<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 quarterly period ended December 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number: 0-19960
Datawatch Corporation
(Exact name of registrant as specified in its charter)
Delaware 02-0405716
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
234 Ballardvale Street, Wilmington Massachusetts 01887
(Address of principal executive offices) (Zip Code)
(978) 988-9700
(Registrant's telephone number, including area code)
None
(Former name, former address, former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date:
Class Outstanding at February 8, 1999
Common stock, $.01 par value 9,148,312
<PAGE>
DATAWATCH CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements Page #
a) Consolidated Condensed Balance Sheets:
December 31, and September 30, 1998 3
b) Consolidated Condensed Statements of Operations:
Three Months Ended December 31, 1998 and 1997 4
c) Consolidated Condensed Statements of Cash Flows:
Three Months Ended December 31, 1998 and 1997 5
d) Notes to Consolidated Condensed Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 2. Changes in Securities *
Item 3. Default upon Senior Securities *
Item 4. Submission of Matters to a Vote of Security Holders *
Item 5. Other Information *
Item 6. Exhibits and Reports on Form 8-K 17
SIGNATURES
* No information provided due to inapplicability of item.
<PAGE>
PART I.
Item 1. Financial Statements
DATAWATCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEETS
(Unaudited)
<TABLE>
<S> <C> <C>
December 31, September 30,
1998 1998
-------------------------- -- ---------------------
ASSETS
CURRENT ASSETS:
Cash and equivalents $ 2,363,255 $ 3,575,256
Short-term investments 3,400,400 3,395,410
Accounts receivable, net 6,172,394 6,401,965
Inventories 417,611 511,669
Prepaid expenses 1,203,024 1,270,671
-------------------------- ---------------------
Total current assets 13,556,684 15,154,971
-------------------------- ---------------------
PROPERTY AND EQUIPMENT:
Property and equipment 4,185,285 4,280,100
Less accumulated depreciation and amortization (2,457,021) (2,453,240)
-------------------------- ---------------------
Net property and equipment 1,728,264 1,826,860
-------------------------- ---------------------
OTHER ASSETS 702,168 625,293
-------------------------- ---------------------
EXCESS OF COSTS OVER NET ASSETS
OF ACQUIRED COMPANIES 644,589 725,091
-------------------------- ---------------------
TOTAL ASSETS $ 16,631,705 $ 18,332,215
========================== =====================
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 3,287,516 $ 3,791,323
Accrued expenses 931,477 1,301,599
Borrowings under credit lines 1,150,000 250,000
Deferred revenue 1,193,619 1,161,556
Current portion of long-term debt 114,160 147,065
-------------------------- ---------------------
Total current liabilities 6,676,772 6,651,543
-------------------------- ---------------------
LONG-TERM DEBT 25,687 44,190
-------------------------- ---------------------
TOTAL LIABILITIES 6,702,459 6,695,733
-------------------------- ---------------------
COMMITMENTS AND CONTINGENCIES (Note 7)
SHAREHOLDERS' EQUITY:
Preferred stock - -
Common stock 91,803 91,803
Additional paid-in capital 19,823,887 19,823,887
Accumulated deficit (9,560,186) (7,829,554)
Accumulated other comprehensive income (285,870) (309,266)
-------------------------- ---------------------
10,069,634 11,776,870
Less treasury stock - at cost (140,388) (140,388)
-------------------------- ---------------------
Total shareholders' equity 9,929,246 11,636,482
-------------------------- ---------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 16,631,705 $ 18,332,215
========================== =====================
</TABLE>
See notes to consolidated condensed financial statements.
<PAGE>
Item 1. Financial Statements (continued)
<TABLE>
DATAWATCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended
December 31,
<S> <C> <C>
1998 1997
------------------------ --------------------------
PC-based products $ 6,523,425 $ 6,206,085
Macintosh-based products - 172,254
------------------------- ----------------------
NET SALES 6,523,425 6,378,339
COSTS AND EXPENSES:
Cost of sales 1,454,520 1,460,004
Engineering & product development 638,635 419,137
Selling, general and administrative 5,998,137 6,388,328
Restructuring and centralization costs 199,637 2,364,246
------------------------- ----------------------
LOSS FROM OPERATIONS (1,767,504) (4,253,376)
INTEREST EXPENSE (30,846) (18,470)
OTHER INCOME, primarily interest 70,882 143,243
LOSS ON DISPOSAL OF FIXED ASSETS (7,766) -
GAIN ON SALE OF PRODUCT LINE - 15,431,253
FOREIGN CURRENCY GAIN (LOSS) 4,602 (4,216)
PROVISION FOR INCOME TAX - 2,225,000
------------------------- ----------------------
NET INCOME (LOSS) $ (1,730,632) $ 9,073,434
========================= ======================
NET INCOME (LOSS) PER COMMON SHARE:
Basic $ (.19) $ 1.00
========================= ======================
Diluted $ (.19) $ .97
========================= ======================
WEIGHTED AVERAGE SHARES OUTSTANDING - Basic 9,148,312 9,097,283
ADJUSTMENT FOR POTENTIAL COMMON STOCK - 248,512
------------------------- ----------------------
WEIGHTED AVERAGE SHARES OUTSTANDING - Diluted 9,148,312 9,345,795
========================= ======================
</TABLE>
See notes to consolidated condensed financial statements.
