<PAGE>
================================================================================
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 PERIOD ENDED SEPTEMBER 30, 2000
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Transition Period From __________________ To __________________
COMMISSION FILE NUMBER 1-8722
MSC.SOFTWARE CORPORATION
--------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 95-2239450
------------------------------- ------------------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
815 COLORADO BOULEVARD
LOS ANGELES, CALIFORNIA 90041
---------------------------------------- ------------------------------------
(Address of Principal Executive Offices) (Zip Code)
(323) 258-9111
---------------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES /X/ NO / /
As of November 1, 2000, the number of shares outstanding of the
Registrant's Common Stock, par value $0.01 per share, was 14,167,154.
================================================================================
<PAGE>
MSC.SOFTWARE CORPORATION
INDEX TO FORM 10-Q
SEPTEMBER 30, 2000
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
September 30, 2000 (Unaudited) and December 31, 1999 3
Consolidated Statements of Operations (Unaudited)
Three and Nine Months Ended September 30, 2000 and 1999 4
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended September 30, 2000 and 1999 5
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 13
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 24
</TABLE>
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current Assets:
Cash and Cash Equivalents $ 28,000,000 $ 21,735,000
Trade Accounts Receivable, Net 40,856,000 37,995,000
Deferred Tax Charges 15,380,000 15,282,000
Other Current Assets 10,688,000 7,477,000
------------- ------------
Total Current Assets 94,924,000 82,489,000
Property and Equipment, Net 11,374,000 8,585,000
Capitalized Software Costs, Net 22,264,000 20,117,000
Goodwill, Net 34,800,000 36,746,000
Other Intangible Assets, Net 31,754,000 35,534,000
Other Assets 3,148,000 3,749,000
------------- ------------
TOTAL ASSETS $198,264,000 $187,220,000
============= ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts Payable $ 4,550,000 $ 4,692,000
Current Portion of Note Payable and Subordinated Notes Payable 6,436,000 3,200,000
Deferred Revenue 42,908,000 34,013,000
Compensation and Related Expenses 9,580,000 9,534,000
Restructuring Reserve 1,422,000 2,875,000
Other Current Liabilities 14,621,000 16,519,000
------------- ------------
Total Current Liabilities 79,517,000 70,833,000
------------- ------------
Deferred Income Taxes 17,480,000 16,957,000
Note Payable, Less Current Portion 2,133,000 4,533,000
Convertible Subordinated Debentures, Net 58,331,000 58,287,000
Subordinated Notes Payable, Less Current Portion 8,798,000 11,804,000
Commitments and Contingencies
Shareholders' Equity:
Preferred Stock, $0.01 Par Value, 10,000,000 Shares Authorized;
No Shares Outstanding - -
Common Stock, $0.01 Par Value, 100,000,000 Shares Authorized;
14,164,454 and 13,841,624 Issued and Outstanding at
September 30, 2000 and December 31, 1999, Respectively 34,840,000 32,451,000
Common Stock Warrants 4,428,000 4,428,000
Accumulated Deficit (635,000) (6,307,000)
Accumulated Other Comprehensive Loss (6,351,000) (5,426,000)
Treasury Stock, At Cost (40,023 and 49,050 Shares at September 30,
2000 and December 31, 1999, Respectively) (277,000) (340,000)
------------- ------------
Total Shareholders' Equity 32,005,000 24,806,000
------------- ------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $198,264,000 $187,220,000
============= ============
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
3
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------- -------------
2000 1999 2000 1999
----------- ---------- ----------- ----------
<S> <C> <C> <C> <C>
REVENUE:
Software Licenses $ 25,935,000 $ 26,340,000 $ 75,340,000 $ 70,079,000
Software Support and Services 17,106,000 12,585,000 50,489,000 32,941,000
----------- ----------- ----------- ----------
Total Revenue 43,041,000 38,925,000 125,829,000 103,020,000
----------- ----------- ------------ -----------
COST OF REVENUE:
Software Licenses 5,236,000 4,439,000 15,965,000 14,411,000
Software Support and Services 5,352,000 4,728,000 16,415,000 13,405,000
----------- ---------- ----------- ----------
Total Cost of Revenue 10,588,000 9,167,000 32,380,000 27,816,000
----------- ---------- ----------- ----------
GROSS PROFIT 32,453,000 29,758,000 93,449,000 75,204,000
----------- ----------- ----------- ----------
OPERATING EXPENSE:
Research and Development 4,045,000 5,352,000 12,988,000 14,788,000
Selling, General and Administrative 20,231,000 18,424,000 58,632,000 52,297,000
Amortization of Goodwill and Other Intangibles 2,831,000 2,450,000 8,227,000 4,815,000
Restructuring Charges - - - 5,497,000
Write-Off of Acquired In-Process Technology - - - 4,067,000
----------- ----------- ----------- ----------
Total Operating Expense 27,107,000 26,226,000 79,847,000 81,464,000
----------- ----------- ----------- ----------
OPERATING INCOME (LOSS) 5,346,000 3,532,000 13,602,000 (6,260,000)
----------- ---------- ----------- ----------
OTHER EXPENSE (INCOME):
Interest Expense 1,662,000 1,543,000 5,033,000 4,145,000
Gain on Sale of Investment - - - (10,773,000)
Other Expense (Income) (432,000) 205,000 (497,000) (48,000)
----------- ---------- ----------- ----------
Total Other Expense (Income), Net 1,230,000 1,748,000 4,536,000 (6,676,000)
----------- ---------- ----------- ----------
INCOME BEFORE PROVISION FOR INCOME TAXES 4,116,000 1,784,000 9,066,000 416,000
Provision for Income Taxes 1,459,000 571,000 3,394,000 1,342,000
----------- ---------- ----------- ----------
NET INCOME (LOSS) $ 2,657,000 $ 1,213,000 $ 5,672,000 $ (926,000)
============ ============ ============ =============
BASIC EARNINGS (LOSS) PER SHARE $ 0.19 $ 0.09 $ 0.40 $ (0.07)
============ ============ ============ =============
DILUTED EARNINGS (LOSS) PER SHARE $ 0.18 $ 0.09 $ 0.39 $ (0.07)
============ ============ ============ =============
Basic Weighted-Average Shares Outstanding 14,093,000 13,818,000 14,006,000 13,786,000
============ ============ ============ =============
Diluted Weighted-Average Shares Outstanding 14,759,000 13,885,000 14,624,000 13,786,000
============ ============ ============ =============
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
4
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------------------
2000 1999
----------- ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income (Loss) $ 5,672,000 $ (926,000)
Adjustments to Reconcile Net Income (Loss) to Net Cash Provided By
Operating Activities:
Depreciation and Amortization of Property and Equipment 2,981,000 3,647,000
Amortization of Capitalized Software Costs 8,270,000 6,341,000
Impairment of Capitalized Software Costs - 1,500,000
Amortization of Goodwill and Other Intangibles 8,227,000 4,815,000
Write-Off of Acquired In-Process Technology - 4,067,000
Deferred Income Taxes 523,000 229,000
Amortization of Premiums and Discounts 274,000 286,000
(Loss) Gain on Disposal of Property and Equipment (13,000) 19,000
Gain on Sale of Investment in LMS International - (10,733,000)
Changes in Assets and Liabilities:
Trade Accounts Receivable, Net (2,861,000) 16,349,000
Other Current Assets (3,206,000) (1,689,000)
Accounts Payable (142,000) (1,825,000)
Deferred Revenue 8,895,000 6,374,000
Compensation and Related Expenses 46,000 351,000
Restructuring Reserve (1,453,000) 3,818,000
Other Current Liabilities (1,898,000) (3,665,000)
----------- ------------
Net Cash Provided By Operating Activities 25,315,000 28,958,000
----------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of Securities Available-for-Sale (5,000) (6,650,000)
Sale of Securities Available-for-Sale - 20,544,000
Acquisition of Property and Equipment (5,757,000) (1,912,000)
Proceeds from Sale of Investment in LMS International - 12,000,000
