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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------
FORM 10-Q
(Mark One)
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
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 0-18708
MICROGRAFX, INC.
(Exact name of registrant as specified in its charter)
Texas 75-1952080
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
505 Millenium Drive, Allen, TX 75013
(Address of principal executive offices) (Zip Code)
(214) 495-4000
(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 October 29, 1999, 11,325,995 shares of the Company's common stock
were outstanding.
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<PAGE>
MICROGRAFX, INC.
FORM 10-Q
For the Quarter Ended September 30, 1999
<TABLE>
<CAPTION>
Table of Contents
PAGE
PART I.
<S> <C> <C>
Item 1. Financial Statements
Consolidated Balance Sheets as of 3
September 30, 1999, and June 30, 1999
Consolidated Statements of Operations for the three months 5
ended September 30, 1999 and 1998
Consolidated Statements of Cash Flows for the 6
three months ended September 30, 1999 and 1998
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial 9
Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
PART II.
Item 1. Legal Proceedings 18
Item 6. Exhibits and Reports on Form 8-K 18
SIGNATURES 19
</TABLE>
2
<PAGE>
Item 1. Financial Statements
<TABLE>
<CAPTION>
Micrografx, Inc.
Consolidated Balance Sheets
(In thousands)
September 30, June 30,
1999 1999
----------- -----------
(Unaudited)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 3,828 $ 8,819
Short-term investments 1,863 2,401
Accounts receivable, less allowances of $3,063 and $2,825 6,543 6,480
Inventories 523 570
Other current assets 1,319 1,478
----------- -----------
Total current assets 14,076 19,748
Property and equipment, net 2,823 2,143
Capitalized software development costs, net 5,937 5,994
Acquired product rights, net 3,263 3,601
Goodwill, net 9,611 9,907
Other assets 942 990
----------- -----------
Total assets $ 36,652 $ 42,383
=========== ===========
See accompanying notes.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
Micrografx, Inc.
Consolidated Balance Sheets
(In thousands)
September 30, June 30,
1999 1999
----------- -----------
(Unaudited)
<S> <C> <C>
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $ 3,599 $ 3,833
Accrued compensation and benefits 2,043 2,189
Other accrued liabilities 2,976 2,567
Deferred revenue 1,650 1,651
Notes payable 1,650 3,500
Income taxes payable 436 403
----------- -----------
Total current liabilities 12,354 14,143
Long-term debt 5,797 5,797
Other non-current liabilities 23 11
Shareholders' equity:
Common stock, $.01 par value, 20,000 shares authorized;
12,140 and 12,131 shares issued 122 122
Additional capital 37,548 37,622
Accumulated deficit (11,355) (6,746)
Accumulated other comprehensive loss (1,579) (1,610)
Less - treasury stock (814 and 909 shares), at cost (6,224) (6,950)
Deferred compensation (34) (6)
----------- -----------
Total shareholders' equity 18,478 22,432
----------- -----------
Total liabilities and shareholders' equity $ 36,652 $ 42,383
=========== ===========
See accompanying notes.
</TABLE>
4
<PAGE>
<TABLE>
<CAPTION>
Micrografx, Inc.
Consolidated Statements of Operations
(Unaudited)
(In thousands, except per share data)
Three months ended September 30,
---------------------------------
1999 1998
-------------- --------------
<S> <C> <C>
Net revenues $ 8,522 $ 15,738
Cost of revenues 1,990 3,084
-------------- --------------
Gross profit 6,532 12,654
Operating expenses:
Sales and marketing 6,678 8,278
General and administrative 2,204 1,562
Net research and development 2,158 2,085
-------------- --------------
Total operating expenses 11,040 11,925
-------------- --------------
(Loss) income from operations (4,508) 729
Interest income 28 362
Interest expense (150) (105)
Other income (expense), net 137 (86)
-------------- --------------
Total non operating income, net 15 171
-------------- --------------
(Loss) income before income taxes (4,493) 900
Income tax provision 116 315
-------------- --------------
Net (loss) income $ (4,609) $ 585
============== ==============
Basic and diluted (loss) income per share $ (0.41) $ 0.05
============== ==============
See accompanying notes.
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
Micrografx, Inc.
Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
Three months ended September 30,
------------------------------------
1999 1998
-------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net (loss) income $ (4,609) $ 585
Adjustments to reconcile net (loss) income to net cash
provided by operating activities:
Depreciation and amortization 1,673 2,391
Deferred income taxes and other 46 361
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable (63) 284
Decrease in inventories 48 242
Decrease (increase) in other current assets 159 (437)
Increase (decrease) in payables and accruals 28 (1,252)
Increase (decrease) in income taxes payable 33 (93)
-------------- ---------------
Total adjustments 1,924 1,496
-------------- ---------------
Net cash (used in) provided by operating activities (2,685) 2,081
Cash flows from investing activities:
Proceeds from maturities of short-term investments 1,577 2,920
Purchases of short-term investments (1,039) (4,865)
Capitalization of software development costs and
purchases of acquired product rights (659) (1,908)
Purchases of property and equipment (981) (380)
-------------- ---------------
Net cash used in investing activities (1,102) (4,233)
Cash flows from financing activities:
Proceeds from employee stock programs 15 1,364
Treasury stock acquired - (2,641)
Payments of notes payable (1,250) -
-------------- ---------------
Net cash used in financing activities (1,235) (1,277)
Effect of exchange rates on cash and cash equivalents 31 332
-------------- ---------------
Net decrease in cash and cash equivalents (4,991) (3,097)
Cash and cash equivalents, beginning of period 8,819 26,483
-------------- ---------------
Cash and cash equivalents, end of period $ 3,828 $ 23,386
============== ===============
See accompanying notes.
