UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission file number 0-9722
INTERGRAPH CORPORATION
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(Exact name of registrant as specified in its charter)
Delaware 63-0573222
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Intergraph Corporation
Huntsville, Alabama 35894-0001
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(256) 730-2000
------------------
(Telephone Number)
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
Common stock, par value $.10 per share: 48,491,098 shares
outstanding as of September 30, 1998
INTERGRAPH CORPORATION
FORM 10-Q*
September 30, 1998
INDEX
Page No.
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PART I. FINANCIAL INFORMATION
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Item 1. Financial Statements
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Consolidated Balance Sheets at
September 30, 1998 and December 31, 1997 2
Consolidated Statements of Operations for
the quarters and nine months ended
September 30, 1998 and 1997 3
Consolidated Statements of Cash Flows for the
nine months ended September 30, 1998 and 1997 4
Notes to Consolidated Financial Statements 5 - 9
Item 2. Management's Discussion and Analysis of Financial
-------------------------------------------------
Condition and Results of Operations 10 - 21
-----------------------------------
PART II. OTHER INFORMATION
-----------------
Item 1. Legal Proceedings 22 - 23
Item 6. Exhibits and Reports on Form 8-K 23
SIGNATURES 24
*Information contained in this Form 10-Q includes statements
that are forward looking as defined in Section 21-E of the
Securities Exchange Act of 1934. Actual results may differ
materially from those projected in the forward looking
statements. Information concerning factors that could cause
actual results to differ materially from those in the forward
looking statements is described in the Company's filings with
the Securities and Exchange Commission, including its most
recent annual report on Form 10-K, its Form 10-Q filings for the
quarters ended March 31, 1998 and June 30, 1998, and this Form
10-Q.
PART I. FINANCIAL INFORMATION
---------------------
INTERGRAPH CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
- --------------------------------------------------------------------------
September 30, December 31,
1998 1997
- --------------------------------------------------------------------------
(In thousands except share and per share amounts)
Assets
Cash and cash equivalents $ 56,763 $ 46,645
Accounts receivable, net 294,620 324,654
Inventories 116,533 105,032
Other current assets 28,244 25,693
- --------------------------------------------------------------------------
Total current assets 496,160 502,024
Investments in affiliates 13,841 14,776
Other assets 60,520 53,566
Property, plant, and equipment, net 134,348 150,623
- --------------------------------------------------------------------------
Total Assets $704,869 $720,989
==========================================================================
Liabilities and Shareholders' Equity
Trade accounts payable $ 53,292 $ 60,945
Accrued compensation 46,748 48,330
Other accrued expenses 75,530 71,126
Billings in excess of sales 64,925 66,680
Short-term debt and current maturities
of long-term debt 37,541 50,409
- --------------------------------------------------------------------------
Total current liabilities 278,036 297,490
Deferred income taxes 433 460
Long-term debt 50,876 54,256
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Total liabilities 329,345 352,206
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Shareholders' equity:
Common stock, par value $.10 per share-
100,000,000 shares authorized;
57,361,362 shares issued 5,736 5,736
Additional paid-in capital 224,135 226,362
Retained earnings 270,723 269,442
Accumulated other comprehensive income-
cumulative translation adjustment 4,205 1,090
- --------------------------------------------------------------------------
504,799 502,630
Less- cost of 8,870,264 treasury shares
at September 30, 1998 and 9,183,845
treasury shares at December 31, 1997 (129,275) (133,847)
- --------------------------------------------------------------------------
Total shareholders' equity 375,524 368,783
- --------------------------------------------------------------------------
Total Liabilities and Shareholders' Equity $704,869 $720,989
==========================================================================
The accompanying notes are an integral part of these consolidated
financial statements.
INTERGRAPH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
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Quarter Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
- ------------------------------------------------------------------------------
(In thousands except per share amounts)
Revenues
Systems $176,697 $199,720 $513,394 $568,646
Maintenance and services 76,927 82,347 232,661 254,788
- ------------------------------------------------------------------------------
Total revenues 253,624 282,067 746,055 823,434
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Cost of revenues
Systems 125,572 131,258 367,918 368,996
Maintenance and services 49,952 49,632 145,644 156,536
- ------------------------------------------------------------------------------
Total cost of revenues 175,524 180,890 513,562 525,532
- ------------------------------------------------------------------------------
Gross profit 78,100 101,177 232,493 297,902
Product development 20,692 23,991 66,641 75,121
Sales and marketing 57,426 61,637 176,670 186,858
General and administrative 25,634 25,106 76,604 75,916
Nonrecurring charges (credit) ( 120) --- 13,782 1,095
- ------------------------------------------------------------------------------
Loss from operations (25,532) ( 9,557) (101,204) (41,088)
Gains on sales of assets --- 4,858 111,042 4,858
Arbitration award --- --- --- ( 6,126)
Interest expense ( 1,804) ( 1,805) ( 5,854) ( 4,652)
Other income (expense)- net 1,163 ( 682) 1,797 ( 2,494)
- ------------------------------------------------------------------------------
Income (loss) before
income taxes (26,173) ( 7,186) 5,781 (49,502)
Income tax expense 1,000 --- 4,500 ---
- ------------------------------------------------------------------------------
Net income (loss) $(27,173) $( 7,186) $ 1,281 $(49,502)
==============================================================================
Net income (loss) per share
- basic and diluted $( .56) $( .15) $ .03 $( 1.03)
==============================================================================
Weighted average shares outstanding
- basic and diluted (1) 48,416 48,006 48,316 47,885
==============================================================================
(1) Diluted shares were 48,355 for the nine months ended September 30, 1998.
The accompanying notes are an integral part of these consolidated
financial statements.
INTERGRAPH CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
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Nine Months Ended September 30, 1998 1997
- -----------------------------------------------------------------------------
(In thousands)
Cash Provided By (Used For):
Operating Activities:
Net income (loss) $ 1,281 $(49,502)
Adjustments to reconcile net income (loss) to
net cash used for operating activities:
Depreciation and amortization 39,604 46,192
Arbitration award --- 5,835
Noncash portion of nonrecurring charges 11,353 ---
Gains on sales of assets (111,042) ( 4,858)
Net changes in current assets and liabilities 12,023 (12,008)
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Net cash used for operating activities ( 46,781) (14,341)
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Investing Activities:
Purchases of property, plant, and equipment ( 12,392) (17,872)
Capitalized software development costs ( 8,647) ( 7,149)
Proceeds from sales of assets 118,002 5,749
Purchase of software rights ( 26,292) ---
Other ( 328) ( 1,165)
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Net cash provided by (used for)
investing activities 70,343 (20,437)
- -----------------------------------------------------------------------------
Financing Activities:
Gross borrowings 182 39,078
Debt repayment ( 16,303) (22,381)
Proceeds of employee stock purchases and
exercise of stock options 2,173 2,419
- -----------------------------------------------------------------------------
Net cash provided by (used for)
financing activities ( 13,948) 19,116
- -----------------------------------------------------------------------------
Effect of exchange rate changes on cash 504 3,817
- -----------------------------------------------------------------------------
Net increase (decrease) in cash and cash equivalents 10,118 (11,845)
Cash and cash equivalents at beginning of period 46,645 50,674
- -----------------------------------------------------------------------------
Cash and cash equivalents at end of period $ 56,763 $ 38,829
=============================================================================
The accompanying notes are an integral part of these consolidated
financial statements.
INTERGRAPH CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: In the opinion of management, the accompanying unaudited
consolidated financial statements contain all
adjustments (consisting of normal recurring items)
necessary for a fair presentation of results for the
interim periods presented.
Certain reclassifications have been made to the
previously reported consolidated statements of
operations and cash flows for the quarter and nine
months ended September 30, 1997 to provide comparability
with the current period presentation.