Cash Paid for Businesses Acquired, Net of Cash Received - (25,418,000)
Purchase of Software (832,000) (1,089,000)
Capitalized Internal Software Development Costs (9,586,000) (6,329,000)
Change in Other Assets (1,900,000) (120,000)
----------- ------------
Net Cash Used In Investing Activities (18,080,000) (8,974,000)
----------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of Note Payable (2,400,000) -
Repayment of Line of Credit - (10,800,000)
Issuance of Common Stock 2,389,000 698,000
Issuance of Common Stock Warrants - 289,000
Other 2,000 (1,000)
----------- ------------
Net Cash Used In Financing Activities (9,000) (9,814,000)
----------- ------------
TRANSLATION ADJUSTMENT (961,000) (1,504,000)
----------- ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 6,265,000 8,666,000
Cash and Cash Equivalents at Beginning of Period 21,735,000 10,822,000
----------- ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 28,000,000 $ 19,488,000
============ ============
RECONCILIATION OF BUSINESSES ACQUIRED, NET OF CASH RECEIVED:
Fair Value of Assets Acquired $ - $ 58,895,000
Non-Cash Financing of Purchase Price and Liabilities Assumed:
Obligation to MARC Shareholders - (726,000)
Issuance of Convertible Subordinated Debentures - (1,700,000)
Issuance of Subordinated Notes Payable - (11,715,000)
Issuance of Common Stock and Common Stock Warrants - (3,038,000)
Liabilities Assumed - (16,298,000)
----------- ------------
Cash Paid for Businesses Acquired, Net of Cash Received $ - $ 25,418,000
============ ============
</TABLE>
See accompanying notes to unaudited consolidated financial statements.
5
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of
MSC.Software Corporation ("the Company") have been prepared in accordance with
generally accepted accounting principles for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation have been included.
Operating results for the three and nine month periods ended September 30, 2000
are not necessarily indicative of the results that may be expected for the year
ending December 31, 2000.
The balance sheet as of December 31, 1999 has been derived from the
audited consolidated financial statements at that date but does not include all
of the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements.
For further information, refer to the consolidated financial statements
and footnotes thereto included in the Company's Annual Report on Form 10-K for
the year ended December 31, 1999.
NOTE 2 - ACCOUNTING CHANGES
EARLY ADOPTION OF SOP 98-9 - In the fourth quarter of 1998, the
Accounting Standards Executive Committee of the American Institute of Certified
Public Accountants issued Statement of Position ("SOP") 98-9, "Modification of
SOP 97-2 - Software Revenue Recognition with Respect to Certain Transactions",
which retained the restrictive definition of what qualified for vendor specific
objective evidence ("VSOE") of fair value for allocating a contract fee among
the various elements of an arrangement. VSOE must be known for all undelivered
elements of an arrangement, such as post-sales customer support ("PCS"). As
permitted, the Company adopted the provisions of SOP 98-9 effective October 1,
1998. Accordingly, revenue on non-cancelable and prepaid lease agreements is
recognized monthly over the term of the agreement, since the VSOE of fair value
required under SOP 97-2 to allocate the contract fee to the undelivered PCS
element of the arrangements is not available. Because SOP 98-9 does not permit
restatements of prior periods and because there are annual license renewals in
every month of the year, the entire effect of this change in revenue recognition
was not fully recognized in reported revenue on a quarterly basis until the
fourth quarter of 1999. The first three quarters of 1999 do not reflect revenue
recorded prior to October 1, 1998 that would have been recorded in these periods
under SOP 98-9. The year 2000 will be the first reported year that will reflect
a full twelve months of revenue under this method of revenue recognition for
annual licenses.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS - In June 1998, the
Financial Accounting Standards Board ("FASB") issued Statement of Financial
Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments
and Hedging Activities", as amended by SFAS No. 137, "Accounting for Derivative
Instruments and Hedging Activities - Deferral of the Effective Date of SFAS No.
133", which is required to be adopted in all fiscal years beginning after June
15, 2000. In June 2000, the FASB issued SFAS No. 138, "Accounting for Certain
Derivative Instruments and Certain Hedging Activities, An Amendment of SFAS No.
133". Because of the Company's minimal use of derivatives, management does not
anticipate that the adoption of these new Statements will have a significant
effect on earnings or the financial position of the Company.
6
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
SEPTEMBER 30, 2000
NOTE 2 - ACCOUNTING CHANGES (Continued)
In December 1999, the Securities and Exchange Commission ("SEC")
issued Staff Accounting Bulletin ("SAB") 101, "Revenue Recognition in
Financial Statements", which provides further guidance related to revenue
recognition based on interpretations and practices promulgated by the SEC.
SAB 101 was to be effective with the first fiscal quarter of fiscal years
beginning after December 15, 1999 and requires companies to report any
changes in revenue recognition as a cumulative change in accounting principle
at the time of implementation. In June 2000, the SEC issued SAB 101B,
"Amendment: Revenue Recognition in Financial Statements", which delays
implementation of SAB 101 until the Company's fourth fiscal quarter of 2000.
The Company is currently determining the effect, if any, it will have on the
financial statements.
NOTE 3 - BUSINESS ACQUISITIONS
During 1999, the Company acquired the following companies: MARC
Analysis Research Corporation ("MARC") - June 1999; Universal Analytics Inc.
("UAI") - June 1999; and Computerized Structural Analysis and Research
Corporation ("CSAR") - November 1999.
The following summarized unaudited pro forma consolidated results of
operations reflects the effect of the MARC acquisition as if it had occurred on
January 1, 1999. The unaudited pro forma consolidated results of operations
presented below are not necessarily indicative of operating results which would
have been achieved had the acquisition been consummated as of January 1, 1999
and should not be construed as representative of future operations.
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30, 1999
------------------
<S> <C>
Revenue $ 112,511,000
Operating Expense $ 116,070,000
Net Income $ 151,000
Basic Earnings Per Share $ 0.01
Diluted Earnings Per Share $ 0.01
</TABLE>
The pro forma effects of the UAI and CSAR acquisitions, as if they had
occurred on January 1, 1999, are immaterial to the consolidated financial
statements presented herein.
7
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2000
NOTE 4 - CAPITALIZED SOFTWARE COSTS
The components of capitalized software costs, as they affected
operating income, are as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------------ -------------------------------
2000 1999 2000 1999
------------- -------------- ------------- ---------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Capitalized Internal Software
Development Costs $ (3,519,000) $ (2,396,000) $ (9,586,000) $ (6,329,000)
Amortization of Capitalized
Software Costs 2,918,000 2,112,000 8,270,000 6,341,000
Impairment of Capitalized
Software Costs - - - 1,500,000
----------- ----------- ------------ ------------
$ (601,000) $ (284,000) $ (1,316,000) $ 1,512,000
=========== =========== ============= ============
</TABLE>
Amortization expense associated with capitalized software costs is
reported in cost of license revenue, and capitalized internal software
development costs, net of reserves, are reported as a reduction of research and
development expense.