</TABLE>
6
<PAGE>
MICROGRAFX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements of Micrografx,
Inc., and subsidiaries (the "Company") at September 30, 1999, and for the three
month periods ended September 30, 1999, and 1998 are unaudited but reflect all
adjustments, which are of a normal recurring nature and, in the opinion of
management, necessary for a fair presentation of the financial position and
results of operations for the periods presented. The accompanying financial
statements and notes thereto should be read in conjunction with the Company's
audited consolidated financial statements for the year ended June 30, 1999,
included in the 1999 Annual Report to Shareholders. The results of operations
for the three month period ended September 30, 1999, are not necessarily
indicative of results to be expected for the year ending June 30, 2000.
REVENUE RECOGNITION
Revenue from packaged product sales to distributors and resellers is recorded
when related products are shipped. Maintenance and subscription revenue is
recognized ratably over the contract period. Revenue from products licensed to
original equipment manufacturers ("OEMs") is recorded when OEMs ship licensed
products while revenue from multi-user licenses is recorded when the software
has been delivered. In connection with the sale of certain products, the Company
provides free telephone support service to customers. The Company does not defer
the recognition of any revenue associated with sales of these products, since
the cost of providing this free support is insignificant, the support is
provided within one year after the associated revenue is recognized (the vast
majority of the support actually occurs within three months) and enhancements
are minimal and infrequent. The estimated cost of providing this free support is
accrued upon product shipment. Provisions are recorded for returns and bad debts
based on historical experience.
INVENTORIES
Inventories consist of the following (in thousands):
<TABLE>
<CAPTION>
September 30, 1999 June 30, 1999
-------------------- -----------------
(Unaudited)
<S> <C> <C>
Raw materials $ 352 $ 404
Finished goods 171 166
-------------------- -----------------
$ 523 $ 570
==================== =================
</TABLE>
FOREIGN FORWARD CURRENCY EXCHANGE CONTRACTS
The Company periodically enters into forward foreign currency exchange contracts
to hedge existing or projected exposure to changing foreign exchange rates. This
exposure results from the Company's foreign operations in countries including
Germany, France, the United Kingdom, the Netherlands, and Japan that are
denominated in currencies other than the U.S. dollar. These forward contracts
are not held for trading purposes. At September 30, 1999, the Company had
forward contracts outstanding to sell 600,000 German Marks for approximately
$328,000. The difference between the carrying amount and current market
settlement value of the forward contracts was not significant.
COMPREHENSIVE INCOME
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income" established rules for the reporting and presentation of
comprehensive income and its components. The Company's comprehensive income
(loss) is comprised of net income (loss) and foreign currency translation
adjustments. Comprehensive loss is $4,578,000 for the three months ended
September 30, 1999 and comprehensive income is $917,000 for the three months
ended September 30, 1998.
7
<PAGE>
(LOSS) INCOME PER SHARE
(Loss) income per share for all periods presented is based on the weighted
average basic and dilutive equivalent shares outstanding using the treasury
stock method. Amounts are shown in thousands except for per share data.
<TABLE>
<CAPTION>
Three Months Ended
September 30,
--------------------------
1999 1998
---------- -----------
<S> <C> <C>
Net (loss) income $ (4,609) $ 585
Denominator:
Denominator for basic earnings per share - weighted
average shares 11,324 11,207
Effect of dilutive employee stock options - 543
---------- -----------
Denominator for diluted earnings per share - weighted
average shares adjusted for the dilutive effect of
stock options 11,324 11,750
========== ===========
Basic and diluted (loss) income per share $ (0.41) $ 0.05
========== ===========
</TABLE>
In accordance with FAS 128, options to purchase approximately 3,456,436 shares
of Common Stock were excluded from the diluted loss per share calculation
because they were anti-dilutive for the three months ended September 30, 1999.
These options included all options outstanding as of September 30, 1999, as well
as 579,700 shares related to the subordinated convertible debentures issued in
connection with the InterCAP acquisition. Options to purchase approximately
966,586 shares of Common Stock were excluded from the diluted income per share
calculation because they were anti-dilutive for the three months ended September
30, 1998.
8
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This Form 10-Q contains certain "forward-looking statements" within the meaning
of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"),
and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). Specifically, all statements other than statements of
historical facts included in this report regarding the Company's financial
position, business strategy and plans, and objectives of management of the
Company for future operations are forward-looking statements. These
forward-looking statements are based on the beliefs of the Company's management,
as well as assumptions made by and information currently available to the
Company's management. When used in this report, the words "anticipate,"
"believe," "estimate," "expect," and "intend," and words or phrases of similar
import, as they relate to the Company or Company management, are intended to
identify forward-looking statements. Such statements (the "cautionary
statements") reflect the current view of the Company with respect to future
events and are subject to risks, uncertainties, and assumptions related to
various factors including, without limitation, changes in the product release
schedule, acceptance or the lack thereof of the Company's recently announced
iGrafx(TM) products, growth or the lack thereof in the enterprise solutions
business of the Company, changes in distribution channels, changes in the
market, new products and announcements from other companies, changes in
technology, interrupted purchasing patterns by customers due to Year 2000
spending and competition from larger, more established competitors. Although the
Company believes that expectations are reasonable, it can give no assurance that
such expectations will prove to be correct. Based upon changing conditions,
should any one or more of these risks or uncertainties materialize, or should
any underlying assumptions prove incorrect, actual results may vary materially
from those described herein as anticipated, believed, estimated, expected, or
intended. All subsequent written and oral forward-looking statements
attributable to the Company or persons acting on its behalf are expressly
qualified in their entirety by the applicable cautionary statements.
