Exhibit 99.1
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
PAGE
Independent Auditors' Report F-2
Consolidated Balance Sheets as of January 31, 1999 and 2000 F-3
Consolidated Statements of Income for the
Years Ended December 31, 1997 and January 31, 1999 and 2000 F-4
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1997 and January 31, 1999 and 2000 F-5
Consolidated Statements of Cash Flows for the
Years Ended December 31, 1997 and January 31, 1999 and 2000 F-6
Notes to Consolidated Financial Statements F-7
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of Comverse Technology, Inc.
Woodbury, New York
We have audited the accompanying consolidated balance sheets of Comverse
Technology, Inc. and subsidiaries (the "Company") as of January 31, 1999 and
2000, and the related consolidated statements of income, stockholders' equity
and cash flows for the years ended December 31, 1997 and January 31, 1999 and
2000. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of Comverse Technology, Inc. and
subsidiaries as of January 31, 1999 and 2000, and the results of their
operations and their cash flows for the years ended December 31, 1997 and
January 31, 1999 and 2000 in conformity with accounting principles generally
accepted in the United States of America.
/S/ Deloitte & Touche LLP
New York, New York
September 20, 2000
F-2
<PAGE>
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JANUARY 31, 1999 AND 2000
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------------------------------------------------
ASSETS 1999* 2000*
------ ---- ----
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 585,584 $ 342,535
Bank time deposits 10,000 9,800
Short-term investments 63,658 429,254
Accounts receivable, net of allowance for
doubtful accounts of $25,651 and $29,319 194,747 266,203
Inventories 48,614 101,728
Prepaid expenses and other current assets 36,211 41,243
--------------- ---------------
TOTAL CURRENT ASSETS 938,814 1,190,763
PROPERTY AND EQUIPMENT, net 65,530 126,101
INVESTMENTS 7,902 19,749
OTHER ASSETS 30,713 36,234
--------------- ---------------
TOTAL ASSETS $ 1,042,959 $ 1,372,847
=============== ===============
---------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY 1999* 2000*
------------------------------------ ---- ----
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 186,074 $ 235,860
Bank loans 336 1,160
Advance payments from customers 39,051 94,777
Other current liabilities 1,188 662
--------------- ---------------
TOTAL CURRENT LIABILITIES 226,649 332,459
CONVERTIBLE SUBORDINATED DEBENTURES 415,000 300,000
LIABILITY FOR SEVERANCE PAY 4,338 6,185
OTHER LIABILITIES 6,117 9,364
--------------- ---------------
TOTAL LIABILITIES 652,104 648,008
--------------- ---------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $0.01 par value--authorized, 2,500,000
shares; issued, none
Common stock, $0.10 par value -
authorized, 600,000,000 shares;
issued and outstanding, 139,262,904 and 155,776,298 shares 13,926 15,577
Additional paid-in capital 261,218 424,075
Retained earnings 112,074 282,764
Accumulated other comprehensive income 3,637 2,423
--------------- ---------------
TOTAL STOCKHOLDERS' EQUITY 390,855 724,839
--------------- ---------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,042,959 $ 1,372,847
=============== ===============
</TABLE>
* Restated for pooling of interests with Loronix Information Systems, Inc.
See notes to consolidated financial statements.
F-3
<PAGE>
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 1997 AND JANUARY 31, 1999 AND 2000
(IN THOUSANDS, EXCEPT PER SHARE DATA)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, JANUARY 31, JANUARY 31,
1997* 1999* 2000*
---- ---- ----
<S> <C> <C> <C>
Sales $ 498,343 $ 708,805 $ 909,667
Cost of sales 209,325 288,113 352,748
-------------- --------------- --------------
Gross margin 289,018 420,692 556,919
Operating expenses:
Research and development, net 98,152 134,201 169,816
Selling, general and administrative 142,055 157,106 193,996
Royalties and license fees 12,325 16,552 18,841
Merger expenses - - 2,016
-------------- ------------- --------------
Income from operations 36,486 112,833 172,250
Interest and other income, net 4,957 8,315 16,595
-------------- ------------- --------------
Income before income tax provision 41,443 121,148 188,845
Income tax provision 9,430 11,783 15,698
-------------- ------------- --------------
Net income $ 32,013 $ 109,365 $ 173,147
============== ============= ==============
Earnings per share:
Basic $ 0.25 $ 0.81 $ 1.19
============== ============= ==============
Diluted $ 0.23 $ 0.75 $ 1.08
============== ============= ==============
</TABLE>
* Restated for pooling of interests with Loronix Information Systems, Inc.
See notes to consolidated financial statements.
F-4
<PAGE>
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997 AND JANUARY 31, 1999 AND 2000
(IN THOUSANDS, EXCEPT SHARE DATA)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Accumulated Other
Comprehensive Income
--------------------
Common Stock Additional Unrealized Cumulative Total
Number of Par Paid-in Retained Gains Translation Stockholders'
Shares Value Capital Earnings (Losses) Adjustment Equity
---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE, JANUARY 31, 1997
as previously reported 123,951,982 $12,395 $187,398 $86,872 $1,547 $338 $288,550
Pooling of interests 1,794,845 179 15,085 (1,337) 13,927
---------------------------------------------------------------------------------------------
BALANCE, as restated 125,746,827 12,574 202,483 85,535 1,547 338 302,477
Comprehensive income:
Net income 32,013
Unrealized (loss) on available-for-
sale securities (430)
Translation adjustment 106
Total comprehensive income 31,689
Warrant exercises 1,656,432 166 (166) -
Common stock issued for acquisition 487,500 49 (33) 16
Retained earnings of acquired company 661 661
Common stock issued for employee
stock purchase plan 152,764 15 1,291 1,306
Issuance of treasury stock upon
exercise of stock options (292) (292)
Retirement of common stock notes
receivable from stockholders (6,545) (66) (66)
Exercise of stock options 3,772,890 377 14,416 14,793
Tax benefit of dispositions of stock
options 6,930 6,930
------------------------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1997* 131,809,868 $ 13,181 $ 224,855 $ 117,917 $ 1,117 $ 444 $ 357,514
=============================================================================================
BALANCE, FEBRUARY 1, 1998
as previously reported 130,172,392 $ 13,017 $ 210,684 $ 6,559 $ 641 $ 489 $ 231,390
Pooling of interests 1,788,782 179 15,023 (3,850) 11,352
---------------------------------------------------------------------------------------------
BALANCE, as restated 131,961,174 13,196 225,707 2,709 641 489 242,742
Comprehensive income:
Net income 109,365
Unrealized gain on available-for-
sale securities 2,874
Translation adjustment (367)
Total comprehensive income 111,872
Warrant exercise 1,299,000 130 (130) -
Common stock issued for employee
stock purchase plan 210,666 21 2,277 2,298
Exercise of stock options 5,792,064 579 33,364 33,943
-----------------------------------------------------------------------------------------------------------------------------------
BALANCE, JANUARY 31, 1999* 139,262,904 13,926 261,218 112,074 3,515 122 390,855
Comprehensive income:
Net income 173,147
Unrealized (loss) on available-for-
sale securities (397)
Translation adjustment (817)
Total comprehensive income 171,933
Warrant exercises 1,746,635 175 (175) -
Common stock issued for acquisitions 1,371,216 137 930 1,067
Retained earnings of acquired
companies (2,457) (2,457)
Common stock issued for employee
stock purchase plan 377,016 38 5,514 5,552
Exercise of stock options 5,477,611 547 44,464 45,011
Conversion of debentures 7,540,916 754 112,079 112,833
Tax benefit of dispositions of stock
options 45 45
-----------------------------------------------------------------------------------------------------------------------------------
BALANCE, JANUARY 31, 1999* 155,776,298 $ 15,577 $ 424,075 $ 282,764 $ 3,118 $ (695) $ 724,839
=========== ======== ========= ========= ======= ======= =========
</TABLE>
* Restated for pooling of interests with Loronix Information Systems, Inc.
See notes to consolidated financial statements.
F-5
<PAGE>
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997 AND JANUARY 31, 1999 AND 2000
(IN THOUSANDS)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, JANUARY 31, JANUARY 31,
1997* 1999* 2000*
---- ---- ----
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 32,013 $ 109,365 $ 173,147
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 23,068 22,106 34,969
Changes in assets and liabilities:
Accounts receivable (25,104) (112,456) (68,024)
Inventories (15,753) 15,723 (53,085)
Prepaid expenses and other current assets (17,181) (5,735) (3,055)
Accounts payable and accrued expenses 8,812 58,789 49,117
Advance payments from customers 8,595 16,371 48,114
Liability for severance pay 807 (143) 1,847
Other 3,708 (398) (5,680)
------------- --------------- --------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 18,965 103,622 177,350
------------- -------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maturities and sales (purchases) of bank time deposits
and investments, net (53,463) 24,257 (377,613)
Purchase of property and equipment (37,284) (25,632) (85,638)
Capitalization of software development costs (6,468) (9,120) (12,482)
-------------- --------------- -------------
NET CASH USED IN INVESTING ACTIVITIES (97,215) (10,495) (475,733)
-------------- --------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of debentures - 292,672 -
Proceeds from issuance of common stock in connection
with exercise of stock options, warrants, and
employee stock purchase plan 23,045 36,241 50,563
Net proceeds (repayments) from bank loans and other debt 29,680 (20,645) 3,064
------------- -------------- -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 52,725 308,268 53,627
------------- ------------- -------------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS (25,525) 401,395 (244,756)
CASH ACQUIRED IN POOLING OF INTERESTS TRANSACTIONS - - 1,707
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 216,882 184,189 585,584
------------- ------------- ------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 191,357 $ 585,584 $ 342,535
============= ============= ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for interest $ 9,218 $ 14,169 $ 20,329
============= ============= ============
Cash paid during the year for income taxes $ 10,812 $ 2,453 $ 708
============= ============= ============
</TABLE>
* Restated for pooling of interests with Loronix Information Systems, Inc.
See notes to consolidated financial statements.
F-6
<PAGE>
COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1997 AND JANUARY 31, 1999 AND 2000
--------------------------------------------------------------------------------
1. ORGANIZATION AND BUSINESS
Comverse Technology, Inc. ("Comverse" and, together with its
subsidiaries, "CTI" or the "Company") was organized as a New York
corporation in October 1984. The Company is engaged in the design,
development, manufacture, marketing and support of special purpose
computer and telecommunications systems and software for multimedia
communications and information processing applications.
In 1998, the Company changed its fiscal year from the calendar year to
the fiscal year ending January 31. As a result of the change in fiscal
year, the Company's results of operations for the one month ended
January 31, 1998 have previously been reported separately as a
transition period and included on a transition report on Form 10-K.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION - The consolidated financial statements
include the accounts of Comverse and its wholly-owned and
majority-owned subsidiaries. All material intercompany balances and
transactions have been eliminated.