NOTE 2: Litigation. As further described in the Company's Form
10-K for its year ended December 31, 1997, and its Form
10-Q filings for the quarters ended March 31, 1998 and
June 30, 1998, the Company has risks related to certain
litigation, in particular that with Intel Corporation
and Bentley Systems, Inc. See Management's Discussion
and Analysis of Financial Condition and Results of
Operations in this Form 10-Q for a discussion of
developments in the third quarter of 1998.
NOTE 3: Zydex. On January 15, 1998, the Company's litigation
with Zydex, Inc. was settled, resulting in the Company's
purchase of 100% of the common stock of Zydex for
$26,300,000, with $16,000,000 paid at closing of the
agreement and the remaining amount to be paid in 15
equal monthly installments, including interest. In
March, the Company prepaid in full the remaining amount
payable to Zydex. The former owner of Zydex retains
certain rights to use, but not sell or sublicense, plant
design system application software ("PDS") for a period
of 15 years following the date of closing. In addition
to the purchase price of common stock, the Company was
required to pay additional royalties to Zydex in the
amount of $1,000,000 at closing of the agreement. These
royalties were included in the Company's 1997 results of
operations and therefore did not affect 1998 results.
The first quarter cash payments to Zydex were funded by
the Company's primary lender and by proceeds from the
sale of the Company's Solid Edge and Engineering
Modeling System product lines. See Management's
Discussion and Analysis of Financial Condition and
Results of Operations in this Form 10-Q for a discussion
of the Company's liquidity.
The Company capitalized the $26,300,000 cost of the PDS
software rights and is amortizing it over its estimated
useful life of seven years. The unamortized balance,
approximately $23,500,000 at September 30, 1998, is
included in "Other assets" in the September 30, 1998
consolidated balance sheet.
NOTE 4: Inventories are stated at the lower of average cost or
market and are summarized as follows:
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September 30, December 31,
1998 1997
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(In thousands)
Raw materials $ 36,614 $ 35,799
Work-in-process 29,527 37,357
Finished goods 33,169 11,760
Service spares 17,223 20,116
---------------------------------------------------------
Totals $116,533 $105,032
=========================================================
NOTE 5: Property, plant, and equipment - net includes allowances
for depreciation of $277,863,000 and $289,775,000 at
September 30, 1998 and December 31, 1997, respectively.
NOTE 6: In first quarter 1998, the Company sold the assets of
its Solid Edge and Engineering Modeling System product
lines to Electronic Data Systems Corporation and its
Unigraphics Solutions, Inc. subsidiary for $105,000,000
in cash. The Company recorded a gain on this
transaction of $102,767,000 ($2.13 per share). This
gain is included in "Gains on sales of assets" in the
consolidated statement of operations for the nine months
ended September 30, 1998.
In second quarter 1998, the Company sold the assets of
its printed circuit board manufacturing facility for
$16,002,000 in cash. The Company recorded a gain on
this transaction of $8,275,000 ($.17 per share). This
gain is included in "Gains on sales of assets" in the
consolidated statement of operations for the nine months
ended September 30, 1998. The Company is now
outsourcing its printed circuit board needs and does not
expect this operational change to materially impact its
results of operations in the remainder of 1998.
NOTE 7: In third quarter 1997, the Company sold its stock
investment in a publicly traded affiliate at a gain of
$4,858,000 ($.10 per share). The gain is included in
"Gains on sales of assets" in the consolidated
statements of operations for the quarter and nine months
ended September 30, 1997. At December 31, 1996, the
unrealized gain on this investment resulting from
periodic mark-to-market adjustments totaled $6,858,000
and was included in "Investments in affiliates" and
"Unrealized holding gain on securities of affiliate" in
the consolidated balance sheet at that date.
NOTE 8: In first quarter 1998, the Company reorganized its
European operations to reflect the organization of the
Company into four distinct operating units and to align
operating expenses more closely with revenue levels in
that region. The cost of this reorganization was
originally estimated at $5,400,000, primarily for
employee severance pay and related costs. In the second
and third quarters of 1998, $859,000 and $120,000,
respectively, of the costs accrued in the first quarter
were reversed as the result of incurrence of lower
severance costs than originally anticipated. The third
quarter credit and year to date charge of approximately
$4,500,000 are included in "Nonrecurring charges
(credit)" in the consolidated statements of operations
for the quarter and nine months ended September 30,
1998. Approximately 70 positions were eliminated in the
sales and marketing, general and administrative, and pre-
and post-sales support areas. Cash outlays related to
this charge approximated $2,400,000 in the first nine
months of 1998. The remaining costs are expected to be
paid over the remainder of the year and are included in
"Other accrued expenses" in the September 30, 1998
consolidated balance sheet. The Company estimates the
European reorganization will result in annual savings of
approximately $5,200,000.
The remainder of the 1998 nonrecurring charges consists
of write-offs of a) certain intangible assets, primarily
capitalized business system software, b) goodwill
recorded on a prior acquisition of a domestic
subsidiary, and c) a noncompete agreement with a former
third party consultant. Prior to the write-off,
amortization of these intangibles accounted for
approximately $3,400,000 of the Company's annual
operating expenses.
NOTE 9: In first quarter 1997, the Company sold an unprofitable
business unit to a third party and discontinued the
operations of a second unprofitable business unit. This
second business unit was sold to a third party during
second quarter 1997. The total loss on these sales was
$8,300,000, of which $7,200,000 ($.15 per share) had
been recorded as an asset revaluation in fourth quarter
1996. The remaining loss of $1,100,000 ($.02 per share)
is included in "Nonrecurring charges (credit)" in the
consolidated statement of operations for the nine months
ended September 30, 1997. Revenues and losses of these
two business units totaled $24,000,000 and $16,000,000,
respectively, for the full year 1996. Assets of the
business units totaled $14,000,000 at December 31, 1996.
The two business units did not have a material effect on
the Company's results of operations for the period in
1997 prior to their disposal.
NOTE 10: In second quarter 1997, the Company received notice
of the adverse determination of an arbitration
proceeding with Bentley Systems, Inc. (Bentley), an
approximately 50%-owned affiliate of the Company and
developer and owner of MicroStation, a software product
utilized in many of the Company's software applications
and for which the company serves as a nonexclusive
distributor. The arbitrator's award was in the amount
of $6,126,000 ($.13 per share) and is included in
"Arbitration award" in the consolidated statement of
operations for the nine months ended September 30, 1997.
The cash position of the Company was not significantly
adversely affected by this award, as the Company offset
approximately $5,835,000 in fees otherwise owed the
Company by Bentley against the amount awarded Bentley.
For further details of the Company's business
relationship with Bentley and a description of
continuing arbitration proceedings between the two
companies, see the Company's Form 10-K filing for the
year ended December 31, 1997.
NOTE 11: Supplementary cash flow information is summarized as follows:
Changes in current assets and liabilities, net of the
effects of business divestitures, in reconciling net
income (loss) to net cash used for operating activities
are as follows:
------------------------------------------------------------
Cash Provided By (Used For) Operations
Nine Months Ended September 30, 1998 1997
------------------------------------------------------------
(In thousands)
(Increase) decrease in:
Accounts receivable, net $32,305 $( 800)
Inventories (11,940) (19,508)
Other current assets 2,820 246
Increase (decrease) in:
Trade accounts payable ( 8,427) 8,002
Accrued compensation and other
accrued expenses ( 454) 3,193
Billings in excess of sales ( 2,281) ( 3,141)
------------------------------------------------------------
Net changes in current assets
and liabilities $12,023 $(12,008)
============================================================
Investing and financing transactions in the first nine
months of 1997 that did not require cash included the
sale of two noncore business units of the Company in
part for notes receivable and future royalties totaling
$3,950,000. There were no significant noncash investing
and financing transactions in the first nine months of
1998.
