<PAGE>
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[x ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended July 31, 1996
-------------
OR
[ ] TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________ to __.
Commission file number 0-15322
SYSTEM SOFTWARE ASSOCIATES, INC.
--------------------------------
(Exact name of registrant as specified in its charter)
Delaware 36-3144515
- --------------------------------------------- ------------------------------
(State or other jurisdiction of incorporation (IRS Employer Identification
or organization Number)
500 W. Madison, 32nd Floor
Chicago, Illinois 60661
- --------------------------------------------- ------------------------------
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code) (312) 258-6000
--------------------------
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO .
------- ------
At September 9, 1996, there were 42,568,353 and zero shares outstanding of
the Company's Common ($.0033 par value) and Preferred ($.01 par value) Stock,
respectively.
TOTAL OF SEQUENTIALLY
NUMBERED PAGES: 13
--
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
INDEX
<TABLE>
<CAPTION>
Page
Part I Financial information No.
<S> <C> <C>
Consolidated Balance Sheets - 3-4
July 31, 1996 and October 31, 1995
Consolidated Statements of Income - 5
three and nine months ended July 31, 1996 and 1995
Consolidated Statements of Cash Flows - 6
nine months ended July 31, 1996 and 1995
Notes to Consolidated Financial Statements 7
Management's Discussion and Analysis of 8-11
Financial Condition and Results of
Operations
Part II Other information 12
Signature Page 13
</TABLE>
2
<PAGE>
Part I - Financial Information
Item 1 - Financial Statements
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
(in millions)
<TABLE>
<CAPTION>
July 31, October 31,
1996 1995
----------- -----------
(unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash and equivalents $ 19.2 $ 57.1
Accounts receivable, less allowance for doubtful accounts of $12.7 and $12.5 235.4 199.7
Deferred income taxes 7.7 7.0
Prepaid expenses and other current assets 28.2 21.3
----------- -----------
Total current assets 290.5 285.1
----------- -----------
PROPERTY and EQUIPMENT:
Data processing equipment 35.3 30.9
Furniture and office equipment 18.4 14.1
Leasehold improvements 8.6 7.8
Transportation equipment 2.3 2.8
----------- -----------
64.6 55.6
Less - Accumulated depreciation and amortization 37.0 31.3
----------- -----------
Total property and equipment 27.6 24.3
----------- -----------
OTHER ASSETS:
Software costs, less accumulated amortization of $56.0 and $41.1 75.2 59.0
Cost in excess of net assets of acquired businesses,
less accumulated amortization of $7.7 and $6.0 23.6 18.2
Investments in associated companies 15.0 16.5
Miscellaneous 9.7 8.1
----------- -----------
Total other assets 123.5 101.8
----------- -----------
TOTAL ASSETS $441.6 $411.2
=========== ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' EQUITY
(in millions, except share data)
<TABLE>
<CAPTION>
July 31, October 31,
1996 1995
------------ -----------
(unaudited)
<S> <C> <C>
CURRENT LIABILITIES:
Short term borrowings and current maturities of senior notes payable $ 50.4 $ 4.0
Accrued commissions and royalties 55.6 36.6
Accounts payable and other accrued liabilities 49.2 46.9
Accrued compensation and related benefits 19.6 24.4
Deferred revenue 49.8 51.0
Income taxes payable 4.6 19.9
------ ------
Total current liabilities 229.2 182.8
------ ------
LONG-TERM OBLIGATIONS 27.9 33.9
------ ------
DEFERRED REVENUE 31.1 27.3
------ ------
DEFERRED INCOME TAXES 9.9 9.9
------ ------
MINORITY INTEREST IN CONSOLIDATED SUBSIDIARIES -- 1.0
------ ------
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value, 100,000 shares authorized, none
issued or outstanding - -
Common stock, $.0033 par value, 60,000,000 shares authorized,
42,565,053 and 42,094,500 shares issued 0.1 0.1
Capital in excess of par value 31.5 26.1
Retained earnings 108.3 128.4
Unrealized gain on available-for-sale securities 5.2 2.5
Cumulative translation adjustment (1.6) (0.8)
------ ------
Total stockholders' equity 143.5 156.3
------ ------
TOTAL LIABILITIES and STOCKHOLDERS' EQUITY $441.6 $411.2
====== ======
</TABLE>
The accompanying notes are an integral part of these financial statements.