<PAGE>
Item 1. Financial Statements (continued)
<TABLE>
DATAWATCH CORPORATION AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
December 31,
1998 1997
<S> <C> <C>
----------------------- ---------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (1,730,632) $ 9,073,434
Adjustment to reconcile net income to net cash:
Gain on sale of product line - (15,431,253)
Gain (loss) on disposition of fixed assets 7,766 -
Depreciation and amortization 311,927 286,611
Interest accrued on short-term investments (53,905) -
Changes in current assets and liabilities:
Inventories 94,058 183,568
Prepaid advertising and other expenses 67,647 721,303
Accounts receivable 229,571 578,756
Accounts payable and accrued expenses (832,388) 379,515
Deferred revenue 32,063 (171,216)
----------------------- ---------------------
Net cash used in operating activities (1,873,893) (4,379,282)
----------------------- ---------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to equipment and fixtures (113,714) (171,265)
Proceeds from maturity of short-term investments 3,015,000 -
Purchase of short-term investments (2,966,085) (4,879,481)
Proceeds from sale of product line to Dr Solomon's
Software, Inc. - 16,750,000
Other assets (121,901) 124,975
----------------------- ---------------------
Net cash (used in) provided by investing activities (186,700) 11,824,229
----------------------- ---------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock - 35,269
Principal payments on long-term obligations (51,408) (83,423)
Principal payments on bank term-loan - (1,500,000)
Borrowings under credit lines, net 900,000 -
----------------------- ---------------------
Net cash provided by (used in) financing activities 848,592 (1,548,154)
----------------------- ---------------------
NET INCREASE (DECREASE) IN CASH AND EQUIVALENTS (1,212,001) 5,896,793
CASH AND EQUIVALENTS, BEGINNING OF PERIOD 3,575,256 1,586,875
----------------------- ---------------------
CASH AND EQUIVALENTS, END OF PERIOD $ 2,363,255 $ 7,483,668
======================= =====================
</TABLE>
See notes to consolidated condensed financial statements.
<PAGE>
Item 1. Financial Statements (continued)
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
1. Basis of Presentation: The accompanying unaudited condensed consolidated
financial statements include the accounts of Datawatch Corporation (the
"Company") and its wholly owned subsidiaries and have been prepared pursuant to
the rules and regulations of the Securities and Exchange Commission regarding
interim financial reporting. Accordingly, they do not include all of the
information and notes required by generally accepted accounting principles for
complete financial statements and should be read in conjunction with the audited
consolidated financial statements included in the Company's Annual Report on
Form 10-K for the year ended September 30, 1998.
In the opinion of management, the accompanying unaudited condensed
consolidated financial statements have been prepared on the same basis as the
audited consolidated financial statements, and include all adjustments necessary
for fair presentation of the results of the interim periods presented. The
operating results for the interim periods presented are not necessarily
indicative of the results expected for the full year.
2. Recent Accounting Pronouncements: The American Institute of Certified Public
Accountants ("AICPA") issued Statement of Position ("SOP") No. 97-2, "Software
Revenue Recognition," and interpretive guidance in SOP Nos. 98-4 and 98-9 which
supersede SOP No. 91-1. The Company has adopted SOP No. 97-2 and the successor
SOPs effective October 1, 1998. SOP No. 97-2 generally requires revenue earned
on software arrangements involving multiple elements to be allocated to each
element based on the relative fair values of the elements. The adoption of SOP
No. 97-2 did not have a material effect on the Company's operating results for
the three months ended December 31, 1998.
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 131, "Disclosures About Segments
of an Enterprise and Related Information." SFAS No. 131 establishes standards
for the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about products
and services, geographic areas and major customers. SFAS No. 131 will be adopted
by the Company in its annual consolidated financial statements for fiscal 1999.
Such standards are "disclosure standards" and will not impact the Company's
consolidated results of operations.
In March of 1998, the AICPA released SOP 98-1, "Accounting for Costs of Computer
Software Developed or Obtained for Internal Use," which requires certain
expenditures made for internal use software to be capitalized. The Company is
currently studying the impact of SOP 98-1, which is required to be adopted by
the Company in October 1999.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," effective for fiscal years beginning after
June 15, 1999. The new standard requires that all companies record derivatives
on the balance sheet as assets or liabilities, measured at fair value. Gains or
losses resulting from changes in the values of those derivatives would be
accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. Management is currently assessing whether there will be
any impact of SFAS No. 133 on the Company's consolidated financial statements
upon adoption, which is required in October 1999.
