FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 1996
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: 0-15997
FILENET CORPORATION
State or other jurisdiction of (I.R.S. Employer
incorporation or organization Identification No.)
Delaware 95-3757924
FILENET CORPORATION
3565 Harbor Boulevard, Costa Mesa, CA 92626
(714) 966-3400
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 ____
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
As of Shares of common stock outstanding
May 9, 1996 15,030,101
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FILENET CORPORATION
Index
Page
Number
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Balance Sheets
as of March 31, 1996 and December 31, 1995....................... 1
Consolidated Statements of Operations
for the fiscal quarters ended March 31, 1996 and April 2, 1995... 2
Consolidated Statements of Cash Flows
for the fiscal quarters ended March 31, 1996 and April 2, 1995... 3
Notes to Consolidated Financial Statements....................... 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................ 6
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................ 11
Item 5. Certain Considerations........................................... 11
Item 6. Exhibits and Reports on Form 8-K................................. 15
SIGNATURE........................................................ 16
INDEX TO EXHIBITS................................................ 17
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Part I. Financial Information
Item 1. Financial Statements.
FILENET CORPORATION
Consolidated Balance Sheets
(In thousands, except share amounts)
March 31, December 31,
1996 1995
--------- ------------
ASSETS
Current assets:
Cash and cash equivalents ......................... $ 33,352 $ 43,378
Short-term marketable securities .................. 22,323 28,782
------ ------
Total cash and short-term marketable securities 55,675 72,160
------ ------
Accounts receivable, net .......................... 64,994 53,501
Inventories ....................................... 7,461 6,620
Prepaid expenses and other ........................ 7,651 6,573
Deferred income taxes ............................. 3,731 3,735
----- -----
Total current assets ................................... 139,512 142,589
------- -------
Net property and equipment ............................. 25,233 25,796
Other assets:
Capitalized software, net ......................... 1,061 1,226
Long-term marketable securities ................... 18,565 18,395
Other ............................................. 1,727 1,676
----- -----
Total other assets ..................................... 21,353 21,297
------ ------
Total assets ........................................... $186,098 $189,682
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable .................................. $ 16,155 $ 16,073
Accrued liabilities:
Compensation .................................. 9,695 10,997
Income taxes payable .......................... 3,181 2,228
Unearned maintenance revenue .................. 7,916 5,761
Royalties ..................................... 3,596 3,572
Other ......................................... 20,383 15,350
Current portion of capital lease obligations ...... 611 645
--- ---
Total current liabilities .............................. 61,537 54,626
------ ------
Capital lease obligations, excluding current portion.... 884 1,007
Deferred income taxes................................... 2,365 2,289
Other................................................... - 602
Stockholders' equity:
Convertible preferred stock - $.001 par value;
authorized, 39,000,000 shares; 35,232,029 issued
and outstanding shares and 1,531,536 common
equivalent shares at the liquidation preference
at December 31, 1995............................ - 19,879
Common stock-$.01 par value; authorized, 25,000,000
shares; issued and outstanding 14,951,681 and
13,254,222 shares at March 31, 1996 and December
31, 1995, respectively.......................... 123,054 100,719
Retained earnings (accumulated deficit)............ (1,303) 10,518
Other ............................................. (439) 42
---- --
Total stockholders' equity ............................. 121,312 131,158
------- -------
Total liabilities and stockholders' equity.............. $186,098 $189,682
======== ========
See accompanying notes to consolidated financial statements.
1
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FILENET CORPORATION
Consolidated Statements of Operations
(In thousands, except per share amounts)
Fiscal Quarter Ended
----------------------
March 31, April 2,
1996 1995
Revenue:
Software revenue .................................. $ 37,118 $ 23,574
Service revenue ................................... 17,215 14,527
Hardware revenue .................................. 12,411 10,320
------ ------
Total revenue .......................................... 66,744 48,421
------ ------
Costs and expenses:
Cost of software revenue .......................... 3,863 3,468
Cost of service revenue ........................... 11,450 9,426
Cost of hardware revenue .......................... 8,219 6,004
Research and development .......................... 8,422 4,700
Selling, general and administrative ............... 30,027 20,607
Merger, restructuring and write-off of purchased
in-process research and development costs ........ 16,011 -
------ ------
Total costs and expenses ............................... 77,992 44,205
Operating income (loss) ................................ (11,248) 4,216
Other income, net ................................. 831 627
--- ---
Income (loss) before income taxes ...................... (10,417) 4,843
Provision for income taxes ............................. 1,403 1,693
----- -----
Net income (loss) ...................................... $(11,820) $ 3,150
======== ========
Net income (loss) per share ............................ $ (0.79) $ 0.20
======== ========
Weighted average common and common equivalent shares
outstanding............................................ 14,882 15,433
====== ======
See accompanying notes to consolidated financial statements.