CASH, CASH EQUIVALENTS AND BANK TIME DEPOSITS - The Company considers
all highly liquid investments purchased with original maturities of
three months or less to be cash equivalents. Bank deposits with
maturities in excess of three months are classified as bank time
deposits.
SHORT-TERM INVESTMENTS - The Company classifies all of its short-term
investments (including U.S. treasury bills) as available-for-sale,
accounted for at fair value, with resulting unrealized gains or losses
reported as a separate component of stockholders' equity, on a
net-of-tax basis.
CONCENTRATION OF CREDIT RISK - Financial instruments which potentially
expose the Company to concentration of credit risk, consist primarily
of cash investments and accounts receivable. The Company places its
cash investments with high-credit quality financial institutions and
currently invests primarily in bank time deposits, money market funds
placed with major banks and financial institutions, corporate
commercial paper, corporate medium-term notes, and U.S. government
obligations. Accounts receivable are generally diversified due to the
number of commercial and government entities comprising the Company's
customer base and their dispersion across many geographical regions.
The Company believes no significant concentration of credit risk exists
with respect to these cash investments and accounts receivable.
INVENTORIES - Inventories are stated at the lower of cost or market.
Cost is determined by the first-in, first-out method.
PROPERTY AND EQUIPMENT - Property and equipment are carried at cost
less accumulated depreciation and amortization. The Company depreciates
its property and equipment on a straight-line basis over periods
ranging from three to seven years. The cost of maintenance and repairs
is charged to operations as incurred. Significant renewals and
betterments are capitalized.
F-7
<PAGE>
INCOME TAXES - The Company accounts for income taxes using the asset
and liability method. Under this method, deferred tax assets and
liabilities are determined based on differences between financial
reporting and tax bases of assets and liabilities, and are measured
using the enacted tax rates and laws that are expected to be in effect
when the differences are expected to reverse.
REVENUE AND EXPENSE RECOGNITION - Revenue is generally recognized at
the time of shipment for sales of systems which do not require
significant customization to be performed by the Company and collection
of the resulting receivable is deemed probable by the Company. The
Company's systems are generally a bundled hardware and software
solution that are shipped together. The Company generally has no
obligations to customers after the date products are shipped, except
for product warranties. The Company generally warranties its products
for one year after sale. A provision for estimated warranty costs is
recorded at the time of sale.
Customers may also purchase separate maintenance contracts, which
generally consist of bug-fixing and telephone access to Company
technical personnel, but in certain circumstances may also include the
right to receive unspecified product updates, upgrades and
enhancements. Revenue from these services is recognized ratably over
the contract period.
Revenues from certain development contracts are recognized under the
percentage-of-completion method on the basis of physical completion to
date or using actual costs incurred to total expected costs under the
contract. Revisions in estimates of costs and profits are reflected in
the accounting period in which the facts that require the revision
become known. At the time a loss on a contract is known, the entire
amount of the estimated loss is accrued. Amounts received from
customers in excess of revenues earned under the
percentage-of-completion method are recorded as advance payments from
customers. Related contract costs include all direct material and labor
costs and those indirect costs related to contract performance, and are
included in cost of sales in the consolidated statements of income.
Expenses incurred in connection with research and development
activities, other than certain software development costs that are
capitalized, and selling, general and administrative expenses are
charged to operations as incurred.
SOFTWARE DEVELOPMENT COSTS - Software development costs are capitalized
upon the establishment of technological feasibility and are amortized
over the estimated useful life of the software, which to date has been
four years or less. Amortization begins in the period in which the
related product is available for general release to customers.
Amortization expenses amounted to $3,844,000, $3,649,000 and $6,304,000
for the years ended December 31, 1997 and January 31, 1999 and 2000,
respectively.
FUNCTIONAL CURRENCY AND FOREIGN CURRENCY TRANSACTION GAINS AND LOSSES -
The United States dollar (the "dollar") is the functional currency of
the major portion of the Company's foreign operations. Most of the
Company's sales, and materials purchased for manufacturing, are
denominated in or linked to the dollar. Certain operating costs,
principally salaries, of foreign operations are denominated in local
currencies. In those instances where a foreign subsidiary has a
functional currency other than the dollar, the Company records any
necessary foreign currency translation adjustment, reflected in
stockholders' equity, at the end of each reporting period.
Net gains (losses) from foreign currency transactions, included in the
consolidated statements of income, approximated $(2,192,000),
$2,847,000 and $(9,422,000) for the years ended December 31, 1997 and
January 31, 1999 and 2000, respectively.
F-8
<PAGE>
The Company occasionally enters into foreign exchange forward contracts
and options on foreign currencies. The purpose of the Company's foreign
currency hedging activities is to protect the Company from the risk
that the eventual dollar cash flows resulting from the sale of products
to international customers will be adversely affected by changes in
exchange rates. Any gain or loss on a foreign exchange contract which
hedges a firm commitment is deferred until the underlying transaction
is realized, at which time it is included in the consolidated statement
of income. The Company also purchases foreign exchange options which
permit, but do not require, the Company to exchange foreign currencies
at a future date with another party at a contracted exchange rate. To
finance premiums paid on such options, from time to time the Company
may also write offsetting options at exercise prices which limit, but
do not eliminate, the effect of purchased options as a hedge. As of
January 31, 2000, the Company had no material outstanding foreign
exchange contracts.
OTHER ASSETS - Licenses of patent rights and acquired "know-how" are
recorded at cost and amortized using the straight-line method over the
estimated useful lives of the related technology, not exceeding five
years. Goodwill and other intangible assets associated with acquired
subsidiaries are amortized over periods ranging from five to twelve
years. Debt issue costs are amortized using the effective interest
method over the term of the related debt.
LONG-LIVED ASSETS - The Company reviews for the impairment of
long-lived assets and certain identifiable intangibles whenever events
or changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. An impairment loss would be recognized
when estimated future cash flows expected to result from the use of the
asset and its eventual disposition are less than its carrying amount.
No such impairment losses have been identified by the Company.
PERVASIVENESS OF ESTIMATES - The preparation of financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
RECLASSIFICATIONS - Certain prior year amounts have been reclassified
to conform to the manner of presentation in the current year.
3. RESEARCH AND DEVELOPMENT
A significant portion of the Company's research and development
operations are located in Israel where the Company derives substantial
benefits from participation in programs sponsored by the Government of
Israel for the support of research and development activities conducted
in that country. The Company's research and development activities
include projects partially funded by the Office of the Chief Scientist
of the Ministry of Industry and Trade of the State of Israel (the
"OCS") under which the funding organization reimburses a portion of the
Company's research and development expenditures under approved project
budgets. The Company is currently involved in several ongoing research
and development projects supported by the OCS. The Company accrues
royalties to the OCS for the sale of products incorporating technology
developed in these projects. In addition, under the terms of the
applicable funding agreements, products resulting from projects funded
by the OCS may not be manufactured outside of Israel without government
approval. The amounts reimbursed by the OCS for the years ended
December 31, 1997 and January 31, 1999 and 2000 were $16,276,000,
$16,732,000 and $16,797,000, respectively.
F-9
<PAGE>
4. SHORT-TERM INVESTMENTS
The Company classifies all of its short-term investments as
available-for-sale securities. The following is a summary of
available-for-sale securities as of January 31, 2000:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
-----------------------------------------------------------------------------------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Corporate debt securities $ 397,325 $ 478 $ 668 $ 397,135
U.S. Government
agency bonds 8,096 - 604 7,492
------------ ---------- --------- -------------
Total debt securities 405,421 478 1,272 404,627
------------ ---------- --------- -------------
Common stock 14,336 5,010 1,670 17,676
Mutual funds investing in
U.S. government and
agencies obligations 1,878 - 45 1,833
Preferred stock 4,211 1,565 658 5,118
------------- ---------- --------- -------------
Total equity securities 20,425 6,575 2,373 24,627
------------- ---------- --------- -------------
$ 425,846 $ 7,053 $ 3,645 $ 429,254
============= ========== ========= =============
</TABLE>
The following is a summary of available-for-sale securities as of
January 31, 1999:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
---------------------------------------------------------------------------------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Corporate debt securities $ 40,819 $ 924 $ 6 $ 41,737
------------ ---------- --------- -----------
Common stock 13,993 3,448 1,082 16,359
Mutual funds investing in
U.S. government and
agencies obligations 1,929 70 - 1,999
Preferred stock 3,173 481 91 3,563
------------- ---------- --------- -----------
Total equity securities 19,095 3,999 1,173 21,921
------------- ---------- --------- -----------
$ 59,914 $ 4,923 $ 1,179 $ 63,658
============= ========== ========= ===========
</TABLE>
During the year ended January 31, 2000, the gross realized gains on
sales of securities totaled approximately $11,652,000, and the gross
realized losses totaled approximately $4,613,000. During the year ended
January 31, 1999, the gross realized gains on sales of securities
totaled approximately $1,358,000, and the gross realized losses totaled
approximately $5,472,000. During the year ended December 31, 1997, the
gross realized gains on sales of securities totaled approximately
$4,037,000, and the gross realized losses totaled approximately
$2,503,000. The basis on which cost was determined in computing
realized gain or loss is by the first-in, first-out method.
F-10
<PAGE>
The amortized cost and estimated fair value of debt securities at
January 31, 2000, by contractual maturity, are as follows:
<TABLE>
<CAPTION>
ESTIMATED
COST FAIR VALUE
---- ----------
(IN THOUSANDS)
<S> <C> <C>
Due in one year or less $ 374,310 $ 374,075
Due after one year through three years 20,845 20,549
Due after three years 10,266 10,003
------------ ------------
$ 405,421 $ 404,627
============= =============
</TABLE>
5. INVENTORIES
Inventories consist of:
<TABLE>
<CAPTION>
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
<S> <C> <C>
Raw materials $ 25,099 $ 41,391
Work in process 11,171 29,790
Finished goods 12,344 30,547
------------- -------------
$ 48,614 $ 101,728
============= =============
6. PROPERTY AND EQUIPMENT
Property and equipment consists of:
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
Fixtures and equipment $ 121,861 $ 166,966
Land 226 26,029
Software 7,980 18,315
Transportation vehicles 2,774 1,597
Leasehold improvements 3,066 7,640
------------- -------------
135,907 220,547
Less accumulated depreciation
and amortization (70,377) (94,446)
------------- -------------
$ 65,530 $ 126,101
============= =============
</TABLE>
F-11
<PAGE>
7. OTHER ASSETS
Other assets consist of:
<TABLE>
<CAPTION>
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
<S> <C> <C>
Software development costs, net of
accumulated amortization
of $15,404 and $21,628 $ 16,095 $ 22,230
Debt issue costs, net of accumulated
amortization of $1,078 and $1,404 9,140 5,703
Other assets 5,478 8,301
------------- -------------
$ 30,713 $ 36,234
============= =============
</TABLE>
8. BUSINESS COMBINATIONS
In July 2000, the Company acquired all of the outstanding stock of
Loronix Information Systems, Inc. ("Loronix"), a company that develops
software-based digital video recording and management systems for
1,994,806 shares of the Company's common stock and the assumption of
options to purchase 370,101 shares of the Company's common stock. The
combination was accounted for as a pooling of interests.