The Company recognizes impairment losses on long-lived assets used in
operations when indicators of impairment are present and the undiscounted cash
flows estimated to be generated by those assets are less than the assets'
carrying amounts. Accordingly, in the second quarter of 1999, the Company
recognized a non-cash pre-tax charge totaling $1,500,000 in cost of license
revenue for the write-off of capitalized software costs representing the excess
of the carrying amount of a product over its future undiscounted cash flows. No
such losses were recorded in 2000.
NOTE 5 - RESTRUCTURING RESERVE
During February 1999, the Company announced a new organizational
structure following a re-evaluation of its business strategy. The reorganization
plan provided for a 10% reduction in the Company's worldwide workforce
(approximately 75 positions) and the consolidation of 15 field offices. These
changes resulted in pre-tax charges of $5,897,000 during the first quarter of
1999. The charges consisted of severance costs of $3,200,000, costs related to
facility consolidations of $2,200,000, and other charges of $497,000. The
Company continually evaluates the balance of the restructuring reserve based on
the remaining estimated amounts to be paid. As a result, during the second
quarter of 1999, the Company reduced the restructuring reserve by $400,000.
In June 1999, as part of the acquisitions of MARC and UAI, the
Company recorded $2,566,000 of additional acquisition costs related to the
integration of these entities into the Company. In accordance with Emerging
Issues Task Force Issue No. 95-3, "Recognition of Liabilities in Connection
with a Purchase Business Combination," these costs were included in the
purchase price allocations, resulting in additional goodwill. These charges
consisted of severance costs of $1,161,000 and costs related to facility
consolidations of $1,405,000.
8
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2000
NOTE 5 - RESTRUCTURING RESERVE (CONTINUED)
As of September 30, 2000, the restructuring liability was
$1,422,000. During the three months ended September 30, 2000, cash outlays
related to the restructuring liability were approximately $451,000. The
remaining outlays are anticipated to be paid by the end of 2000, excluding
certain lease commitments that may continue into 2001.
The following is the activity in the restructuring reserve for the
periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- -----------------------------
2000 1999 2000 1999
------------ ------------ ------------ ------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Balance at Beginning of Period $ 1,873,000 $ 5,773,000 $ 2,875,000 $ 695,000
Charges to Expense - - - 5,897,000
Reversal of Restructuring
Costs - - - (400,000)
Acquisition Charges - - - 2,566,000
Amounts Paid (451,000) (1,260,000) (1,453,000) (4,245,000)
------------ ------------ ------------ ------------
Balance at End of Period $ 1,422,000 $ 4,513,000 $ 1,422,000 $ 4,513,000
============ ============ ============ ============
</TABLE>
NOTE 6 - OTHER CURRENT LIABILITIES
The components of other current liabilities are as follows:
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
--------------- ------------
(UNAUDITED)
<S> <C> <C>
Income Taxes Payable $ 2,241,000 $ 2,891,000
Sales Taxes Payable 2,186,000 3,144,000
Contributions to Profit Sharing Plan 1,610,000 2,031,000
Royalties Payable 1,189,000 747,000
Interest Payable 577,000 2,092,000
Commissions Payable 554,000 798,000
Other Accrued Liabilities 6,264,000 4,816,000
--------------- ------------
Total Other Current Liabilities $ 14,621,000 $16,519,000
=============== ============
</TABLE>
9
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
SEPTEMBER 30, 2000
NOTE 7 - EARNINGS PER SHARE
The following table sets forth the computation of Basic and Diluted
Earnings (Loss) Per Share:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------------------------- ---------------------------------
2000 1999 2000 1999
------------- ------------ ------------ -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
NUMERATOR:
Numerator for Basic Earnings (Loss)
Per Share - Net Income (Loss) $ 2,657,000 $ 1,213,000 $ 5,672,000 $ (926,000)
Effect of Dilutive Securities - Interest on
7-7/8% Convertible Subordinated
Debentures, Net of Tax - (1) - (1) - (1) - (1)
------------- ------------ ------------ -----------
Numerator for Diluted Earnings (Loss)
Per Share $ 2,657,000 $ 1,213,000 $ 5,672,000 $ (926,000)
============ ============ ============ ============
DENOMINATOR:
Denominator for Basic Earnings (Loss)
Per Share - Weighted-Average
Shares Outstanding 14,093,000 13,818,000 14,006,000 13,786,000
Effect of Dilutive Securities:
Employee Stock Options, Employee
Stock Purchase Plan and
Common Stock Warrants 666,000 68,000 618,000 - (1)
7-7/8% Convertible Subordinated
Debentures - (1) - (1) - (1) - (1)
------------- ------------ ------------ -----------
Dilutive Potential Common
Shares 666,000 68,000 618,000 -
------------- ------------ ------------ -----------
Denominator for Diluted Earnings
(Loss) Per Share - Adjusted
Weighted-Average Shares and
Assumed Conversions 14,759,000 13,886,000 14,624,000 13,786,000
============= ============ ============ ===========
BASIC EARNINGS (LOSS) PER SHARE $ 0.19 $ 0.09 $ 0.40 $ (0.07)
============= ============ ============ ===========
DILUTED EARNINGS (LOSS) PER SHARE $ 0.18 $ 0.09 $ 0.39 $ (0.07)
============= ============ ============ ===========
</TABLE>
(1) ANTI-DILUTIVE OPTIONS, WARRANTS AND DEBENTURES ARE EXCLUDED FROM
THE CALCULATION OF DILUTED EARNINGS (LOSS) PER SHARE FOR THE
PERIODS INDICATED.
10
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
SEPTEMBER 30, 2000
NOTE 8 - SEGMENT INFORMATION
The Company operates in a single reportable segment. International
Operations consists primarily of foreign sales offices selling software
developed in the United States combined with local service revenue. The
following table summarizes the revenues of the Company's operations by
geographic location:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------------------------- ---------------------------------
2000 1999 2000 1999
------------- ------------- -------------- -------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Revenues:
The Americas (1) $ 19,385,000 $ 17,590,000 $ 55,142,000 $ 48,040,000
Europe 11,968,000 11,623,000 35,462,000 31,654,000
Asia-Pacific 11,688,000 9,712,000 35,225,000 23,326,000
------------- ------------- -------------- -------------
Total Revenue $ 43,041,000 $ 38,925,000 $ 125,829,000 $ 103,020,000
============= ============= ============== =============
</TABLE>
(1) Substantially the United States
The following table summarizes the identifiable assets of the Company's
operations by geographic location:
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
-------------- -------------
(UNAUDITED)
<S> <C> <C>
Identifiable Assets:
The Americas (1) $ 151,125,000 $ 141,890,000
Europe 25,902,000 27,638,000
Asia-Pacific 21,237,000 17,692,000
-------------- -------------
Total Identifiable Assets $ 198,264,000 $ 187,220,000
============== =============
</TABLE>
(1) Substantially the United States
The net assets of the Company's foreign subsidiaries (excluding
intercompany items) totaled $28,224,000 and $22,725,000 as of September 30, 2000
and December 31, 1999, respectively. Long-lived assets included in these amounts
were $6,303,000 and $5,709,000 as of September 30, 2000 and December 31, 1999,
respectively.