2
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FILENET CORPORATION
Consolidated Statements Of Cash Flows
(In thousands)
Fiscal Quarter Ended
---------------------
March 31, April 2,
1996 1995
Cash flows from operating activities:
Net income (loss).................................... $(11,820) $ 3,150
Adjustments to reconcile net income (loss) to net
cash used by operating activities:
Write-off of purchased in-process research and
development and associated acquisition costs.... 10,011 -
Depreciation and amortization.................... 2,707 2,405
Capitalized software amortization................ 165 900
Provision for losses on accounts receivable...... 110 131
Changes in operating assets and liabilities,
net of acquisition:
Accounts receivable......................... (11,603) (1,927)
Inventories................................. (841) (1,833)
Prepaid expenses............................ (1,078) (1,013)
Accounts payable............................ 82 (1,554)
Accrued liabilities:
Compensation............................ (1,302) (2,385)
Income taxes payable.................... 953 1,527
Unearned maintenance revenue............ 2,155 2,018
Royalties............................... 24 75
Other....................................... 5,539 (1,561)
----- ------
Net cash used by operating activities................... (4,898) (67)
------ ---
Cash flows from investing activities:
Proceeds from sale of equipment...................... 2,848 -
Capital expenditures................................. (4,852) (3,884)
Capitalized software................................. - (800)
Payment for purchase of IFSL......................... (11,711) -
Purchase of marketable securities.................... (6,029) (8,246)
Proceeds from maturity of marketable securities...... 12,317 7,067
------ -----
Net cash used by investing activities................... (7,427) (5,863)
------ ------
Cash flows from financing activities:
Debt repayments, net................................. - (53)
Principal payments on capital lease obligations...... (157) (135)
Proceeds from issuance of common stock............... 2,456 3,723
----- -----
Net cash provided by financing activities............... 2,299 3,535
----- -----
Net decrease in cash and cash equivalents............... (10,026) (2,395)
Cash and cash equivalents, beginning of year............ 43,378 24,950
------ ------
Cash and cash equivalents, end of period................ $ 33,352 $ 22,555
======== ========
Supplemental cash flow information:
Interest paid........................................ $ 108 $ 54
Income taxes paid.................................... $ 625 $ 258
See accompanying notes to consolidated financial statements.
3
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FILENET CORPORATION
Notes To Consolidated Financial Statements
1. In the opinion of the management of FileNet Corporation ("the Company"),
the accompanying unaudited consolidated financial statements reflect all
adjustments (consisting of normal recurring adjustments) necessary to
present fairly the financial position of the Company at March 31, 1996 and
the results of its operations and its cash flows for the fiscal quarters
ended March 31, 1996 and April 2, 1995. Certain information and footnote
disclosures normally included in financial statements have been condensed
or omitted pursuant to rules and regulations of the Securities and Exchange
Commission ("SEC"), although the Company believes that the disclosures in
the consolidated financial statements are adequate to ensure the
information presented is not misleading. These consolidated financial
statements should be read in conjunction with the consolidated financial
statements and notes thereto in the Company's Annual Report on Form 10-K
for the fiscal year ended December 31, 1995, with the Form S-4 Registration
Statement filed by the Company with the SEC on January 17, 1996, as amended
January 24, 1996, and with the Company's Current Report on Form 8-K, dated
March 1, 1996, and filed by the Company with the SEC on March 13, 1996. The
results of operations for the interim periods are not necessarily
indicative of the operating results for the year.
2. Certain reclassifications have been made to the prior year's consolidated
financial statements to conform with the current year's presentation.
3. Net income per share for the quarter ended April 2, 1995 was computed using
the weighted average number of common and common equivalent shares
outstanding during the period. Common equivalent shares include convertible
preferred stock and stock options. Net loss per share for the period ended
March 31, 1996 was based upon the weighted average number of actual shares
of common stock outstanding.
4. On January 30, 1996, the Company purchased all of the outstanding shares of
International Financial Systems Ltd. ("IFSL"), the developer of a Computer
Output to Laser Disk (COLD) software product for archiving documents.
Pursuant to the Stock Purchase Agreement, the IFSL stockholders received
$11.2 million in cash for all of their IFSL stock. The acquisition was
accounted for as a purchase, and the purchase price was allocated to net
assets of $1.7 million and in-process research and development costs of
$9.5 million. As a result of the acquisition, the Company recorded a
pre-tax charge of approximately $10.0 million for acquisition costs and the
write-off of purchased in-process research and development costs.
5. On March 1, 1996, FileNet acquired all the outstanding shares of Saros
Corporation, a Washington corporation (the "Saros Acquisition"). The Saros
Acquisition was consummated pursuant to an Agreement and Plan of Merger
(the "Saros Merger Agreement") dated January 17, 1996 by and among Saros,
FileNet, and FileNet Acquisition Corporation ("Acquisition Corp."), a
Washington corporation and wholly-owned subsidiary of FileNet. Pursuant to
the Saros Merger Agreement, Acquisition Corp. was merged with and into
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Saros, with Saros surviving as a wholly-owned subsidiary of FileNet. The
Saros stockholders received an aggregate of approximately 1,878,000 shares
of FileNet common stock and approximately 337,000 options to purchase
FileNet common stock in exchange for all of their Saros stock and options.