The table below sets forth the separate and combined results of Comverse
and Loronix for the fiscal years ended December 31, 1997 and January 31,
1999 and 2000:
<TABLE>
<CAPTION>
CTI LORONIX COMBINED
--- ------- --------
(In thousands, except share data amounts)
<S> <C> <C> <C>
DECEMBER 31, 1997
Sales $ 488,940 $ 9,403 $ 498,343
Net income (loss) $ 34,525 $ (2,512) $ 32,013
Earnings per share - diluted $ 0.25 $ 0.23
JANUARY 31, 1999
Sales $ 696,094 $ 12,711 $ 708,805
Net income (loss) $ 111,527 $ (2,162) $ 109,365
Earnings per share - diluted $ 0.78 $ 0.75
JANUARY 31, 2000
Sales $ 872,190 $ 37,477 $ 909,667
Net income $ 170,261 $ 2,886 $ 173,147
Earnings per share - diluted $ 1.07 $ 1.08
</TABLE>
The consolidated statement of income data combines the historical
statement of income data of the Company for the years ended December 31,
1997 and January 31, 1999 and 2000 with the historical statement of
F-12
<PAGE>
income data of Loronix for the fiscal years ended December 31, 1997,
1998 and 1999, respectively.
In July 2000, the Company acquired all of the outstanding stock of
Syborg Informationsysteme GmbH, ("Syborg") a company that develops
software-based digital voice and internet recording and workforce
management systems, for 201,251 shares of the Company's common stock.
The combination was accounted for as a pooling of interests. The Company
did not restate prior financial statements for this acquisition, as such
restatement would not be material.
In August 2000, the Company acquired all of the outstanding stock of
Exalink Ltd., ("Exalink") a company specializing in router-based
Wireless Application Protocol gateways and applications software for the
delivery of Internet-based services to all types of wireless devices,
for 5,261,211 shares of the Company's common stock and the assumption of
options and warrants to purchase 810,377 shares of the Company's common
stock. The combination was accounted for as a pooling of interests. The
Company did not restate prior financial statements for this acquisition,
as such restatement would not be material.
In August 2000, the Company acquired all of the outstanding stock of
Gaya Software Industries, Ltd., ("Gaya") a company specializing in
software-based intelligent internet protocol ("IP") gateways and
voice-over-IP technology, for 283,758 shares of the Company's common
stock and the assumption of options and warrants to purchase 10,505
shares of the Company's common stock. The combination was accounted for
as a pooling of interests. The Company did not restate prior financial
statements for this acquisition, as such restatement would not be
material.
In August 1999, the Company acquired all of the outstanding stock of
InTouch Systems, Inc., ("InTouch") a company that develops and markets a
suite of intelligent voice-controlled software applications, for 679,202
shares of the Company's common stock and the assumption of options to
purchase 79,122 shares of the Company's common stock. The combination
was accounted for as a pooling of interests. The Company did not restate
prior financial statements for this acquisition due to immateriality and
recorded the book value of the net assets of InTouch of $(1,122,000) in
the statement of stockholders' equity.
In February 1999, the Company acquired all of the outstanding stock of
Amarex Technology, Inc., ("Amarex"), a company that develops
software-based applications for the telephone network operator and call
center markets, for 692,014 shares of the Company's common stock and the
assumption of options and warrants to purchase 239,286 shares of the
Company's common stock. The combination was accounted for as a pooling
of interests. The Company did not restate prior financial statements for
this acquisition due to immateriality and recorded the book value of the
net assets of Amarex of $(268,000) in the statement of stockholders'
equity.
In January 1998, Boston Technology, Inc., a Delaware corporation,
("BTI") merged with and into Comverse in a transaction that was
accounted for as a pooling of interests. BTI designed, developed,
manufactured, marketed and supported standard and customized enhanced
services platforms and software applications for the telephone network
operator market. Pursuant to the merger, the issued and outstanding
shares of BTI at the effective date of the merger were converted into an
aggregate of approximately 54,423,556 shares of Comverse's common stock
and outstanding options and warrants to purchase BTI stock were
converted into options and warrants to purchase an aggregate of
10,374,796 Comverse shares.
BTI had a January 31 fiscal year period, accordingly, the Company's
consolidated financial statements for the year ended December 31, 1997
includes the operations of BTI for the eleven months ended December 31,
F-13
<PAGE>
1997. For the eleven months ended December 31, 1997, BTI had sales of
approximately $210,525,000 and a net loss of approximately $7,503,000.
In 1998, the Company changed its fiscal year from the calendar year to
the fiscal year ending January 31, corresponding to BTI's fiscal year.
As a result of the change in fiscal year, the Company's results of
operations for the one month ended January 31, 1998 have previously been
reported separately as a transition period and included on a transition
report on Form 10-K. Consolidated statement of operations data for the
one month ended January 31, 1998 is as follows:
<TABLE>
<CAPTION>
(In thousands,
except per share amounts)
<S> <C>
Sales $ 14,401
Cost of Sales 21,146
Selling, general and administrative expenses 51,892
Research and development 13,481
Royalties and license fees 520
Merger and restructuring charges 41,877
----------------
Loss from operations (114,515)
Interest and other income, net 175
----------------
Loss before income tax (114,340)
Income tax provision (867)
-----------------
Net loss $ (115,207)
=================
Net loss per share $ (0.89)
=================
In connection with the merger with BTI, the Company has charged
$41,877,000 to operations for merger and restructuring related charges.
Such charges relate to the following:
Asset write-downs and impairments
(In thousands)
Research and development equipment $ 9,106
Capitalized software costs 2,987
Prepaid license fees 2,190
Furniture and equipment 1,474
Other 161
------------
Total asset write-downs and impairments $ 15,918
============
In connection with the merger with BTI, certain assets became impaired
due to the closing of duplicative facilities, or the existence of
duplicative technology of the merged companies. In addition, the Company
decided to develop a new software platform for the combined company and
to discontinue certain software enhancements under development which
were previously capitalized. Accordingly, these assets were written down
to their net realizable value at the time of the merger. Net realizable
value was determined in accordance with the Company's accounting
policies disclosed in Note 1.
Severance and other restructuring charges
(In thousands)
Terminated employment contracts and severance $ 6,825
Terminated leases of duplicative facilities 571
Other 449
------------
Total $ 7,845
============
</TABLE>
F-14
<PAGE>
In connection with the merger with BTI, management having the requisite
authority determined to close certain duplicate facilities, sever
certain employees and otherwise streamline the combined operations. The
Company also terminated certain employment contracts for employees that
provided no future benefit to the merged companies. In connection with
this plan, the Company recorded a charge for severance and related
fringe benefits for 50 employees, consisting of 25 software engineers,
10 operations employees, 5 customer service employees and 10 general and
administrative employees. The employees under employment contracts and
employees who were terminated under the severance plan were considered
redundant by the Company as a result of the merger. Prior to the merger,
the Company and BTI each had sales offices in certain countries and, as
a result of the merger, duplicative facilities were closed.
A summary of the restructuring reserve is as follows:
<TABLE>
<CAPTION>
One Month Ended Year Ended
January 31, January 31,
1998 1999 2000
-------------------------------------------------------------
(In thousands)
<S> <C> <C> <C>
Balance, beginning of period $ - $ 7,356 $ 2,063
Provision 7,845 - -
Payments for:
Terminated employment
contracts and severance (334) (4,528) (1,952)
Duplicative facilities (56) (515) -
Other (99) (250) -
----------- ----------- -----------
Balance, end of period $ 7,356 $ 2,063 $ 111
=========== =========== ===========
</TABLE>
Professional fees and other direct merger expenses
In connection with the merger with BTI, the Company recorded a charge of
$11,040,000 for professional fees to lawyers, investment bankers and
accountants, as well as other direct merger costs, such as printer fees
for the proxy statement incurred directly in connection with the merger.
Other merger related charges
(In thousands)
Penalties under product development agreements $ 5,989
Terminated development contracts 1,085
-----------
$ 7,074
In connection with the merger with BTI, the Company also terminated
certain existing development contracts which provided no future benefit
to the merged companies. Prior to the merger, the Company had
commitments with third parties to develop technology in which it was
contractually obligated. As a result of the merger, the Company decided
to develop a new software platform for the combined company and to
F-15
<PAGE>
discontinue certain enhancements under development. In addition, the
Company incurred penalties under product development agreements relating
to transfer of technology.
In addition, approximately $36,055,000 has been charged to selling,
general and administrative expenses in the one month period ended
January 31, 1998 relating to the impairment of receivables resulting
from the merger. Included in this amount is approximately $14.9 million
from an international distributor who refused to pay the Company,
claiming his exclusive distribution agreement was violated as a result
of the merger. Also included in this amount is approximately $21.1
million that was due from customers who had switched as customers from
BTI to the Company or from the Company to BTI. In order to continue good
customer relations, the Company decided to forgive the amounts owed.
Approximately $7,831,000 has been charged to cost of sales in the one
month ended January 31, 1998 relating to the merger. Such charge relates
to the write-off of inventory that was considered obsolete and
duplicative as a result of the merger. Both the Company and BTI had two
enhanced services platform products. As a result of the merger, the
Company decided that one product from each of the Company and BTI would
no longer be sold.
In February 1997, the Company acquired all of the outstanding stock of
Enhanced Communications Corporation ("ECC"), a company providing
outsourcing of voice messaging, for 487,500 shares of the Company's
common stock. The combination has been accounted for as a pooling of
interests. The Company did not restate prior financial statements for
this acquisition due to immateriality and recorded the book value of the
net assets of ECC of $661,000 in the statement of stockholders' equity.
9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES
Accounts payable and accrued expenses consist of:
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
Accounts payable $ 64,291 $ 76,546
Accrued salaries 22,732 29,890
Accrued vacation 9,004 13,568
Accrued royalties 18,165 26,567
Other accrued expenses 71,882 89,289
------------- -------------
$ 186,074 $ 235,860
============= =============
10. CONVERTIBLE SUBORDINATED DEBENTURES
In June 1998, the Company issued $300,000,000 of convertible
subordinated debentures bearing interest at 4-1/2% per annum, payable
semi-annually. The debentures mature on July 1, 2005. The debentures are
convertible into shares of the Company's common stock at a conversion
price of $21.50 per share, subject to adjustment in certain events. The
debentures are subordinated in right of payment to all existing and
future senior indebtedness of the Company. The debentures are redeemable
at the option of the Company, in whole or in part, at prices decreasing
from 101.8% of the face amount on July 10, 2001 to par on July 10, 2003.