11
<PAGE>
MSC.SOFTWARE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SEPTEMBER 30, 2000
NOTE 9 - COMPREHENSIVE INCOME (LOSS)
The components of comprehensive income (loss) are as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ------------------------------
2000 1999 2000 1999
----------- ----------- ----------- -------------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Net Income (Loss) $ 2,657,000 $ 1,213,000 $ 2,657,000 $ (926,000)
Change in Accumulated Translation
Adjustment (416,000) 1,121,000 (961,000) (1,504,000)
Change in Unrealized Gain (Loss) on
Securities Available-for-Sale 35,000 - 36,000 (11,000)
----------- ----------- ----------- -------------
Comprehensive Income (Loss) $ 2,276,000 $ 2,334,000 $ 1,732,000 $(2,441,000)
============ ============ ============ =============
</TABLE>
The Company does not provide any deferred tax benefit for translation
adjustment because the recoverability of the benefit is not anticipated in the
foreseeable future and the amount of tax associated with the unrealized gain was
immaterial.
12
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
BUSINESS
MSC.Software Corporation ("MSC" or "the Company") designs, produces and
markets proprietary computer software products and provides related services for
use in computer-aided engineering. The Company's products are marketed
internationally to aerospace, automotive and other industrial concerns, computer
and electronics manufacturers, and universities.
RECENT DEVELOPMENTS
BUSINESS ACQUISITIONS - During 1999, MSC acquired the following
companies: MARC Analysis Research Corporation ("MARC") - June 1999; Universal
Analytics Inc. ("UAI") -June 1999; and Computerized Structural Analysis and
Research Corporation ("CSAR") - November 1999.
RESULTS OF OPERATIONS
THREE MONTHS ENDED SEPTEMBER 30, 2000 VS. THREE MONTHS ENDED SEPTEMBER 30,1999
NET INCOME - Consolidated net income was $2,657,000, or $0.18 per
diluted share, in 2000 compared to $1,213,000, or $0.09 per diluted share, in
1999.
REVENUE - MSC reported revenue of $43,041,000 in 2000 compared to
$38,925,000 in 1999, an increase of $4,116,000, or 11%. Software license revenue
and software support fees accounted for 92% and 91% of total reported revenue
for 2000 and 1999, respectively, with service revenue making up the difference.
For 2000 and 1999, approximately 77% and 73%, respectively, of MSC's software
license revenue and software support fees was derived from recurring software
licenses and software support licenses, with the remaining 23% and 27%,
respectively, coming from paid-up licenses.
Non-recurring revenues, which are unaffected by the adoption of SOP
98-9, decreased by $451,000 in 2000. Consulting and education services revenue
increased by $155,000, while paid-up software license revenue decreased by
$606,000 in 2000 compared to 1999.
As permitted, MSC adopted the provisions of SOP 98-9 effective October
1, 1998 and, accordingly, revenue on non-cancelable, pre-paid annual lease
agreements is recognized monthly over the term of the agreement, beginning in
the fourth quarter of 1998, as compared to only deferring the fee related to
maintenance for licenses sold before October 1, 1998. Due to the adoption of SOP
98-9, it is difficult to make comparisons of revenues between the third quarters
of 2000 and 1999. Revenue as reported in the third quarter of 1999 was adversely
affected by the change in MSC's revenue recognition policy.
Software license revenue consists of licensing fees, which are fees
charged for the right to use MSC's or a third parties' software. Software is
sold through monthly, annual or longer lease arrangements and through paid-up
license arrangements, whereby the customer purchases a long-term license for the
use of MSC's software. Software support and services revenues include post-sales
customer support ("PCS"), consulting and training services. PCS includes
telephone support, "bug" fixes and upgrade privileges on a when and if available
basis. Services range from installation and basic consulting to software
modification and customization to meet specific customer needs and training.
13
<PAGE>
The following table illustrates revenue by geographic region and the
related growth rates between 2000 and 1999 as reported utilizing the current
revenue recognition policy adopted on October 1, 1998 for 2000 and estimated
for 1999 as if the policy had been adopted on October 1, 1997:
<TABLE>
<CAPTION>
GROWTH RATE
THREE MONTHS -----------------------------------------
ENDED THREE MONTHS ENDED SEPTEMBER 30, 2000 VS.
SEPTEMBER 30, THREE MONTHS ENDED SEPTEMBER 30, 1999
2000 -----------------------------------------
------------- IF SOP 98-9 HAD
PERCENTAGE OF BEEN ADOPTED ON
TOTAL REVENUE AS REPORTED OCTOBER 1, 1997
------------- ----------- ---------------
<S> <C> <C> <C>
The Americas 45% 10% 3%
Europe 28% 3% 3%
Asia-Pacific 27% 20% 20%
Total 100% 11% 7%
</TABLE>
The increase in reported revenues was due to increases from core
business revenue. Revenue growth in 2000 was also impacted from unfavorable
foreign currency translation rates for the Euro and favorable foreign currency
translation rates for the Japanese Yen. Revenue in the current quarter would
have been approximately $44,503,000 if translated using the prior year's foreign
currency translation rates. MSC's international operations in Europe and
Asia-Pacific are sales organizations with high gross profit margins, which is
due to these operations having minimal software development expenses. As a
result, MSC is exposed to the effects of foreign currency fluctuations of the
United States Dollar versus the Japanese Yen and the Euro. The following table
details the effect of the currency rate changes on revenue for 2000 and the risk
of change in 2000. The trend exchange rate was determined by prorating the rate
change between 1999 and 2000 and is used to illustrate the sensitivity to
foreign currency fluctuations. The trend rate is for illustration purposes only
and may or may not reflect the actual translation rate in future periods.
<TABLE>
<CAPTION>
2000 2000 2000 USING
USING 1999 USING 2000 1999/2000 TREND
EXCHANGE RATES EXCHANGE RATES EXCHANGE RATE
-------------- -------------- --------------
<S> <C> <C> <C>
Revenues:
The Americas $ 19,385,000 $ 19,385,000 $ 19,385,000
Europe 13,863,000 11,968,000 10,073,000
Asia-Pacific (1) 11,255,000 11,688,000 12,168,000
--------------- ------------ ------------
Total Revenue $ 44,503,000 $ 43,041,000 $ 41,626,000
=============== ============ ============
Exchange Rates:
$ / Euro 1.05 0.90 0.75
Yen / $ 113.17 107.65 102.13
</TABLE>
(1) Includes revenue denominated in United States Dollars of
$2,802,000.
COST OF REVENUE - In accordance with Statement of Financial Accounting
Standards ("SFAS") No. 86, "Accounting for the Costs of Computer Software to be
Sold, Leased, or Otherwise Marketed", cost of revenue expense includes period
expenses directly related to revenue as well as the amortization of capitalized
software costs. Total Cost of Revenue was $10,588,000, or 25% of total revenue,
for 2000 compared to $9,167,000, or 24% of total revenue, for the prior year.
14
<PAGE>
COST OF REVENUE - SOFTWARE LICENSES ("COR-LIC") - COR-LIC was
$5,236,000, or 20% of license revenues, for 2000 compared to $4,439,000, or 17%
of license revenues, for the prior year. COR-LIC for 2000 and 1999 included
software amortization of $2,918,000 and $2,112,000, respectively. COR-LIC,
excluding amortization of capitalized software costs, was $2,318,000, or 9% of
license revenues, for 2000 compared to $2,327,000, or 9% of license revenues,
for the prior year. COR-LIC for 2000 included an increase in royalty expense due
to MARC royalties. Royalties are paid to third parties under various agreements.