NOTE 12: Basic income (loss) per share is computed by dividing
net income (loss) by the weighted average number of
common shares outstanding. Dilutive income (loss) per
share is computed by dividing net income (loss) by the
weighted average number of common and equivalent common
shares outstanding. Employee stock options are the
Company's only common stock equivalent and are included
in the calculation only if dilutive.
NOTE 13: Effective January 1, 1998, the Company adopted
Statement of Financial Accounting Standards No. 130,
Reporting Comprehensive Income. This Statement
establishes standards for reporting comprehensive income
and its components. Under this Statement, all nonowner
changes in equity during a period are to be reported as
a component of comprehensive income. With respect to
the Company, such nonowner equity items include foreign
currency translation adjustments and unrealized gains
and losses on certain investments in debt and equity
securities. The Statement requires that the accumulated
balance of other comprehensive income be displayed
separately from retained earnings and additional paid in
capital in the equity section of the Company's statement
of financial position.
During the nine months ended September 30, 1998 and
1997, total comprehensive income (loss) was $4,396,000
and ($61,728,000), respectively. Comprehensive income
(loss) differs from net income (loss) due to foreign
currency translation adjustments and, for 1997 only, the
reversal of an unrealized holding gain on securities of
an affiliate that were sold during the third quarter of
1997. See Note 7.
NOTE 14: Effective January 1, 1998, the Company adopted
American Institute of Certified Public Accountants
Statement of Position 97-2, Software Revenue
Recognition. The Statement requires each element of a
software sale arrangement to be separately identified
and accounted for based on the relative fair value of
each element. Revenue cannot be recognized on any
element of the sale arrangement if undelivered elements
are essential to functionality of the delivered
elements. The Statement replaces the previous method of
software revenue recognition, under which a distinction
was made between significant and insignificant post-
shipment obligations for revenue recognition purposes.
Adoption of this new accounting standard did not
significantly affect the Company's results of operations
for the nine months ended September 30, 1998, nor is it
expected to have a significant impact on results for the
remainder of the year since the Company's revenue
recognition policies have historically been in
substantial compliance with the practices required by
the new pronouncement.
NOTE 15: In March 1998, the American Institute of Certified
Public Accountants issued Statement of Position 98-1,
Accounting for the Costs of Computer Software Developed
or Obtained for Internal Use, defining which computer
software costs are to be capitalized and expensed. This
statement is effective fiscal year 1999 for the Company
and will be implemented effective January 1, 1999. In
June 1998, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No.
133, Accounting for Derivative Instruments and Hedging
Activities, requiring companies to recognize all
derivatives as either assets or liabilities on the
balance sheet and to measure the instruments at fair
value. This statement is effective fiscal year 2000 for
the Company. The Company does not anticipate
implementation of either of these newly issued
accounting pronouncements to have a material impact on
its consolidated operating results or financial
position.
NOTE 16: Subsequent Events. Reflecting an industry
outsourcing trend, on October 14, 1998, the Company and
SCI Systems Inc. (SCI) announced an agreement whereby
SCI will purchase substantially all of the Company's
U.S. manufacturing inventory and assets and will assume
manufacturing of the Company's hardware products. SCI
will lease the Company's manufacturing facilities for a
period of approximately five months before moving
operations to SCI facilities and will offer employment
to approximately 310 of the Company's manufacturing
employees. The Company expects to benefit from lower
employee headcount, lower per unit costs for materials
and overhead expenses, and improved cash flow resulting
from improved inventory management. This outsourcing of
the Company's manufacturing will also allow Intergraph
Computer Systems, the Company's wholly owned hardware
subsidiary, to focus on its core competencies of
graphics, workstations, and systems integration. The
companies closed the transaction November 13, 1998.
INTERGRAPH CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
SUMMARY
- -------
Earnings. In third quarter 1998, the Company incurred a net
loss of $.56 per share on revenues of $253.6 million. The third
quarter 1997 net loss was $.15 per share on revenues of $282.1
million, including a $4.9 million ($.10 per share) gain on the
sale of an investment in an affiliated company. The third
quarter 1998 loss from operations was $.53 per share versus a
loss of $.20 per share for the third quarter of 1997. This
increased loss results primarily from a 10% decline in revenues
and a 5.1 point decline in gross margin, partially offset by a
6% decline in operating expenses.
For the first nine months of 1998, the Company earned net income
of $.03 per share on revenues of $746.1 million, including a
$102.8 million ($2.13 per share) gain on the sale of its Solid
Edge and Engineering Modeling System product lines, a $13.8
million ($.29 per share) charge for nonrecurring operating
expenses (primarily employee termination costs and write-off of
certain intangible assets), and an $8.3 million ($.17 per share)
gain on the sale of its printed circuit board manufacturing
facility. For the same period in 1997, the Company lost $1.03
per share on revenues of $823.4 million, including the $.10 per
share gain referenced above and a $6.1 million ($.13 per share)
charge for an adverse contract arbitration award to Bentley
Systems, Inc. (Bentley). Excluding nonrecurring charges, the
loss from operations for the first nine months of 1998 was $1.81
per share versus a loss of $.84 per share for the first nine
months of 1997. This increased loss results from a 9% decline
in revenues and a 6.8 point decline in systems gross margin,
partially offset by a 5% decline in operating expenses. The
year to date decline in revenues and margins is primarily the
result of the Company's ongoing dispute with Intel Corporation.
This dispute is fully described in the Company's Form 10-K
annual report for the year ended December 31, 1997, and updated
in subsequent Form 10-Q filings, including this report.
SCI. Reflecting an industry outsourcing trend, on October 14,
1998, the Company and SCI Systems Inc. (SCI) announced an
agreement whereby SCI will purchase substantially all of the
Company's U.S. manufacturing inventory and assets and will
assume manufacturing of the Company's hardware products. SCI
will lease the Company's manufacturing facilities for a period
of approximately five months before moving operations to SCI
facilities and will offer employment to approximately 310 of the
Company's manufacturing employees. The Company expects to
benefit from lower employee headcount, lower per unit costs for
materials and overhead expenses, and improved cash flow
resulting from improved inventory management. This outsourcing
of the Company's manufacturing will also allow Intergraph
Computer Systems, the Company's wholly owned hardware
subsidiary, to focus on its core competencies of graphics,
workstations, and systems integration. The companies closed the
transaction November 13, 1998. The transaction is expected to
generate cash flow for the Company of approximately $60 million.
Nonrecurring Charges (Credit). In first quarter 1998, the
Company reorganized its European operations to reflect the
organization of the Company into four distinct operating units
and to align operating expenses more closely with revenue levels
in that region. The cost of this reorganization was originally
estimated at $5.4 million, primarily for employee severance pay
and related costs. In the second and third quarters of 1998,
$.9 million and $.1 million, respectively, of the costs accrued
in the first quarter were reversed as the result of incurrence
of lower severance costs than originally anticipated. The third
quarter credit and year to date charge of approximately $4.5
million are included in "Nonrecurring charges (credit)" in the
consolidated statements of operations for the quarter and nine
months ended September 30, 1998. Approximately 70 positions
were eliminated in the sales and marketing, general and
administrative, and pre- and post-sales support areas. Cash
outlays related to this charge approximated $2.4 million in the
first nine months of 1998. The remaining costs are expected to
be paid out over the remainder of the year and are included in
"Other accrued expenses" in the September 30, 1998 consolidated
balance sheet. The Company estimates the European
reorganization will result in annual savings of approximately
$5.2 million.
The remainder of the first quarter 1998 nonrecurring charges
consists of write-offs of a) certain intangible assets,
primarily capitalized business system software, b) goodwill
recorded on a prior acquisition of a domestic subsidiary, and c)
a noncompete agreement with a former third party consultant.