F-16
<PAGE>
The debenture holders may require the Company to repurchase the
debentures at par in the event that the common stock ceases to be
publicly traded and, in certain instances, upon a change in control of
the Company.
In October 1996, the Company issued $115,000,000 of convertible
subordinated debentures bearing interest at 5-3/4% per annum, payable
semi-annually. In October 1999, the Company called these debentures for
redemption. The debentures were converted into 7,540,916 shares of
common stock.
11. LIABILITY FOR SEVERANCE PAY
Liability for severance pay consists of the Company's unfunded
liability for severance pay to employees of certain foreign
subsidiaries and accrued severance to the Company's chief executive
officer.
Under Israeli law, the Company is obligated to make severance payments
to employees of its Israeli subsidiaries on the basis of each
individual's current salary and length of employment. These liabilities
are currently provided primarily by premiums paid by the Company to
insurance providers.
The Company is obligated under an agreement with its chief executive
officer to provide a severance payment upon the termination of his
employment with the Company. Approximately $1,648,000 and $1,925,000
has been accrued as of January 31, 1999 and 2000, respectively,
relating to this liability.
12. COMMON STOCK
STOCK SPLITS - On April 15, 1999, the Company effected a three-for-two
stock split by paying a 50% stock dividend to stockholders of record on
March 31, 1999. On April 3, 2000, the Company effected a two-for-one
stock split by paying a 100% stock dividend to shareholders of record
on March 27, 2000. All share and per share information has been
retroactively restated in the consolidated financial statements to
reflect these splits.
INCREASE IN AUTHORIZED COMMON SHARES - At the Annual Meeting of
Shareholders held on October 8, 1999, the Company's shareholders
approved an amendment to the Company's Certificate of Incorporation to
increase from 100,000,000 to 300,000,000 the aggregate number of
authorized common shares of the Company. At the Annual Meeting of
Shareholders held on September 15, 2000, the Company's shareholders
approved an amendment to the Company's Certificate of Incorporation to
increase from 300,000,000 to 600,000,000 the aggregate number of
authorized common shares of the Company.
13. STOCK OPTIONS
EMPLOYEE STOCK OPTIONS - At January 31, 2000, 23,810,758 shares of
common stock were reserved for issuance upon the exercise of options
then outstanding and 305,062 shares were available for future grant
under Comverse's Stock Option Plans, under which options may be granted
to key employees, directors, and other persons rendering services to the
Company. Options which are designated as "incentive stock options" under
the option plans may be granted with an exercise price not less than the
fair market value of the underlying shares at the date of grant and are
subject to certain quantity and other limitations specified in Section
F-17
<PAGE>
422 of the Internal Revenue Code. Options which are not intended to
qualify as incentive stock options may be granted at any price, but not
less than the par value of the underlying shares, and without
restriction as to amount. The options and the underlying shares are
subject to adjustment in accordance with the terms of the plans in the
event of stock dividends, recapitalizations and similar transactions.
The right to exercise the options generally vests in annual increments
over periods of up to four years from the date of grant or the date of
commencement of the grantee's employment with the Company, up to a
maximum term of ten years for all options granted.
The changes in the number of options were as follows:
<TABLE>
<CAPTION>
YEAR ENDED
------------------------------------------------------------------
DECEMBER 31, JANUARY 31,
1997 1999 2000
---- ---- ----
<S> <C> <C> <C>
Outstanding at beginning of year 17,061,447 25,184,797 21,243,496
Options from pooling
of interests transactions - - 224,758
Granted during the year 3,472,716 2,788,526 8,589,990
Exercised during the year (3,772,890) (5,792,064) (5,477,611)
Canceled, terminated and expired (534,150) (937,763) (769,875)
--------------- --------------- ----------------
Outstanding at end of year 16,227,123 21,243,496 23,810,758
=============== =============== ================
</TABLE>
At January 31, 2000, options to purchase an aggregate of 7,250,424
shares were vested and currently exercisable under the option plans and
options to purchase an additional 16,560,334 shares vest at various
dates extending through the year 2003.
Weighted average option exercise price information was as follows:
<TABLE>
<CAPTION>
YEAR ENDED
-------------------------------------------------------------
DECEMBER 31, JANUARY 31,
1997 1999 2000
---- ---- ----
<S> <C> <C> <C>
Outstanding at beginning of year $ 5.62 $ 8.64 $ 9.59
Assumed from pooling of interests - - 3.16
Granted during the year 14.10 10.53 43.98
Exercised during the year 4.13 5.87 8.23
Canceled, terminated and expired 7.29 10.38 11.96
Exercisable at year end 4.08 6.87 9.05
</TABLE>
Significant option groups outstanding at January 31, 2000 and related
weighted average price and life information were as follows:
<TABLE>
<CAPTION>
Weighted Average Weighted Weighted
Range of Number Remaining Average Number Average
Exercise Price Outstanding Contractual Life Exercise Price Exercisable Exercise Price
-------------- ----------- ---------------- -------------- ----------- --------------
<S> <C> <C> <C> <C> <C>
$ 0.63 - $12.99 12,180,115 7.38 $ 8.98 5,878,726 $ 7.75
$ 13.00 - $38.96 3,983,781 7.63 16.06 1,350,098 14.12
$ 38.99 - $51.95 7,644,938 9.69 46.51 21,600 46.50
$ 51.97 - $77.92 1,924 9.84 63.68 - -
---------- ---- -------- --------- --------
23,810,758 8.16 $ 22.05 7,250,424 $ 9.05
========== ==== ======== ========= ========
</TABLE>
F-18
<PAGE>
The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," and related interpretations
in accounting for its option plans. Accordingly, as all options have
been granted at exercise prices equal to fair market value on the date
of grant, no compensation expense has been recognized by the Company in
connection with its stock-based compensation plans. Had compensation
cost for the Company's stock option plans been determined based upon the
fair value at the grant date for awards under these plans consistent
with the methodology prescribed under Statement of Financial Accounting
Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation",
the Company's net income and earnings per share would have been reduced
by approximately $14,058,000, $29,261,000 and $45,239,000 or $0.10,
$0.20 and $0.27 per diluted share for the years ended December 31, 1997
and January 31, 1999 and 2000, respectively. The weighted average fair
value of the options granted for the years ended December 31, 1997 and
January 31, 1999 and 2000, respectively, is estimated at $7.67, $5.51
and $21.54 on the date of grant (using the Black-Scholes option pricing
model) with the following weighted average assumptions for the years
ended December 31, 1997 and January 31, 1999 and 2000, respectively:
volatility of 56%, 56% and 56%; risk-free interest rate of 6.5%, 4.7%
and 5.9%; and an expected life of 4.7, 5.0 and 4.1 years.
OPTIONS ON SUBSIDIARY SHARES - In accordance with the requirements of
his employment agreement, the chief executive officer of Comverse holds
options to acquire up to 7.5% of the shares of certain subsidiaries,
other than Comverse Network Systems, Inc. In addition, Comverse has
granted to certain other employees of the Company options to acquire
shares of certain subsidiaries, other than Comverse Network Systems,
Inc. Such option issuances are not tied to the performance of the
subsidiaries, but are intended to incentivize employees in the units for
which they have direct responsibility. The portion of the shares of the
subsidiaries upon which such options have been granted varies among the
subsidiaries affected, not exceeding in any instance 20% of the shares
outstanding assuming exercise in full. The options have terms of up to
15 years and become exercisable and vest over various periods ranging up
to seven years from the date of initial grant. The exercise price of
each option is equal to the higher of the book value of the underlying
shares at the date of grant or the fair market value of such shares at
that date determined on the basis of an arms'-length transaction with a
third party or, if no such transactions have occurred, on a reasonable
basis as determined by a committee of the Board of Directors.
14. WARRANTS
In November 1995, the Company entered into an agreement to supply its
products to a customer. Pursuant to this agreement, the Company issued
warrants to purchase shares of its common stock at an exercise price of
$7.18 per share. The warrants vest in five equal annual increments,
commencing with the first anniversary of the date of grant, and remain
exercisable for 30 months after first becoming exercisable. As of
January 31, 2000, warrants to purchase 1,914,432 shares are outstanding,
none of which are exercisable.
F-19
<PAGE>
15. EMPLOYEE STOCK PURCHASE PLAN
Under the 1997 Employee Stock Purchase Plan ("ESPP"), all employees who
had completed three months of employment are entitled, through payroll
deductions of amounts up to 10% of their base salary, to purchase shares
of the Company's common stock at 85% of the lesser of the market price
at the offering commencement date or the offering termination date. The
number of shares available under the ESPP is 2,000,000, of which 587,682
had been issued as of January 31, 2000.
F-20
<PAGE>
16. EARNINGS PER SHARE ("EPS")
Basic earnings per share is determined by using the weighted average
number of shares of common stock outstanding during each period.
Diluted earnings per share further assumes the issuance of common
shares for all dilutive potential common shares outstanding. The
calculation for earnings per share for the years ended December 31,
1997 and January 31, 1999 and 2000 was as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997 JANUARY 31, 1999 JANUARY 31, 2000
--------------------------------- ------------------------------- --------------------------------
Per Share Per Share Per Share
Income Shares Amount Income Shares Amount Income Shares Amount
------ ------ ------ ------ ------ ------ ------ ------ ------
(In thousands, except per share data)
<S> <C> <C> <C>
BASIC EPS
Net Income $ 32,013 129,034 $ 0.25 $109,365 134,389 $ 0.81 $ 173,147 145,889 $ 1.19
====== ====== ======
EFFECT OF DILUTIVE
SECURITIES
Options and warrants 10,668 11,050 13,905
Convertible debentures 19,399 19,192
--------- --------- ------ --------- -------- ------ --------- ---------- ------
DILUTED EPS $ 32,013 139,702 $ 0.23 $ 109,365 145,439 $ 0.75 $ 192,546 178,986 $ 1.08
========= ======= ====== ========= ======== ====== ========= ========== ======
</TABLE>
Debentures convertible into 7,540,984 shares and 21,494,472 shares were
outstanding as of December 31, 1997 and January 31, 1999, respectively,
but were not included in the computation of diluted EPS because the
effect of including them would be antidilutive.