3. Inventories: The Company accounts for its inventories using a standard cost
methodology. Inventories were comprised of the following:
<TABLE>
December 31, September 30,
1998 1998
------------------------ -----------------------
<S> <C> <C>
Materials $ 245,559 $ 303,426
Finished goods 172,052 208,243
------------------------ -----------------------
TOTAL $ 417,611 $ 511,669
======================== =======================
</TABLE>
4. Restructuring and Centralization Costs: During the fourth quarter of fiscal
1998, the Company approved and completed a restructuring plan to further
centralize its administrative infrastructure and its development efforts. These
charges, totaling approximately $315,000, were either paid ($134,000) or accrued
($181,000) as of September 30, 1998. During the fourth quarter of fiscal 1998,
the Company paid $117,000 of these accrued charges and at December 31, 1998,
$64,000 remained accrued. The accrued expenses will be paid in the second
quarter of fiscal 1999. There were no changes in these estimates recorded in the
first quarter of fiscal 1999.
During the first quarter of fiscal 1999, the Company approved and completed a
restructuring plan to centralize in the United States the quality assurance
efforts for its Quetzal/SC product. The restructuring plan consisted of charges
for severance benefits and related costs for 10 terminated employees. These
charges, totaling approximately $200,000, were either paid ($146,000) or accrued
($54,000) as of December 31, 1998. The accrued expenses will be paid in the
second quarter of fiscal 1999.
5. Litigation: The Company has been named as a defendant in litigation arising
from its normal business activities. The Company is not a party to any
litigation that management believes will have a material adverse effect on the
Company's consolidated financial statements or its business.
6. Comprehensive Income: Effective October 1, 1998, the Company adopted the
provisions of SFAS No. 130, "Reporting Comprehensive Income." The following is
presented in accordance with this statement:
Three Months Ended December 31,
1998 1997
Net income (loss) ($1,730,632) $9,073,434
Other comprehensive income, net of tax:
Foreign currency translation adjustments 23,396 88,168
------------ ----------
Comprehensive income (loss) ($1,707,236) $9,161,602
============ ==========
Accumulated other comprehensive income reported in the condensed consolidated
balance sheets consists only of foreign currency translation adjustments.
7. Financing Arrangement: The Company currently has $1,150,000 outstanding
pursuant to an agreement with a bank. The agreement with the bank expired on
January 29, 1999. However, the Company is currently in negotiations with the
bank for a new line of credit. The bank has informed the Company in writing of
its intention of entering into a new line of credit under mutually agreeable
terms and that it has no intention at this time to demand payment of the
outstanding balance.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
GENERAL
DATAWATCH CORPORATION (the "Company" or "Datawatch") is a provider of
knowledge-based software solutions for the business enterprise.
DATAWATCH's principal products are: Monarch(TM), a report mining application
that lets users extract and manipulate data from ASCII report files produced on
any mainframe, midrange, client/server or PC system; Monarch/ES(TM), a
configurable enterprise reporting solution that lets organizations store and
deliver reports electronically via their local area network; Monarch/ES Web(TM),
a Monarch/ES extension introduced in October 1998 that supports browser-based
report retrieval via the World Wide Web; Monarch/ES Report Publisher(TM), a
Monarch/ES extension also introduced in October 1998 that supports automated
delivery of reports via MAPI-compliant email; Redwing(TM) a plug-in for Abode(R)
Acrobat(R) that lets users extract text and tables from Adobe PDF documents;
Monarch Data Pump(TM), a data replication and migration tool that offers a
shortcut for populating and refreshing data marts and data warehouses;
Q-Support(TM) (in the United States) and Quetzal(TM) (internationally), an
integrated help desk and asset management solution for multi-user networked
support centers; and Quetzal/SC(TM), a major new release of the Company's
Quetzal/Q-Support software introduced in December 1998.
RESULTS OF OPERATIONS
Three Months Ended December 31, 1998 and 1997.
Net sales for the three months ended December 31, 1998 were $6,523,000 which
represents an increase of $145,000 or approximately 2% from net sales of
$6,378,000 for the three months ended December 31, 1997. Excluding sales of the
Company's Macintosh-based product line, which was sold on October 9, 1997 to Dr
Solomon's Software, net sales would have been $6,206,000 for the three months
ended December 31, 1997. The increase in sales of the Company's PC-based
products, therefore, was $317,000 or approximately 5% for the three months ended
December 31, 1998. This increase in net sales is primarily attributable to an
increase in the Company's Monarch/ES and Monarch Data Pump product sales. For
the three months ended December 31, 1998, the Monarch suite of products
accounted for approximately 48% of net sales, the Q-Support/Quetzal product
accounted for approximately 37% of net sales, and third party product lines
accounted for approximately 15% of net sales.
Cost of sales for the three months ended December 31, 1998 was $1,455,000 or
approximately 22% of net sales which is comparable to cost of sales of
$1,460,000 or approximately 23% of net sales for the three months ended December
31, 1997.