Prior to the write-off, amortization of these intangibles
accounted for approximately $3.4 million of the Company's annual
operating expenses.
In first quarter 1997, the Company sold an unprofitable business
unit to a third party and discontinued the operations of a
second unprofitable business unit. This second business unit
was sold to a third party during second quarter 1997. The total
loss on these sales was $8.3 million, of which $7.2 million
($.15 per share) had been recorded as an asset revaluation in
fourth quarter 1996. The remaining loss of $1.1 million ($.02
per share) is included in "Nonrecurring charges (credit)" in the
consolidated statement of operations for the nine months ended
September 30, 1997. Revenues and losses of these two business
units totaled $24 million and $16 million, respectively, for the
full year 1996. Assets of the business units totaled $14
million at December 31, 1996. The two business units did not
have a material effect on the Company's results of operations
for the period in 1997 prior to their disposal.
Litigation and Other Risks and Uncertainties. As further
described in the Company's Form 10-K filing for its year ended
December 31, 1997 and its Form 10-Q filings for the quarters
ended March 31, 1998 and June 30, 1998, the Company has ongoing
litigation, in particular with Intel Corporation and Bentley
Systems, Inc., and its business is subject to certain risks and
uncertainties. Significant developments during third quarter
1998 are discussed below.
Intel. As further described in the Company's Form 10-Q filings
for the quarters ended March 31, 1998 and June 30, 1998, the
U.S. District Court, Northern District of Alabama, Northeastern
Division, (the "Alabama Court") ruled in favor of Intergraph on
April 10, 1998 and ordered that Intel, the supplier of all the
Company's microprocessor needs, be preliminarily enjoined from
terminating Intergraph's rights as a strategic customer in
current and future Intel programs, and from otherwise taking any
action adversely affecting Intel's business relationship with
Intergraph or Intergraph's ability to design, develop, produce,
manufacture, market or sell products incorporating, or based
upon, Intel products or information. In response to the Alabama
Court's decision, on April 16, 1998, Intel appealed to the
United States Court of Appeals for the Federal Circuit (the
"Appeals Court"). Intel and the Company have each filed briefs
with the Appeals Court. No decision has been entered. Oral
argument before the Appeals Court has been scheduled for
December 9, 1998.
On May 18, 1998, the Alabama Court denied Intel's January 15,
1998 motion for a change of venue from Alabama to California,
and Intel subsequently dropped two retaliatory lawsuits which
Intel had brought against the Company in California. On June
17, 1998, Intel filed its answer in the Alabama case, which
included counterclaims against Intergraph, including claims that
Intergraph has infringed seven patents of Intel. On July 8,
1998, the Company filed its answer to the Intel counterclaims,
among other things denying any liability under the patent
infringement asserted by Intel. On June 17, 1998, Intel filed a
motion before the Alabama Court seeking a summary judgment
holding that Intel is licensed to use the patents that the
Company asserted against Intel in the Company's original
complaint. This "license defense" is based on Intel's
interpretation of the facts surrounding the acquisition by the
Company of the Advanced Processor Division of Fairchild
Semiconductor Corporation in 1987. The Company is vigorously
contesting Intel's motion for summary judgment on the license
defense, and filed a cross motion with the Alabama Court
September 15, 1998 requesting summary adjudication in favor of
the Company. No decision has been entered.
In a scheduling order entered June 25, 1998, the Alabama Court
has set a trial date of February 14, 2000.
Reference should be made to the Company's Form 10-K annual
report for the year ended December 31, 1997 for a complete
description of the background of and basis for these actions,
and for a description of the effects of this dispute on the
operations of the Company, which include lost revenues,
uncertain supply, and increased microprocessor costs and legal
expenses. The Company is vigorously prosecuting its positions
and believes it will prevail in these matters, but at present is
unable to predict the outcome of its dispute with Intel. The
Company does expect, however, that adverse effects on its
operations will continue in the near term, primarily due to
increased legal and administrative expenses associated with the
trial.
Bentley. As further described in the Company's Form 10-K annual
report for the year ended December 31, 1997, Bentley commenced
an arbitration proceeding against the Company in March 1996,
alleging that the Company failed to properly account for and pay
to Bentley certain royalties on its sales of Bentley software
products, and seeking significant damages. Hearings on this
matter are in process and are expected to continue through the
first quarter of 1999. The Company denies that it has breached
any of its contractual obligations to Bentley and is vigorously
defending its position in this proceeding, but at present is
unable to predict an outcome.
Year 2000 Issue. As further described in the Company's Form 10-
K annual report for the year ended December 31, 1997 and its
Form 10-Q for the quarter ended June 30, 1998, the Company has
initiated a program to mitigate/ and or prevent the possible
adverse effects on its operations of Year 2000 problems in its
software and hardware products sold to customers and in its
internally used software and hardware.
The Company's efforts to identify and resolve Year 2000 issues
related to its hardware and software product offerings are
nearing completion. All products currently offered in the
Company's standard price list are Year 2000 compliant or will be
so certified as new versions and utilities are released. In
addition, the Company has made significant due diligence efforts
to contact its customers and business partners to ensure that
customers are aware of how to acquire detailed Year 2000
information regarding any Intergraph-produced product. As of
November 10, 1998, all customers and business partners have been
contacted with this information, which is also included on the
Company's Internet website. Accordingly, the Company does not
believe that Year 2000 presents a material exposure as it
relates to the Company's product offerings. The Company's
product compliance costs have not had and are not anticipated to
have a material impact on its results of operations or financial
condition. However, any unanticipated customer claims could
increase the Company's legal expenses and, if successful, could
have an adverse impact on future results.
Year 2000 readiness of the Company's business critical internal
systems have been made a top priority by the Company's Year 2000
Program Team. These efforts have been primarily concentrated in
the third and fourth quarters of 1998, and significant efforts
will continue through the first quarter of 1999. All business
critical internal systems upgrades and programming changes are
scheduled to be tested and implemented by March of 1999. New
financial and administrative systems form a portion of the Company's
Year 2000 internal solution, and will be selected before the end
of 1998, with implementation and most of the related costs to be incurred
in 1999. While the Company does not anticipate that these costs will have a
material effect on its results of operations or financial
condition for either 1998 or 1999, it will be unable to
accurately calculate the impact until all systems selections are
completed at the end of 1998. If such system changes and
replacements are not completed timely, the Year 2000 issue could have a
material impact on the operations of the Company. The Company believes
that it will successfully implement all internal systems changes
and replacements necessary to ensure the Year 2000 compliance of
all business critical internal systems. Costs incurred to date
are not significant.
In second quarter 1998, the Company's Year 2000 Program Team
required all organizations to develop plans and implementation
schedules addressing their specific Year 2000 needs. The
majority of the Company's subsidiaries and departments have
completed and prioritized an initial inventory of their Year
2000 risks and have begun to plan corrective actions. Contingency
plans, if necessary, will be developed and implemented commencing
at end of first quarter of 1999. Costs incurred to date, consisting
primarily of hardware and software upgrades, are not significant.
To ensure the Company's critical suppliers are able to continue
uninterrupted supply, the Company is conducting a program of
investigation with these suppliers and includes Year 2000
provisions in its new supplier agreements. This program
consists primarily of a major survey campaign and aggressive
follow-up with significant third parties to monitor compliance.
The Company is also initiating discussions with other entities
with which it interacts electronically, including customers and
financial institutions, to ensure those parties have appropriate
plans to remediate Year 2000 issues. To date, responses to
third party Year 2000 surveys do not provide assurance that
these third parties will achieve Year 2000 compliance as most
companies are reluctant to make such representations. However,
most of these parties have Year 2000 programs in place and, to
date, no significant risks have been identified. There can be
no guarantee that the systems of other companies on which the
Company relies will be converted timely, and the Company could
be adversely impacted by suppliers, customers, and other
businesses not successfully addressing this issue. It is also
possible that the Company's sales volume for 1999 could be
negatively impacted as the result of customer focus on the Year
2000 compliance of their current systems rather than on the
purchase of new ones. The Company will develop contingency
plans by the end of the second quarter of 1999 to address
potential third party noncompliance issues.