17. INTEREST AND OTHER INCOME, NET
Interest and other income, net, consists of the following:
YEAR ENDED
DECEMBER 31, JANUARY 31,
1997 1999 2000
---- ---- ----
(IN THOUSANDS)
Interest and dividend income $ 15,847 $ 25,552 $ 36,872
Interest expense (9,761) (16,141) (19,423)
Other, net (1,129) (1,096) (854)
------------ ------------ -------------
$ 4,957 $ 8,315 $ 16,595
============ ============ =============
F-21
<PAGE>
18. INCOME TAXES
The provision for income taxes consists of the following:
YEAR ENDED
DECEMBER 31, JANUARY 31,
1997 1999 2000
---- ---- ----
(IN THOUSANDS)
Current:
Federal $ 3,471 $ - $ 171
State 703 127 769
Foreign 2,216 11,664 14,743
----------- ------------ ------------
6,390 11,791 15,683
----------- ------------ ------------
Deferred (benefit):
Federal 2,835 (430) (49)
State 222 13 5
Foreign (17) 409 59
------------ ------------ ------------
3,040 (8) 15
----------- ------------- ------------
$ 9,430 $ 11,783 $ 15,698
=========== ============ ============
The reconciliation of the U.S. Federal statutory tax rate to the
Company's effective tax rate is as follows:
YEAR ENDED
DECEMBER 31, JANUARY 31,
1997 1999 2000
---- ---- ----
U.S. Federal statutory rate 35% 35% 35%
Consolidated worldwide income
in excess of U.S. income (33) (38) (36)
Foreign income taxes 5 9 8
Other 16 4 1
-------- -------- --------
Company's effective tax rate 23% 10% 8%
======== ======== ========
Deferred income taxes reflect the net tax effects of (a) temporary
differences between the carrying amounts of assets and liabilities
for financial reporting purposes and the amounts used for income tax
purposes and (b) operating loss carryforwards. The tax effects of
significant items comprising the Company's deferred tax asset and
liability at January 31, 1999 and 2000 is as follows:
F-22
<PAGE>
<TABLE>
<CAPTION>
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
<S> <C> <C>
Deferred tax liability:
Expenses deductible for tax purposes and
not for financial reporting purposes $ 633 $ 722
Unrealized gain on available-for-sale securities 1,301 1,154
----------- ------------
$ 1,934 $ 1,876
=========== ============
Deferred tax asset:
Reserves not currently deductible $ 23,028 $ 19,690
Tax loss carryforwards 26,824 105,378
Inventory capitalization 365 504
----------- ------------
50,217 125,572
Less: valuation allowance (48,018) (123,335)
------------ -------------
Total deferred tax asset $ 2,199 $ 2,237
=========== ============
</TABLE>
At January 31, 2000, the Company had net operating loss carryforwards
for Federal income tax purposes of approximately $284.7 million, which
begin to expire in 2012.
Income tax has not been provided on unrepatriated earnings of foreign
subsidiaries as currently it is the intention of the Company to
reinvest such foreign earnings in their operations.
19. BUSINESS SEGMENT INFORMATION
The Company has historically operated its business based on different
geographical regions. During the year ended January 31, 2000, the
Company changed the manner in which it operates into its various
product business units.
The Company's reporting segments are as follows:
Enhanced Services Platform Products - Enables telecommunications
network operators to offer a variety of revenue-generating services,
including a broad range of integrated messaging, information
distribution and personal assistant services, such as call answering,
voice mail, fax mail, unified messaging, pre-paid services, wireless
data and Internet-based services.
Signaling Software Products - Interconnects the complex switching,
database and messaging systems and manage the vital number, routing and
billing information that form the backbone of today's communication
networks. These products also enable voice and data networks to
interoperate, or converge, allowing service providers to offer such
converged network services as voice over the Internet and Internet call
waiting.
Digital Monitoring Systems Products - Supports the voice, fax, data and
video recording and analysis activities of call centers and a variety
of other commercial and governmental organizations and supports the
monitoring, recording, surveillance, and information gathering and
analysis activities of law enforcement and intelligence agencies.
All Other - Includes other miscellaneous operations.
F-23
<PAGE>
The table below presents information about operating income/loss and
segment assets as of and for the year ended January 31, 2000:
<TABLE>
<CAPTION>
Enhanced Digital
Services Signaling Monitoring
Platform Software Systems All Reconciling Consolidated
Products Products Products Other Items Totals
--------------------------------------------------------------------------------------------------------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
Sales $ 755,597 $ 25,831 $ 115,551 $ 19,494 $ (6,806) $ 909,667
Operating Income
(Loss) $ 182,836 $ 2,809 $ (9,530) $ (2,043) $ (1,822) $ 172,250
Total Assets $ 694,872 $ 17,794 $ 99,183 $ 39,512 $ 521,486 $ 1,372,847
</TABLE>
Reconciling items consist of the following:
Sales - elimination of intersegment revenues
Operating Income - elimination of intersegment operating income and
corporate operations. Total Assets - elimination of intersegment
receivables and unallocated corporate assets.
Historical operating information could not be reasonably restated for
prior years based on the Company's new operating structure. Historical
condensed operating information based on geographical regions for the
years ended December 31, 1997 and January 31, 1999 were as follows:
<TABLE>
<CAPTION>
UNITED
STATES ISRAEL OTHER ELIMINATIONS TOTAL
------ ------ ----- ------------ -----
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
YEAR ENDED
DECEMBER 31, 1997
Sales $ 352,005 $ 203,636 $ 19,067 $ (76,365) $ 498,343
Costs and expenses (353,759) (163,847) (18,292) 74,041 (461,857)
------------- -------------- ----------- ----------- -------------
Operating income (loss) $ (1,754) $ 39,789 $ 775 $ (2,324) $ 36,486
============= ============== =========== =========== =============
YEAR ENDED
JANUARY 31, 1999
Sales $ 354,407 $ 407,809 $ 33,510 $ (86,921) $ 708,805
Costs and expenses (379,890) (274,218) (31,009) 89,145 (595,972)
------------- -------------- ----------- ----------- -------------
Operating income (loss) $ (25,483) $ 133,591 $ 2,501 $ 2,224 $ 112,833
============= ============== =========== =========== =============
</TABLE>
F-24
<PAGE>
Sales by country, based on end-user location, as a percentage of
total sales, for the years ended December 31, 1997 and January 31,
1999 and 2000 were as follows:
DECEMBER 31, JANUARY 31,
------------ -----------
1997 1999 2000
---- ---- ----
United States 34% 27% 24%
Germany 4% 11% 10%
Japan 13% 8% 9%
Other foreign 49% 54% 57%
------- ------ --------
Total 100% 100% 100%
======= ====== ========
No customer accounted for 10% or more of sales for the years ended
December 31, 1997, January 31, 1999 or January 31, 2000.
Long-lived assets by country of domicile consist of:
JANUARY 31,
1999 2000
---- ----
(IN THOUSANDS)
United States $ 52,784 $ 72,494
Israel 41,826 95,275
Other 2,462 10,570
----------- -------------
$ 97,072 $ 178,339
=========== =============
20. COMMITMENTS AND CONTINGENCIES
LEASES - The Company leases office, manufacturing, and warehouse space
under non-cancelable operating leases. Rent expense for all leased
premises approximated $11,785,000, $15,168,000 and $22,500,000 in the
years ended December 31, 1997 and January 31, 1999 and 2000,
respectively.
As of January 31, 2000, the minimum annual rent obligations of the
Company were approximately as follows:
TWELVE MONTHS ENDED
JANUARY 31, AMOUNT
(IN THOUSANDS)
2001 $ 22,633
2002 18,018
2003 16,537
2004 15,323
2005 and thereafter 41,026
-------------
$ 113,537
=============
F-25
<PAGE>
EMPLOYMENT AGREEMENTS - The Company is obligated under employment
contracts with its chief executive officer to provide salary, bonuses,
and fringe benefits through January 31, 2004. Minimum salary payments
under the contracts currently amount to $642,000 per year. The
executive is entitled to annual bonuses equal to at least 2.75% of the
Company's consolidated after-tax net income during each year,
determined without regard to acquisition-related expenses and charges.
Following termination or expiration of the term of employment, the
executive is entitled to receive a severance payment equal to $112,736
times the number of years from the beginning of his employment with the
Company, the amount of which payment increases at the rate of 10% per
annum compounded for each year of employment following December 31,
2000, plus continued fringe benefits for three years and insurance
coverage for up to 10 years. If the executive's employment is
terminated by the Company without "cause", or by the executive for
"good reason" (as those terms are defined in the agreement), the
executive is entitled to additional payments attributable to the
salary, bonus and the monetary equivalence of other benefits which he
otherwise would have expected to receive for a period of three years or
the balance of the agreement term, whichever is longer. If such
termination occurs following a change in control of the Company, the
required additional payment is three times the executive's annual
salary and bonus, and the executive is additionally entitled to the
accelerated vesting of all retirement benefits and stock options, and
payments sufficient to reimburse any associated excise tax liability
and income tax resulting from such reimbursement. The agreements also
provide for the executive to receive options entitling him to purchase
7-1/2% of the equity of Comverse's subsidiaries, other than Comverse
Network Systems, Inc., at prices equal to the higher of the book value
of the underlying shares at the date of option grant or the fair market
value of such shares at that date determined on the basis of an
arms'-length transaction with a third party or, if no such transactions
have occurred, on a reasonable basis as determined by the Board of
Directors. These options, as well as any options granted the executive
under the Company's stock option or stock incentive plans, become fully
vested, exercisable and nonforfeitable in the event of a change in
control of the Company, the termination of the executive's employment
by the Company without cause or by the executive for good reason, or
the executive's death or disability.
Most other employment agreements of the Company are terminable with or
without cause with prior notice of 90 days or less. In certain
instances, the termination of employment agreements without cause
entitles the employees to certain benefits, including acceleration of
the vesting of stock options and severance payments of as much as one
year's compensation.
LICENSES AND ROYALTIES - The Company licenses certain technology,
"know-how," software and related rights for use in the manufacture and
marketing of its products, and pays royalties to third parties under
such licenses and under other agreements entered into in connection
with research and product development activities. The Company currently
pays royalties on the sale of most of its product lines in varying
amounts based upon the revenues attributed to the various components of
such products. Royalties typically range up to 6% of net sales of the
related products and, in the case of royalties due to government
funding sources in respect of research and development projects, are
required to be paid until the funding organization has received total
royalties ranging from 100% to 150% of the amounts received by the
Company under the approved project budgets.
DIVIDEND RESTRICTIONS - The ability of Comverse's Israeli subsidiaries
to pay dividends is governed by Israeli law, which provides that cash
dividends may be paid by an Israeli corporation only out of retained
earnings as determined for statutory purposes in Israeli currency. In
the event of a devaluation of the Israeli currency against the dollar,
the amount in dollars available for payment of cash dividends out of
prior years' earnings will decrease accordingly. Cash dividends paid by
an Israeli corporation to United States residents are subject to
withholding of Israeli income tax at source at a rate of up to 25%,
depending on the particular facilities which have generated the
earnings that are the source of the dividends.