GENERAL
Micrografx, Inc. ("Micrografx" or the "Company"), develops and markets graphics
software that gives a company the ability to monitor, evaluate and improve their
business processes. The Company is focusing on graphics applications software
products for business use in the areas of process management and the management
of technical graphics. Additionally, the Company seeks to leverage its
technology base by partnering with organizations to maximize the distribution
and value of its intellectual property.
Historically, the Company has developed a variety of graphics oriented software
products. These products included various technologies such as image editing, 3D
object rendering, basic drawing tools for both the consumer and corporate
markets, greeting card software for the personal creativity market,
flowcharting, process simulation, and technical drawing. In fiscal year 1997, it
became apparent to management and the board of directors that Micrografx did not
have the critical mass to continue to support the number of technologies it was
pursuing. As a result, several changes were made in the management team of the
Company. In 1997, the new management team began the process of determining which
technologies the Company should pursue as part of the long-term strategy of the
Company. It was determined that the greatest potential value was in pursuing
solutions for the corporate market and to de-emphasize the consumer market.
While pursuing this change in direction, the challenge has been to maintain
profitability in the face of phasing out technologies that did not fit into the
long-term strategy of the Company and changing the internal infrastructure and
employee skill sets to line up with the long-term strategy.
The first significant steps in the strategic change process were the licensing
of Micrografx consumer technologies: drawing, greeting card and consumer image
editing, to Cendant Software Corporation ("Cendant") effective June 30, 1998 and
the assignment of the Company's distribution rights for American Greetings
CreataCard Gold and CreataCard Plus to The Learning Company ("TLC") in August of
1998. These agreements ended Micrografx development and distribution of these
products and
9
<PAGE>
completed the Company's de-emphasis of the consumer market in order to focus on
the business graphics market. The combined value of these licensing
and assignment agreements was approximately $21 million. The $21 million was
recognized as technology licensing revenue in varying amounts from the fourth
quarter of 1998 through the fourth quarter of 1999, depending upon the actual
delivery of the technologies and services associated with the agreements.
Subsequent to the de-emphasis of the consumer market, Micrografx concentrated on
pursuing three areas of corporate graphics software: process management,
corporate graphics and network design. As a result of a slower than expected
ramp-up rate of the corporate software business, the Company determined in
September of 1999 that it should refine its focus even further to two
categories: process management and technical graphics. The process management
products are iGrafx Professional, iGrafx Process, Micrografx FlowCharter and
Optima. The technical graphics products are iGrafx Designer and ActiveCGM
(resulting from the acquisition of InterCAP Graphics Systems, Inc. ("InterCAP")
from Intergraph Corporation on April 16, 1999). These two categories represent
the greatest potential as the underlying technologies provide the opportunity to
develop significant solutions for corporations in addition to licensing the
basic technologies to corporations for general use.
The Company was initially organized as a partnership in June 1982 and was
subsequently incorporated in the State of Texas in March 1984. The principal
executive offices of the Company are located at 505 Millennium Drive, Allen,
Texas, 75013, and its telephone number is (214) 495-4000. The Company's U.S.
operations are based in Allen, Texas, with a development office located in
Portland, Oregon and a sales and development office in Annapolis, Maryland.
International subsidiaries are located in the United Kingdom, France, Germany,
Italy, the Netherlands, Switzerland, Australia, and Japan.
10
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage
relationship to net revenues of certain items in the Company's Consolidated
Statements of Operations. Pro forma results for the three months ended September
30, 1998 exclude the technology licensing revenues for comparative purposes. Pro
forma percentages following (loss) income from operations are not meaningful.
Historical results and percentage relationships are not necessarily indicative
of operating results for any future period.
<TABLE>
<CAPTION>
Three Months Ended September 30,
--------------------------------------------------
1999 1998 1998
--------------- ------------------ ---------------
(as reported) (pro forma)
<S> <C> <C> <C>
Net revenues 100% 100% 100%
Cost of revenues 23% 20% 34%
--- --- ---
Gross profit 77% 80% 66%
Operating expenses:
Sales and marketing 78% 52% 91%
General and administrative 26% 10% 17%
Net research and development 26% 13% 23%
--- --- ---
Total operating expenses 130% 75% 132%
(Loss) income from operations (53%) 5% (66%)
Non operating income, net - 1% N.M.
(Loss) income before income taxes (53%) 6% N.M.
Income taxes 1% 2% N.M.
Net (loss) income (54%) 4% N.M.
</TABLE>
The following table sets forth net revenues by product category and the
percentage relationship to total net revenues. The process management category
includes iGrafx Professional(TM), iGrafx Process(TM), Micrografx FlowCharter(R),
Optima(R) and 40 percent of Micrografx Graphics Suite(R) revenues. The technical
graphics category includes Micrografx Designer(R), iGrafx Designer(TM), the
ActiveCGM(TM) products, and 60 percent of Micrografx Graphics Suite(R) revenues.
Micrografx Graphics Suite(TM) is a suite of products that includes Micrografx
FlowCharter(R), Micrografx Designer(R), Picture Publisher(R), and Simply3D(R).
The revenues from Micrografx Graphics Suite are allocated between process
management and technical graphics based on management's estimate of the number
Micrografx Graphics Suite sales where the customer's decision to buy was based
on FlowCharter or based on Designer.