Approximately 188,000 of the total number of FileNet shares issued to the
Saros stockholders (the "Saros Escrow Shares") were placed in an escrow
account upon consummation of the Saros Acquisition. Pursuant to the escrow
agreement entered into by FileNet, the stockholders' agent and the escrow
agent, FileNet may recover from the escrow up to the entire amount of Saros
Escrow Shares in the event FileNet incurs any loss, expense, liability or
other damages (collectively, "Damages") due to a breach by Saros of any of
its representations, warranties and covenants in the Saros Merger Agreement
in the event Damages exceed $1.0 million in the aggregate. If no claim for
Damages is made by FileNet within one year from the date of the Merger, the
Saros Escrow Shares will be released from escrow and distributed to the
Saros stockholders.
The Saros Acquisition was accounted for as a pooling-of-interests for
financial reporting purposes. The pooling-of-interests method of accounting
is intended to present as a single interest two or more common
stockholders' interests which were previously independent; accordingly, the
historical financial statements for the periods prior to the acquisition
have been restated as though the companies had been combined. Fees and
expenses related to the Saros Acquisition and restructuring costs incurred
in connection with the consolidation of certain operations of Saros and
Watermark were $6.0 million. The components of this charge include
professional fees, elimination of duplicate facilities, write-off of
certain contractual obligations and settlement costs, write-off of certain
fixed assets (including redundant hardware and software systems),
transition and severance payments to employees and other integration and
restructuring costs.
6. In October 1994, Wang Laboratories, Inc. ("Wang") filed a complaint in the
United States District Court for the District of Massachusetts alleging
that the Company is infringing five patents held by Wang. On June 23, 1995,
Wang amended its complaint to include an additional related patent. Based
on the Company's analysis of these Wang patents and their respective file
histories, the Company believes that it has meritorious defenses to Wang's
claims; however, the ultimate outcome or any resulting potential loss
cannot be determined at this time. If it should be determined that Wang's
patents are valid and are infringed by any of the Company's products, the
Company will, depending on the product, redesign the infringing products or
seek to obtain a license to market the products.
The Company, in the normal course of business, is subject to various other
legal matters. While the results of litigation and claims cannot be
predicted with certainty, the Company believes that the final outcome of
these other matters will not have a materially adverse effect on the
Company's consolidated results of operations or financial condition.
5
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Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operation.
FILENET CORPORATION
The following should be read in conjunction with the unaudited consolidated
financial statements and notes thereto included in Part I--Item 1 of this
Quarterly Report, the audited consolidated financial statements, and notes
thereto, and Management's Discussion and Analysis of Financial Condition and
Results of Operations contained in the registrant's Annual Report on Form 10-K
for the fiscal year ended December 31, 1995, the Form S-4 Registration Statement
filed by the Company with the SEC on January 17, 1996, as amended January 24,
1996, and with the Company's Current Report on Form 8-K, dated March 1, 1996,
and filed by the Company with the SEC on March 13, 1996.
Results of Operations
Factors That May Affect Future Results. Future operating results will depend
upon many factors, including the demand for the Company's products, the level of
price competition, the length of the Company's sales cycle, seasonality of
individual customer buying patterns, the size and timing of individual
transactions, possible delays or deferrals of customer implementations, the
budget cycles of the Company's customers, the timing of new product
introductions and product enhancements by the Company and its competitors, the
mix of sales by products and distribution channels, the level of international
sales, acquisitions by competitors, changes in foreign currency exchange rates,
the ability of the Company to develop and market new products and control costs,
and general domestic and international economic and political conditions. As a
result of these factors, revenue and operating results for any quarter may
fluctuate significantly. Therefore, the Company believes that period-to-period
comparisons of its results of operations are not necessarily meaningful and
should not be relied upon as indications of future performance.
The Company's marketplace continues to be highly competitive. Other companies
offer lower priced products which in some applications compete with FileNet
products. Additionally, major computer suppliers and software companies offer
new competitive document-image, workflow and document management products. The
Company continues to experience competitive pricing pressures in all phases of
its operations and expects competition will continue to increase.
The market for the Company's products is characterized by rapid technological
developments, evolving industry standards, swift changes in customer
requirements and frequent new product introductions and enhancements. The
Company's continued success is dependent upon its ability to enhance its
existing products and to develop and introduce, in a timely manner, new products
incorporating technological advances which meet customer requirements. To the
extent one or more of the Company's competitors introduce products that more
fully address customer requirements, the Company's business could be adversely
affected.
The Company has entered into a number of significant co-marketing relationships
with companies such as Hewlett-Packard Company, Sun Microsystems and Novell,Inc.
There can be no assurance that these companies will not reduce or discontinue
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their relationship with or support of the Company and its products. Disruption
of these relationships could have a material adverse effect on the Company's
business and operating results.
The Company derives approximately one-third of its total revenue from
international sales. Its international business is subject to certain risks
including varying technical standards, tariffs and trade barriers, political and
economic instability, reduced protection for intellectual property rights in
certain countries, difficulties in staffing and maintaining foreign operations,
difficulties in managing foreign distributors, potentially adverse tax
consequences, foreign currency fluctuations, the burden of complying with a wide
variety of complex foreign laws, regulations and treaties and the possibility of
difficulties in collecting accounts receivable.