F-26
<PAGE>
INVESTMENTS - In 1997, wholly-owned subsidiaries of Comverse and Quantum
Industrial Holdings Ltd. organized two new companies to make investments
primarily relating to Israel, including investments in high technology
ventures. Each participant committed a total of $37,500,000 to the
capital of the new companies, for use as suitable investment
opportunities are identified. Quantum Industrial Holdings Ltd. is the
principal direct investment vehicle of the Quantum Group, a group of
investment funds managed by Soros Fund Management LLC. As of January 31,
1999 and 2000, the Company has invested approximately $3,100,000 and
$11,300,000, respectively, related to these ventures which are included
in the caption "Investments" in the accompanying balance sheets.
GUARANTIES - The Company has obtained bank guaranties primarily for
performance of certain obligations under contracts with customers.
These guaranties, which aggregated approximately $58,405,000 at January
31, 2000, are to be released by the Company's performance of specified
contract milestones, which are scheduled to be completed primarily
during 2000.
LITIGATION - The Company is subject to certain legal actions arising in
the normal course of business. After taking into consideration legal
counsel's evaluation of such actions, management is of the opinion that
their final resolution will not have any significant adverse effect
upon the Company's financial position or results of operations.
21. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair value amounts have been determined by the Company,
using available market information and appropriate valuation
methodologies. However, considerable judgment is necessarily required
in interpreting market data to develop the estimates of fair value.
Accordingly, the estimates presented herein are not necessarily
indicative of the amounts that the Company could realize in a current
market exchange. The use of different market assumptions and/or
estimation methodologies may have a material effect on the estimated
fair value amounts.
<TABLE>
<CAPTION>
JANUARY 31,
--------------------------------------------------------------------------
1999 2000
---- ----
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
------ ---------- ------ ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Liabilities:
Convertible subordinated debentures $ 415,000 $ 646,475 $ 300,000 $ 1,313,400
Off-balance sheet financial instruments:
Foreign exchange forward contracts and
options used for hedging purposes $ - $ (909) $ - $ -
</TABLE>
CASH AND CASH EQUIVALENTS, BANK TIME DEPOSITS, SHORT-TERM INVESTMENTS,
ACCOUNTS RECEIVABLE, INVESTMENTS, AND ACCOUNTS PAYABLE - The carrying
amounts of these items are a reasonable estimate of their fair value.
CONVERTIBLE SUBORDINATED DEBENTURES AND FOREIGN EXCHANGE FORWARD
CONTRACTS - The fair value of these securities is estimated based on
quoted market prices or recent sales for those or similar securities.
F-27
<PAGE>
The fair value estimates presented herein are based on pertinent
information available to management as of January 31, 2000. Although
management is not aware of any factors that would significantly affect
the estimated fair value amounts, such amounts have not been
comprehensively revalued for purposes of these financial statements
since that date, and current estimates of fair value may differ
significantly from the amounts presented herein.
22. EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS
During 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 requires
that all derivative financial instruments be recognized as either
assets or liabilities in the balance sheet. Measurement is at fair
value, and if the derivative is not designed as a hedging instrument,
changes in fair value (i.e., gains and losses) are to be recognized in
earnings in the period of change. If certain conditions are met, a
derivative may be designed as a hedge, in which case the accounting for
changes in fair value will depend on the specific exposure being
hedged. The method that will be used for assessing the effectiveness of
a hedging derivative, as well as the measurement approach for
determining the ineffective aspects of the hedge, must be established
at the inception of the hedge. The methods must be consistent with the
Company's approach to managing risk. SFAS 133, as amended by Statement
of Financial Accounting Standards No. 137, will be effective for fiscal
years beginning after June 15, 2000. The Company is currently
evaluating the impact that the adoption of SFAS 133 will have on its
financial statements.
In December 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in
Financial Statements". SAB 101 summarizes certain of the SEC's views in
applying generally accepted accounting principals to revenue
recognition in financial statements. The Company is required to adopt
SAB 101 in the fourth quarter of fiscal 2000. The Company is currently
evaluating the impact that the adoption of SAB 101 will have on its
financial statements.
F-28
<PAGE>
23. QUARTERLY INFORMATION (UNAUDITED)
The following table shows selected results of operations for each of
the quarters during the years ended January 31, 1999 and 2000:
<TABLE>
<CAPTION>
FISCAL QUARTER ENDED
APRIL 30, JULY 31, OCT. 31, JAN. 31, APRIL 30, JULY 31, OCT. 31, JAN. 31
1998 1998 1998 1999 1999 1999 1999 2000
----------------------------------------------------------------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Sales $ 162,385 $ 169,389 $ 183,444 $ 193,587 $ 207,897 $ 216,810 $ 232,893 $ 252,067
Gross profit 95,169 100,294 109,145 116,084 125,936 132,971 142,970 155,042
Net income 23,301 25,179 29,225 31,660 36,192 41,023 44,035 51,897
Diluted earnings
per share $ 0.16 $ 0.17 $ 0.20 $ 0.21 $ 0.24 $ 0.26 $ 0.27 $ 0.30
========== ========= ========= ========= ========== ========= ========= =========
</TABLE>
F-29
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
RESULTS OF OPERATIONS
INTRODUCTION
In July 2000, Comverse acquired all of the outstanding stock of
Loronix Information Systems, Inc., a Nevada corporation ("Loronix"), in a
transaction accounted for as a pooling of interests. The Company's financial
statements for the years ended January 31, 2000 and 1999 and December 31, 1997
include the operations of Loronix for the years ended December 31, 1999, 1998
and 1997 respectively.
In January 1998, Comverse consummated a merger (the "Merger") with
Boston Technology, Inc., a Delaware corporation ("Boston"), in a transaction
accounted for as a pooling of interests. The Company's financial statements for
the year ended December 31, 1997 include the operations of Boston for the eleven
months ended December 31, 1997.
Cost of sales include material costs, subcontractor costs, salary and
related benefits for the operations and service departments, depreciation and
amortization of equipment used in the operations and service departments,
amortization of capitalized software costs and an overhead allocation. Research
and development costs include salaries and related benefits as well as travel,
depreciation and amortization of research and development equipment, an overhead
allocation, as well as other costs associated with research and development
activities. Selling, general and administrative costs include salary and related
benefits, travel, depreciation and amortization, marketing and promotional
materials, recruiting expenses, professional fees, facility costs, as well as
other costs associated with sales, marketing, finance and administrative
departments.
YEAR ENDED JANUARY 31, 2000 COMPARED TO YEAR ENDED JANUARY 31, 1999
Sales. Sales for the fiscal year ended January 31, 2000 ("fiscal
1999") increased by approximately $200.9 million, or 28%, compared to fiscal
year ended January 31, 1999 ("fiscal 1998"). This increase is primarily
attributable to an increase in sales of ESP products of approximately $161.5
million. Such increase was principally due to increased sales to European
customers. In addition, sales of multimedia digital monitoring systems and
network signaling software products increased by approximately $31.3 million and
$6.3 million, respectively.
Cost of Sales. Cost of sales for fiscal 1999 increased by
approximately $64.6 million, or 22%, as compared to fiscal 1998. The increase in
cost of sales is primarily attributable to increased materials and production
costs of approximately $40 million due to the increase in sales and increased
personnel-related costs of approximately $23 million due to hiring of additional
personnel and increased compensation and benefits for existing personnel. Gross
margins increased from approximately 59% in fiscal 1998 to approximately 61% in
fiscal 1999.
F-30
<PAGE>
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for fiscal 1999 increased by approximately $36.9
million, or 23%, compared to fiscal 1998, but as a percentage of sales decreased
from approximately 22% in fiscal 1998 to approximately 21% in fiscal 1999. The
increase was primarily due to hiring of additional personnel and increased
compensation and benefits for existing personnel to support the increased level
of sales during fiscal 1999.
Research and Development. Net research and development expenses for
fiscal 1999 increased by approximately $35.6 million, or 27%, compared to fiscal
1998 due to overall growth of research and development operations and the
initiation of significant new research and development projects. The increase
was primarily due to hiring of additional personnel and increased compensation
and benefits for existing personnel to support the higher volume of research and
development activities.
Royalties and License Fees. Royalties and license fees for fiscal
1999 increased by approximately $2.3 million, or 14%, compared to fiscal 1998.
The increase was primarily a result of the growth in sales of royalty bearing
products.
Interest and Other Income, Net. Interest and other income, net, for
fiscal 1999 increased by approximately $8.3 million as compared to fiscal 1998.
The principal reasons for the increase are increased interest and dividend
income of approximately $11.3 million and increased realized gains on the
Company's investments of approximately $11.2 million. These increases were
partially offset by increased interest expense of approximately $3.3 million and
a change in foreign currency gains/losses of approximately $12.3 million. The
increase in interest and dividend income and interest expense is primarily a
result of the inclusion for a full year in fiscal 1999 of the Company's $300
million convertible subordinated debentures issued in June 1998.
Income Tax Provision. Provision for income taxes increased from
fiscal 1998 to fiscal 1999 by approximately $3.9 million, or 33%, due to
increased pre-tax income. Our overall effective tax rate decreased from
approximately 10% during fiscal 1998 to approximately 8% in fiscal 1999. The
Company's overall rate of tax is reduced significantly by the tax benefits
associated with qualified activities of certain of its Israeli subsidiaries,
which are entitled to favorable income tax rates under a program of the Israeli
Government for "Approved Enterprise" investments in that country.
Net Income. Net income increased by approximately $63.8 million, or
58%, in fiscal 1999 compared to fiscal 1998, while as a percentage of sales
increased from approximately 15% in fiscal 1998 to approximately 19% in fiscal
1999. The increase resulted primarily from the factors described above.
YEAR ENDED JANUARY 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Sales. Sales for fiscal 1998 increased by approximately $210.5
million, or 42%, compared to fiscal year ended December 31, 1997 ("fiscal
1997"). This increase is primarily attributable to an increase in sales of ESP
products of approximately $176.8 million. Such increase was principally due to
F-31
<PAGE>
increased sales to European customers. In addition, sales of multimedia digital
monitoring systems increased by approximately $28.3 million.
Cost of Sales. Cost of sales for fiscal 1998 increased by
approximately $78.8 million, or 38%, as compared to fiscal 1997. The increase in
cost of sales is primarily attributable to increased materials and production
costs of approximately $48 million due to the increase in sales, increased
personnel-related costs of approximately $14 million due to hiring of additional
personnel and increased compensation and benefits for existing personnel, and an
increase in overhead costs of approximately $8.5 million. Gross margins
increased from approximately 58% in fiscal 1997 to approximately 59% in fiscal
1998.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses for fiscal 1998 increased by approximately $15.1
million, or 11%, compared to fiscal 1997, but as a percentage of sales decreased
from approximately 29% in fiscal 1997 to approximately 22% in fiscal 1998. The
increase was primarily due to hiring of additional personnel and increased
compensation and benefits for existing personnel to support the increased level
of sales during fiscal 1998.
Research and Development. Net research and development expenses for
fiscal 1998 increased by approximately $36.0 million, or 37%, compared to fiscal
1997 due to overall growth of research and development operations and the
initiation of significant new research and development projects. The increase
was primarily due to hiring of additional personnel and increased compensation
and benefits for existing personnel to support the higher volume of research and
development activities.