MSC does not consider any royalty expense related to individual agreements to be
material.
COST OF REVENUE - SUPPORT AND SERVICES ("COR-S&S") - COR-S&S was
$5,352,000, or 31% of support and services revenues, for 2000 compared to
$4,728,000, or 38% of support and services revenues, for the prior year. The
increase in COR-S&S was due to higher costs of technical support services, which
were primarily personnel related expenses, and an increase in the use of
training consultants to conduct seminars. The increase in COR-S&S was not in
proportion with the increase in revenue, which caused the decrease in COR-S&S as
a percent of support and services revenue.
GROSS PROFIT - Gross profit, which is total revenue less cost of
revenue, was $32,453,000, or 75% of total revenue, for 2000, an increase of
$2,695,000 as compared to a gross profit of $29,758,000, or 76% of total
revenue, for 1999.
OPERATING EXPENSE - Operating expense was $27,107,000 for 2000
compared to $26,226,000 for the prior year, an increase of $881,000, or 3%.
RESEARCH AND DEVELOPMENT - In accordance with SFAS No. 86, research and
development expense is reported net of the amount capitalized. Research and
development expense for 2000 was $4,045,000 compared to $5,352,000 for 1999, a
decrease of $1,307,000, or 15%. The change from 1999 to 2000 was due to an
increase in the amount of research and development expenditures capitalized
under SFAS No. 86. Capitalized software development costs were $3,519,000 for
2000 compared to $2,396,000 for the prior year, an increase of $1,123,000. The
amount of product development capitalized in any given period is a function of
many factors, including the number of products under development at any point in
time as well as their stage of development. MSC's product development process is
continually under review to improve efficiency and product quality, and to
reduce time to market. Due to the continual change in the product development
process, there can be no assurance that the level of development capitalized in
future periods will be comparable to current capitalized levels.
SELLING, GENERAL AND ADMINISTRATIVE - Selling, general and
administrative expenses were $20,231,000, or 47% of total revenue, for 2000
compared to $18,424,000, or 47% of total revenue, for 1999, an increase of
$1,807,000, or 10%. The increase in selling, general and administrative
expense was due to the creation of MSC.Linux in January 2000, and increased
product marketing costs.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES - Amortization of
goodwill and other intangibles was $2,831,000 for 2000 compared to $2,450,000
for 1999, an increase of $381,000, or 16%. The increase was due to the
acquisition of CSAR in November 1999. The amount of amortization of goodwill and
other intangibles in 2000 is expected to continue at the same level as the third
quarter of 2000, excluding the impact of any new acquisitions.
15
<PAGE>
As with revenue, MSC's expenses are impacted by foreign currency
fluctuations. The following table details the effect of the currency rate
changes on total operating expense (including cost of revenue) for 2000 and the
risk of change in 2000. The trend exchange rate was determined by prorating the
rate change between 1999 and 2000 and is used to illustrate the sensitivity to
foreign currency fluctuations. The trend rate is for illustration purposes only
and may or may not reflect the actual translation rate in the future period.
<TABLE>
<CAPTION>
2000 2000 2000 USING
USING 1999 USING 2000 1999/2000 TREND
EXCHANGE RATES EXCHANGE RATES EXCHANGE RATE
-------------- -------------- -------------
<S> <C> <C> <C>
Total Operating Expense:
The Americas $ 25,303,000 $ 25,303,000 $ 25,303,000
Europe 7,561,000 6,527,000 5,493,000
Asia-Pacific 5,579,000 5,865,000 6,182,000
--------------- ------------ ------------
Total Operating Expense $ 38,443,000 $ 37,695,000 $ 36,978,000
=============== ============ ============
Exchange Rates:
$ / Euro 1.05 0.90 0.75
Yen / $ 113.17 107.65 102.13
</TABLE>
OPERATING INCOME - Operating income was $5,346,000 for 2000 compared
to $3,532,000 for 1999, an increase of $1,814,000, or 51%.
TOTAL OTHER EXPENSE (INCOME) - Total other expense was $1,230,000
for 2000 compared to $1,748,000 for 1999, a decrease of $518,000, or 30%.
INTEREST EXPENSE - Interest expense was $1,662,000 for 2000 compared to
$1,543,000 for the prior year, an increase of $119,000, or 8%. The increase in
interest expense was attributable to increased debt levels as a result of
acquisitions. Interest expense reflects the interest on the convertible
subordinated debentures issued as part of the acquisitions of PDA Engineering in
1994 and MARC in June 1999, as well as interest on the subordinated notes
payable issued as part of the acquisition of MARC and interest on the note
payable taken out as part of the CSAR acquisition in November 1999. For
financial statement purposes, the convertible subordinated debentures and
subordinated notes payable were issued with a discount. Such discount is
amortized over the terms of the convertible subordinated debentures and
subordinated notes payable and treated as additional interest expense. As a
result, reported interest will be higher than the cash amount of interest that
will actually be paid to the holders of the convertible subordinated debentures
and subordinated notes payable.
OTHER EXPENSE (INCOME) - Other expense (income) was income of $432,000
for 2000 compared to expense of $205,000 for 1999, an increase of $637,000. The
change in other expense (income) was due to a decrease in foreign currency
exchange losses and an increase in interest and investment income. Other expense
(income) also includes gains and losses on property and equipment and other
non-operating income or expense.
PROVISION FOR INCOME TAXES - The estimated effective tax rates for 2000
and 1999 were 35% and 32%, respectively. The difference between the Company's
effective rate and the 34.0% statutory federal rate resulted from state income
taxes and non-deductible goodwill charges from MSC's acquisitions during 1999,
as well as tax benefits gained from the Company's foreign sales corporation. The
difference between the effective tax rate for 2000 and 1999 is due to the
write-off of acquired in-process technology in 1999.
16
<PAGE>
NINE MONTHS ENDED SEPTEMBER 30, 2000 VS. NINE MONTHS ENDED SEPTEMBER 30, 1999
NET INCOME (LOSS) - Consolidated net income was $5,672,000, or $0.39
per diluted share, in 2000 compared to a net loss of ($926,000), or ($0.07) per
diluted share, in 1999.
REVENUE - MSC reported revenue of $125,829,000 in 2000 compared to
$103,020,000 in 1999, an increase of $22,809,000, or 22%. The acquisitions of
MARC, UAI and CSAR accounted for revenues of $14,302,000 in 2000 compared to
$5,193,000 in 1999, an increase of $9,109,000, or 9% of reported revenue,
during the period. These acquisitions were all accounted for under the
purchase method of accounting, so the corresponding revenue in 1999 was only
from their respective acquisition dates.
Software license revenue and software support fees account for 91% and
91% of total reported revenue for 2000 and 1999, respectively, with service
revenue making up the difference. For 2000 and 1999, approximately 78% and 70%,
respectively, of MSC's software license revenue and software support fees was
derived from recurring software licenses and software support licenses, with the
remaining 22% and 30%, respectively, coming from paid-up licenses.
Non-recurring revenues, which are unaffected by the adoption of SOP
98-9, decreased by $997,000 in 2000. Consulting and education services revenue
increased by $2,310,000, while paid-up software license revenue, excluding
paid-up license revenue from acquisitions, decreased by $6,458,000 in 2000
compared to 1999. Revenue from the acquisitions of MARC, UAI and CSAR for 2000
and 1999 included paid-up license revenue of $3,982,000 and $831,000,
respectively, an increase of $3,151,000.