The Company acquired Watermark in August 1995 and Saros Corporation ("Saros")
and International Financial Systems Ltd. ("IFSL") in early 1996. These
acquisitions will present the Company with numerous challenges, including the
effective assimilation of the operations, technologies and personnel of the
acquired companies. Any inability to effectively integrate these operations
could have a negative short-term impact on the Company's overall financial
results. Also, customers could delay orders for the Company's products as a
result of these acquisitions.
The Company believes that any of the above factors could have an adverse effect
on the Company's business and cause fluctuation in the Company's operating
results, perhaps substantially. In addition, in recent years the stock market in
general, and the market for shares of high technology stocks in particular, have
experienced extreme fluctuations which have often been unrelated to operating
performance. Such fluctuations could adversely affect the market price of
FileNet's common stock.
Revenue.
(In Millions) First Quarter First Quarter
1996 1995 % Change
-------------- --------------- ----------
Software revenue $ 37.1 $ 23.6 57%
..............................................................................
Percentage of total revenue 56% 49%
..............................................................................
Service revenue $ 17.2 $ 14.5 19%
..............................................................................
Percentage of total revenue 26% 30%
..............................................................................
Hardware revenue $ 12.4 $ 10.3 20%
..............................................................................
Percentage of total revenue 18% 21%
..............................................................................
Total revenue $ 66.7 $ 48.4 38%
..............................................................................
Software revenue growth in the first quarter of 1996 over the same period of
1995 was 57% and is due to an increase in the volume of product shipments, the
addition of new products, reselling partners and direct sales force, and growth
of the Watermark product line.
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Service revenue increased by 19% for the quarter ended March 31, 1996 over the
same period of 1995. Service revenue consists principally of revenue from
software and hardware maintenance services of the Company's installed base and
other revenue that includes professional services and training and supplies. The
increase was generally due to the growth of the Company's installed base and an
increase in the volume of domestic consulting contracts.
Hardware revenue increased by 20% for the quarter ended March 31, 1996 over the
same period of 1995 primarily due to an increase in international revenue with a
significant hardware content. However, hardware revenue as a percent of total
revenue declined, a trend which the Company expects will continue as it focuses
on increasing its higher margin software revenues.
Cost of Revenue.
(In Millions) First Quarter First Quarter
1996 1995 % Change
------------- ------------- --------
Cost of software revenue $ 3.9 $ 3.5 11%
...............................................................................
As a percentage of software revenue 10% 15%
................................................................................
Cost of service revenue $ 11.4 $9.4 21%
................................................................................
As a percentage of service revenue 67% 65%
................................................................................
Cost of hardware revenue $ 8.2 $ 6.0 37%
................................................................................
As a percentage of hardware revenue 66% 58%
................................................................................
Total cost of revenue $ 23.5 $ 18.9 24%
................................................................................
As a percentage of total revenue 35% 39%
................................................................................
The cost of software revenue includes royalties paid to third parties,
amortization of capitalized software and the cost of software production and
distribution. The 5% decrease in the cost of software revenue as a percentage of
software revenue for the quarter ended March 31, 1996 as compared to the same
period of 1995 is attributable to lower amortization of capitalized software
development costs.
The cost of service revenue includes the cost attributable to maintenance and
professional services. The cost of service revenue increased by 21% in the first
quarter of 1996 from the same period of 1995 due to the increase in maintenance
and professional services personnel to support the increase in the Company's
installed base.
The cost of hardware revenue includes the Company's cost of OSAR manufacturing,
third-party purchased hardware and the cost of hardware integration personnel
and related benefits and facilities expenses. The cost of hardware revenue as a
percentage of hardware revenue for the first quarter of 1996 increased to 66%
from 58% in the same period of 1995 primarily due to a decrease in hardware
prices charged to customers without a corresponding decrease in the Company's
hardware costs.
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Operating Expenses.
(In Millions) First Quarter First Quarter
1996 1995 % Change
------------- ------------- --------
Research and development $ 8.4 $ 4.7 79%
................................................................................
As a percentage of total revenue 13% 10%
................................................................................
Selling, general and administrative $ 30.0 $ 20.6 46%
................................................................................
As a percentage of total revenue 45% 43%
................................................................................
Research and Development. Research and development expenses increased by 79% in
the first quarter of 1996 compared to the same period of 1995 due to the
addition of development personnel and related facilities, depreciation expenses
associated with new development activities and a reduction in capitalized
software development costs. As a percentage of total revenue, research and
development costs increased to 13% compared to 10% for the same period last year
due to the reasons cited above and due to Saros research and development
expenses growing more rapidly than its corresponding revenue.
Selling, General and Administrative. Selling, general and administrative
expenses increased by 46% for the first quarter of 1996 compared to the same
period of 1995. The increase in 1996 was due to the addition of marketing and
sales support personnel and the costs associated with implementing a new
corporate business information system. In 1996, selling, general and
administrative expenses as a percentage of total revenue increased to 45% from
43% in 1995 due to the reasons cited above and due to Saros selling, general and
administrative expenses growing more rapidly than its corresponding revenue.
Merger, Restructuring and Write-off of Purchased In-process Research and
Development Costs. Merger, restructuring and write-off of purchased in-process
research and development costs in the first quarter of 1996 consist of a $10.0
million charge for the write-off of purchased in-process research and
development and acquisition costs related to the IFSL purchase, and $6.0 million
for fees and expenses related to the Saros Acquisition and restructuring costs
in connection with the consolidation of certain operations of Saros and
Watermark.