4
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF INCOME
(in millions, except per share data)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
July 31, July 31,
----------------------- ---------------------
1996 1995 1996 1995
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues:
License fees $ 48.2 $ 72.3 $ 179.0 $ 173.4
Client services and other 27.1 32.7 86.2 93.3
----------- ---------- ---------- ----------
Total revenues 75.3 105.0 265.2 266.7
----------- ---------- ---------- ----------
Costs and Expenses:
Cost of license fees 19.2 21.0 59.2 51.9
Cost of client services and other 23.4 21.3 64.8 56.3
Sales and marketing 26.1 20.7 71.9 58.8
Research and development 14.9 10.0 38.2 29.0
General and administrative 24.0 14.6 57.7 43.9
----------- ---------- ---------- ----------
Total costs and expenses 107.6 87.6 291.8 239.9
----------- ---------- ---------- ----------
Operating income (loss) (32.3) 17.4 (26.6) 26.8
Gain on sale of available-for-sale securities 3.6 - 3.6 -
Other non-operating income (expense), net (1.2) (0.1) (2.0) (0.1)
----------- ---------- ---------- ----------
Income (loss) before income taxes and minority interest (29.9) 17.3 (25.0) 26.7
Provision (benefit) for income taxes (10.8) 6.1 (9.1) 9.4
----------- ---------- ---------- ----------
Income (loss) before minority interest (19.1) 11.2 (15.9) 17.3
Minority interest - - - (0.1)
----------- ---------- ---------- ----------
Net income (loss) $ (19.1) $ 11.2 $ (15.9) $ 17.2
========== ========= ========= =========
Earnings (loss) per share $ (0.44) $ 0.27 $ (0.37) $ 0.42
========== ========= ========= =========
Dividends per share $ - $ - $ 0.10 $ 0.08
========== ========= ========= =========
Weighted average common and equivalent shares
outstanding 43.0 42.0 43.1 41.7
========== ========= ========= =========
</TABLE>
The accompanying notes are an integral part of these financial statements.
5
<PAGE>
SYSTEM SOFTWARE ASSOCIATES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in millions, unaudited)
<TABLE>
<CAPTION>
Nine Months Ended
July 31,
-------------------------------------
1996 1995
--------- ----------
<S> <C> <C>
Cash Flows From Operating Activities:
Net income (loss) $(15.9) $17.2
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization of property and equipment 6.5 5.9
Amortization of other assets 16.8 12.0
Provision for doubtful accounts 3.5 1.0
Gain on sale of available-for-sale securities (3.6) -
Deferred income taxes (0.3) (2.6)
Deferred revenue 3.0 (7.5)
Minority interest - 0.1
Changes in operating assets and liabilities, net of acquisitions:
Accounts receivable (38.8) (0.4)
Prepaid expenses and other current assets (4.8) (3.7)
Miscellaneous assets 1.5 (7.4)
Accrued commissions and royalties 8.9 3.2
Accounts payable and other accrued liabilities (0.4) (3.8)
Accrued compensation and related benefits (5.1) (6.5)
Income taxes payable (16.7) 7.5
--------- ----------
Net cash provided by (used in) operating activities (45.4) 15.0
--------- ----------
Cash Flows From Investing Activities:
Purchases of property and equipment (8.5) (3.0)
Software costs (31.1) (17.9)
Investments and acquisitions, net of cash acquired (4.5) (3.8)
Proceeds from sale of available-for-sale securities 9.0 -
Proceeds from sales of assets - 1.7
--------- ----------
Net cash flows used in investing activities (35.1) (23.0)
--------- ----------
Cash Flows From Financing Activities:
Principal payments under financing obligations (1.5) (3.1)
Amount borrowed under line of credit 48.4 -
Repayment of amount borrowed under line of credit (2.0) -
Proceeds from exercise of stock options 2.0 3.3
Dividends paid (4.2) (3.2)
--------- ----------
Net cash provided by (used in) financing activities 42.7 (3.0)
--------- ----------
Effect of exchange rate changes on cash (0.1) (0.7)
--------- ----------
Net decrease in cash and equivalents (37.9) (11.7)
Cash and equivalents:
Beginning of year 57.1 60.2
--------- ----------
End of period $ 19.2 $48.5
========= ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Basis of Presentation
The consolidated financial statements include the accounts of System Software
Associates, Inc. and its majority owned subsidiaries ("SSA", or "the Company").