11
<PAGE>
The technology category results from the Company's use of its library of
graphics software in selective licensing. For fiscal 1999, the technology
category consists of licensing of certain personal creativity software source
code to Cendant and TLC. The legacy category includes American Greetings(R)
CreataCard(R) Plus(TM), American Greetings(R) CreataCard(R) Gold(TM), iGrafx
Business(TM), NetworkCharter(TM), Picture Publisher(R), Simply3D(R),
Webtricity(TM), Windows Draw(R), Simply3D(R)(TM), and Picture Publisher(R).
<TABLE>
<CAPTION>
Three Months Ended September 30,
----------------------------------------
1999 % 1998 %
------------ ------- ----------- ------
<S> <C> <C> <C> <C>
Process management $ 4,525 53% $ 4,695 30%
Technical graphics 3,480 41% 1,659 11%
Technology - - 6,680 42%
Legacy 517 6% 2,704 17%
------------ ------- ----------- ------
Total net revenues $ 8,522 100% $15,738 100%
============ ======= =========== ======
</TABLE>
ENTERPRISE PROCESS MANAGEMENT
While process management revenues declined 4 percent versus the prior year, they
were up 8 percent versus the fourth quarter of fiscal 1999. Management believes
that the lower process management revenues versus the prior year period is a
reflection of the Company's change in business. Historically the Company
primarily focused on the sale of boxed product through retail distribution. As
the Company changed its focus to corporate licensing and increased the pricing
of its products to be in line with a corporate licensing model, the Company
experienced a decline in the boxed product sales. The decline in boxed product
sales has not been immediately offset by an increase in corporate licenses for
two reasons: (1) the long corporate sales cycle which can be up to 18 months and
(2) the amount of time it takes for a new corporate sales person to produce
revenues at an acceptable level. The Company only began in fiscal year 1999 the
process of building a sales force to accommodate a corporate sales model and it
can take up to 6 months for a new salesperson to produce revenues at an
acceptable level. Additionally, corporations have temporarily curtailed software
spending until they have identified and remedied any problems that may result
from the Year 2000 issue.
TECHNICAL GRAPHICS
Technical graphics revenues increased 110 percent versus prior year and
increased 22 percent versus the fourth quarter of fiscal 1999. While the
technical graphics products faced the same challenges described in the process
management section, the technical graphics category benefited from product
additions. Active CGM and other products that were obtained through the InterCAP
acquisition in the fourth quarter of fiscal 1999 represent approximately 25
percent of the first quarter of fiscal 2000 technical graphics revenues.
Additionally, the Company generated significant revenues from localized versions
of iGrafx Designer which were released during the first quarter of fiscal 2000.
TECHNOLOGY
The technology category contains revenue recognized related to the previously
discussed Cendant and TLC relationships. As of June 30, 1999, all revenue
related to these transactions has been recognized. The Company continues to seek
other licensing relationships in order to leverage its portfolio of
technologies, however, there can be no assurance that the Company will be able
to enter into licensing relationships in the future.
LEGACY
The significant decline in this category is the result of the Company's change
in strategic direction as previously discussed.
12
<PAGE>
Net revenues by geographical region (in thousands) for the three months ended
September 30, 1999, and 1998 were as follows:
<TABLE>
<CAPTION>
Three Months Ended September 30,
-----------------------------------------
1999 % 1998 %
------------ ------ ----------- -------
<S> <C> <C> <C> <C>
Americas $ 3,206 38% $10,515 67%
Europe 4,645 54% 4,262 27%
Asia Pacific 671 8% 961 6%
------------ ------ ----------- -------
Total $ 8,522 100% $15,738 100%
============ ====== =========== =======
</TABLE>
A significant portion of the revenue fluctuations shown above are related to
significant decreases in Windows Draw and CreataCard revenues due to the
licensing of those technologies to Cendant and TLC, respectively. Revenue for
these geographical regions, excluding the technology and legacy revenues, for
the three months ended September 30, 1999, and 1998 were as follows:
<TABLE>
<CAPTION>
Three Months Ended September 30,
-----------------------------------------
1999 % 1998 %
------------ ------ ----------- -------
<S> <C> <C> <C> <C>
Americas $ 3,179 40% $ 2,406 38%
Europe 4,200 52% 3,323 52%
Asia Pacific 626 8% 625 10%
------------ ------ ----------- -------
Total $ 8,005 100% $ 6,354 100%
============ ====== =========== =======
</TABLE>
The higher revenues in Americas are primarily attributable to sales of software
obtained in the purchase of InterCAP while the increase in Europe was primarily
the result of the increased sales of localized versions of iGrafx Designer.
Cost of revenues for the three months ended September 30, 1999, were $2.0
million, or 23 percent of net revenues, compared to $3.1 million, or 20 percent
of net revenues, for the three months ended September 30, 1998. The lower cost
of revenues for the three months ended September 30, 1999, was primarily
attributable to the Company's focus on enterprise sales and is driven by several
factors. In summary, the principal factors are: (i) an increase in the average
selling price of the Company's products, (ii) a higher percentage of revenue
derived from multi-user licenses and maintenance agreements versus boxed product
sales (boxed product carries significant costs including box design and
creation, manuals, media guides, and CDs, compared to only minor costs
associated with multi-user licenses), (iii) personal creativity revenues also
carry a much higher third party royalty cost than the Company's corporate
products, and (iv) amortization related to capitalized software development
costs declined as the majority of amounts relating to old products previously
capitalized became fully amortized during fiscal 1999.
The Company's operating results are affected by changes in foreign currency
exchange rates. These variations result from the change in exchange rates of
European currencies and the Japanese yen versus the U.S. dollar. Because
European manufacturing costs and European and Japanese operating expenses are
also incurred in those local currencies, the impact of exchange rates on net
income is mitigated. The impact of year-over-year changes in exchange rates on
revenue and net income was not significant.