Interest and Other Income. Other income, net of other expenses, increased for
the first quarter ended March 31, 1996 compared to the same period of 1995 to
$831,000 from $627,000. The favorable change is due to increased interest income
on a higher balance of cash and marketable securities.
Effective Tax Rate. Non-deductible merger and other costs incurred in the first
quarter of 1996 increased the estimated annual effective tax rate to 37% from
the 30% previously estimated for 1996. The effect of the increased tax rate has
been recorded in the current quarter. The effective rate for 1996 of 37%
compares to 35% for 1995. The estimated annual effective tax rate, exclusive of
the merger and other related costs, is 25% for the year compared to 30% last
year. The 1995 effective tax rate included the non-deductible merger costs for
the Watermark acquisition and preacquisition net operating losses incurred by
Watermark for which the Company did not receive a current year benefit.
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Net Income. Net loss for the three months ended March 31, 1996 was $11.8
million, or 79 cents per share compared to net income of $3.1 million or 20
cents per share in 1995. Before merger, restructuring and write-off of purchased
in-process research and development costs of $16.0 million after tax, net income
for the first quarter was $4.2 million, or 25 cents per share on approximately
16.6 million common and common equivalent shares, a 25% per share increase over
1995.
Liquidity and Capital Resources
As of March 31, 1996, combined cash, cash equivalents and short- and long-term
marketable securities decreased by $16.4 million to $74.2 million from the
fiscal year ended December 31, 1995, primarily as a result of the payment of
$11.2 million for IFSL and the use of $4.9 million in cash for operating
activities.
For the three months ended March 31, 1996, cash used by operating activities was
$4.9 million while cash used by investing activities totaled $7.4 million,
consisting of the purchase of IFSL for $11.7 million, proceeds from sale of
equipment of $2.8 million, capital expenditures of $4.9 million and the net
proceeds from marketable securities in the amount of $6.3 million. Net cash
provided by financing activities was $2.3 million consisting primarily of
proceeds from the exercise of employee stock options.
The Company has an unsecured line of credit of $20 million available from a
commercial bank. This line of credit expires in April 1997 and is subject to the
maintenance of certain financial covenants. The Company also has several
borrowing arrangements with foreign banks which expire at various times
throughout 1996 pursuant to which the Company may borrow up to approximately $2
million. As of March 31, 1996, there were no borrowings against these credit
lines.
The Company anticipates that its present cash balances together with internally
generated funds and credit lines will be sufficient to meet its working capital
and capital expenditure needs throughout 1996.
- - --------------------------------------------------------------------------------
This quarterly report on form 10-Q contains forward-looking statements that
involve risks and uncertainties, including those discussed in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the "Notes to Consolidated Financial Statements" contained herein. The actual
results that the Company achieves may differ materially from any forward-looking
statements due to such risks and uncertainties.
- - --------------------------------------------------------------------------------
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Part II. Other Information
Item 1. Legal Proceedings.
In October 1994, Wang Laboratories, Inc. ("Wang") filed a complaint in the
United States District Court for the District of Massachusetts alleging
that the Company is infringing five patents held by Wang. On June 23, 1995,
Wang amended its complaint to include an additional related patent. Based
on the Company's analysis of these Wang patents and their respective file
histories, the Company believes that it has meritorious defenses to Wang's
claims; however, the ultimate outcome or any resulting potential loss
cannot be determined at this time. If it should be determined that Wang's
patents are valid and are infringed by any of the Company's products, the
Company will, depending on the product, redesign the infringing products or
seek to obtain a license to market the products. There can be no assurance
that the Company will be able to obtain such a license from Wang on
acceptable terms.
The Company, in the normal course of business, is subject to various other
legal matters. While the results of litigation and claims cannot be
predicted with certainty, the Company believes that the final outcome of
these other matters will not have a materially adverse effect on the
Company's consolidated results of operations or financial condition.
Item 5. Certain Considerations.
This report contains certain forward-looking statements that involve risks
and uncertainties including, but not limited, to those factors discussed
below and elsewhere in this report. All such factors should be considered
by investors in the Company.
RAPID TECHNOLOGICAL CHANGE; PRODUCT DEVELOPMENT. The market for the
Company's products is characterized by rapid technological developments,
evolving industry standards, swift changes in customer requirements and
frequent new product introductions and enhancements. The Company's
continued success will be dependent upon its ability to continue to enhance
its existing products, develop and introduce in a timely manner new
products incorporating technological advances and respond to customer
requirements. To the extent one or more of the Company's competitors
introduce products that more fully address customer requirements, FileNet's
business could be adversely affected. There can be no assurance that the
Company will be successful in developing and marketing enhancements to its
existing products or new products on a timely basis or that any new or
enhanced products will adequately address the changing needs of the
marketplace. If the Company is unable to develop and introduce new products
or enhancements to existing products in a timely manner in response to
changing market conditions or customer requirements, the Company's business
and operating results could be adversely affected. From time to time, the
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Company or its competitors may announce new products, capabilities or
technologies that have the potential to replace or shorten the life cycles
of the Company's existing products. There can be no assurance that
announcements of currently planned or other new products will not cause
customers to delay their purchasing decisions in anticipation of such
products, which could have a material adverse effect on the Company's
business and operating results.