Except for the consolidated balance sheet for the fiscal year ended October 31,
1995, the financial information included herein is unaudited. However, such
information reflects all adjustments (consisting solely of normal recurring
adjustments) which are, in the opinion of management, necessary for a fair
statement of results for the interim periods. Results shown for interim periods
are not necessarily indicative of the results to be obtained for a full fiscal
year.
These interim financial statements should be read in conjunction with the
audited financial statements and notes thereto included in the Company's Annual
Report on Form 10-K for the fiscal year ended October 31, 1995.
Note 2 -- Borrowing Arrangements
Based on the financial results for the current quarter, the Company was in
technical default of certain financial covenants contained in its $50.0 million
bank line of credit agreement (the Bank Line) and its $30.0 million Senior Notes
(the Notes). The Company has obtained waivers of the technical default, and in
connection therewith has amended certain terms and conditions of both the Bank
Line and the Notes. The banks and the note holders have also agreed to use their
best efforts to negotiate with the Company with a view towards revising the
Company's financial covenants in the respective agreements in light of the
Company's recent results of operations and to negotiate a definitive
inter-creditor agreement.
Pursuant to the agreements as amended, borrowings under the Bank Line will
bear interest at the banks' reference rate (prime) plus 1%, and the Senior Notes
will bear interest at rates ranging from 7.32% to 8.19%. In addition, the
Company will grant the banks and the note holders a collateral security interest
in all of its assets located in the United States, and will also pledge 100% of
the stock of its domestic subsidiaries and 65% of the stock of its foreign
subsidiaries.
7
<PAGE>
Item 2--Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto.
RESULTS OF OPERATIONS
Comparison of the Three Months Ended July 31, 1996
to the Three Months Ended July 31, 1995
---------------------------------------
Total revenues recorded during the third quarter of 1996 decreased 28% to $75.3
million from third quarter 1995 total revenues of $105.0 million. Revenue
increased in North America while declines were reported in the Company's other
geographic regions. License fees declined 33% to $48.2 million from the prior
year quarter due to the postponement of clients' decisions on licensing software
in order to more fully evaluate the Company's software. The Company has entered
into partnerships with major computer manufacturers and other system integrators
as an important indirect source of software distribution, primarily in
developing economies of the world where a totally integrated client/server
solution is required. These partners are granted a non-exclusive right to sub-
license a fixed amount of SSA software to end users in a designated territory in
return for a fixed fee. Revenue generated in the third quarter of 1996 from
these arrangements were lower than in the same quarter last year both in dollar
volume and as a percentage of total license fee revenues. Client Services
revenues in the most recent quarter declined 17% when compared to the same
quarter in 1995 primarily due to decreased productivity caused in part by
allocation of resources to perform warranty work and continuing training of
Client Services professionals.
Cost of license fees as a percentage of related revenues was 40% in the third
quarter of 1996, up from 29% for the corresponding prior year period. The
increase is primarily attributable to $1.4 million increased amortization
expense of capitalized software development costs, $1.3 million increased
warranty expense as well as increased software royalties on revenues related to
Unix database products.
Cost of client services as a percentage of related revenues was 86% for the
third quarter of 1996 compared to 65 % during the corresponding prior year
period. Lower productivity related to newly hired technical professionals around
the world, in particular those with open systems and object skills, allocation
of resources to perform warranty work and investments in training resulted in an
increase in cost of client services as a percentage of related revenues.
Sales and marketing as a percentage of license fee revenues was 54% and 29% in
the third quarters of 1996 and 1995, respectively, primarily due to decreased
revenues as described above and increased expenditures to develop vertical
industry groups in support of its continuing move into the Unix open systems
client/server market.