The costs of the Year 2000 project and the dates on which
significant phases will be completed are based on management's
best estimates, which have been derived utilizing numerous
assumptions of future events, including the continued
availability of certain resources, third party modification
plans, and other factors. There can be no guarantee that these
estimates will be achieved, and actual results could differ
materially from those anticipated. Specific factors that might
cause such material differences include, but are not limited to,
the availability and cost of personnel trained in this area, the
ability to locate and correct all relevant computer codes and
implement new systems in a timely manner, and similar
uncertainties.
The Company believes it has an effective program in place to
resolve the Year 2000 issue in a timely manner; however, it has
not yet completed all necessary phases of this program. In the
event that the Company does not complete any additional phases,
the Company could experience significant delays in sales order
processing, shipping, invoicing, and collections among other areas.
In addition, the Company's operations could be materially
adversely affected if Year 2000 compliance is not achieved
by significant vendors or if the Company becomes the subject of
significant product liability claims. The amount of potential
liability and lost revenue cannot be reasonably estimated at
this time.
Euro Conversion. On January 1, 1999, eleven member countries of
the European Monetary Union (EMU) are scheduled to fix the
conversion rates among those national currencies and a common
currency, the "Euro". The former national currencies of these
participating countries will continue to exist as denominations
of the Euro through July 1, 2002. Euro currency will begin to
circulate on January 1, 2002. With respect to the Company,
European business systems are being upgraded to accommodate the
Euro. European accounts receivable and accounts payable systems
are planned to be made Euro compliant by December 31, 1998. The
remaining systems conversions are scheduled for the second quarter
of 1999. Euro conversion capabilities are also being considered
in the evaluation of potential new U.S. accounting systems. The
Company is in the process of evaluating other business
implications resulting from Euro conversion, including the
impact of cross-border price transparency on the revenues of
countries within the EMU and exposure to market risk with
respect to financial instruments. While the Company has not yet
completed its assessment of these business implications on its
results of operations or financial condition, it does not
anticipate this impact will be material. However, any resulting
devaluation of the Euro or other European currencies could have
an adverse impact on the Company's reported revenues and
operating results.
Remainder of the Year. The Company expects that the industry
will continue to be characterized by higher performance and
lower priced products, intense competition, rapidly changing
technologies, shorter product cycles, and development and
support of software standards that result in less specific
hardware and software dependencies by customers. The Company
believes that its operating system and hardware architecture
strategies are the correct choices, that the industry has
accepted Windows NT, and that Windows NT is becoming the
dominant operating system in the majority of markets served by
the Company. However, competing operating systems and products
are available in the market, and competitors of the Company
offer or are adopting Windows NT and Intel as the systems for
their products. Improvement in the Company's operating results
will depend on its ability to accurately anticipate customer
requirements and technological trends and to rapidly and
continuously develop and deliver new hardware and software
products that are competitively priced, offer enhanced
performance, and meet customers' requirements for
standardization and interoperability, and will further depend on
its ability to successfully implement its strategic direction.
In addition, the Company faces significant operational and
financial uncertainty of unknown duration due to its dispute
with Intel. To achieve and maintain profitability, the Company
must substantially increase sales volume and/or further align
its operating expenses with the level of revenue and gross
margin being generated.
ORDERS/REVENUES
- ---------------
Orders. Systems orders for the third quarter and first nine
months of 1998 totaled $173.0 million and $551.5 million,
respectively, a decrease of approximately 13% and 4%,
respectively, from the same prior year periods. U.S. systems
orders decreased 17% and 4%, respectively, from the third
quarter and first nine months of 1997 due primarily to a
significant third quarter decline in orders from the federal
government and to weakness in the Company's U.S. commercial
market sector. Both federal and commercial orders were impacted
by weakened demand for the Company's hardware product offerings,
due partially to increasing price competition within the
industry. International systems orders declined 9% and 5% from
the third quarter and first nine months of 1997, respectively.
Strengthening of the U.S. dollar against international
currencies, primarily in Europe and Asia, has reduced
consolidated systems orders growth by approximately 2 points.
In addition, order levels in all regions have been reduced by
the sale of the Company's Solid Edge and Engineering Modeling
System product lines and by the previously described dispute
with Intel. The Company expects that the impact of the Intel
dispute on its fourth quarter orders will be diminished in
comparison to previous quarters since, as of October 1998, all
of the Company's hardware product offerings contain the latest
Intel technology and are technologically back in line with
industry competition.
New Products. In July 1998, the Company introduced its new
Wildcat 3D graphics technology, which increases the performance
of Windows NT-based workstations beyond current 3D graphics
technology. This technology streamlines workflows, enabling
creative and technical professionals to work interactively in
real time with more realistic full-sized, fully textured 3D
models. The technology, which was originally scheduled to ship
in December, began delivering in late October in the Company's
TDZ workstations. It will also be available on the Company's
new Intense 3D Wildcat series of 3D graphics accelerators and in
the Intel/Windows NT-based workstations of other computer
vendors.
The success of new product introductions is dependent on a
number of factors, including market acceptance, the Company's
management of risk associated with product transition, the
effective management of inventory levels in line with
anticipated demand, and the risk that new products may have
defects in the introductory stage. Accordingly, the Company
cannot determine the ultimate effect that new products will have
on its sales or operating results.
Revenues. Total revenues for the third quarter and first nine
months of 1998 were $253.6 million and $746.1 million,
respectively, down approximately 10% from the comparable prior
year periods. Sales outside the U.S. represented 50% of total
revenues in the first nine months of 1998, compared to
approximately 53% for the full year 1997. Strengthening of the
U.S. dollar in the Company's international markets, particularly
Europe and Asia, reduced the reported level of U.S. dollar
revenues for the period. European revenues were 30% of total
revenues for the first nine months of 1998, compared to 32% for
the full year 1997.
Systems. Systems revenue for the third quarter and first nine
months of 1998 was $176.7 million and $513.4 million,
respectively, down 12% and 10%, respectively, from the same
prior year periods. The factors affecting systems orders growth
described above have similarly affected systems revenue growth.
During the third quarter, the Company continued to feel residual
effects from its dispute with Intel Corporation, including lost
sales momentum and shipment problems resulting from a non-Intel
chipset used in certain of the Company's workstations. In late
1997, when the dispute looked as if it might jeopardize the
Company's supply of Intel components, an alternate chipset
supplier was selected for some of its designs. In the third
quarter, that vendor had difficulty delivering enough parts to
the Company, resulting in a significant backlog that could not
be shipped during the quarter. As of the end of October, the
Company believes this problem has been resolved and that the
remaining backlog should ship during the fourth quarter.
U.S. systems revenues were down 10% from third quarter 1997 and
7% from the first nine months of 1997 due to significant
declines in both federal government and U.S. commercial
revenues, partially offset by continued growth in the Company's
public safety business. International systems revenues were
down approximately 14% from third quarter 1997 and 12% from the
first nine months of 1997. Asia Pacific and European revenues
have declined by 28% and 12%, respectively, from the prior year
to date level. Excluding the impact of a stronger dollar, the
revenue declines in these regions were 18% and 9%, respectively.
These declines are primarily due to factors associated with the
Intel lawsuit and the sale of the Company's Solid Edge and
Engineering Modeling System product lines and, in Asia, due to
currency and economic problems affecting that region.