13
<PAGE>
Sales and marketing expenses for the three months ended September 30, 1999, were
$6.7 million, or 78 percent of net revenues, compared to $8.3 million, or 52
percent of net revenues for the same period in the previous year. Total sales
and marketing expenses declined because of the focus on corporate sales. The
Company has reduced its spending on variable programs aimed at the consumer
market such as mass market advertisements, and is spending in more targeted ways
such as attendance at industry trade shows and advertising in specific industry
and vertical market publications. The Company expects sales and marketing
expenses to decline in absolute dollars through the end of the fiscal year.
General and administrative expenses for the three months ended September 30,
1999, were $2.2 million, or 26 percent of net revenues, compared to $1.6
million, or 10 percent of net revenues, for the three months ended September 30,
1998. The increase in general and administrative expenses resulted from the
acquisition of InterCAP and higher legal costs. As a result of cost cutting
measures at the end of the first quarter of fiscal 2000, the Company expects
general and administrative costs to decline in absolute dollars in the second
quarter of fiscal 2000 and remain at those levels through the end of the fiscal
year.
Net research and development expenses for the three months ended September 30,
1999, were $2.2 million, or 26 percent of net revenues, compared to $2.1
million, or 13 percent of net revenues, for the quarter ended September 30,
1998. Gross research and development expenses, before capitalization, for the
three months ended September 30, 1999, were $2.6 million, or 31 percent of net
revenues, compared to $3.5 million, or 22 percent of net revenues for the
quarter ended September 30, 1998. Gross research and development spending has
declined resulting from the elimination of certain products, improved quality
assurance processes, lower costs for localization, and the consolidation of
multiple graphics engines. The increase in net research and development
resulted from lower capitalization of software development costs. The Company
expects research and development expenses to decline slightly for the near term.
During the three months ended September 30, 1999, the Company capitalized
approximately $0.5 million in software development costs and amortized
approximately $0.5 in software development costs. This compares to
capitalization of $1.4 million and amortization of $1.1 million during the three
months ended September 30, 1998.
For the three months ended September 30, 1999, interest income decreased to
approximately $28,000 compared to $0.4 million for the three months ended
September 30, 1998. Changes in exchange rates resulted in a gain of
approximately $137,000 for the three months ended September 30, 1999 compared to
a loss of approximately $86,000 for the three months ended September 30, 1998.
Pursuant to the requirements of SFAS 109, a valuation allowance must be provided
when it is more likely than not that deferred tax assets will not be realized.
Based on the fact that the Company has a cumulative net operating loss for the
prior three years and there are no prior tax payments that could be refunded, it
is management's belief that the realization of the deferred tax assets in the
near term is remote. Due to these circumstances the Company did not record a net
tax benefit from the operating loss, and recorded tax expense for the quarter
due to profitable operations in Europe and Japan.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1999, the Company's principal sources of liquidity consisted of
cash and cash equivalents of $3.8 million and short-term investments of $1.9
million.
For the three months ended September 30, 1999, cash used in operating, investing
and financing activities resulted in a decrease in cash and cash equivalents of
approximately $5.0 million. This decrease resulted from the payment of $1.25
million to Intergraph Corporation, in connection with the acquisition of
InterCAP, approximately $1.0 million of purchases of property and equipment, and
the use of $2.7 million in cash from operations during the three months ended
September 30, 1999. On October 28, 1999, the Company made the final payment of
$1.25 million on the short-term note due to Intergraph for the purchase of
InterCAP, further reducing the Company's liquidity.
14
<PAGE>
As reported in the Company's 1999 Annual Report, Management continues to examine
various financing methods that would ensure that the capital resources of the
Company are sufficient to meet its requirements. Such measures include the
potential sale of equity securities in one or more private transactions, the
sale or spin-off of certain assets to third parties, asset based lending (i.e.
accounts receivable financing), and/or factoring of international accounts
receivable. Management believes it will be successful in obtaining the necessary
revenue levels and/or additional funding necessary to operate the Company in the
near term, however, there can be no assurance that under its current conditions,
external funds will be available or, if available, will not potentially dilute
shareholders' interests or returns.
The failure of the Company to acquire additional external financing by December
31, 1999, could result in severe operational difficulties. Such difficulties
could result in a reduction in workforce, a reduction in the scope of
operations, or ultimately in a forced reorganization or bankruptcy.
EURO CONVERSION
The Company is addressing issues regarding the European Economic Monetary
Union's ("EMU") single eurocurrency (the "Euro") and is currently able to
transact business using this currency. The Company intends to convert the
appropriate European ledgers to the Euro after fiscal year ended June 30, 2000,
and anticipates no material costs associated with this conversion.
YEAR 2000 COSTS
The Company is aware of and is addressing a broad range of issues associated
with the programming code in existing computer systems as the Year 2000
approaches. The Year 2000 issue is complex, as many computer systems will be
affected in some way by the rollover of the two-digit year value to 00. Systems
that do not properly recognize such information could generate erroneous data or
cause a system to fail. The Year 2000 issue creates risk for the Company from
unforeseen problems in its own infrastructure and systems, its own products and
from third parties with which the Company deals on financial and other
transactions worldwide. Failures of the Company's and/or third parties' computer
systems could have a material impact on the Company's ability to conduct its
business.
The Company began an infrastructure and systems review of Year 2000 readiness
for the United States operations in May 1998, with the objectives of:
o Inventorying all computer, network, and telephony-related hardware and
software;
o Assessing, through both research and testing, whether or not the equipment and
software are Y2K compliant;
o Developing plans for upgrading hardware and software to Year 2000 compliant
status, decommissioning non-compliant hardware that cannot be upgraded to a
compliant state, and replacing software that cannot be upgraded to Year 2000
compliance.