8
<PAGE>
Management's Discussion and Analysis of Financial Condition and Results of
Operations (continued)
Gross (total) research and development (R&D) expenditures in the third quarter
of 1996 increased $11.6 million or 76% over the third quarter of 1995. The
increase is due to the Company's continuing development of its distributed
object computing technology and enhancements of its existing products.
The Company capitalizes software development costs once technological
feasibility is established, in accordance with Statement of Financial Accounting
Standard (SFAS) No. 86. These costs generally include a portion of construction
costs as well as costs incurred during final product testing prior to full
product release. The Company capitalized $12.0 million of software development
costs in the third quarter of 1996 as compared to $5.3 million in the third
quarter of 1995. The capitalization ratio (capitalized software as a percentage
of gross R&D) in the third quarters of 1996 and 1995 was 45% and 35%,
respectively. The increase was due in part to construction and testing
activities related to the Company's distributed object computing architecture.
The following table sets forth R&D expenditures and related capitalized amounts
for the periods indicated.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
(in millions) Percentage
Quarter Ended July 31, Change
- --------------------------------------------------------------------------------
1996 vs.
1996 1995 1995
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Gross R&D expenditures $ 26.9 $15.3 76%
Less amount capitalized (12.0) (5.3) 126%
- --------------------------------------------------------------------------------
Net R&D costs $ 14.9 $10.0 49%
- --------------------------------------------------------------------------------
</TABLE>
General and administrative expenses of $24.0 million increased $9.4 million over
the prior year primarily due to new facilities to support the Company's
worldwide expansion, increased computer equipment rent, and $4.1 million of
combined additional provision for doubtful accounts and write-off of bad debts
dating back to 1994 and prior periods.
9
<PAGE>
The gain on sale of available-for-sale securities of $3.6 million in the current
quarter resulted from the sale of a portion of the Company's stock holdings of
Harbinger Corporation.
Other nonoperating expense increased $1.1 million in the current quarter as
compared to the prior year quarter primarily due to borrowings under the
Company's bank line of credit.
The tax benefit on the pretax loss resulted in an effective rate of 36%,
representing the estimated annual rate on the total year's results.
Comparison of the Nine Months Ended July 31, 1996
to the Nine Months Ended July 31, 1995
--------------------------------------
The principal variations for the nine months ended July 31, 1996, when
supplemented with the following comments, are relatively consistent with the
discussion of the third quarter results.
Total revenues of $265.2 million for the first nine months of 1996 declined $1.5
million from the first nine months of 1995. License fees increased 3% as the
growth in the first two quarters was partially offset by the third quarter
decline. Indirect channel licence fee revenues (consisting of affiliate and
system integration partner revenues) were up 39% during the first nine months of
1996 when compared to the same period last year due primarily to the first
systems integrator distribution agreement being recorded in the Company's third
quarter of 1995. Client services revenues declined 8%.
Cost of license fees as a percentage of related revenues increased for the first
nine months of the year to 33% from 30% in the prior year. Increased commissions
resulting from a higher mix of indirect sales channel revenues and $3.0 million
increased warranty expenses were offset by decreased third party software
royalties due to the Company's acquisition of certain of these software
products.
10
<PAGE>
The following table sets forth R & D expenditures and related capitalized
amounts for the first nine months of 1996 and 1995.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
(in millions) Percentage
Nine Months Ended July 31, Change
- --------------------------------------------------------------------------------
1996 vs.
1996 1995 1995
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Gross R&D expenditures $67.0 $44.6 50%
Less amount capitalized (28.8) (15.6) 85%
- --------------------------------------------------------------------------------
Net R&D costs $38.2 $29.0 32%
- --------------------------------------------------------------------------------
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES
At July 31, 1996, cash and equivalents totaled $19.2 million. During the first
nine months of the current year, cash and equivalents declined $37.9 million and
borrowing under the Company's bank line of credit increased by $46.4 million due
to continued investment in product development, pay down of prior year-end
accruals which reflect the relatively high level of activity in the Company's
fourth quarter, payment of the Company's annual dividend which increased 25%
over the prior year ($.10 per share versus $.08 in the prior year), tax payments
related to the Company's record profitability in fiscal 1995, acquisitions of
products and affiliates and increased operating expenses in support of the
Company's strategic move into the Unix open systems client/server market. In
addition, the Company experienced an increase of 34 Days Sales Outstanding (DSO)
in accounts receivable from 196 at October 31, 1995 to 230 at July 31, 1996
primarily due to the increasingly competitive environment for ERP software which
have caused payment terms to be extended beyond those experienced by the Company
in the past, slowness in collections in the Company's third quarter, and a
decrease in the mix of client services receivables which have shorter terms.