Hardware revenues for the first nine months of 1998 declined 9%
from the prior year period. Unit sales of workstations and
servers were up 6%, while workstation and server revenues
declined by 11% due to a 16% decline in the average per unit
selling price. Third quarter revenues were negatively impacted
by the chipset problem described above and by increasing price
competition within the industry. Sales of peripheral hardware
products declined by 7% from the prior year period due primarily
to a 45% decline in sales of graphics cards, partially offset by
an increase in upgrades to Intel-based hardware. The Company
expects the demand for graphics cards to increase during the
fourth quarter of 1998 with the availability of its new Wildcat
3D graphics technology.
Software revenues declined 17% from the prior year level due
primarily to a 76% decline in sales of mechanical applications
(includes the Solid Edge and Engineering Modeling System product
lines) and a 49% decline in sales of MicroStation. (The
Company's Form 10-K filing for the year ended December 31, 1997
contains further discussion of the Company's MicroStation sales
and relationship and ongoing arbitration proceedings with
Bentley Systems, Inc., the developer and owner of MicroStation.)
These declines were partially offset by a 22% increase in sales
of the Company's plant design products. Plant design is
currently the Company's highest volume software offering,
representing approximately 29% of total software sales for the
first nine months of 1998. Sales of Windows-based software
represented approximately 86% of total software revenues in the
first nine months of 1998, up from approximately 81% in the same
period in 1997.
Maintenance and Services. Maintenance and services revenue
consists of revenues from maintenance of Company systems and
from Company provided services, primarily training and
consulting. These forms of revenue totaled $76.9 million for
the third quarter and $232.7 million for the first nine months
of 1998, down 7% and 9%, respectively, from the comparable prior
year periods. Maintenance revenues for the first nine months of
1998 totaled $160.1 million, down 14% from the same prior year
period. The trend in the industry toward lower priced products
and longer warranty periods has resulted in reduced levels of
maintenance revenue, and the Company believes this trend will
continue in the future. Services revenue represents
approximately 10% of year to date 1998 revenues and has
increased 5% from the same prior year period. Growth in
services revenue has acted to partially offset the decline in
maintenance revenue. The Company is endeavoring to grow its
services business and has begun to redirect the efforts of its
hardware maintenance organization to focus increasingly on
systems integration and training. Such revenues, however,
produce lower gross margins than maintenance revenues.
GROSS MARGIN
- ------------
The Company's total gross margin for the third quarter was
30.8%, down 5.1 points from the third quarter 1997 level. For
the first nine months of 1998, total gross margin was 31.2%,
down 5.0 points from the same prior year period and 4.4 points
from the full year 1997 level.
Systems margin for the third quarter was 28.9%, down 5.4 points
from the third quarter 1997 level. For the first nine months of
1998, systems margin was 28.3%, down approximately 6.8 points
from the same prior year period and 6.3 points from the full
year 1997 level. The previously discussed factors contributing
to the Company's systems revenue decline have had a similar
adverse effect on systems margin. In addition, systems margins
continue to be negatively impacted by a higher hardware content
in the product mix and by significant over capacity variances in
manufacturing. These manufacturing variances will be eliminated
by the Company's outsourcing agreement with SCI, and additional
cost savings are expected to be realized from resulting
reductions in headcount and materials costs.
In general, the Company's systems margin may be lowered by price
competition, a higher hardware content in the product mix, a
stronger U.S. dollar in international markets, the effects of
technological changes on the value of existing inventories, and
a higher mix of federal government sales, which generally
produce lower margins than commercial sales. Systems margin may
be improved by higher software content in the product, a weaker
dollar in international markets, a higher mix of international
systems sales to total systems sales, and reductions in prices
of component parts, which generally tend to decline over time in
the industry. The Company is unable to predict the effects that
many of these factors may have on its systems margins. While
the Company expects to achieve significant cost savings through
its outsourcing agreement with SCI, it expects continuing
pressure on its systems margin due primarily to increasing
industry price competition.
Maintenance and services margin for the third quarter of 1998
was 35.1%, down 4.6 points from the third quarter of 1997 due to
a decline in maintenance revenue and to costs incurred on long-
term service contracts without corresponding recognition of
revenue. Revenue on service contracts is often based on
completion of milestones or other factors appropriate to the
individual contract of sale. Year to date maintenance and
services margin is 37.4%, down 1.2 points from the same prior
year period and .6 points from the full year 1997 level. Long-
term service contracts account for the majority of the year to
date margin decline. While the Company's maintenance revenue
level has declined significantly from the prior year level,
margins on this form or revenue have remained relatively stable.
The Company closely monitors its maintenance costs and has taken
certain measures, including reductions in headcount, to more
closely align costs with the current revenue levels. The
Company believes that the trend in the industry toward lower
priced products and longer warranty periods will continue to
reduce its maintenance revenue, which will pressure maintenance
margin in the absence of corresponding cost reductions.
OPERATING EXPENSES
- ------------------
Operating expenses for the third quarter and first nine months
of 1998 declined by 6% and 5%, respectively, from the comparable
prior year periods. Total employee headcount has declined by 8%
during that same period.
Product development expense for the third quarter and first nine
months of 1998 declined by 14% and 11%, respectively, from the
same prior year periods due primarily to a decline in labor and
related overhead expenses. Headcount in the product development
area has declined by 9% from the prior year level. Sales and
marketing expense for the third quarter and first nine months of
1998 declined by 7% and 6%, respectively, from the corresponding
prior year periods due to strengthening of the U.S. dollar in
the Company's international markets and to across the board
expense reductions in Europe resulting primarily from
restructuring actions taken in the first quarter (see
"Nonrecurring Charges"). General and administrative expense for
the third quarter and first nine months of 1998 is relatively
flat with the comparable prior year periods. The positive
impact resulting from a strong U.S. dollar was offset by
increases in legal expenses (see "Litigation and Other Risks and
Uncertainties") and worldwide provisions for bad debts.
NONOPERATING INCOME AND EXPENSE
- -------------------------------
Interest expense was $1.8 million for the third quarter and $5.9
million for the first nine months of 1998 versus $1.8 million
and $4.7 million, respectively, for the corresponding prior year
periods. The Company's average outstanding debt increased in
comparison to the same prior year periods due primarily to
borrowings under the Company's revolving credit facility and
term loan. See "Liquidity and Capital Resources" below for a
discussion of the Company's current financing arrangements.
In first quarter 1998, the Company sold the assets of its Solid
Edge and Engineering Modeling System product lines to Electronic
Data Systems Corporation and its Unigraphics Solutions, Inc.
subsidiary for $105 million in cash. The Company recorded a
gain on this transaction of $102.8 million. This gain is
included in "Gains on sales of assets" in the consolidated
statement of operations for the nine months ended September 30,
1998. Full year 1997 revenues and operating loss for these
product lines were $35.2 million and $4.1 million, respectively.
The Company estimates the sale of this business will result in
an improvement in its 1998 operating results of approximately $5
million, excluding the impact of the gain on the sale.
In second quarter 1998, the Company sold the assets of its
printed circuit board manufacturing facility for $16 million in
cash. The Company recorded a gain on this transaction of $8.3
million. This gain is included in "Gains on sales of assets" in
the consolidated statement of operations for the nine months
ended September 30, 1998. The Company is now outsourcing its
printed circuit board needs and does not expect this operational
change to materially impact its results of operations in the
remainder of 1998.
In second quarter 1997, the Company received notice of the
adverse determination of an arbitration proceeding with Bentley
Systems, Inc. (Bentley), an approximately 50%-owned affiliate of
the Company and developer and owner of MicroStation, a software
product utilized in many of the Company's software applications
and for which the Company serves as a nonexclusive distributor.