UNCERTAINTY OF FUTURE OPERATING RESULTS; FLUCTUATIONS IN QUARTERLY
OPERATING RESULTS. Prior growth rates in the Company's revenue and
operating results should not necessarily be considered indicative of future
growth, or of future operating results. Future operating results will
depend upon many factors, including the demand for the Company's products,
the level of product and price competition, the length of the Company's
sales cycle, seasonality of individual customer buying patterns, the size
and timing of individual transactions, the delay or deferral of customer
implementations, the budget cycles of the Company's customers, the timing
of new product introductions and product enhancements by the Company and
its competitors, the mix of sales by products, services and distribution
channels, levels of international sales, acquisitions by competitors,
changes in foreign currency exchange rates, the ability of the Company to
develop and market new products and control costs, and general domestic and
international economic and political conditions. As a result of these
factors, revenues and operating results for any quarter are subject to
variation, and the Company believes that period-to-period comparisons of
its results of operations are not necessarily meaningful and should not be
relied upon as indications of future performance.
COMPETITION. The imaging, workflow and document management markets are
highly competitive, and there are certain competitors of the Company with
substantially greater sales, marketing, development and financial
resources. The Company believes that the competitive factors affecting the
market for its products and services include vendor and product reputation;
product quality, performance and price; the availability of products on
multiple platforms; product scalability; product integration with other
enterprise applications; product functionality and features; product
ease-of use; and the quality of customer support services and training. The
relative importance of each of these factors depends upon the specific
customer involved. While the Company believes it competes favorably in each
of these areas, there can be no assurance that it will continue to do so.
Moreover, the Company's present or future competitors may be able to
develop products comparable or superior to those offered by the Company,
offer lower price products or adapt more quickly than the Company to new
technologies or evolving customer requirements. Competition is expected to
intensify. In order to be successful in the future, the Company must
respond to technological change, customer requirements and competitors
current products and innovations. There can be no assurance that it will be
able to continue to compete effectively in its market or that future
competition will not have a material adverse effect on its business,
operating results and financial condition.
INTELLECTUAL PROPERTY AND OTHER PROPRIETARY RIGHTS. The Company's success
depends in part on its ability to protect its proprietary rights to the
technologies used in its principal products. The Company relies on a
combination of copyrights, trademarks, trade secrets, confidentiality
procedures and contractual provisions to protect its proprietary rights.
There can be no assurance that the Company's existing or future copyrights,
trademarks, trade secrets or other intellectual property rights will be of
sufficient scope or strength to provide meaningful protection or commercial
advantage to the Company. FileNet has no software patents. Also, in selling
12
<PAGE>
certain of its products, the Company relies on "shrink wrap" licenses that
are not signed by licensees and, therefore, may be unenforceable under the
laws of certain jurisdictions. In addition, the laws of some foreign
countries do not protect the Company's proprietary rights to the same
extent as do the laws of the United States. There can be no assurance that
such factors would not have a material adverse effect on the Company's
business or operating results.
The Company may from time to time be notified that it is infringing certain
patent or intellectual property rights of others. Combinations of
technology acquired through past or future acquisitions and FileNet
technology will create new products and technology which may give rise to
claims of infringement. While no actions other than the one discussed below
are currently pending against the Company for infringement of patent or
other proprietary rights of third parties, there can be no assurance that
third parties will not initiate infringement actions against the Company in
the future. Infringement actions can result in substantial cost to and
diversion of resources of the Company. If the Company were found to
infringe upon the rights of others, no assurance can be given that licenses
would be obtainable on acceptable terms or at all, that significant damages
for past infringement would not be assessed or that further litigation
relative to any such licenses or usage would not occur. The failure to
successfully defend any claims or obtain necessary licenses or other
rights, the ultimate disposition of any claims or the advent of litigation
arising out of any claims of infringement, could have a material adverse
effect on the Company's business, financial condition or results of
operations.
In October 1994, Wang Laboratories, Inc. ("Wang") filed a complaint in the
United States District Court for the District of Massachusetts alleging
that the Company is infringing five patents held by Wang. On June 23, 1995,
Wang amended its complaint to include an additional related patent. Based
upon the Company's analysis of these Wang patents and their respective file
histories, the Company believes that is has meritorious defenses to Wang's
claims; however, the ultimate outcome or any resulting potential loss
cannot be determined at this time. If it should be determined that Wang's
patents are valid and infringed by any of the Company's products, the
Company will, depending on the product, redesign the infringing products or
seek to obtain a license from Wang on acceptable terms. If it becomes
necessary to seek a license from Wang, there can be no assurance that the
Company will be able to obtain such a license on acceptable terms.
DEPENDENCE ON CERTAIN RELATIONSHIPS. The Company has entered into a number
of co-marketing relationships with other companies such as Hewlett-Packard,
Sun Microsystems and Novell. There can be no assurance that these companies
will not reduce or discontinue their relationships with or support of the
Company and its products. Disruption of these relationships could have a
material adverse effect on the Company's business and operating results.