However, in the first month of its fourth quarter 1996 collections were $30.0
million and exceeded the same month in 1995 by over 50% setting a record for
August, traditionally a slow collections month. At July 31, 1996, $46.4 million
was borrowed and $1.2 million was utilized to collateralize outstanding letters
of credit under the Company's $50.0 multi-bank line of credit. At October 31,
1995, there were no amounts outstanding.
Based on the financial results for the current quarter, the Company was in
technical default of certain financial covenants contained in its $50.0 million
bank line of credit agreement (the Bank Line) and its $30.0 million Senior Notes
(the Notes). The Company has obtained waivers of the technical default, and in
connection therewith has amended certain terms and conditions of both the Bank
Line and the Notes. The banks and the note holders have also agreed to use their
best efforts to negotiate with the Company with a view towards revising the
Company's financial covenants in the respective agreements in light of the
Company's recent results of operations and to negotiate a definitive
inter-creditor agreement.
Pursuant to the agreements as amended, borrowings under the Bank Line will
bear interest at the banks' reference rate (prime) plus 1%, and the Senior Notes
will bear interest at rates ranging from 7.32% to 8.19%. In addition, the
Company will grant the banks and the note holders a collateral security interest
in all of its assets located in the United States, and will also pledge 100% of
the stock of its domestic subsidiaries and 65% of the stock of its foreign
subsidiaries.
Assuming the successful negotiations of new financial covenants with the
Company's lenders, management anticipates that cash generated from operations
combined with current working capital will provide sufficient liquidity to meet
ordinary capital requirements for the foreseeable future. The Company is
presently exploring the possibility of a public or private sale of equity
securities to reduce debt and fund an accelerated growth strategy for the
Company's new version of its client/server software product.
11
<PAGE>
Part II - Other Information
Item 1. Legal Proceedings
The Company is not currently subject to any material pending legal proceedings.
Item 2. Changes in Securities None
Item 3. Defaults Upon Senior Securities
See Note 2 to Notes to Consolidated Financial Statements.
Item 4. Submission of Matters to a Vote of Security Holders None
Item 5. Other Information None
Item 6. Exhibits and Reports on Form 8K None
12
<PAGE>
Signature Page
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date September 16, 1996
------------------
System Software Associates, Inc.
/s/ Roger E. Covey
-------------------------
Roger E. Covey
Chairman and
Chief Executive Officer
/s/ Joseph J. Skadra
- -----------------------
Joseph J. Skadra
Chief Financial Officer
13
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> OCT-31-1996
<PERIOD-START> MAY-31-1996
<PERIOD-END> JUL-31-1996
<CASH> 19,200,000
<SECURITIES> 0
<RECEIVABLES> 248,100,000
<ALLOWANCES> 12,700,000
<INVENTORY> 0
<CURRENT-ASSETS> 290,500,000
<PP&E> 64,600,000
<DEPRECIATION> 37,000,000
<TOTAL-ASSETS> 441,600,000
<CURRENT-LIABILITIES> 229,200,000
<BONDS> 0
<COMMON> 100,000
0
0
<OTHER-SE> 143,400,000
<TOTAL-LIABILITY-AND-EQUITY> 441,600,000
<SALES> 265,200,000
<TOTAL-REVENUES> 265,200,000
<CGS> 124,000,000
<TOTAL-COSTS> 291,800,000
<OTHER-EXPENSES> (1,600,000)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (25,000,000)
<INCOME-TAX> (9,100,000)
<INCOME-CONTINUING> (15,900,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (15,900,000)
<EPS-PRIMARY> (0.37)
<EPS-DILUTED> (0.37)
</TABLE>