Engineering and product development expenses were $639,000 for the three months
ended December 31, 1998, an increase of $220,000 or approximately 53% from
$419,000 for the three months ended December 31, 1997. This increase is
primarily attributable to expenditures for development efforts undertaken by
developers under contract to the Company and internal quality assurance
personnel for the Company's Quetzal/SC product.
Selling, general and administrative expenses were $5,998,000 for the three
months ended December 31, 1998, a decrease of $390,000 or approximately 6% from
$6,388,000 for the three months ended December 31, 1997. This decrease is
primarily attributable to reductions of salaries and wages and expenses
resulting from the Company's restructuring efforts as well as a decrease in
promotional activities associated with the Company's Monarch product line.
During the fourth quarter of fiscal 1998, the Company approved and completed a
restructuring plan to further centralize its administrative infrastructure and
its development efforts. These charges, totaling approximately $315,000, were
either paid ($134,000) or accrued ($181,000) as of September 30, 1998. During
the fourth quarter of fiscal 1998, the Company paid $117,000 of these accrued
charges and at December 31, 1998, $64,000 remained accrued. The accrued expenses
will be paid in the second quarter of fiscal 1999. There were no changes in
these estimates recorded in the first quarter of fiscal 1999.
During the first quarter of fiscal 1999, the Company approved and completed a
restructuring plan to centralize in the United States the quality assurance
efforts for its Quetzal/SC product. The restructuring plan consisted of charges
for severance benefits and related costs for 10 terminated employees. These
charges, totaling approximately $200,000, were either paid ($146,000) or accrued
($54,000) as of December 31, 1998. The accrued expenses will be paid in the
second quarter of fiscal 1999.
The Company has not recorded any provision for income taxes in the first quarter
of fiscal 1999. This reflects the Company's current estimate that it will not be
in a taxable position at the end of the current year in any jurisdiction owing
either to the presence of net operating loss carryforwards (that are still
reserved for) or the possibility of losses. Such estimates are reviewed by
management and are subject to change. The Company did record a provision for
income taxes in the first quarter of fiscal 1999 owing to management's estimate,
at that time, of taxable income for the year.
As a result of the foregoing, the loss from operations for the three months
ended December 31, 1998 was $1,767,000 which compares to a loss from operations
of $4,253,000 for the three months ended December 31, 1997. The net loss for the
three months ended December 31, 1998 was $1,731,000 which compares to net income
of $9,073,000 for the three months ended December, 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company's management believes that its currently anticipated capital
needs for future operations of the Company will be satisfied through at least
September 30, 1999 by funds currently available and funds generated from
operations. The Company currently has $1,150,000 outstanding pursuant to an
agreement with a bank. The agreement with the bank expired on January 29, 1999.
However, the Company is currently in negotiations with the bank for a new line
of credit. The bank has informed the Company in writing of its intention of
entering into a new line of credit under mutually agreeable terms and that it
has no intention at this time to demand payment of the outstanding balance.
Working capital decreased by approximately $1,827,000 during the first
fiscal quarter of 1999 primarily as a result of unprofitable operations and cash
flow requirements of the Company's international subsidiaries.
Management believes that the Company's current operations are not
materially impacted by the effects of inflation.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the FASB issued SFAS No. 131, "Disclosures About Segments of
an Enterprise and Related Information." SFAS No. 131 establishes standards for
the way that public business enterprises report information about operating
segments in annual financial statements and requires that those enterprises
report selected information about operating segments in interim financial
reports. It also establishes standards for related disclosures about products
and services, geographic areas and major customers. SFAS No. 131 will be adopted
by the Company in its annual consolidated financial statements for fiscal 1999.
Such standards are "disclosure standards" and will not impact the Company's
consolidated results of operations.
In March of 1998, the AICPA released SOP 98-1, "Accounting for Costs of
Computer Software Developed or Obtained for Internal Use," which requires
certain expenditures made for internal use software to be capitalized. The
Company is currently studying the impact of SOP 98-1, which is required to be
adopted by the Company in October 1999.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," effective for fiscal years beginning after
June 15, 1999. The new standard requires that all companies record derivatives
on the balance sheet as assets or liabilities, measured at fair value. Gains or
losses resulting from changes in the values of those derivatives would be
accounted for depending on the use of the derivative and whether it qualifies
for hedge accounting. Management is currently assessing whether there will be
any impact of SFAS No. 133 on the Company's consolidated financial statements
upon adoption, which is required in October 1999.
YEAR 2000 READINESS DISCLOSURE STATEMENT
General
The Company is aware of the global concerns related to what is known as
the Year 2000 issue and the potential for the associated system failures and
business interruptions that may result. The Year 2000 issue concerns three main
areas: the ambiguity that may result from processing and storing data using
2-digit year formats; the recognition that the year 2000 is a leap year; and the
use of dates (most commonly 9/9/99) for special programming functions. Any of
these problems could result in a system failure or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions or engage in normal business activities for both the
Company and its customers who rely on its products.