The arbitrator's award was in the amount of $6.1 million and is
included in "Arbitration award" in the consolidated statement of
operations for the nine months ended September 30, 1997. The
cash position of the Company was not significantly adversely
affected by this award, as the Company offset approximately $5.8
million in fees otherwise owed the Company by Bentley against
the amount awarded Bentley. For further details of the
Company's business relationship with Bentley and a description
of continuing arbitration proceedings between the two companies,
see the Company's Form 10-K filing for the year ended December
31, 1997.
In third quarter 1997, the Company sold its stock investment in
a publicly traded affiliate at a gain of $4.9 million. The gain
is included in "Gains on sales of assets" in the consolidated
statements of operations for the quarter and nine months ended
September 30, 1997. At December 31, 1996, the unrealized gain
on this investment resulting from periodic mark-to-market
adjustments totaled $6.9 million and was included in
"Investments in affiliates" and "Unrealized holding gain on
securities of affiliate" in the consolidated balance sheet at
that date.
"Other income (expense) - net" in the consolidated statements of
operations consists primarily of interest income, foreign
exchange gains (losses), equity in the earnings of investee
companies, and other miscellaneous items of nonoperating income
and expense.
IMPACT OF CURRENCY FLUCTUATIONS AND CURRENCY RISK MANAGEMENT
- ------------------------------------------------------------
Fluctuations in the value of the U.S. dollar in international
markets can have a significant impact on the Company's results
of operations. For the first nine months of 1998, approximately
50% (53% for the full year 1997) of the Company's revenues were
derived from customers outside the United States, primarily
through subsidiary operations. Most subsidiaries sell to
customers and incur and pay operating expenses in local
currency. These local currency revenues and expenses are
translated to dollars for U.S. reporting purposes. A stronger
U.S. dollar will decrease the level of reported U.S. dollar
orders and revenues, decrease the dollar gross margin, and
decrease reported dollar operating expenses of the international
subsidiaries. For the first nine months of 1998, the U.S.
dollar strengthened on average from its prior year level, which
decreased reported dollar revenues, orders, and gross margin,
but also decreased reported dollar operating expenses in
comparison to the prior year period. The Company estimates that
this strengthening of the U.S. dollar in its international
markets, primarily Europe and Asia, adversely affected its
results of operations for the first nine months of 1998 by
approximately $.13 per share in comparison to the same prior
year period. (Strengthening of the U.S. dollar reduced
operating results for the first nine months of 1997 by
approximately $.16 per share in comparison to the first nine
months of 1996.)
The Company conducts business in all major markets outside the
U.S., but the most significant of these operations with respect
to currency risk are located in Europe and Asia. With respect
to the currency exposures in these regions, the objective of the
Company is to protect against financial statement volatility
arising from changes in exchange rates with respect to amounts
denominated for balance sheet purposes in a currency other than
the functional currency of the local entity. The Company will
therefore enter into forward exchange contracts related to
certain balance sheet items, primarily intercompany receivables,
payables, and formalized intercompany debt, when a significant
risk has been identified. Periodic changes in the value of
these contracts offset exchange rate related changes in the
financial statement value of these balance sheet items. Forward
exchange contracts are purchased with maturities reflecting the
expected settlement dates of the balance sheet items being
hedged, which are generally less than three months, and only in
amounts sufficient to offset possible significant currency rate
related changes in the recorded values of these balance sheet
items, which represent a calculable exposure for the Company
from period to period. Since this risk is calculable, and these
contracts are purchased only in offsetting amounts, neither the
contracts themselves nor the exposed foreign currency
denominated balance sheet items are likely to have a significant
effect on the Company's financial position or results of
operations. The Company's positions in these derivatives are
continuously monitored to ensure protection against the known
balance sheet exposures described above. By policy, the Company
is prohibited from market speculation via forward exchange
contracts and therefore does not take currency positions
exceeding its known financial statement exposures, and does not
otherwise trade in currencies.
At September 30, 1998, the Company's only outstanding hedge
contracts related to formalized intercompany loans between the
Company's European subsidiaries. The Company is not currently
hedging any of its foreign currency risks in the Asia Pacific
region.
INCOME TAXES
- ------------
The Company earned pretax income for financial statement
purposes of $5.8 million in the first nine months of 1998 versus
a pretax loss of $49.5 million for the same prior year period.
Income tax expense for the first nine months of 1998 results
primarily from U.S. alternative minimum tax and taxes on
individually profitable international subsidiaries. The sale of
the Solid Edge and Engineering Modeling System product lines did
not create a significant tax liability for the Company due to
the availability of net operating loss carryforwards to offset
current year earnings. After consideration of the sale, the
Company has net operating loss carryforwards for U.S. federal
purposes of approximately $130 million and international
carryforwards of approximately $100 million.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
At September 30, 1998, cash totaled $56.8 million as compared to
$46.6 million at December 31, 1997. Cash consumed by operations
in the first nine months of 1998 totaled $46.8 million, compared
to a consumption of $14.3 million in the first nine months of
1997, reflecting the negative cash flow effects of increased
operating losses. In addition, inventory build-ups consumed
$11.9 million and $19.5 million, respectively, in the first nine
months of 1998 and 1997. The 1997 build up was in response to
an anticipated increase in hardware unit sales volume and to
customer demand for faster delivery of products. The 1998 build
up resulted from an anticipated order level which did not
materialize.
Net cash generated from investing activities totaled $70.3
million in the first nine months of 1998, compared to a net use
of $20.4 million in the first nine months of 1997. Year to date
1998 investing activities included $102 million in proceeds from
the sale of the Company's Solid Edge and Engineering Modeling
System product lines, $16 million in proceeds from the sale of
the Company's printed circuit board manufacturing facility, and
expenditure of $26.3 million for the purchase of Zydex software
rights. Investing activities for the first nine months of 1997
included $5.7 million in proceeds from sales of a division and
investments in affiliated companies. Other significant
investing activities included capital expenditures of $12.4
million ($17.9 million in the first nine months of 1997),
primarily for Intergraph products used in hardware and software
development and sales and marketing activities, and $8.6 million
for capitalizable software development costs ($7.1 million in
the first nine months of 1997.) The Company expects that
capital expenditures will require $16 to $20 million for the
full year 1998, primarily for these same purposes. The
Company's term loan and revolving credit agreement contains
certain restrictions on the level of the Company's capital
expenditures.
Net cash used for financing activities totaled $13.9 million in
the first nine months of 1998 versus a net cash generation of
$19.1 million in the same prior year period. Year to date 1998
financing activities included a net repayment of debt of $16.1
million compared with a net addition to short and long term debt
of $16.7 million in the first nine months of 1997. Activity in
both years relates primarily to borrowings under the Company's
revolving credit facility and term loan.
Under the Company's January 1997 four year fixed term loan and
revolving credit agreement, available borrowings are determined
by the amounts of eligible assets of the Company (the "borrowing
base"), as defined in the agreement, including accounts
receivable, inventory, and property, plant, and equipment, with
maximum borrowings of $125 million. The $25 million term loan
portion of the agreement is due at expiration of the agreement.
Borrowings are secured by a pledge of substantially all of the
Company's assets in the U.S. The rate of interest on all
borrowings under the agreement is the greater of 7% or the
Norwest Bank Minnesota National Association base rate of
interest (8.25% at September 30, 1998) plus .625%. The
agreement requires the Company to pay a facility fee at an
annual rate of .15% of the maximum amount available under the
credit line, an unused credit line fee at an annual rate of .25%
of the average unused portion of the revolving credit line, and
a monthly agency fee. At September 30, 1998, the Company had
outstanding borrowings of $45 million ($43.3 million at November
10, 1998), $25 million of which was classified as long term debt
in the consolidated balance sheet, and an additional $32.9
million ($30.5 million at November 10, 1998) of the available
credit line was allocated to support letters of credit issued by
the Company and the Company's forward exchange contracts. As of
November 10, 1998, the borrowing base, representing the maximum
available credit under the line, was $107.1 million, leaving a
remaining availability at that date of approximately $33
million.