As permitted, MSC adopted the provisions of SOP 98-9 effective October
1, 1998 and, accordingly, revenue on non-cancelable, pre-paid annual lease
agreements is recognized monthly over the term of the agreement, beginning in
the fourth quarter of 1998, as compared to only deferring the fee related to
maintenance for licenses sold before October 1, 1998. Due to the adoption of SOP
98-9, it is difficult to make comparisons of revenues between the nine month
periods ended September 30, 2000 and 1999. Revenue as reported in 1999 was
adversely affected by the change in MSC's revenue recognition policy.
The following table illustrates revenue by geographic region and the
related growth rates between 2000 and 1999 as reported utilizing the current
revenue recognition policy adopted on October 1, 1998 for 2000 and estimated
for 1999 as if the policy had been adopted on October 1, 1997:
<TABLE>
<CAPTION>
GROWTH RATE
NINE MONTHS ----------------------------------------
ENDED NINE MONTHS ENDED SEPTEMBER 30, 2000 VS.
SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30, 1999
2000 -----------------------------------------
------------- IF SOP 98-9 HAD
PERCENTAGE OF BEEN ADOPTED ON
TOTAL REVENUE AS REPORTED OCTOBER 1, 1997
------------- ----------- ---------------
<S> <C> <C> <C>
The Americas 44% 15% 1%
Europe 28% 12% 6%
Asia-Pacific 28% 51% 47%
Total 100% 22% 13%
</TABLE>
The increase in reported revenues for all regions was due to increases
from core business revenue and from the acquisitions of MARC, UAI and CSAR.
These acquisitions accounted for revenue increases in The Americas of
$1,699,000, or 4%, in Asia-Pacific of $5,013,000, or 21%, and in Europe of
$2,397,000, or 8%.
17
<PAGE>
Revenue growth in 2000 was also impacted from unfavorable foreign
currency translation rates for the Euro and favorable foreign currency
translation rates for the Japanese Yen. Revenue in the current year would have
been approximately $128,784,000 if translated using the prior year's foreign
currency translation rates. MSC's international operations in Europe and
Asia-Pacific are sales organizations with high gross profit margins, which is
due to these operations having minimal software development expenses. As a
result, MSC is exposed to the effects of foreign currency fluctuations of the
United States Dollar versus the Japanese Yen and the Euro. The following table
details the effect of the currency rate changes on revenue for 2000 and the risk
of change in 2000. The trend exchange rate was determined by prorating the rate
change between 1999 and 2000 and is used to illustrate the sensitivity to
foreign currency fluctuations. The trend rate is for illustration purposes only
and may or may not reflect the actual translation rate in future periods.
<TABLE>
<CAPTION>
2000 2000 2000 USING
USING 1999 USING 2000 1999/2000 TREND
EXCHANGE RATES EXCHANGE RATES EXCHANGE RATE
-------------- -------------- -------------
<S> <C> <C> <C>
Revenues:
The Americas $ 55,142,000 $ 55,142,000 $ 55,142,000
Europe 40,663,000 35,462,000 30,261,000
Asia-Pacific (1) 32,979,000 35,225,000 37,922,000
------------- ------------- -------------
Total Revenue $ 128,784,000 $ 125,829,000 $ 123,325,000
============= ============= =============
Exchange Rates:
$ / Euro 1.08 0.94 0.80
Yen / $ 116.80 107.02 97.24
</TABLE>
(1) Includes revenue denominated in United States Dollars of $8,405,000.
COST OF REVENUE - Total Cost of Revenue was $32,380,000, or 26% of
total revenue, for 2000 compared to $27,816,000, or 27% of total revenue, for
the prior year.
COST OF REVENUE - SOFTWARE LICENSES ("COR-LIC") - COR-LIC was
$15,965,000, or 21% of license revenues, for 2000 compared to $14,411,000, or
21% of license revenues, for the prior year. COR-LIC for 2000 and 1999 included
software amortization of $8,270,000 and $6,341,000, respectively. Cost of
revenue for 1999 also included a software impairment charge of $1,500,000.
COR-LIC, excluding amortization of capitalized software costs and the software
impairment charge, was $7,695,000, or 10% of license revenues, for 2000 compared
to $6,570,000, or 9% of license revenues, for the prior year. COR-LIC for 2000
included an increase in royalty expense due to MARC royalties.
COST OF REVENUE - SUPPORT AND SERVICES ("COR-S&S") - COR-S&S was
$16,415,000, or 33% of support and services revenues, for 2000 compared to
$13,405,000, or 41% of support and services revenues, for the prior year. The
increase in COR-S&S was due to: 1) higher costs of technical support services,
which were primarily personnel related expenses; 2) additional costs for
Engineering-e.com; and 3) an increase in the use of training consultants to
conduct seminars. Due to the acquisitions of MARC, UAI and CSAR, the increase in
COR-S&S was not in proportion with the increase in revenue, which caused the
decrease in COR-S&S as a percent of support and services revenue.
GROSS PROFIT - Gross profit, which is total revenue less cost of
revenue, was $93,449,000, or 74% of total revenue, for 2000, an increase of
$18,245,000 as compared to a gross profit of $75,204,000, or 73% of total
revenue, for 1999.
18
<PAGE>
OPERATING EXPENSE - Operating expense was $79,847,000 for 2000
compared to $81,464,000 for the prior year, a decrease of $1,617,000, or 2%.
Operating expenses for 1999 included a write-off of acquired in-process
technology of $4,067,000 and restructuring costs of $5,497,000. Without these
charges, operating expenses would have totaled $71,900,000 for 1999 compared
to $79,847,000 for 2000, an increase of $7,947,000, or 11%.
RESEARCH AND DEVELOPMENT - Research and development expense for 2000
was $12,988,000 compared to $14,788,000 for 1999, a decrease of $1,800,000, or
12%. The change from 1999 to 2000 was due to an increase in the amount of
research and development expenditures capitalized under SFAS No. 86. Capitalized
software development costs were $9,586,000 for 2000 compared to $6,328,000 for
the prior year, an increase of $3,258,000. The amount of product development
capitalized in any given period is a function of many factors, including the
number of products under development at any point in time as well as their stage
of development. MSC's product development process is continually under review to
improve efficiency and product quality, and to reduce time to market. Due to the
continual change in the product development process, there can be no assurance
that the level of development capitalized in future periods will be comparable
to current capitalized levels.
SELLING, GENERAL AND ADMINISTRATIVE - Selling, general and
administrative expenses were $58,632,000, or 47% of total revenue, for 2000
compared to $52,297,000, or 51% of total revenue, for 1999, an increase of
$6,335,000, or 10%. The increase in selling, general and administrative
expense was due to additional selling costs from the acquisition of MARC,
primarily in the Asia-Pacific region, the creation of MSC.Linux in January
2000, the creation of Engineering-e.com in the second quarter of 1999, and
increased product marketing costs.
AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES - Amortization of
goodwill and other intangibles was $8,227,000 for 2000 compared to $4,815,000
for 1999, an increase of $3,412,000. The increase was due to the acquisitions of
MARC, UAI and CSAR. The amount of amortization of goodwill and other intangibles
in 2000 is expected to continue at the same level as the first three quarters of
2000, excluding the impact of any new acquisitions.