Year 2000 Compliance Program
The Company has been aware of the Year 2000 issue for several years and
has been actively engaged in correcting Year 2000 deficiencies as they are
recognized, but has not yet completed reviewing, correcting and testing all
facets of the Year 2000 compliance issues facing it. The Company recently
completed developing a Year 2000 compliance program and has begun its
implementation. The purpose of the compliance program is to identify important
internal systems that are not yet Year 2000 compliant; to initiate replacement
or remedial action to assure that key systems and products will continue to
operate in the Year 2000 and to test the replaced or remediated systems and
products; to identify and contact key suppliers, vendors, customers and business
partners to evaluate their ability to maintain normal operations in the Year
2000; and to develop appropriate contingency plans for dealing with foreseeable
Year 2000 complications. The Company has appointed a Year 2000 Readiness
Coordinator who is responsible for administering the Company's Year 2000
compliance program.
Internal Systems
Based on the preliminary results of the Company's assessment of its
internal use hardware and software, including telephone systems and other
facilities equipment, the Company has determined that it may be necessary to
modify or replace some of its internal use software and hardware. During 1998, a
project was initiated at the corporate offices in Wilmington, Massachusetts and
at the Company's largest subsidiary, Datawatch International, in Potters Bar,
England to upgrade the Company's accounting software to a Year 2000 compliant
version. These simultaneous projects were completed in September 1998. Although
the Company anticipates that the accounting systems at some of its other
subsidiaries will be replaced by the end of 1999, the accounting systems at
these locations are significantly less critical than at the locations already
upgraded. The Company currently believes that all other "mission critical"
software is Year 2000 compliant. The Company anticipates completing a full
review of all internal software and hardware by April 30, 1999. The cost to
bring internal operations into compliance is estimated to be approximately
$100,000.
In early 1999, the Company will begin contacting vendors concerning the
status of their Year 2000 readiness. All supplies used to market, sell or
produce the Company's products are readily available from many different
suppliers. Therefore, the Company intends to use only vendors who are determined
to be Year 2000 compliant for supplies after September 30, 1999.
Software Products
The Company has designed, tested and continues to test the most current
versions of its products for Year 2000 issues. With respect to certain of those
products, the Company has relied on testing and representations by its third
party developers. Based on its internal testing and the testing done by its
third party developers to date, the Company believes that the latest versions of
its products are substantially Year 2000 compliant and are not likely to pose a
significant Year 2000 liability issue for the Company or any significant
operational problems for its customers. In the event problems are discovered,
the Company intends to issue product updates to correct such anomalies. The
Company has requested and is waiting to receive Year 2000 compliance statements
from vendors of certain widely-accepted database and middleware tools which are
used in the development of its products; in the event such tools are not
compliant, the Company believes achieving compliance will require upgrades to
newer versions of such tools.
The Company also has performed and continues to perform limited Year 2000
compliance assessments of certain older versions of its products, and where
problems are discovered, will determine the practicality of modifying older
versions. Certain of the Company's customers use older 16-bit operating systems
which are believed not to be Year 2000 compliant and the Company makes available
to these customers older 16-bit versions of its software, which in some cases
are not Year 2000 compliant. The Company believes it does not have material
financial exposure to customers with respect to older versions of its products.
The Company estimates future costs for testing its products for Year 2000
compliance to be approximately $100,000 and estimates additional costs
associated with vendor compliance and customer communication to be approximately
$50,000.
As the Year 2000 compliance assessment and/or testing of a product is
completed, the Company will make available information to its customers via the
Company's web site. This information may also be communicated to registered
customers in newsletters or other special mailings.
Risks Associated with Year 2000 Issue
The Company believes its Year 2000 compliance program will allow it to
identify and correct any Year 2000 compliance deficiencies. This assessment is
subject to revision based on the results of the Company's on-going Year 2000
compliance efforts. If unforeseen compliance efforts are required or if present
compliance efforts are not completed on time, or if the cost of any required
updating, modification or replacement of the Company's systems or equipment
exceeds the Company's estimates, the Year 2000 issue could result in material
costs and have a material adverse effect on the Company. However, the Company
believes that the risk is minimal.
The Company utilizes third-party vendors for product development and
testing. Should these vendors not be compliant in a timely manner, product
releases scheduled to take place after December 31, 1999 could be delayed. The
Company also utilizes third-party vendors for processing data and payments, e.g.
payroll services, 401(k) plan administration, check processing, medical benefits
processing, etc. Should these vendors not be compliant in a timely manner, the
Company may be required to process transactions manually or delay processing
until such time as the vendors are Year 2000 compliant. The Company has
warranted, to certain customers, that certain of its products are or will be
Year 2000 compliant. Non-compliance with these warranties may result in legal
action for breach of warranty.