As of February 1, 1999, all mission critical systems and applications in the
data center were reviewed and plans for upgrade, decommissioning or replacement
were developed for systems and applications that were not Year 2000 compliant.
Software upgrades and replacement are complete with the few exceptions of
updates released by the software vendors in the fourth quarter. These upgrades
are being tested and will be in production before the end of the calendar year.
Workstations, desktop and laptop computers used in the development of the
Company's products and in conducting the Company's business are largely newer
machines that are reported by their manufacturers to be Year 2000 compliant. A
small number of machines have been identified, which, due to age or
obsolescence, cannot be brought into compliance. The Company plans to
decommission and/or replace these machines before the end of the year.
The principal software running on the Company's computers is licensed under
corporate maintenance agreements with major vendors that have reported either
that their software is currently Year 2000 compliant or that Year 2000 compliant
upgrades will be available during calendar year 1999. It is the Company's intent
to apply and verify such upgrades as they become available.
15
<PAGE>
Non-compliant hardware was upgraded, decommissioned, or replaced before, or
concurrent with, the completion of the Company's move to its new corporate
headquarters in September of 1999.
The inventory, review, upgrade, replacement, and decommissioning plans described
herein refer specifically to mission critical corporate standard technology and
components. Special purpose hardware and software, such as may be found in some
areas of Development and Quality Assurance, and personal productivity tools that
are not covered by corporate standards, are not covered in this plan because
this hardware is not directly used in the running of the business or development
of products.
The Company's foreign subsidiaries and contractors access mission critical
applications through the services of the Company's wide area network. With
regard to centrally administered applications and systems software, the
Company's foreign operations are at an equal state of Year 2000 readiness with
the Company. A small number of remote communications components have been
identified as not being Year 2000 ready, and these components are scheduled for
replacement by calendar year end. Foreign operations represent a small
percentage of the Company's hardware assets, and formal review of their Year
2000 readiness status began in March 1999.
The principal costs incurred in addressing Year 2000 issues to date have been
managerial and administrative. All essential third-party software is on
maintenance agreements, and hardware expenses have already been accounted for in
either normal retirement/replacement plans or in the planned expenses for the
infrastructure of the new headquarters building.
A small number of internally developed applications are not currently Year 2000
compliant, and the cost of remediation will not be material to the Company's
operating results. In addition, the historical cost of remediation has not been
material.
Each of the Company's product divisions has completed a Year 2000 assessment of
its currently offered products. While this assessment included internal testing
of the Year 2000 capabilities of these products, the Company has not had, and
has no plans to have, its products tested by an independent third party. The
Company believes that the vast majority of its currently offered products are
Year 2000 compliant, and expects virtually all of its remaining currently
offered products to become compliant through new releases. In any event, the
Company expects that all of its currently offered products will be Year 2000
compliant before the end of 1999. Because Year 2000 compliance is generally
integrated into its normal product development activities, the Company has not
incurred and does not expect to incur any significant incremental expenses in
addressing this issue in its product lines. The Company believes that a small
number of its customers that receive product support from the Company are
operating product versions that may not be Year 2000 compliant or products that
the Company has replaced or intends to replace with comparable, Year 2000
compliant products. The Company believes that the vast majorities of such
customers are migrating and will continue to migrate to compliant versions and
products through new releases, which the Company is strongly encouraging. In
addition, certain former customers may be operating non-compliant versions of
products in respect of which the Company's agreed-upon product support and
warranty periods have expired. The Company has not undertaken an assessment of
whether these former customers are taking appropriate steps to address any
related Year 2000 issues. The Company does not expect customers who purchase or
migrate to current versions of the Company's products to experience any Year
2000 failures caused by such products. In addition, the Company believes that
its licenses and other agreements contain customary and appropriate limitations
on the Company's obligations with respect to any Year 2000 failures that may be
caused by its current or former products. However, there can be no assurance
that the Company's expectations and beliefs as to these and related matters will
prove to be accurate. Moreover, the Company is aware of a growing number of
lawsuits against software vendors and other information technology firms
involving Year 2000 issues. In addition, regardless of whether the Company's
products are Year 2000 compliant, they operate on IT systems consisting of
third-party hardware and software, some of which may not be fully Year 2000
compliant. In light of the foregoing factors, there can be no assurance that
customers or former customers
16
<PAGE>
will not bring claims or proceedings against the Company seeking compensation
for losses associated with Year 2000-related failures.
The Company has begun a Year 2000 assessment of its material third party
supplier relationships. The assessment is being conducted through formal
communications with such suppliers, testing of supplier equipment, systems or
interfaces, and a review of the Year 2000 information made publicly available by
such suppliers. The Company has substantially completed its assessment of major
third party suppliers and continues to review information from late respondents.
Upon discovery of any remaining readiness issues that are material to the
Company, efforts to obtain adequate readiness assurances from the relevant third
parties will be pursued. There can be no assurance that the Company will receive
all information necessary to fully evaluate the Year 2000 readiness of all
material suppliers. In addition, the Company relies in various ways, both
domestically and internationally, on governments, utilities, communications
service providers, financial institutions and other third parties to conduct
normal business operations. There can be no assurance that suppliers and other
third parties upon which the Company is reliant will not suffer business
interruptions caused by Year 2000 issues. Such interruptions could have a
material adverse effect on the Company's business, financial condition and
results of operations.
Other aspects of the Year 2000 issue may pose additional risks to the Company.