As with revenue, MSC's expenses are impacted by foreign currency
fluctuations. The following table details the effect of the currency rate
changes on total operating expense (including cost of revenue) for 2000 and the
risk of change in 2000. The trend exchange rate was determined by prorating the
rate change between 1999 and 2000 and is used to illustrate the sensitivity to
foreign currency fluctuations. The trend rate is for illustration purposes only
and may or may not reflect the actual translation rate in the future period.
<TABLE>
<CAPTION>
2000 2000 2000 USING
USING 1999 USING 2000 1999/2000 TREND
EXCHANGE RATES EXCHANGE RATES EXCHANGE RATE
-------------- -------------- -------------
<S> <C> <C> <C>
Total Operating Expense:
The Americas $ 76,756,000 $ 76,756,000 $ 76,756,000
Europe 22,442,000 19,570,000 16,698,000
Asia-Pacific 14,576,000 15,901,000 17,492,000
------------- ------------- -------------
Total Operating Expense $ 113,774,000 $ 112,227,000 $ 110,946,000
============= ============= =============
Exchange Rates:
$ / Euro 1.08 0.94 0.80
Yen / $ 116.80 107.05 97.30
</TABLE>
19
<PAGE>
OPERATING INCOME - Operating income was $13,602,000 for 2000 compared
to an operating loss of ($6,260,000) for 1999, an increase of $19,862,000. The
operating loss for 1999 included a software impairment charge of $1,500,000, a
write-off of acquired in-process technology of $4,067,000 and restructuring
costs of $5,497,000. Without these charges, operating income would have totaled
$4,804,000 for 1999 compared to $13,602,000 for 2000, an increase of $8,798,000.
TOTAL OTHER EXPENSE (INCOME) - Total other expense was $4,536,000 for
2000 compared to total other income of ($6,676,000) for 1999, a decrease of
$11,212,000. 1999's total other income included a $10,773,000 gain from the sale
of an equity investment. Excluding this gain, total other expense was $4,097,000
for 1999, which represents an increase of $439,000 compared to the $4,536,000 of
total other expense for 2000.
INTEREST EXPENSE - Interest expense was $5,033,000 for 2000 compared to
$4,145,000 for the prior year, an increase of $888,000, or 21%. The increase in
interest expense was attributable to increased debt levels as a result of
acquisitions. Interest expense reflects the interest on the convertible
subordinated debentures issued as part of the acquisitions of PDA Engineering in
1994 and MARC in June 1999, as well as interest on the subordinated notes
payable issued as part of the acquisition of MARC and interest on the note
payable taken out as part of the CSAR acquisition in November 1999. For
financial statement purposes, the convertible subordinated debentures and
subordinated notes payable were issued with a discount. Such discount is
amortized over the terms of the convertible subordinated debentures and
subordinated notes payable and treated as additional interest expense. As a
result, reported interest will be higher than the cash amount of interest that
will actually be paid to the holders of the convertible subordinated debentures
and subordinated notes payable.
OTHER EXPENSE (INCOME) - Other income was $497,000 for 2000 compared to
$48,000 for 1999, an increase of $449,000. The change in other expense (income)
was due to an increase in net loss from minority interest. Other expense
(income) also includes gains and losses on property and equipment and other
non-operating income or expense.
PROVISION FOR INCOME TAXES - The estimated effective tax rates for 2000
and 1999 were 37% and 44%, respectively. The difference between the Company's
effective rate and the 34.0% statutory federal rate resulted from state income
taxes and non-deductible goodwill charges from MSC's acquisitions during 1999,
as well as tax benefits gained from the Company's foreign sales corporation. The
difference between the effective tax rate for 2000 and 1999 is due to the
write-off of acquired in-process technology in 1999.
20
<PAGE>
OPERATING PATTERN
The change in year-end to December 31 and the adoption of SOP 98-9 in
the fourth quarter of 1998 both have a significant effect on the operating
pattern of MSC. The month of January has historically been the largest revenue
month of the year with the highest volume of renewals.
Under SOP 98-9, MSC is recognizing its software lease revenue on a
monthly basis over the term of the licenses. This change will reduce the
volatility of the revenue stream for MSC's interim accounting periods. In
addition, because the SOP does not permit restatements of prior periods and
because there are annual license renewals in every month of the year, the entire
effect of this change in revenue recognition will not be fully recognized in
reported revenue on a quarterly basis until the fourth quarter of 1999. The year
2000 will be the first reported year that will reflect a full twelve months of
revenue under this method of revenue recognition for annual licenses.
LIQUIDITY AND CAPITAL RESOURCES
In the past, working capital needed to finance MSC's operations has
been provided by cash on hand and from cash flow from operations. Management
believes that cash generated from operations will continue to provide sufficient
capital for normal working capital needs in the foreseeable future. MSC may
engage in additional financing methods that it believes are advantageous,
particularly to finance acquisitions. Net cash provided by operating activities
was $25,315,000 and $28,958,000 for the nine months ended September 30, 2000 and
1999, respectively. MSC's working capital (current assets minus current
liabilities) at September 30, 2000 was $15,407,000 compared to $11,656,000 at
December 31, 1999, an increase of $3,751,000.
During 2000, cash outlays related to the restructuring liability were
$1,453,000. The remaining outlays are anticipated to be paid by the end of 2000,
excluding certain lease commitments that may continue into 2001.
In August 1999, MSC entered into a Loan and Security Agreement ("Loan
Agreement") with its principal bank. This credit facility includes a $12,000,000
revolving line of credit and an $8,000,000 term loan. The amount of the line of
credit available in excess of $5,000,000 is subject to a defined borrowing base
of outstanding trade receivables. As of September 30, 2000, the amount available
under the line of credit, based on the defined borrowing base, was approximately
$7,480,000. The term of the revolving portion of the Loan Agreement expires May
31, 2001. As of September 30, 2000, there was no balance outstanding on the line
of credit and there were no borrowings from the line of credit during 1999 or
2000. On November 4, 1999, MSC borrowed $8,000,000 under the term loan in
connection with the acquisition of CSAR. The term of the loan is two years and
requires monthly principal payments of $267,000. As of September 30, 2000, the
balance on the loan was $5,333,000. All borrowings under the Loan Agreement
carry an interest rate equal to the Bank's prime lending rate or LIBOR plus 200
basis points. Borrowings under the Loan Agreement are secured by nearly all of
Company's goods and equipment, inventory, contract rights, and intellectual
property rights. Borrowings also involve certain restrictive covenants,
including restrictions on dividends and investments. As of September 30, 2000,
MSC is in compliance with all covenants.
MSC issued $56,608,000 of convertible subordinated debentures in
connection with the acquisition of PDA Engineering in 1994. An additional
$2,000,000 principal amount of convertible subordinated debentures was issued,
at a discount, in June 1999 in connection with the MARC acquisition. The
debentures bear interest at 7-7/8% with interest payments due semi-annually on
March 15 and September 15. The conversion feature permits the holder to convert
the debentures into shares of MSC's common stock at a conversion price of $15.15
per share. The debentures mature August 18, 2004, but are redeemable at MSC's
option at any time after August 18, 1997 upon payment of a premium. A debenture
interest payment was made in September 2000 for $2,306,000. The estimated
interest payment to be paid in March 2001 is $2,354,000. The amount of interest
expense will decrease if the debentures are converted into common stock. At
September 30, 2000, the balance of the convertible subordinated debentures,
excluding unamortized discount of $225,000, was $58,556,000.