DEPENDENCE ON KEY MANAGEMENT AND TECHNICAL PERSONNEL. The Company's success
depends to a significant degree upon the continued contributions of its key
management, marketing, technical and operational personnel, including
members of senior management and technical personnel of acquired companies.
The Company has no agreements providing for the employment of any of its
key employees for any fixed term and the Company's key employees may
voluntarily terminate their employment with the Company at any time. The
loss of the services of one or more key employees, including key employees
13
<PAGE>
of acquired companies, could have a material adverse effect on the
Company's operating results. The Company also believes its future success
will depend in large part upon its ability to attract and retain additional
highly skilled management, technical, marketing, product development and
operational personnel. Competition for such personnel is intense, and there
can be no assurance that the Company will be successful in attracting and
retaining such personnel.
INTERNATIONAL SALES. In fiscal 1995, the Company derived approximately
one-third of its total revenues from international sales. International
business is subject to certain risks including varying technical standards,
tariffs and trade barriers, political and economic instability, reduced
protection for intellectual property rights in certain countries,
difficulties in staffing and maintaining foreign operations, difficulties
in managing foreign distributors, potentially adverse tax consequences,
currency exchange fluctuations, the burden of complying with a wide variety
of complex operations foreign laws, regulations and treaties and the
possibility of difficulties in collecting accounts receivable. There can be
no assurance that any of these factors will not have a material adverse
effect on the Company's business or operating results.
ACQUISITION-RELATED RISKS. The recent acquisitions by the Company will
present it with numerous challenges, including difficulties in the
assimilation of the operations, technologies and products of the acquired
companies and managing separate geographic operations. The Company recently
completed the acquisitions of Watermark, Saros and IFSL. The process of
integrating the business operations of the acquired companies into
FileNet's operations may result in unforeseen operating difficulties and
expenditures and may absorb significant management attention that would
otherwise be available for the ongoing development of the Company's
business. If the Company's management does not respond to these challenges
effectively, the Company's results of operations could be adversely
affected. Moreover, there can be no assurance that the anticipated benefits
of the acquisitions will be realized. FileNet and the acquired companies
could experience difficulties or delays in integrating their respective
technologies or developing and introducing new products. In particular,
FileNet's interest in Saros is in part based on the Company's evaluation of
the market potential for Saros' new products including the recently
announced @mezzanine and Saros Document Server for Back Office which have
yet to be proven in the marketplace, as well as other products currently
under development. Delays in or non-completion of the development of these
new products, or lack of market acceptance of such products, could have an
adverse impact on the Company's future results of operations and result in
a failure to realize anticipated benefits of the acquisitions.
PRODUCT LIABILITY. The Company's license agreements with customers
typically contain provisions designed to limit their exposure to potential
product liability claims. However, it is possible that such limitation of
liability provisions may not be effective under the laws of certain
jurisdictions. Although the Company has not experienced any product
liability claims to date, the sale and support of products by them may
entail the risk of such claims, and there can be no assurance that the
Company will not be subject to such claims in the future. A successful
product liability claim brought against the Company could have a material
adverse effect upon the Company's business, operating results and financial
condition.
14
<PAGE>
STOCK PRICE VOLATILITY. The Company believes that a variety of factors
could cause the price of its common stock to fluctuate, perhaps
substantially, including quarter to quarter variations in operating
results; announcements of developments related to its business;
fluctuations in its order levels; general conditions in the technology
sector or the worldwide economy; announcements of technological
innovations, new products or product enhancements by the Company or its
competitors; key management changes; changes in joint marketing and
development programs; developments relating to patents or other
intellectual property rights or disputes; and developments in the Company's
relationships with its customers, distributors and suppliers. In addition,
in recent years the stock market in general, and the market for shares of
high technology stocks in particular, has experienced extreme price
fluctuations which have often been unrelated to the operating performance
of affected companies. Such fluctuations could adversely affect the market
price of FileNet's Common Stock.
Item 6. Exhibits and Reports on Form 8-K.
1. Exhibits.
The list of exhibits contained in the accompanying Index to Exhibits is
herein incorporated by reference.
2. Reports on 8K.
During the quarter ended March 31, 1996, the Company filed a Current
report on Form 8-K, dated March 1, 1996, to report the Company's
acquisition of all of the outstanding shares of Saros Corporation. No
financial statements were filed with such report.
15
<PAGE>
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.
FILENET CORPORATION
By: /s/ Mark S. St. Clare
---------------------------------
Mark S. St. Clare
Chief Financial Officer and Sr. Vice President, Finance
(Principal Financial Officer)
Date: May 14, 1996
16
<PAGE>
Index to Exhibits
Exhibit No. Description
- - --------------------------------------------------------------------------------
4.1* Form of certificate evidencing Common Stock (filed as Exhibit 4.1 to the
Form S-1, Registration No. 33-15004).
4.2* Rights Agreement, dated as of November 4, 1988 between FileNet Corporation
and the First National Bank of Boston, which includes the form of Rights
Certificate as Exhibit A and the Summary of Rights to Purchase Common
Shares as Exhibit B (filed as Exhibit 4.2 to Form S-4 filed on January 26,
1996; Registration No. 333-00676).
