shares of the
Company's preferred stock automatically converted into an aggregate of 16.4
million shares of common stock.
<TABLE>
<S> <C>
Purchase and installation of machinery and equipment............ $ 0
Acquisition of other business................................... 0
Repayment of indebtedness....................................... 0
Working capital................................................. 0
Temporary investments:
Cash and cash equivalents..................................... 98,325,000
All other purposes.............................................. 0
</TABLE>
The foregoing use of net proceeds does not represent a material change in
the use of net proceeds described in the Registration Statement.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<C> <S>
Exhibit 27 Financial Data Schedule
Exhibit 99 Forward-Looking Information, incorporated herein by reference to
Exhibit 99 to the Registrant's Form 10-Q for the period ended June
30, 2000, filed on September 13, 2000.
</TABLE>
(b) Reports on Form 8-K
No reports on Form 8-K have been filed during the quarter for which this
report is filed.
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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.
SPEECHWORKS INTERNATIONAL, INC.
Date: November 13, 2000 By: /s/ Richard J. Westelman
-------------------------
Richard J. Westelman
Chief Financial Officer
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SPEECHWORKS INTERNATIONAL, INC. AND SUBSIDIARIES
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
-------
<C> <S>
27 Financial Data Schedule
99 Forward-Looking Information, incorporated herein by reference to
Exhibit 99 to the Registrant's Form 10-Q for the period ended June 30,
2000, filed on September 13, 2000.
</TABLE>
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