Various statements in this discussion of Year 2000 are forward-looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995 as discussed below under "Risk Factors". These statements include
statements of the Company's expectations, statements with regard to schedules
and expected completion dates and statements regarding expected Year 2000
compliance. These forward-looking statements are subject to various risk factors
which may materially affect the Company's efforts to achieve Year 2000
compliance. These risk factors include: the inability of the Company to complete
in a timely manner the plans and modifications that it has identified; any
inaccuracy in the assessment of the cost and financial exposure of the Company
with respect to current and older versions of the Company's products; the
failure of software vendors to deliver the upgrades and repairs to which they
have committed; the wide variety of information technology systems and
components, both hardware and software, that must be evaluated; and the large
number vendors and customers with which the Company interacts. The Company's
assessments of the effects of Year 2000 on the Company are based, in part, upon
information received from third parties and the Company's reasonable reliance on
that information. Therefore, the risk that inaccurate information is supplied by
third parties upon which the Company reasonably relies must be considered as a
risk factor that might affect the Company's Year 2000 efforts. The Company is
attempting to reduce the risks by utilizing an organized approach, extensive
testing, and allowance of ample contingency time to address issues identified by
tests.
Contingency Plans
The Company has not established a specific Year 2000 contingency plan at
this time. The Company is in the process of developing a general corporate
contingency plan which it anticipates will be in place prior to December 31,
1999. The purpose of this plan will be to allow the Company to recognize system
failures, if any, and identify resources needed and available to restore
operations in a timely manner.
RISK FACTORS
The Company does not provide forecasts of its future financial
performance. However, from time to time, information provided by the Company or
statements made by its employees may contain "forward looking" information that
involves risks and uncertainties. In particular, statements contained in this
Form 10-Q that are not historical facts (including, but not limited to
statements contained in "Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations" of Part I of this Report on Form
10-Q relating to liquidity and capital resources) may constitute forward looking
statements and are made under the safe harbor provisions of The Private
Securities Litigation Reform Act of 1995. The Company's actual results of
operations and financial condition have varied and may in the future vary
significantly from those stated in any forward looking statements. Factors that
may cause such differences include, without limitation, the risks, uncertainties
and other information discussed below and within this Form 10-Q, as well as the
accuracy of the Company's internal estimates of revenue and operating expense
levels. The following discussion of the Company's risk factors should be read in
conjunction with the financial statements contained herein and related notes
thereto. Such factors, among others, may have a material adverse effect upon the
Company's business, results of operations and financial condition.
Fluctuations in Quarterly Operating Results
The Company's future operating results could vary substantially from
quarter to quarter because of uncertainties and/or risks associated with such
things as technological change, competition, delays in the introduction of
products or product enhancements and general market trends. Historically, the
Company has operated with little backlog of orders because its software products
are generally shipped as orders are received. As a result, net sales in any
quarter are substantially dependent on orders booked and shipped in that
quarter. Because the Company's staffing and operating expenses are based on
anticipated revenue levels and a high percentage of the Company's costs are
fixed in the short-term, small variations in the timing of revenues can cause
significant variations in operating results from quarter to quarter. Because of
these factors, the Company believes that period-to-period comparisons of its
results of operations are not necessarily meaningful and should not be relied
upon as indications of future performance. There can be no assurance that the
Company will not experience such variations in operating results in the future
or that such variations will not have a material adverse effect on the Company's
business, financial condition or results of operation.
Dependence on Principal Products
In the first fiscal quarter of 1999, Monarch and Q-Support/Quetzal
accounted for approximately 48% and 37%, respectively, of the Company's net
sales. With the disposal of the Macintosh-based product line, the Company is
wholly dependent on Monarch and Q-Support/Quetzal. As a result, any factor
adversely affecting sales of either of these products could have a material
adverse effect on the Company. The Company's future financial performance will
depend in part on the successful introduction of its new and enhanced versions
of these products and development of new versions of these and other products
and subsequent acceptance of such new and enhanced products. In addition,
competitive pressures or other factors may result in significant price erosion
that could have a material adverse effect on the Company's business, financial
condition or results of operations.
International Sales
The Company anticipates that international sales will continue to account
for a significant percentage of its net sales. A significant portion of the
Company's net sales will therefore be subject to risks associated with
international sales, including unexpected changes in legal and regulatory
requirements, changes in tariffs, exchange rates and other barriers, political
and economic instability, difficulties in account receivable collection,
difficulties in managing distributors or representatives, difficulties in
staffing and managing international operations, difficulties in protecting the
Company's intellectual property overseas, seasonality of sales and potentially
adverse tax consequences.
Acquisition Strategy
Although the Company has no current acquisition plans, it has addressed
and may continue to address the need to develop new products, in part, through
the acquisition of other companies. Acquisitions involve numerous risks
including difficulties in the assimilation of the operations, technologies and
products of the acquired companies, the diversion of management's attention from
other business concerns, risks of entering markets in which the Company has no
or limited direct prior experience and where competitors in such markets have
stronger market positions, and the potential loss of key employees of the
acquired company. Achieving and maintaining the anticipated benefits of an
acquisition will depend in part upon whether the integration of the companies'
business is accomplished in an efficient and effective manner, and there can be
no assurance that this will occur. The successful combination of companies in
the high technology industry may be more difficult to accomplish than in other
industries.