10.1* Amended and Restated Credit Agreement (Multicurrency) by and among the
Registrant and Bank of America National Trust and Savings Association
dated August 8, 1995, effective May 1, 1995 (filed as Exhibit 10.1 to
Form 10-Q for the quarter ended July 2, 1995).
10.2* Substitution Agreement between the Registrant and AT&T Technologies, Inc.
dated October 23, 1984 (filed as Exhibit 10.9 to the Form S-1).
10.3* Sublicensing Agreement between the Registrant and AT&T Technologies, Inc.
dated October 23, 1984 (filed as Exhibit 10.9 to the Form S-1).
10.4* Software License Agreement between the Registrant and Oracle Corporation
dated May 31, 1989 (filed as Exhibit 10.7 to Form 10-K for the year ended
December 31, 1989).
10.5* Amendment 1 dated October 30, 1991 to the Software License Agreement
between the Registrant and Oracle Corporation dated May 31, 1989 (filed as
Exhibit 10.6 to Form 10-K for the year ended December 31, 1991).
10.6* Amendment 2 dated November 25, 1991 to the Software License Agreement
between the Registrant and Oracle Corporation dated May 31, 1989 (filed as
Exhibit 10.7 to Form 10-K for the year ended December 31, 1991).
10.7* Amendment 3 dated January 20, 1992 to the Software License Agreement
between the Registrant and Oracle Corporation dated May 31, 1989 (filed as
Exhibit 10.8 to Form 10-K for the year ended December 31, 1991).
10.8* Lease between the Registrant and C. J. Segerstrom & Sons for the
headquarters of the Company, dated April 30, 1987 (filed as Exhibit 10.19
to the Form S-1).
10.9* 1989 Stock Option Plan for Non-Employee Directors of FileNet Corporation,
as amended by the First Amendment, Second Amendment, Third Amendment
thereto (filed as Exhibit 10.9 to Form S-4 filed on January 26, 1996;
Registration No. 333-00676).
10.10* The 1995 Stock Option Plan of FileNet Corporation as approved by
stockholders at the Registrant's Annual Meeting on May 24, 1995 (filed as
Exhibit 10.10 to form 10-K for the year ended December 31, 1995).
10.11* Second Amended and Restated Stock Option Plan of FileNet Corporation,
together with the forms of Incentive Stock Option Agreement and
Non-Qualified Stock Option Agreements (filed as Exhibits 4(a), 4(b) and
4(c), respectively, to the Registrant's registration statement on Form
S-8, Registration No.33-48499), and an Amendment thereto (filed as
Exhibit 4(d) to the Registrant's registration statement on Form S-8,
Registration No. 33-69920), and the Second Amendment thereto (filed as
Appendix A to the Registrant's Proxy Statement for the Registrant's 1994
Annual Meeting of Stockholders, filed on April 29, 1994).
- - --------------------------------------------
* Incorporated herein by reference
17
<PAGE>
Exhibit No. Description
- - --------------------------------------------------------------------------------
10.12* Agreement for the Purchase of IBM products dated December 20, 1991 (filed
on May 5, 1992 with the Form 8 amending the Company's Form 10-K for the
fiscal year ended December 31, 1991).
10.13* Software License Agreement between the Registrant and Mentat, Inc. dated
December 11, 1991 (filed on May 5, 1992 with the Form 8 amending the
Company's Form 10-K for the fiscal year ended December 31, 1991).
10.14* Development and Initial Supply Agreement between the Registrant and
Quintar Company dated August 20, 1992 filed as Exhibit 10.21 to Form 10-K
for the year ended January 3, 1993).
10.15* Amendment dated December 22, 1992 to the Development and Initial Supply
Agreement between the Registrant and Quintar Company dated August 20,
1992 (filed as Exhibit 10.22 to Form 10-K for the year ended January 3,
1993).
10.16* Memorandum of Agreement effective June 30, 1994 between the Registrant
and Ing. C. Olivetti & C. S.p.A. (filed as Exhibit 10.24 to Form 10-Q for
the quarter ended October 2, 1994).
10.17* Product License Agreement between the Registrant and Novell, Inc. dated
May 16, 1995 (filed as Exhibit 10.26 to Form 10-Q for the quarter ended
July 2, 1995).
10.18* Agreement and Plan of Merger between the Registrant and Watermark
Software Inc.dated July 18, 1995 (filed as Exhibit 10.27 to Form 10-Q for
the quarter ended July 2, 1995).
10.19* Agreement and Plan of Merger between the Registrant and Saros
Corporation, as amended, dated January 17, 1996 (filed as Exhibits 2.1,
2.2, 2.3, and 2.4 to Form 8-K on March 13, 1996).
10.20* Stock Purchase Agreement by and Among FileNet Corporation, IFS
Acquisition Corporation,Jawaid Khan and Juergen Goersch dated January 17,
1996 and Amendment 1 to Stock Purchase Agreement dated January 30, 1996
(filed as Exhibit 10.20 to form 10-K for the year ended December 31,
1995).
27. Financial Data Schedule.
- - ---------------------------------------------
* Incorporated herein by reference
18
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