Some commentators predict that normal purchasing patterns and trends in the
software industry may be affected by customers replacing or upgrading
applications or systems to address Year 2000 issues. The Company has experienced
a small number of potential customers who have indicated that they will not be
considering any new software purchases until after the first calendar quarter of
2000. However, there currently does not appear to be a discernable trend
indicating a recent or impending material reduction in demand for the Company's
products. However, there can be no assurance that Year 2000 issues will not
affect future customer purchasing patterns, possibly resulting in lower demand
for the Company's products. Furthermore, commentators have predicted that a
significant amount of litigation may arise out of Year 2000 compliance issues.
Although certain potential litigation scenarios have been described above, the
probability of the Company's actual involvement in any lawsuits of this nature
and the range of potential outcomes is not estimable at this time. A material
adverse outcome in a Year 2000 lawsuit - as is the case with any lawsuit - could
have a material adverse effect on the Company's business, financial condition,
and results of operations.
Although the Company believes that its Year 2000 readiness efforts are designed
to appropriately identify and address those Year 2000 issues that are within the
Company's control, there can be no assurance that the Company's efforts will be
fully effective or that Year 2000 issues will not have a material adverse effect
on the Company's business, financial condition, or results of operations. The
novelty and complexity of the issues presented, the proposed solutions
therefore, and the Company's dependence on the preparedness of third parties,
are among the factors that could cause the Company's efforts to be less than
fully effective. Moreover, Year 2000 issues present many risks that are simply
beyond the Company's control, for example, the collateral effects of Year 2000
issues on the economy in general and on the Company's business partners and
customers in particular. In light of the foregoing, the Company believes that it
is not possible to specifically describe its most reasonably likely "worst case"
Year 2000 scenario or to quantify the related potential consequences. However,
the risks and the potential consequences described above represent management's
best judgment of these matters based on currently available information. Except
as described above, the Company has not established "contingency plans" to
address potential consequences of the Year 2000 issues. The Company intends to
continue to evaluate both existing and newly identified Year 2000 risks and to
develop and implement such further responsive measures as it deems appropriate.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For the period ended September 30, 1999, the Company did not experience any
material changes in market risk exposures that affect the quantitative and
qualitative disclosures presented in the Company's 1999 Annual Report on Form
10-K.
17
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Micrografx has filed litigation in the federal district court for the Northern
District of Texas, asking for declaratory relief that an at-will interim letter
agreement between THINK New Ideas, Inc. and Micrografx may be terminated by
Micrografx as of May 3, 1999, without additional payment to THINK. THINK filed
its counterclaim, alleging that the agreement could be terminated only with
ninety days notice, and not without the payment of an additional amount of
compensation in the amount of $889,000,which THINK alleges Micrografx promised
to pay under agreement with THINK. Micrografx disputes the notice period for
termination and that any additional money is owed, beyond an agreed monthly
retainer of $83,000, which was paid to THINK until the termination of the
interim agreement. THINK also filed a complaint in federal court in Los Angeles
making the same allegations it asserted in its counterclaim in the Dallas
action. THINK also filed in the Dallas court a motion to transfer the Dallas
lawsuit to Los Angeles on the grounds Los Angeles is a more convenient forum.
THINK's motion to transfer the Dallas lawsuit was granted, and the Dallas
lawsuit will be transferred to Los Angeles federal court.
The Company is also subject to certain legal proceedings and claims that arise
in the ordinary course of business. In the opinion of management, the resolution
of these legal proceedings and claims will not have a material effect on the
Company's consolidated financial position and results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10 Amendment to Promissory Note, dated April 15, 1999, payable to Intergraph
Corporation.
27 The Financial Data Schedule required by Item 601(b)(27) of Regulation S-K
has been included with the electronic filing of this Form 10-Q.
(b) Reports on Form 8-K - None
18
<PAGE>
Signatures
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MICROGRAFX, INC.
Date: November 11, 1999 By: /s/ JOHN M. CARRADINE
----------------------
John M. Carradine
Chief Financial Officer
and Treasurer
19
<PAGE>
INDEX TO EXHIBITS
Exhibit No. Description
10 Amendment to Promissory Note, dated April 15, 1999, payable to Intergraph
Corporation.
27 The Financial Data Schedule required by Item 601(b)(27) of Regulation S-K
has been included with the electronic filing of this Form 10-Q.
20
<PAGE>
EXHIBIT 10
September 28, 1999
Mr. John Carradine
Vice President of Corporate Development, General Counsel
Micrografx, Inc.
505 Millenium Drive
Allen, Texas 75013
Re: Waiver of Default on Promissory Note
Dear John:
At the request of Micrografx, Inc. ("Micrografx"), Micrografx and
Intergraph Corporation ("Intergraph") have been discussing the possibility of
restructuring the payment obligation of Micrografx with respect to that certain
Promissory Note in the principal amount of $2,500,000 and payable to Intergraph
which has been in default since September 1, 1999.
The Promissory Noted originally formed a part of the consideration
tendered by Micrografx in connection with the closing of the merger (the
"Merger") and other transactions contemplated by that certain Agreement and Plan
of Merger dated as of April 15, 1999 between and among Micrografx, Intercap
Acquisition, Inc. and InterCAP Graphics Systems, Inc. ("InterCAP") and
Intergraph (the "Merger Agreement").
Since the closing of the transactions contemplated by the Merger
Agreement, Micrografx has asserted a number of claims relating to, arising out
of or in connection with the consummation of the Merger as we as transactions
occurring prior to the effective date of the Merger.
The following provisions set forth Intergraph's understanding of the
terms to which the Micrografx and Intergraph have agreed relating to the waiver
of the currently existing Promissory Note default, the release and waiver of
certain possible or threatened claims of Micrografx or its affiliates relating
to, arising out of, or connected with the transactions contemplated by the
Merger Agreement, and the restructuring of the payment and interest obligations
of Micrografx under the Promissory Note.