21
<PAGE>
In June 1999, in connection with the MARC acquisition, MSC also issued
subordinated notes payable in the aggregate principal amount of $14,236,000. The
subordinated notes payable bear interest at 8% with interest payments due
semi-annually in January and July. The estimated interest payment to be paid in
January 2001 is $577,000. $3,236,000 of the notes payable are due in June 2001
and the remaining $11,000,000 are due by June 2009.
Management expects to continue to invest a substantial portion of MSC's
revenues in the development of new computer software technologies and products
and the enhancement of certain existing products. During 2000 and 1999, MSC
expended a total of $22,574,000 and $21,116,000, respectively, on development
efforts, of which $9,586,000 and $6,328,000, respectively, were capitalized.
Product development costs and the capitalization rate may vary depending, in
part, on the number of products and the stage of development of the products in
process.
During 2000 and 1999, MSC acquired $5,757,000 and $1,912,000,
respectively, of new property and equipment. Capital expenditures included
upgrades in computer equipment in order to keep current with technological
advances and upgrades of facilities worldwide. MSC's capital expenditures
vary from year to year, as required by business needs. The increase in
capital expenditures from 1999 to 2000 was due to capital expenditures for
Engineering-e.com and MSC.Linux. MSC intends to continue to expand the
capabilities of its computer equipment used in the development and support of
its proprietary software products. Management expects expenditures for
property and equipment in 2000 and 2001 to be higher than 1999 due to
additional expenditures for Engineering-e.com and MSC.Linux.
MSC does not plan to pay dividends in the foreseeable future. In
addition, MSC's Loan Agreement contains restrictions on the payment of
dividends.
EURO CONVERSION
On January 1, 1999, eleven of the fifteen member countries of the
European Union (the "participating countries") established fixed conversion
rates between their existing sovereign currencies (the "legacy currencies") and
the Euro currency, adopting the Euro as their common legal currency on that
date. The legacy currencies are scheduled to remain legal tender in the
participating countries as denominations of the Euro between January 1, 1999 and
January 1, 2002. During this transition period, public and private parties may
pay for goods and services using either the Euro or the participating country's
legacy currency on a "no compulsion, no prohibition" basis whereby recipients
must accept Euros or the legacy currency as offered by the payer. A currency
translation process known as triangulation dictates how legacy currencies are
converted to the Euro and other legacy currencies. Beginning January 1, 2002,
the participating countries will issue new Euro-denominated bills and coins and
replace the legacy currencies as legal tender in cash transactions by July 1,
2002.
Because MSC conducts a significant portion of its business in Europe
through its wholly-owned German subsidiary, its business and operations will be
affected by the Euro conversion. Management is addressing the Euro conversion,
but its impact on future operating results is uncertain. Management expects the
conversion to decrease pressure for pricing in legacy currencies in the
participating countries. However, it also does business in many
non-participating countries, including the United Kingdom. This could lead to an
increase in cross-border competition, which could affect its allocation of
resources within Europe, and eventually MSC's labor cost.
MSC is implementing an upgrade to its management information system
which includes the ability to simultaneously record transactions in Euros,
perform the prescribed currency conversion computations and convert legacy
currency amounts to Euro. The impact of the conversion on MSC's currency risk
and taxable income is not expected to be significant. In regard to contracts
denominated in legacy currencies, management has not identified any third party
or customer contracts whose performance might be considered unenforceable due to
a currency substitution. Software lease and support contracts are typically
renewed on an annual basis.
INFLATION
Inflation in recent years has not had a significant effect on MSC's
business.
22
<PAGE>
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The forward-looking statements in this report, including statements
concerning projections of MSC's future results, operating profits and earnings,
are based on current expectations and are subject to risks and uncertainties
that could cause actual results to differ materially from those expressed or
implied by those statements. The risks and uncertainties include but are not
limited to:
- The timely development and market acceptance of new versions
of MSC's software products;
- MSC's dependence on certain industries;
- Strong competition in the software industry may affect prices,
which could reduce margins and adversely affect our operating
results and financial position;
- If we cannot adequately protect our intellectual property
rights, our financial results may suffer;
- The impact of the Internet on MSC's business;
- Timely development of Computer Aided Engineering technologies
which, among other things, must accommodate industry trends
such as increasing computing power and increased usage of
workstations;
- Fluctuations of the United States dollar versus foreign
currencies;
- Economic conditions in Asia-Pacific, Europe and the United
States;
- MSC's ability to reduce costs without adversely impacting
revenues;
- Successful involvement of international and domestic
business partners in creating mechanical engineering
solutions;
- MSC's ability to attract, motivate and retain salespeople,
programmers and other key personnel; and
- Continued demand for its products, including MSC.Nastran,
MSC.Patran, MSC.Marc, MSC.Dytran, MSC.MVision, MSC.Nastran for
Windows, and MSC.Working Model 4D.
Subsequent written and oral forward-looking statements attributable to
MSC or persons acting on its behalf are hereby expressly qualified in their
entirety by the cautionary statements in this section of this report and by the
discussion of "Risk Factors" in MSC's Annual Report on Form 10-K for the year
ended December 31, 1999.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MSC is exposed to the impact of foreign currency fluctuations and
interest rate changes. MSC has not experienced a material change in these market
risk areas from the end of the preceding fiscal year.
23
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
EXHIBIT
NUMBER
-------
3.1 Certificate of Incorporation of MSC.Software Corporation, as
amended (filed as Exhibit 3.1 of MSC.Software Corporation's
Quarterly Report on Form 10-Q for the quarterly period ended June
30, 1999, and incorporated herein by reference).
3.2 Restated Bylaws of MSC.Software Corporation (filed as Exhibit 3.2
to MSC.Software Corporation's Annual Report on Form 10-K filed
for the fiscal year ended January 31, 1996, and incorporated
herein by reference).
3.3 Certificate of Designations of Junior Participating Preferred
Stock (filed as Exhibit 2.2 to The MacNeal-Schwendler
Corporation's Registration Statement on Form 8-A filed October
13, 1998, and incorporated herein by reference).
4.4 Indenture, dated as of August 18, 1994, between MSC.Software
Corporation and Chemical Trust Company of California, as trustee
(filed as part of MSC.Software Corporation's Registration
Statement on Form S-3 (No. 33-83174), and incorporated herein by
reference).
4.5 First Supplemental Indenture, dated September 22, 1994, between
MSC.Software Corporation and Chemical Trust Company of
California, as trustee (filed as Exhibit 4.2 of MSC.Software
Corporation's Quarterly Report on Form 10-Q for the quarterly
period ended October 31, 1994, and incorporated herein by
reference).
4.6 Second Supplemental Indenture, dated December 14, 1994, between
MSC.Software Corporation and Chemical Trust Company of
California, as trustee (filed as Exhibit 4.3 of MSC.Software
Corporation's Quarterly Report on Form 10-Q for the quarterly
period ended October 31, 1994, and incorporated herein by
reference).
27** Financial Data Schedule for the Nine Months Ended September 30,
2000
------------------------
** Indicates filed herewith.
24
<PAGE>
SIGNATURE
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.
MSC.SOFTWARE CORPORATION
(REGISTRANT)
By: /s/ LOUIS A. GRECO
-------------------------------------------------
Date: November 14, 2000 LOUIS A. GRECO - CHIEF FINANCIAL OFFICER
(Mr. Greco is the Principal Financial and
Accounting Officer and has been duly
authorized to sign on behalf of the Registrant)
25