Dependence on New Introductions; New Product Delays
Growth in the Company's business depends in substantial part on the
continuing introduction of new products. The length of product life cycles
depends in part on end-user demand for new or additional functionality in the
Company's products. If the Company fails to accurately anticipate the demand
for, or encounters any significant delays in developing or introducing, new
products or additional functionality on its products, there could be a material
adverse effect on the Company's business. Product life cycles can also be
affected by the introduction by suppliers of operating systems of comparable
functionality within their products. The failure of the Company to anticipate
the introduction of additional functionality in products developed by such
suppliers could have a material adverse effect on the Company's business. In
addition, the Company's competitors may introduce products with more features
and lower prices than the Company's products. Such increase in competition could
adversely affect the life cycles of the Company's products, which in turn could
have a material adverse effect on the Company's business.
Software products may contain undetected errors or failures when first
introduced or as new versions are released. There can be no assurance that,
despite testing by the Company and by current and potential end-users, errors
will not be found in new products after commencement of commercial shipments,
resulting in loss of or delay in market acceptance. Any failure by the Company
to anticipate or respond adequately to changes in technology and customer
preferences, or any significant delays in product development or introduction,
could have a material adverse effect on the Company's business.
Rapid Technological Change
The markets in which the Company competes have undergone, and can be
expected to continue to undergo, rapid and significant technological change. The
ability of the Company to grow will depend on its ability to successfully update
and improve its existing products and market and license new products to meet
the changing demands of the marketplace and that can compete successfully with
the existing and new products of the Company's competitors. There can be no
assurance that the Company will be able to successfully anticipate and satisfy
the changing demands of the personal computer software marketplace, that the
Company will be able to continue to enhance its product offerings, or that
technological changes in hardware platforms or software operating systems, or
the introduction of a new product by a competitor, will not render the Company's
products obsolete.
Year 2000 Issue
Although the Company does not expect that the Year 2000 issue will have a
material effect on the Company's results of operations or financial condition,
the Company is potentially exposed to Year 2000 issues with respect to internal
software and external product offerings. If the Company's internal systems or
its products fail to operate properly as a result of Year 2000, the Company's
results of operations and financial condition could be materially and adversely
impacted. The Company continues to evaluate the Year 2000 issue. See "Year 2000
Readiness Disclosure Statement," particularly the subsection headed "Risks
Associated with Year 2000 Issue" which appears immediately before this "Risk
Factors" section of this Report on Form 10-Q, for a discussion of the Company's
Year 2000 readiness and the risks associated with the Year 2000 issue.
Competition in the PC Software Industry
The software market for personal computers is highly competitive and
characterized by continual change and improvement in technology. Several of the
Company's existing and potential competitors (including IBM, Network Associates,
Inc., Remedy, and Actuate) have substantially greater financial, marketing and
technological resources than the Company. No assurance can be given that the
Company will have the resources required to compete successfully in the future.
Dependence on Proprietary Software Technology
The Company's success is dependent upon proprietary software technology.
Although the Company does not own any patents on any such technology, it does
hold exclusive licenses to such technology and relies principally on a
combination of trade secret, copyright and trademark laws, nondisclosure and
other contractual agreements and technical measures to protect its rights to
such proprietary technology. Despite such precautions, there can be no assurance
that such steps will be adequate to deter misappropriation of such technology.
Reliance on Software License Agreements
Substantially all of the Company's products incorporate third party
proprietary technology which is generally licensed to the Company on an
exclusive, worldwide basis. Failure by such third parties to continue to develop
technology for the Company and license such technology to the Company could have
a material adverse effect on the Company's business and results of operations.
Litigation
The Company is currently engaged in litigation with a former independent
software developer. See "Item 1. Legal Proceedings of Part II" of this Report on
Form 10-Q. Although the Company believes that the developer's claims have no
merit, an unexpected adverse result in this litigation could have a material
adverse effect on the Company's results of operations or financial condition. In
addition, the legal costs for this litigation may be substantial.
Indirect Distribution Channels
The Company sells its products through resellers, none of which are under
the direct control of the Company. The loss of major resellers of the Company's
products, or a significant decline in their sales, could have a material adverse
effect on the Company's operating results. There can be no assurance that the
Company will be able to attract or retain additional qualified resellers or that
any such resellers will be able to effectively sell the Company's products. The
Company seeks to select and retain resellers on the basis of their business
credentials and their ability to add value through expertise in specific
vertical markets or application programming expertise. In addition, the Company
relies on resellers to provide post-sales service and support, and any
deficiencies in such service and support could adversely affect the Company's
business.
Volatility of Stock Price
As is frequently the case with the stocks of high technology companies,
the market price of the Company's common stock has been, and may continue to be,
volatile. Factors such as quarterly fluctuations in results of operations,
increased competition, the introduction of new products by the Company or its
competitors, expenses or other difficulties associated with assimilating
companies acquired by the Company, changes in the mix of sales channels, the
timing of significant customer orders, and macroeconomic conditions generally,
may have a significant impact on the market price of the stock of the Company.