1. Micrografx will make a payment to Intergraph by wire transfer of
$1,361,718.70, which amount includes a principal reduction of $1,250,000.00
together with accrued and unpaid interest of $110,364.58 (which amount has
been calculated on the basis of 4.5 months of interest at $20,312.50 per
month plus 28/30ths of a month's interest for September) on the principal
balance of $2,500,000 for the period from April 16, 1999 to the date
hereof.
2. Micrografx will immediately deliver to Intergraph the InterCAP stock
certificate issued in Micrografx's name and reflecting its ownership of all
of the issued and outstanding common stock of InterCAP.
3. Micrografx knowingly and voluntarily agrees to fully, expressly,
unconditionally and irrevocably release Intergraph and its current and
former subsidiaries, affiliates, shareholders, agents, attorneys,
directors, officers employees, insurers, predecessors, successors and
assigns (collectively, the Intergraph Parties") from, without any
limitation, any and all claims, warranties, demands, debts, costs, expenses
including attorneys' fees), causes of action, judgments, liabilities and
obligations of any kind whatsoever which Micrografx or its affiliates may
have had, may now have, or may hereafter have or claim to have, whether
known or unknown, against any of the Intergraph Parties, or all of them, in
connection with, arising out of or relating to: (i) Section 3.3(c) of the
Merger Agreement; and (ii) the issues, matters and points addressed in the
memorandum dated September 8,
21
<PAGE>
1999 from John M. Carradine to John Wilhoite of Intergraph, a copy
of which is attached hereto as Exhibit A. For purposes of this
release, Micrografx acknowledges that it may hereafter
discover facts different from or in addition to those which it now knows or
believes to be true and agrees that in such event, this release shall
nevertheless be and remain effective in all respects. Micrografx further
represents and warrants that as of the execution hereof, it has not
assigned or transferred, or purported to assign or transfer, any claim that
is released pursuant to this release.
4. Micrografx, on behalf of itself and its affiliates, hereby acknowledges and
affirms the validity and enforceability of the license agreement dated as
of March 1999 between InterCAP and Intergraph.
5. Intergraph hereby waives the existing default on the Promissory Note and
hereby amends the Promissory Note to reflect a restated outstanding
principal amount of $1,250,000, a restated interest rate of 10.5 per cent
per annum accruing from and including September 28, 1999 and a new due date
of October 28, 1999. Intergraph hereby waives and relinquishes any and all
rights accruing to it under section 4 of that certain Subordinated
Convertible Debenture (the "Debenture"), dated April 16, 1999 made by
Micrografx to the order of Intergraph that would otherwise permit
Intergraph to accelerate the maturity of the Debenture based upon or
arising out of the occurrence of the existing default on the Promissory
Note or the Pledge Agreement (as defined below) (insofar as a default
exists under the Pledge Agreement as a result of the existing default under
the Promissory Note) and Intergraph agrees that it shall not be entitled to
accelerate the maturity date of the Debenture or otherwise proceed to
collect the same based upon such defaults which are hereby waived, it being
intended that the Debenture shall remain due and payable in accordance with
the provisions of sections 1 and 2 thereof and that all other terms and
conditions of the Debenture shall remain in full force and effect;
provided, however, such waiver of the existing default under the Promissory
Note (and the related waiver of the default existing under the Pledge
Agreement as a result of the existing default under the Promissory Note)
shall not extend to any future default of the Promissory Note as amended
hereby, or the Pledge Agreement, arising after the date hereof. Intergraph
further waives any and all defaults or events of default existing under
that certain Pledge and Security Agreement (the "Pledge Agreement") dated
as of April 16, 1999 by and among Intergraph and Micrografx, insofar as
such defaults or events of default arise out of or are based upon the
existing default on the Promissory Note, and by reason of such waiver,
agrees to release all remedies available to it under the Pledge Agreement
based upon such default or events of default; provided, however, such
waiver shall not extend to any defaults arising under the Pledge Agreement
arising after the date hereof
If Micrografx is in agreement with the foregoing, no later than 2:00
P.M. C.S.T. on September 28, 1999, please (i) execute a copy of this letter and
deliver such executed letter by facsimile, with originals to follow by overnight
courier to: John W. Wilhoite, Intergraph Corporation, One Madison Industrial
Park, Huntsville, Alabama 35984-0001, telephone (256)730-2637, facsimile (256)
730-2048 and (ii) pay $1,361,718.70 by wire transfer to:
Norwest Bank Minnesota NA
Minneapolis, MN 55479
Bank ABA# 0910-0001-9
Account Name: Intergraph Corporation
Account Number # 635504-2493
22
<PAGE>
This letter shall be treated as a written modification and amendment of
the Promissory Note. Should Micrografx desire to cancel the existing Promissory
Note in connection with a concurrent issuance of a replacement note reflecting
the amended and modified terms, please notify me and arrange to make delivery of
an executed replacement note. Upon receipt of the replacement note, Intergraph
will promptly return the Promissory Note to Micrografx for cancelation.
Sincerely,
INTERGRAPH CORPORATION
By: /s/ JOHN W. WILHOITE
--------------------
John W. Wilhoite
Executive Vice President
Agreed and accepted this 28th day of September, 1999
MICROGRAFX, INC.
By: /s/ JOHN CARRADINE
------------------
Name: John Carradine
Title: Chief Financial Officer
cc: Craig A. Parker, Esq.
L. Steven Leshin, Esq.
23
<PAGE>
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