The term loan and revolving credit agreement contain certain
financial covenants of the Company, including minimum net worth,
minimum current ratio, and maximum levels of capital
expenditures. In addition, the agreement includes restrictive
covenants that limit or prevent various business transactions
(including repurchases of the Company's stock, dividend
payments, mergers, acquisitions of or investments in other
businesses, and disposal of assets including individual
businesses, subsidiaries, and divisions) and limit or prevent
certain other business changes.
On October 30, 1998, the term loan and security agreement was
amended to incorporate the sale of the Company's manufacturing
assets to SCI and to modify the borrowing base accordingly
effective on the closing date of the SCI transaction. The
Company does not anticipate that the SCI transaction will affect
the Company's remaining credit line availability as the
borrowing base reduction for assets sold to SCI will be offset
by the cash received from the sale, which will be used to repay
current amounts outstanding under the credit line.
At September 30, 1998, the Company had approximately $78 million
in debt on which interest is charged under various floating rate
arrangements, primarily under its four year term loan and
revolving credit agreement, mortgages, and an Australian term
loan. The Company is exposed to market risk of future increases
in interest rates on these loans, with the exception of the
Australian term loan, on which the Company has entered into an
interest rate swap agreement.
The Company is not currently generating cash from its
operations, and believes this condition may extend through
fourth quarter 1998. However, the Company believes that
existing cash balances, cash from the SCI transaction, and cash
available under its term loan and revolving credit agreement
will be adequate to meet cash requirements through the first half
of 1999. The Company also anticipates that it will generate
between $10 and $15 million during the fourth quarter through
various other sale and financing transactions. In the
near term, the Company must increase sales volume and further
align its operating expenses with the level of revenue being
generated in order to adequately fund its operations and build
its cash reserves without reliance on funds generated from the
sale of long term assets and third party financing.
INTERGRAPH CORPORATION AND SUBSIDIARIES
PART II. OTHER INFORMATION
-----------------
Item 1: Legal Proceedings
-----------------
Intel. As further described in the Company's Form 10-Q
filings for the quarters ended March 31, 1998 and June
30, 1998, the U.S. District Court, Northern District of
Alabama, Northeastern Division, (the "Alabama Court")
ruled in favor of Intergraph on April 10, 1998 and
ordered that Intel, the supplier of all the Company's
microprocessor needs, be preliminarily enjoined from
terminating Intergraph's rights as a strategic customer
in current and future Intel programs, and from otherwise
taking any action adversely affecting Intel's business
relationship with Intergraph or Intergraph's ability to
design, develop, produce, manufacture, market or sell
products incorporating, or based upon, Intel products or
information. In response to the Alabama Court's
decision, on April 16, 1998, Intel appealed to the
United States Court of Appeals for the Federal Circuit
(the "Appeals Court"). Intel and the Company have each
filed briefs with the Appeals Court. No decision has
been entered. Oral argument before the Appeals Court
has been scheduled for December 9, 1998.
On May 18, 1998, the Alabama Court denied Intel's
January 15, 1998 motion for a change of venue from
Alabama to California, and Intel subsequently dropped
two retaliatory lawsuits which Intel had brought against
the Company in California. On June 17, 1998, Intel
filed its answer in the Alabama case, which included
counterclaims against Intergraph, including claims that
Intergraph has infringed seven patents of Intel. On
July 8, 1998, the Company filed its answer to the Intel
counterclaims, among other things denying any liability
under the patent infringement asserted by Intel. On
June 17, 1998, Intel filed a motion before the Alabama
Court seeking a summary judgment holding that Intel is
licensed to use the patents that the Company asserted
against Intel in the Company's original complaint. This
"license defense" is based on Intel's interpretation of
the facts surrounding the acquisition by the Company of
the Advanced Processor Division of Fairchild
Semiconductor Corporation in 1987. The Company is
vigorously contesting Intel's motion for summary
judgment on the license defense, and filed a cross
motion with the Alabama Court September 15, 1998
requesting summary adjudication in favor of the Company.
No decision has been entered.
In a scheduling order entered June 25, 1998, the Alabama
Court has set a trial date of February 14, 2000.
Reference should be made to the Company's Form 10-K
annual report for the year ended December 31, 1997 for a
complete description of the background of and basis for
these actions, and for a description of the effects of
this dispute on the operations of the Company, which
include lost revenues, uncertain supply, and increased
microprocessor costs and legal expenses. The Company is
vigorously prosecuting its positions and believes it
will prevail in these matters, but at present is unable
to predict the outcome of its dispute with Intel. The
Company does expect, however, that adverse effects on
its operations will continue in the near term, primarily
due to increased legal and administrative expenses
associated with the trial.
Bentley. As further described in the Company's Form 10-
K annual report for the year ended December 31, 1997,
Bentley commenced an arbitration proceeding against the
Company in March 1996, alleging that the Company failed
to properly account for and pay to Bentley certain
royalties on its sales of Bentley software products, and
seeking significant damages. Hearings on this matter
are in process and are expected to continue through the
first quarter of 1999. The Company denies that it has
breached any of its contractual obligations to Bentley
and is vigorously defending its position in this
proceeding, but at present is unable to predict an
outcome.
Item 6: Exhibits and Reports on Form 8-K
--------------------------------
(a) Exhibit 10(a), agreement between Intergraph
Corporation and Green Mountain, Inc., dated April 1,
1998. *(1)
Exhibit 27, Financial Data Schedule.
*Denotes management contract or compensatory plan,
contract, or arrangement required to be filed as an
exhibit to this Form 10-Q.
(1) Incorporated by reference to exhibit filed with
the Company's Quarterly Report on Form 10-Q for
the quarter ended March 31, 1998, under the
Securities Exchange Act of 1934, File No. 0-9722.
(b) There were no reports on Form 8-K filed during the
quarter ended September 30, 1998.
INTERGRAPH CORPORATION AND SUBSIDIARIES
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.
INTERGRAPH CORPORATION
----------------------
(Registrant)
By: /s/ James W. Meadlock By: /s/ John W. Wilhoite
--------------------- --------------------
James W. Meadlock John W. Wilhoite
Chairman of the Board and Executive Vice President, Finance
Chief Executive Officer (Principal Accounting Officer)
Date: November 16, 1998 Date:November 16, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Company's Quarterly Report on Form 10-Q for the quarter ended September 30,
1998, and is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> SEP-30-1998
<CASH> 56,763
<SECURITIES> 0
<RECEIVABLES> 294,620<F1>
<ALLOWANCES> 0
<INVENTORY> 116,533
<CURRENT-ASSETS> 496,160
<PP&E> 412,211
<DEPRECIATION> 277,863
<TOTAL-ASSETS> 704,869
<CURRENT-LIABILITIES> 278,036
<BONDS> 50,876
0
0
<COMMON> 5,736
<OTHER-SE> 369,788
<TOTAL-LIABILITY-AND-EQUITY> 704,869
<SALES> 513,394
<TOTAL-REVENUES> 746,055
<CGS> 367,918
<TOTAL-COSTS> 513,562
<OTHER-EXPENSES> 333,697<F2>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 5,854
<INCOME-PRETAX> 5,781
<INCOME-TAX> 4,500
<INCOME-CONTINUING> 1,281
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,281
<EPS-PRIMARY> .03
<EPS-DILUTED> .03
<FN>
<F1>Accounts receivable in the Consolidated Balance Sheet is shown net of
allowances for doubtful accounts.
<F2>Other expenses include Product development expenses, Sales and marketing
expenses, General and administrative expenses, and Nonrecurring charges.
</FN>
</TABLE>