Royalties and License Fees. Royalties and license fees for fiscal
1998 increased by approximately $4.2 million, or 34%, compared fiscal 1997. The
increase was primarily a result of the growth in sales of royalty bearing
products.
Interest and Other Income, Net. Interest and other income, net, for
fiscal 1998 increased by approximately $3.4 million as compared to fiscal 1997.
The principal reasons for the increase are increased interest and dividend
income of approximately $9.7 million and a change in foreign currency
gains/losses of approximately $5.0 million. These increases were partially
offset by increased interest expense of approximately $6.4 million and net
realized losses on the Company's investments of approximately $5.6 million. The
increase in interest and dividend income and interest expense in fiscal 1998 is
primarily a result of the issuance by the Company of $300 million convertible
subordinated debentures issued in June 1998.
Income Tax Provision. Provision for income taxes increased from
fiscal 1997 to fiscal 1998 by approximately $2.4 million, or 25%, due to
increased pre-tax income. Our overall effective tax rate decreased from
approximately 23% during fiscal 1997 to approximately 10% in fiscal 1998. The
Company's overall rate of tax is reduced significantly by the tax benefits
associated with qualified activities of certain of its Israeli subsidiaries,
which are entitled to favorable income tax rates under a program of the Israeli
Government for "Approved Enterprise" investments in that country.
F-32
<PAGE>
Net Income. Net income increased by approximately $77.4 million, or
242%, in fiscal 1998 compared to fiscal 1997, while as a percentage of sales
increased from approximately 6% in fiscal 1997 to approximately 15% in fiscal
1998. The increase resulted primarily from the factors described above.
TRANSITION PERIOD
In 1998, the Company changed its fiscal year from the calendar year
to the fiscal year ending January 31, corresponding to Boston's fiscal year. As
a result of the change in fiscal year, the Company's results of operations for
the one month ended January 31, 1998 have previously been reported separately as
a transition period and included on a transition report on Form 10-K. The
Company had sales of approximately $14.4 million, costs and expenses of
approximately $129.6 million, and a net loss of approximately $115.2 million for
the one month ended January 31, 1998.
In connection with the Merger, the Company has charged $41,877,000 to
operations for merger and restructuring related charges. Such charges relate to
the following:
Asset write-downs and impairments
(In thousands)
Research and development equipment $ 9,106
Capitalized software costs 2,987
Prepaid license fees 2,190
Furniture and equipment 1,474
Other 161
------------
Total asset write-downs and impairments $ 15,918
=============
In connection with the Merger, certain assets became impaired due to
the closing of duplicative facilities, or the existence of duplicative
technology of the merged companies. In addition, the Company decided to develop
a new software platform for the combined company and to discontinue certain
software enhancements under development which were previously capitalized.
Accordingly, these assets were written down to their net realizable value at the
time of the merger.
Severance and other restructuring charges
(In thousands)
Terminated employment contracts and severance $ 6,825
Terminated leases of duplicative facilities 571
Other 449
------------
Total $ 7,845
============
F-33
<PAGE>
In connection with the Merger, management having the requisite
authority determined to close certain duplicate facilities, sever certain
employees and otherwise streamline the combined operations. The Company also
terminated certain employment contracts for employees that provided no future
benefit to the merged companies. In connection with this plan, the Company
recorded a charge for severance and related fringe benefits for 50 employees,
consisting of 25 software engineers, 10 operations employees, 5 customer service
employees and 10 general and administrative employees. The employees under
employment contracts and employees who were terminated under the severance plan
were considered redundant by the Company as a result of the Merger. Prior to the
Merger, the Company and Boston each had sales offices in certain countries and,
as a result of the Merger, duplicative facilities were closed.
Professional fees and other direct merger expenses
In connection with the Merger, the Company recorded a charge of
$11,040,000 for professional fees to lawyers, investment bankers and
accountants, as well as other direct merger costs, such as printer fees for the
proxy statement incurred directly in connection with the merger.
Other merger related charges
(In thousands)
Penalties under product development agreements $ 5,989
Terminated development contracts 1,085
-----------
$ 7,074
===========
In connection with the Merger, the Company also terminated certain
existing development contracts which provided no future benefit to the merged
companies. Prior to the Merger, the Company had commitments with third parties
to develop technology in which it was contractually obligated. As a result of
the Merger, the Company decided to develop a new software platform for the
combined company and to discontinue certain enhancements under development. In
addition, the Company incurred penalties under product development agreements
relating to transfer of technology.
In addition, approximately $36,055,000 has been charged to selling,
general and administrative expenses in the one month period ended January 31,
1998 relating to the impairment of receivables resulting from the Merger.
Included in this amount is approximately $14.9 million from an international
distributor who refused to pay the Company, claiming his exclusive distribution
agreement was violated as a result of the Merger. Also included in this amount
is approximately $21.1 million that was due from customers who had switched as
customers from Boston to the Company or from the Company to Boston. In order to
continue good customer relations, the Company decided to forgive the amounts
owed.
Approximately $7,831,000 has been charged to cost of sales in the one
month ended January 31, 1998 relating to the Merger. Such charge relates to the
write-off of inventory that was considered obsolete and duplicative as a result
of the Merger. Both the Company and Boston had two ESP products. As a result of
the Merger, the Company decided that one product from each of the Company and
Boston would no longer be sold.
F-34
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company's working capital at January 31, 2000 and 1999 was
approximately $858.3 million and $712.2 million, respectively.
Operations for the years ended January 31, 2000 and 1999 and December
31, 1997, after adding back non-cash items, provided cash of approximately
$208.1 million, $131.5 million and $55.1 million, respectively. During such
years, other changes in working capital used cash of approximately $30.8
million, $27.8 million and $36.1 million, respectively, resulting in cash being
provided by operating activities of approximately $177.4 million, $103.6 million
and $19.0 million, respectively.
Investment activities for the years ended January 31, 2000 ("Fiscal
1999") and 1999 ("Fiscal 1998") and December 31, 1997 ("Fiscal 1997") used cash
of approximately $475.7 million, $10.5 million and $97.2 million, respectively.
These amounts include (i) additions to property in Fiscal 1999, Fiscal 1998 and
Fiscal 1997 of approximately $85.6 million, $25.6 million and $37.3 million,
respectively; (ii) maturities and sales (purchases) of bank time deposits and
investments, net, of approximately ($377.6) million, $24.3 million and ($53.5)
million, respectively; and (iii) capitalization of software development costs of
approximately $12.5 million, $9.1 million and $6.5 million, respectively. The
property additions in Fiscal 1999 include the increase of the Company's fixtures
and equipment as a result of the growth of the Company and the purchase of land
by the Company of approximately $25.8 million for future construction purposes.
In addition, in Fiscal 1999 the Company increased the amount of its bank time
deposits and investments to better utilize the net proceeds of the 1998 issuance
of convertible debentures.
Financing activities for Fiscal 1999, Fiscal 1998 and Fiscal 1997
provided cash of approximately $53.6 million, $308.3 million and $52.7 million,
respectively. These amounts include (i) the net proceeds from the issuance of
convertible debentures in Fiscal 1998 of approximately $292.7 million; (ii)
proceeds from the issuance of common stock in connection with the exercise of
stock options, warrants and employee stock purchase plan of approximately $50.6
million, $36.2 million and $23.0 million, respectively; and (iii) net proceeds
(repayments) of bank loans and other debt of approximately $3.1 million, ($20.6)
million and $29.7 million, respectively.
As of January 31, 2000, the Company had outstanding convertible
subordinated debentures of $300 million.
The Company believes that its existing working capital, together with
funds generated from operations, will be sufficient to provide for its planned
operations for the foreseeable future.
The Company regularly examines opportunities for strategic
acquisitions of other companies or lines of business and anticipates that it may
from time to time issue additional debt and/or equity securities either as
direct consideration for such acquisitions or to raise additional funds to be
used (in whole or in part) in payment for acquired securities or assets. The
issuance of such securities could be expected to have a dilutive impact on the
Company's shareholders, and there can be no assurance as to whether or when any
acquired business would contribute positive operating results commensurate with
the associated investment.
F-35
<PAGE>
The Company's liquidity and capital resources have not been, and are
not anticipated to be, materially affected by restrictions pertaining to the
ability of its foreign subsidiaries to pay dividends or by withholding taxes
associated with any such dividend payments.
CERTAIN TRENDS AND UNCERTAINTIES
The Company has benefited from the growth in its business and capital
base over the past several years to make significant new investment in its
operations and infrastructure intended to enhance its opportunities for future
growth and profitability. The Company intends to continue to make significant
investments in the growth of its business, and to examine opportunities for
additional growth through acquisitions and strategic investments. The impact of
these decisions on future profitability cannot be predicted with assurance, and
the Company's commitment to growth may increase its vulnerability to unforeseen
downturns in its markets, technology changes and shifts in competitive
conditions. However, the Company believes that significant opportunities exist
in the markets for each of its main product lines, and that continued strong
investment in its technical, product development, marketing and sales
capabilities will enhance its opportunities for long term growth and
profitability.
The telecommunications industry is subject to rapid technological
change. The introduction of new technologies in the telecommunications market
and new alternatives for the delivery of services are having, and can be
expected to continue to have, a profound effect on competitive conditions in the
market and the success of market participants, including the Company. The
Company's revenue stream will depend on its ability to correctly anticipate
technological trends in its industries, to react quickly and effectively to such
trends and to enhance its existing products and to introduce new products on a
timely and cost-effective basis. The Company's products involve sophisticated
hardware and software technology that performs critical functions to highly
demanding standards. There can be no assurance that the Company's current or
future products will not develop operational problems, which could have a
material adverse effect on the Company. In addition, if the Company were to
delay the introduction of new products, the Company's operating results could be
adversely affected.
The telecommunications industry is undergoing significant change as a
result of deregulation and privatization worldwide, reducing restrictions on
competition in the industry. Unforeseen changes in the regulatory environment
may have an impact on the Company's revenues and/or costs in any given part of
the world. The worldwide ESP system industry is already highly competitive and
the Company expects competition to intensify. The Company believes that existing
competitors will continue to present substantial competition, and that other
companies, many with considerably greater financial, marketing and sales
resources than the Company, may enter the ESP system markets. Moreover, as the
Company enters into new markets for enhanced services as a result of its own
research and development efforts or acquisitions, it is likely to encounter new
competitors.