Any shortfall in revenue or earnings from the levels anticipated by securities
analysts could have an immediate and significant adverse effect on the market
price of the Company's common stock in any given period. In addition, the stock
market has from time to time experienced extreme price and volume fluctuations,
which have particularly affected the market price for many high technology
companies and which, on occasion, have appeared to be unrelated to the operating
performance of such companies.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Derivative Financial Instruments, Other Financial Instruments,
and Derivative Commodity Instruments.
At December 31, 1998, the Company did not participate in any derivative
financial instruments, or other financial and commodity instruments for which
fair value disclosure would be required under SFAS No. 107. The Company holds no
investment securities which would require disclosure of market risk.
Primary Market Risk Exposures.
The Company's primary market risk exposures are in the areas of interest
rate risk and foreign currency exchange rate risk. The Company utilizes U.S.
dollar denominated borrowings to fund its operational needs through its
$1,500,000 working capital line of credit. The line of credit, which currently
bears an interest rate of prime plus .75% (7.75% at December 31, 1998), is
subject to annual renewal. Had the interest rates under the line of credit been
10% greater or lesser than actual rates, the impact would not have been material
in the Company's consolidated financial statements for the three months ended
December 31, 1998. As of December 31, 1998, the Company had $1,150,000
outstanding on its working capital line of credit.
The Company's exposure to currency exchange rate fluctuations has been and
is expected to continue to be modest due to the fact that the operations of its
international subsidiaries are almost exclusively conducted in their respective
local currencies. International subsidiary operating results are translated into
U.S. dollars and consolidated for reporting purposes. The impact of currency
exchange rate movements on intercompany transactions was immaterial for fiscal
1998. Currently the Company does not engage in foreign currency hedging
activities.
<PAGE>
PART II.
Item 1. LEGAL PROCEEDINGS
On November 12, 1998, the Company brought a lawsuit in Superior Court of
Massachusetts for Middlesex County, against Palms Technology U.S., Inc. and its
Chairman, Jesse E. Torres, III (collectively, "Palms"), alleging, among other
things, misrepresentation, unfair or deceptive trade practices, and breach of
contract, including breach of a Development Agreement dated as of December 19,
1997, for Palms' failure to complete and deliver certain software it was hired
to develop. Also, on November 12, 1998, Palms brought a lawsuit in the same
court against the Company and two of its officers (the "Palms lawsuit"),
claiming that the Company misappropriated Palms' trade secrets and breached
contracts between the parties. On November 16, 1998, the Company was granted a
Temporary Restraining Order preventing Palms and Torres from dissipating certain
assets to avoid judgment, and from damaging certain software and source code.
Management believes that the Palms lawsuit has no merit, and Datawatch intends
to vigorously defend itself against Palms' allegations. Datawatch intends to
pursue its claims against Palms aggressively. However, the ultimate outcome of
these matters cannot yet be determined. No provision for any liability regarding
these lawsuits has been recognized in the Consolidated Financial Statements
included in "Item 1. Financial Statements" of Part I of this Report on Form
10-Q.
From time to time the Company is also involved in litigation matters which
arise in the ordinary course of business, including one current action brought
by a former employee. The Company does not believe that the ultimate resolution
of this matter will have a material adverse effect on its consolidated financial
condition, results of operations, or cash flows.
Item 6. Exhibits and Reports on Form 8-K
A. Exhibits
27 Financial Data Schedule (filed with SEC Edgar version only).
B. Reports on Form 8-K
No Current Report on Form 8-K was filed during the quarterly period ended
December 31, 1998.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized on February 16, 1999.
DATAWATCH CORPORATION
/s/ Betsy J. Hartwell
Betsy J. Hartwell
Vice President of Finance
and Chief Financial Officer
(Principal Financial Officer)
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-1999
<PERIOD-END> DEC-31-1998
<CASH> 2,363,255
<SECURITIES> 3,400,400
<RECEIVABLES> 6,172,394
<ALLOWANCES> 0
<INVENTORY> 417,611
<CURRENT-ASSETS> 13,556,684
<PP&E> 4,185,285
<DEPRECIATION> 2,457,021
<TOTAL-ASSETS> 16,631,705
<CURRENT-LIABILITIES> 6,676,772
<BONDS> 0
0
0
<COMMON> 91,803
<OTHER-SE> 9,837,443
<TOTAL-LIABILITY-AND-EQUITY> 16,631,705
<SALES> 6,523,425
<TOTAL-REVENUES> 6,523,425
<CGS> 1,454,520
<TOTAL-COSTS> 6,636,772
<OTHER-EXPENSES> 199,637
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 30,846
<INCOME-PRETAX> (1,730,632)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,730,632)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,730,632)
<EPS-PRIMARY> (.19)
<EPS-DILUTED> (.19)
</TABLE>