The market for telecommunications monitoring systems is also in a
period of significant transition. Budgetary constraints, uncertainties resulting
from the introduction of new technologies in the telecommunications environment
and shifts in the pattern of government expenditures resulting from geopolitical
events have increased uncertainties in the market, resulting in certain
F-36
<PAGE>
instances in the attenuation of government procurement programs beyond their
originally expected performance periods and an increased incidence of delay,
cancellation or reduction of planned projects. The delays and uncertainties
surrounding the Communications Assistance for Law Enforcement Act ("CALEA") have
had a significant negative impact on acquisition plans of law enforcement
agencies in North America engaged in monitoring activities. Competitive
conditions in this sector have also been affected by the increasing use by
certain potential government customers of their own internal development
resources rather than outside vendors to provide certain technical solutions. In
addition, a number of established government contractors, particularly
developers and integrators of technology products, have taken steps to redirect
their marketing strategies and product plans in reaction to cut-backs in their
traditional areas of focus, resulting in an increase in the number of
competitors and the range of products offered in response to particular requests
for proposals. The lack of predictability in the timing and scope of government
procurements have similarly made planning decisions more difficult and have
increased the associated risks.
The Company has historically derived a significant portion of its
sales and operating profit from contracts for large system installations with
major customers. The Company continues to emphasize large capacity systems in
its product development and marketing strategies. Contracts for large
installations typically involve a lengthy and complex bidding and selection
process, and the ability of the Company to obtain particular contracts is
inherently difficult to predict. The Company believes that opportunities for
large installations will continue to grow in both its commercial and government
markets, and intends to continue to expand its research and development,
manufacturing, sales and marketing and product support capabilities in
anticipation of such growth. However, the timing and scope of these
opportunities and the pricing and margins associated with any eventual contract
award are difficult to forecast, and may vary substantially from transaction to
transaction. The Company's future operating results may accordingly exhibit a
higher degree of volatility than the operating results of other companies in its
industries that have adopted different strategies, and than the Company has
experienced in prior periods. Although the Company is actively pursuing a number
of significant procurement opportunities, both the timing of any eventual
procurements and the probability of the Company's receipt of significant
contract awards are uncertain. The degree of dependence by the Company on large
system orders, and the investment required to enable the Company to perform such
orders, without assurance of continuing order flow from the same customers and
predictability of gross margins on any future orders, increase the risk
associated with its business.
The Company has significantly increased its expenditures in all areas
of its operations during recent periods, including the areas of research and
development and marketing and sales, and the Company plans to further increase
these expenditures in the foreseeable future. The increase in research and
development expenditures reflects the Company's concentration on enhancing the
range of features and capabilities of its existing product lines, developing new
generations of its products and expanding into new product areas. The Company
believes that these efforts are essential for the continuing competitiveness of
its product offerings and for positioning itself to participate in future growth
opportunities in both the commercial and government sectors. The increase in
sales and marketing expenditures primarily results from the Company's decision
to expand its activities and direct presence in a growing number of world
markets. The Company's costs of operations have also been affected by increases
in the cost of its operations in Israel, resulting both from appreciation of the
Israeli shekel relative to the United States dollar in certain periods and
devaluation of the Israeli shekel at rates insufficient to offset cost increases
F-37
<PAGE>
in others, and from increases in the cost of attracting and retaining qualified
scientific, engineering and technical personnel in Israel, where the demand for
such personnel is growing rapidly with the expansion of high technology
industries in that country. Continuation of such trends could have a material
adverse effect on the Company's future results of operations.
A significant portion of the Company's research and development and
manufacturing operations are located in Israel. The Company's historical
operating results reflect substantial benefits it has received from programs
sponsored by the Israeli government for the support of research and development,
as well as tax moratoriums and favorable tax rates associated with investments
in approved projects ("Approved Enterprises") in Israel. To be eligible for
these programs and tax benefits, the Company must continue to meet conditions,
including making specified investments in fixed assets and financing a
percentage of investments with share capital. If the Company fails to meet such
conditions in the future, the tax benefits would be canceled and the Company
could be required to refund the tax benefits already received.
These programs and tax benefits may not be continued in the future at
the current levels or at any level. The Israeli government has reduced the
benefits available under some of these programs in recent years, and Israeli
government authorities have indicated that the government may further reduce or
eliminate some of these benefits in the future. The Company currently pays
royalties, of between 3% and 5% (or 6% under certain circumstances) of
associated product revenues (including service and other related revenues), to
the Government of Israel for repayment of benefits received under a conditional
grant program administered by the Office of the Chief Scientist of the Ministry
of Industry and Trade, a program in which the Company has regularly participated
and under which it continues to receive significant benefits through
reimbursement of up to 50% of qualified research and development expenditures.
For amounts received under programs which have been, or will be, approved by the
Office of the Chief Scientist after January 1, 1999, repayment of the amount
received (calculated in U.S. Dollars), plus interest on such amount at a rate
equal to the 12-month LIBOR rate in effect at the time of the approval of the
program, is required through the application of royalty payments. In addition,
permission from the Government of Israel is required for the Company to
manufacture outside of Israel products resulting from research and development
activities funded under these programs, or to transfer outside of Israel related
technology rights. In order to obtain such permission, the Company may be
required to increase the royalties to the applicable funding agencies and/or
repay certain amounts received as reimbursement of research and development
costs. The Israeli authorities have also indicated that this funding program
will be further reduced significantly or eliminated in the future, particularly
for larger companies such as the Company. The termination or reduction of these
programs could adversely affect the Company's operating results.
The Israeli government has also shortened the period of the tax
moratorium applicable to Approved Enterprises from four years to two years.
Although this change has not affected the tax status of the Company's projects
that were eligible for the moratorium prior to 1997, it applies to subsequent
"Approved Enterprise" projects. Recently, the government announced a proposal to
impose additional limitations on the tax benefits associated with Approved
Enterprise projects for certain categories of taxpayers, which would include the
Company, although it has not submitted legislation to the Israeli Parliament. If
further changes in the law or government policies regarding those programs were
to result in their termination or adverse modification, or if the Company were
to become unable to participate in, or take advantage of, those programs, the
F-38
<PAGE>
cost of the Company's operations in Israel would increase and there could be a
material adverse effect on the Company's operations and financial results. To
the extent that the Company increases its activities outside Israel, which could
result from, among other things, future acquisitions, such increased activities
will not be eligible for programs sponsored by Israel.
The Company currently derives a significant portion of its total
sales from customers outside of the United States. International transactions
involve particular risks, including political decisions affecting tariffs and
trade conditions, rapid and unforeseen changes in economic conditions in
individual countries, turbulence in foreign currency and credit markets, and
increased costs resulting from lack of proximity to the customer. Volatility in
international currency exchange rates may have a significant impact on the
Company's operating results. The Company has, and anticipates that it will
continue to receive, significant contracts denominated in foreign (primarily
Western European) currencies. As a result of the unpredictable timing of
purchase orders and payments under such contracts and other factors, it is often
not practicable for the Company to effectively hedge the risk of significant
changes in currency rates during the contract period. Since it is the Company's
practice to hedge the exchange rate risks associated with contracts denominated
in foreign currencies only to a limited extent, if at all, it's operating
results have been and may in the future be negatively affected to a material
extent by the impact of currency fluctuations. Operating results may also be
affected by the cost of such hedging activities that the Company does undertake.
The Company's future operating results and financial condition will
be adversely affected should economic weakness result in widespread slowdown or
recessionary conditions in major world markets, or in severe trade or currency
disruptions.
The trading price of the Company's shares may be affected by the
factors noted above as well as prevailing economic and financial trends and
conditions in the public securities markets. Share prices of companies in
technology and government contracting businesses, and particularly publicly
traded companies such as the Company, tend to exhibit a high degree of
volatility. Shortfalls in revenues or earnings from the levels anticipated by
the public markets could have an immediate and significant effect on the trading
price of the Company's shares in any given period. Such shortfalls may result
from events that are beyond the Company's immediate control, can be
unpredictable and, since a significant proportion of the Company's sales during
each fiscal quarter tend to occur in the latter stages of the quarter, may not
be discernible until the end of a financial reporting period. These factors
contribute to the volatility of the trading value of its shares regardless of
the Company's long-term prospects. The trading price of the Company's shares may
also be affected by developments, including reported financial results and
fluctuations in trading prices of the shares of other publicly-held companies in
the telecommunications equipment industry in general, and the Company's business
segments in particular, which may not have any direct relationship with the
Company's business or prospects.
F-39
<PAGE>
EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS
During 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 requires that all
derivative financial instruments be recognized as either assets or liabilities
in the balance sheet. Measurement is at fair value, and if the derivative is not
designed as a hedging instrument, changes in fair value (i.e., gains and losses)
are to be recognized in earnings in the period of change. If certain conditions
are met, a derivative may be designed as a hedge, in which case the accounting
for changes in fair value will depend on the specific exposure being hedged. The
method that will be used for assessing the effectiveness of a hedging
derivative, as well as the measurement approach for determining the ineffective
aspects of the hedge, must be established at the inception of the hedge. The
methods must be consistent with the Company's approach to managing risk. SFAS
133, as amended by Statement of Financial Accounting Standards No. 137, will be
effective for fiscal years beginning after June 15, 2000. The Company is
currently evaluating the impact that the adoption of SFAS 133 will have on its
financial statements.
In December 1999, the Securities and Exchange Commission ("SEC")
issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in
Financial Statements". SAB 101 summarizes certain of the SEC's views in applying
generally accepted accounting principles to revenue recognition in financial
statements. The Company is required to adopt SAB 101 in the fourth quarter of
fiscal 2000. The Company is currently evaluating the impact that the adoption of
SAB 101 will have on its financial statements.
FORWARD-LOOKING STATEMENTS
From time to time, the Company makes forward-looking statements.
Forward-looking statements include financial projections, statements of plans
and objectives for future operations, statements of future economic performance,
and statements of assumptions relating thereto.
The Company may include forward-looking statements in its periodic
reports to the Securities and Exchange Commission on Forms 10-K, 10-Q, and 8-K,
in its annual report to shareholders, in its proxy statements, in its press
releases, in other written materials, and in statements made by employees to
analysts, investors, representatives of the media, and others.
By their very nature, forward-looking statements are subject to
uncertainties, both general and specific, and risks exist that predictions,
forecasts, projections and other forward-looking statements will not be
achieved. Actual results may differ materially due to a variety of factors,
including without limitation those discussed under "Certain Trends and
Uncertainties" and elsewhere in this report. Investors and others should
carefully consider these and other uncertainties and events, whether or not the
statements are described as forward-looking.
Forward-looking statements made by the Company are intended to apply
only at the time they are made, unless explicitly stated to the contrary.
Moreover, whether or not stated in connection with a forward-looking statement,
the Company undertakes no obligation to correct or update a forward-looking
statement should the Company later become aware that it is not likely to be
achieved. If the Company were in any particular instance to update or correct a
forward-looking statement, investors and others should not conclude that the
Company will make additional updates or corrections thereafter.
F-40
<PAGE>
MARKET RISK DISCLOSURES.
Refer to Item 7A in the Company's Annual Report on Form 10-K for a
discussion about the Company's exposure to market risks.
F-41
